4. Observations and decision of the Federal Court of Appeal :
4.1 It is common ground that there is no settled definition of ‘beneficial ownership’ (or in French, ‘beneficiaire effectif’) in the Model Convention, in the Tax Treaty or in the Canadian Income Tax Act. In its search for the meaning of these terms, the Tax Court closely examined their ordinary meaning, their technical meaning and the meaning they might have in common law, in Quebec’s civil law, in Dutch law and in international law. The Tax Court relied, inter alia, on the OECD Commentary for Article 10(2) of the Model Convention and on OECD documents issued subsequently to the 1977 Commentary, i.e., the OECD Conduit Companies Report adopted by the OECD Council on November 27, 1986 and the amendments made in 2003 by the OECD to its 1977 Commentary. The Tax Court also had the benefit of expert evidence.
4.2 The counsel for both sides agreed that the Tax Court was entitled to rely on subsequent documents issued by the OECD in order to interpret the Model Convention. The Federal Court shared their view.
4.3 Relevance and importance of OECD Model Commentary :
The worldwide recognition of the provisions of the Model Convention and their incorporation into a majority of bilateral conventions have made the Commentaries on the provisions of the OECD Model a widely-accepted guide to interpretation and application of the provisions of existing bilateral conventions [see Crown Forest Industries Ltd. v. Canada, (1995) 2 S.c.R. 802; Klaus Vogel, ‘Klaus Vogel on Double Taxation Conventions’ 3rd ed. (The Hague: Kluwer Law International, 1997) at 43]. In the case before the Court, Article 10(2) of the Tax Treaty was mirrored on Article 10(2) of the Model Convention. The same may be said with respect to later commentaries when they represent a fair inter-pretation of the words of the Model Convention and do not conflict with Commentaries in existence at the time a specific treaty was entered into and when, of course, neither treaty partner has registered aft objection to the new Commentaries. For example, in the introduction to the Income and Capital Model Convention and Commentary (2003), the OECD invites its members to interpret their bilateral treaties in accordance with the Commentaries ‘as modified from time to time’ (paragraph 3) and ‘in the spirit of the revised Commentaries’ (paragraph 33). The introduction goes on, at paragraph 35, to note that changes to the Commentaries are not relevant ‘where the provisions …. are different in substance from the amended Articles’ and, at para 36, that many amendments are intended to simply clarify, not change, the meaning of the Articles or the Commentaries”.
4.4 The Federal Court, therefore, reached the conclusion that for the purposes of interpreting the Tax Treaty, the OECD Conduit Companies Report (in 1986) as well as the OECD 2003 Amendments to the 1977 Commentary are a helpful complement to the earlier Commentaries, insofar as they are eliciting, rather than contradicting, views previously expressed. Needless to say, the Commentaries apply to both the English text of the Model Convention (‘beneficial owner ‘) and to the French text (‘beneficiaire effectif’).
4.5 In the end the Tax Court held that the ‘beneficial owner’ of dividends is the person who receives the dividends for his or her own use and enjoyment and assumes the risk and control of the dividend he or she received. To illustrate this point of view, the Tax Court observed as follows :
“Where an agency or mandate exists or the property is in the name of a nominee, one looks to find ?n whose behalf the agent or mandatary is acting or for whom the nominee has lent his or her name. When corporate entities are concerned, one does not pierce the corporate veil unless the corporation is a conduit for another person and has absolutely no discretion as to the use or application of funds put through it as conduit, or has agreed to act on someone else’s behalf pursuant to that person’s instructions without any right to do other than what that person instructs it, for example, a stockbroker who is the registered owner of the shares it holds for clients.”
4.6 The Tax Court’s formulation captures the essence of the concept of ‘beneficial owner’ as it emerges from the review of the general, technical and legal meanings of the terms. Most importantly, perhaps, the formulation accords with what is stated in the OECD Commentaries and in the Conduit Companies Report.
4.7 The counsel for the Revenue invited the Court to determine that ‘beneficial owner’, ‘beneficiaire effectif’, ‘mean the person who can, in fact, ultimately benefit from the dividend’. That proposed definition does not appear anywhere in the OECD documents and the very use of the word’ can’ opens up a myriad of possibilities which would jeopardize the relative degree of certainty and stability that a tax treaty seeks to achieve. The Revenue is asking the Court to adopt a pejorative view of holding companies which neither the Canadian domestic J law, the international community, nor the Canadian government through the process of objection, have adopted.
4.8 Finding of the Tax Court:
As per the Federal Court, the findings of the Tax Court can be summarised as follows :
(a) the relationship between Prevost Holding and its shareholders is not one of agency, or mandate nor one where the property is in the name of a nominee;
(b) the corporate veil should not be pierced because Prevost Holding is not ‘a conduit for another person’. It cannot be said to have ‘absolutely no discretion as to the use or application of funds put through it as a conduit’ and has not ‘agreed to act on someone else’s behalf pursuant to that person’s instructions without any right to do other than what that person instructs it; for example a stockbroker who is the registered owner of the shares it holds for clients;
(c) there is no evidence that Prevost Holding was a conduit for Volvo and Henlys and there was no predetermined or automatic flow of funds to Volvo and Henlys;
(d) Prevost Holding was a statutory entity carrying on business operations and corporate activity in accordance with the Dutch law under which it was constituted;
(e) Prevost Holding was not party to the Shareholders’ Agreement;
(f) neither Henlys nor Volvo could take action against Prevost Holding for failure to follow the dividend policy described in the Shareholders’ Agreement;
(g) Prevost Holding’s Deed of Incorporation did not obligate it to pay any dividend to its shareholders;
(h) when Prevost Holding decides to pay dividends, it must pay the dividends in accordance with the Dutch law;
(i) Prevost Holding was the registered owner of Prevost shares, paid for the shares and owned the shares for itself; when dividends are received by Prevost Holding in respect of shares it owns, the dividends are the property of Prevost Holding and are available to its creditors, if any, until such time as the management board declares a dividend and the dividend is approved by the shareholders.
The Federal Court held that these findings, to the extent that they are findings of fact, are supported by the evidence. No palpable or overriding error has been shown.
5. The Federal Court held that as these findings are based on the interpretation of the contractual relationships between Prevost, Prevost Holding, Volvo and Henlys, no error of law has been shown. Accordingly, the Federal Court dismissed the Revenue’s appeal with costs.
6. Comments:
6.1 Although the taxpayer won this case, the facts of the case were favourable to the taxpayer, and it is certain that the Revenue will not give up its efforts to attack such structures. The case may be appealed further to the Supreme Court of Canada, and even if not overturned, it is certain that the Revenue will seek to apply Prevost Car as narrowly as possible, seek out every opportunity to make distinctions on the facts, and assess accordingly. Canada has no anti-treaty shopping provisions in its treaties with low-withholding intermediary jurisdictions, but the Revenue has sought to achieve the same result by applying domestic principles such as agency and General Anti-Avoidance Regulations. Prevost Car does not signal an end to this, and taxpayers need therefore to plan accordingly.
6.2 To better ensure a structure which can with-stand the Revenue’s attack, the following steps should be considered:
A real commercial purpose for the intermediary jurisdiction holding company;
As much substance as is feasible in the intermediary jurisdiction, including if possible, employees, and especially if possible, other investments and particularly in the intermediary jurisdiction;
A board of directors that consists of a majority of local directors, and proper directors’ meetings, preferably with local directors present; and
Avoid back-to-back financing arrangements, and if necessary, ensure that
- there is a spread in interest rates or royalty rates;
- there is minimal, if any, contractual tie-in to automatically flow through amounts – this will be a difficult fact to overcome; and
- the holding company takes some risk.
6.3 Care must be exercised up front to ensure a good fact pattern, and regular ‘risk management’ review is warranted to ensure that those responsible for implementing the plan ‘respect’ the proper legal steps that are required to make such planning work.
