Mathew v. The Queen | May 3, 2002

Date: 20020503

Docket: 1999-464-IT-G, 1999-466-IT-G, 1999-467-IT-G, 1999-468-IT-G, 1999-469-IT-G, 1999-472-IT-G, 1999-

473-IT-G, 1999-474-IT-G, 1999-475-IT-G, 1999-476-IT-G, 1999-478-IT-G, 1999-479-IT-G, 1999-480-IT-G, 1999-

481-IT-G, 1999-484-IT-G, 1999-486-IT-G, 1999-487-IT-G, 1999-488-IT-G

BETWEEN:

DOUGLAS H. MATHEW, STEVEN M. COOK, EUGENE KAULIUS, CHARLES E. BEIL, 347059 B.C. LTD.,

JOHN R. OWEN, AMALIO DE COTIIS, WILLIAM JOHN MILLAR, NSFC HOLDINGS LTD., WARREN J.A.

MITCHELL, TFTI HOLDINGS LIMITED, IAN H. PITFIELD, THE ESTATE OF THE LATE LORNE A.

GREEN, INNOCENZO DE COTIIS, VERLAAN INVESTMENTS INC., FRANK MAYER, CRAIG C.

STURROCK, JOHN N. GREGORY,

Appellants,

and

HER MAJESTY THE QUEEN,

Respondent.

Reasons for Judgment

P.R. Dussault, J.T.C.C.

[1]

These appeals relate to losses allocated to the partners in the SRMP Realty &

Mortgage Partnership ("SRMP") at that partnership's 1993 year-end, on October 1, 1993. In

computing their income for the 1993 taxation year the 14 individual Appellants deducted their

share of SRMP's losses. Because October 1, 1993 fell within the corporate Appellants' (347059

B.C. Ltd., NSFC Holdings Ltd., TFTI Holdings Limited and Verlaan Investments Inc.) 1994

taxation year, these Appellants deducted their share of the SRMP losses in their 1994 taxation

year. In the case of a number of the Appellants their share of the SRMP losses exceeded their

income in the year of the deduction. They therefore computed non-capital losses which they then

carried back to prior taxation years or forward to future taxation years. The Minister of National

Revenue (the "Minister") reassessed all of the Appellants, disallowing the deduction of the

SRMP losses and, where applicable, the non-capital losses.

I

ISSUES

[2]

Initially, the Minister disallowed the losses in question on a number of bases, one

being the general anti-avoidance rule (the "GAAR") under section 245 of the Income Tax Act

(the "Act"). The Appellants are challenging not only the applicability of the GAAR but also its

constitutionality. Before the hearing of these appeals the Respondent abandoned the other bases

of the assessments, deciding to proceed in respect of the GAAR only. Judge Beaubier of this

Court issued an order on June 7, 2001 in relation to a motion heard on June 4, 2001, providing

that the appeal would proceed in respect of only two issues. The order provided, inter alia, the

following:

The Respondent having abandoned all other issues in dispute

between the parties and the Appellants consenting thereto, the

hearing of these appeals will proceed respecting only the following

two issues:

(a)

Whether the SRMP losses were properly denied under

the General Anti-avoidance Rule ("GAAR") under section

245 of the Income Tax Act, and

(b)

Whether section 245 of the Income Tax Act is

impermissibly vague and thus contrary to section 7 of the

Canadian Charter of Rights and Freedoms (the "Charter")

and/or the substantive requirements of the Rule of Law and

hence of no force and effect under section 52 of the

Constitution Act, 1982, as alleged by the Appellants.

[3]

Pursuant to section 57 of the Federal Court Act, Mr. David J. Martin, counsel for the

Appellant John N. Gregory (1999-488(IT)G), served notice of a constitutional question on the

Attorney General of Canada and the Attorney General of each province on January 31, 2000. As

all the other appeals herein were heard together with the appeal of John N. Gregory, I take it that

the notice requirement has been satisfied for each of them.

[4]

The Respondent further brought preliminary applications pursuant to Rule 58(1)(b) of

the Tax Court of Canada Rules (General Procedure) requesting that paragraphs or portions of

paragraphs of each of the four corporate Appellants' Amended Notice of Appeal invoking section

7 of the Charter be struck out as disclosing no reasonable grounds for appeal. At the hearing, on

July 3, 2001, counsel agreed to address this issue during final argument.

II

ADMITTED FACTS

[5]

Prior to the hearing, the parties submitted the following Statement of Admitted Facts:

1.

2.

Standard Trust Company ("STC") carried on a business which included the lending of

money on the security of mortgages on real property.

By May, 1991 STC was insolvent, and on May 2, 1991 Mr. Justice Houlden, of the

Ontario Court (General Division) ordered STC to be wound up pursuant to the provisions

of the Winding-up Act, R.S.C. c. W-11, and appointed Ernst & Young Inc. (E & Y) its

liquidator. Thereafter Messrs. Bradeen and Drake, of E & Y, as liquidator of STC, were

the directing minds of STC.

3.

4.

At the time the liquidation commenced, one-half of STC's total mortgage loan portfolio

of approximately $1.6 billion was comprised of non-performing loans, which is to say

loans upon which the payments of principal and interest were 90 days or more in arrears.

The task of E & Y as Liquidator, was to obtain the maximum realization possible on the

assets of STC, and to that end, it was empowered, both by the Winding Up Act and by the

Order of Houlden, J., to carry on the business of STC, insofar as was necessary for the

beneficial winding up of the company.

5.

6.

E & Y accordingly devised a plan to transfer such nonperforming mortgages to a

partnership that was to be formed between STC and a wholly-owned subsidiary of STC,

i.e., a partnership with which STC, as a corporate entity, would not be dealing at arm's

length, within the meaning of the Income Tax Act. STC would have a 99% partnership

interest and its wholly-owned subsidiary a 1% partnership interest in that partnership.

E & Y accordingly caused the following transactions or events to take place:

(a)

(b)

On October 16, 1992, E & Y caused 1004568 to be incorporated.

On October 21, 1992, on E & Y's motion, the Ontario Court (General Division)

approved the incorporation of a wholly-owned subsidiary of STC, the formation

of two general partnerships, i.e., STIL I and STIL II, in which STC and its

wholly-owned subsidiary were to be partners, and the transfer of the beneficial

ownership of nonperforming mortgages contained in two portfolios prepared by

E & Y to these partnerships.

(c)

(d)

Standard and 1004568 entered into a partnership agreement dated October 23,

1992 to create the STIL II Partnership.

On October 23, 1992, 1004568 borrowed $730,220 from STC and contributed

$312,902 of that amount to STIL I and $417,318 to STIL II as a capital

contribution for a 1% partnership interest in each of STIL I and STIL II.

On October 23, 1992, STC transferred one of the said mortgage portfolios,

("the STIL II Mortgage Portfolio") to STIL II for $41,314,434 by way of STC's

capital contribution in that amount for a 99% partnership interest in STIL II. The

STIL II Mortgage Portfolio comprised 17 nonperforming mortgages, with 9

underlying real estate properties. Pursuant to subsection 97(1) of the Income Tax

Act, STC was deemed to have disposed of these assets, and STIL II was deemed

to have acquired them, at their fair market value of $33,262,000 broken down as

follows:

(e)

Properties

Fair Market

Value

99 Rideau

$2,000,000

1,170,000

11,370,000

9,600,000

1,000,000

1,211,000

5,700,000

519,000

Shurguard Oakville

Georgian Estates

Masonville Estates

Mount Baker Enterprises

Turner Crossing

23 Lesmill

Atherton

Shurguard Hamilton

Total

692,000

$33,262,000

(f)

At the time of the said disposition STC's cost of these assets was $85,368,872,

broken down as follows:

Properties

99 Rideau

Cost

$ 5,792,692

3,020,392

31,215,480

27,198,952

1,262,823

1,961,653

10,621,355

1,270,768

3,024,757

$85,368,872

Shurguard Oakville

Georgian Estates

Masonville Estates

Mount Baker Enterprises

Turner Crossing

23 Lesmill

Atherton

Shurguard Hamilton

Total

(g)

By virtue of subsection 18(13) of the Income Tax Act, the cost for income tax

purposes of the mortgages in the STIL II Mortgage Portfolio to STIL II was

maintained at the historic cost of such assets to STC as set out in paragraph 6(f).

7.

Between August, 1992 and January, 1993 E & Y contacted 38 prospective purchasers

of STC's 99% interest in STIL I and STIL II, including OSFC Holdings Limited

("OSFC") (a company with which STC dealt at arm's length), and sold its interest in the

STIL I partnership in December, 1992 to a third party not relevant to this appeal.

In January, 1993, OSFC started to negotiate with E & Y to acquire STC's said 99%

interest in STIL II ("the STIL II Interest").

8.

9.

Negotiations were difficult between OSFC and E & Y leading up to the sale of

Standard's STIL II partnership interest.

10.

E & Y at first attempted to obtain $33,262,00 for its STIL II Interest, representing the

fair market value of the STIL II Portfolio, as estimated by E & Y. However, OSFC made

it known to E & Y that the STIL II Portfolio could, in OSFC's view, not be sold for what

E & Y thought to be its fair market value. E & Y and OSFC therefore negotiated a price

for STC's STIL II Interest, which was to be payable based on a formula of sharing the

proceeds from the sale of the properties underlying the STIL II Portfolio over a period of

several years.

11.

12.

The negotiations culminated in an extensive written agreement of purchase and sale,

dated May 31, 1993, whereby STC sold and OSFC purchased STC's STIL II Interest

("the STIL II Purchase Agreement").

Pursuant to that agreement the purchase price payable by OSFC for the said 99% STIL

II Interest consisted of the following components:

a)

Cash

$3,000,000

14,500,000

$17,500,000

5,000,000

5-year 7.5%, Promissory Note,

repayable at any time

Plus: An "Additional Payment"

up to

$22,500,000

b)

"Earnout", depending on the proceeds from the sale of the properties

underlying the mortgages, as follows:

ii)

iii)

[if] the proceeds were less than $17,500,000, the earnout was NIL,

if the proceeds were in excess of $17,500,000, but less than

$32,434,751, the earnout was 91% of 99% of the difference between

the amount up to $32,434,751 and $17,500,000,

iv)

v)

if the proceeds were in excess of $32,434,751, but less than

$38,000,000, the earnout was equal to the sum of $13,454,716 and 50%

of 99% of the difference between the amount up to $38,000,000 and

$32,434,751, and

if the proceeds were in excess of $38,000,000, the earnout was equal

to the sum of $16,209,514 and 25% of 99% of the proceeds in excess of

$38,000,000.

c)

d)

The said note of $14,500,000 was payable out of the proceeds of the sale of the

properties underlying the nonperforming mortgages in such a way that the

promissory note was repaid in full when the proceeds reached $17,500,000.

Interest on the said promissory note was to be paid from the "Net Cash Flow"

from these properties, i.e. the net rent from them, less operating expenses. To the

extent interest was not so paid, it was to be added to the principal amount of the

note. No cash distribution to STIL II's partners was to be made until this note

was fully paid.

e)

The Additional Payment of $5,000,000 was adjustable, depending on what

actual losses resulted from the disposition of these properties, and depended on

whether such losses actually turned out to be deductible under the Income Tax

Act. The Additional Payment was payable by OSFC to STC on April 30, 1999,

and as security therefor OSFC was obligated to pay the following amounts into

an escrow account:

a)

b)

c)

d)

$1,000,000 on May 31, 1994;

$1,000,000 on May 31, 1995;

$1,500,000 on May 31, 1996; and

$1,500,000 on May 31, 1997.

13.

It was a requirement of the STIL II Purchase Agreement that STC and 1004568 Ontario

Inc. enter into an "Amended and Restated Partnership Agreement" by the closing time of

the STIL II Purchase Agreement. On June 22, 1993, 1004568 Ontario Inc. and STC

entered into an Amended and Restated Partnership Agreement amending and restating

the terms of the original STIL II Partnership Agreement with the result that what OSFC

purchased from STC was the latter's STIL II Interest as constituted by that Amended and

Restated Partnership Agreement.

14.

15.

Pursuant to the Amended and Restated Partnership Agreement STIL II's business was to

be carried out in accordance with a "Business Plan" approved by the partners which E &

Y (on behalf of STC) and OSFC expressly approved in writing on June 18, 1993. This

Business Plan stated that it reflected the partners' current estimates of the likely outcome

of dispositions of STIL II's assets based on the assumptions discussed in that Plan

regarding the business climate in which STIL II must manage and realize on its assets.

The said Business Plan set out a "High Scenario" and a "Low Scenario" for the

disposition of the said mortgages or the properties for which they were security between

July 1993 and December, 1996. According to the "High Scenario", the gross sales

proceeds for the 9 properties were projected at $39,820,200 and the net proceeds at

$37,611,200, while according to the "Low Scenario", the gross sales proceeds for these

nonperforming mortgages or properties were projected at $23,351,200 and the net

proceeds at $21,969,800.

16.

17.

The said Business Plan was agreed to by STC and OSFC on June 18, 1993.

Under the Amended and Restated Partnership Agreement regarding STIL II, STC was

entitled to a management fee of $250,000 per annum, and 1004568 was entitled to a fee

of $200,000 per annum (for an initial term of two years; these fees were thereafter to be

determined by the STIL II Management Committee).

18.

19.

OSFC and TFTI entered into an agreement dated July 5, 1993 (the "SRMP Partnership

Agreement") forming and entering into a general partnership to carry on business under

the name "SRMP Realty & Mortgage Partnership" (the "SRMP Partnership" or "SRMP")

to acquire and manage OSFC's partnership interest in the STIL II Partnership.

The capital of SRMP was divided into 35 class A Units and 15 class B Units. The class

B Units were allocated as follows:

Class B Unitholder

No. of class B

Units

12.00

2.00

OSFC

TFTI

NSFC

.50

Eugene Kaulius

.50

15.00

20.

21.

TFTI, NSFC and Eugene Kaulius were issued their Class B Units for $1.00 per Class B

Unit, and OSFC was issued its 12 Class B Units as part of its consideration for

transferring its STIL II Interest to SRMP. OSFC was SRMP's managing partner and was

authorized to raise capital for SRMP in order to purchase OSFC's STIL II interest by

offering and selling Class A Units to other persons at the price stipulated in the

"subscriptions" pursuant to which such persons subscribed for much [sic] Class A Units.

The SRMP Partnership Agreement confirmed OSFC's entitlement to the $250,000 per

annum management fee to which STC was entitled under the Amended and Restated

Partnership Agreement regarding STIL II, and entitled OSFC to $12,000 per annum as an

administration fee and to an "Incentive Management Fee" equal to 75% of "Gross STIL II

Receipts", i.e. essentially, revenue paid to SRMP by STIL II, excluding proceeds of

disposition of assets, less operating expenses (including interest on the promissory note

of $14,500,000).

22.

E & Y prepared a report (Liquidator's Report #22) dated June 22, 1993 and filed it with

the Ontario Court of Justice (General Division) in support of an Order approving the

transfer of Standard's interest in the STIL II Partnership to OSFC.

23.

24.

25.

26.

The transfer to OSFC of Standard's partnership interest in STIL II was approved by Mr.

Justice Houlden in an Order dated June 25, 1993.

Standard and 1004568 intended to carry on, and they did in fact carry on, a business in

common with respect to the Mortgages in the STIL II partnership with a view to profit.

OSFC approached a number of potential investors to participate as partners in SRMP

Partnership, including the Appellants.

On July 7, 1993 OSFC sold its STIL II Interest to SRMP for a composite purchase

price, consisting of:

(1)

$3,850,000 in cash,

(2)

(3)

the assumption of the $14,500,000 Promissory Note which OSFC was

obligated to pay to STC under the STIL II Purchase Agreement,

the assumption of the Earnout, i.e. the amounts which OSFC was obligated to

pay to STC under the STIL II Purchase Agreement pursuant to the earnout

formula therein contained,

(4)

(5)

the assumption of the Additional Payment (of approximately $5,000,000)

which OSFC had obligated itself to pay to STC under the STIL II Purchase

Agreement,

the "Excess SRMP Payment", i.e. an amount equal to the excess of a calculated

amount as of October 22, 1998 or such later date, as specified in the STIL II

Purchase Agreement, over the "Additional Payment", also as specified in the

STIL II Purchase Agreement, and,

(6)

the fair market value of 12 Class B Units in SRMP, to be satisfied by the issue

of 12 Class B Units to OSFC.

27.

28.

Pursuant to the SRMP Purchase Agreement, OSFC entered into a deed of assignment

dated July 5 [sic], 1993 assigning its partnership interest in the STIL II Partnership to the

SRMP Partnership except for OSFC's right to perform certain services for the STIL II

Partnership and to receive a fee therefor.

OSFC, SRMP Partnership and 1004568 entered into an agreement dated July 7, 1993 to

confirm that OSFC had assigned to the SRMP Partnership and the SRMP Partnership had

assumed from OSFC all of the rights and obligations of OSFC under the STIL II

Partnership except for OSFC's right to perform certain services for the STIL II

Partnership and to receive a fee therefor.

29.

On or about July 9, 1993 the Class A Unitholders described in Appendix "A" hereto

subscribed for the stated number of Class A Units, or fractions thereof, of SRMP for a

composite price of $110,000 per Class A Unit (aggregating to $3,850,000 for all 35 Class

A Unitholders). In addition the Class A Unitholders had to agree to pay additional

subscription proceeds to SRMP to fund their proportionate share of the "Additional

Payment" which SRMP was obligated to pay to OSFC in respect thereof. As security for

the payment of the Additional Payment, the subscribers for Class A Units in SRMP had

to provide a letter of credit in the amount of $60,000 per Class A Unit and pay the

following amounts on the following dates to a third party escrow agent for payment by

OSFC of the Additional Payment:

(a)

(b)

(c)

(d)

April 30, 1994:

April 30, 1995:

April 30, 1996:

April 30, 1997:

$28,571

$42,857

$25,701

$125,700

or $4,399,500 in the aggregate for all 35 Class A Unitholders. If it should happen that the

Additional Payment should exceed $125,700 per Class A Unit, OSFC had the right to

request an increase in the security payments therefor.

30.

Each Appellant that acquired Class A Units in SRMP tendered the following

documents:

(a)

(b)

(c)

(d)

(e)

(f)

a certified cheque in the amount of $110,000 per Class A Unit;

a letter of credit in the amount of $60,000 per Class A Unit;

a Pledge Agreement;

a direction with respect to cash distributions;

an Escrow Agreement;

acknowledgement, Postponement and Subordination Agreement;

a Subscriber's Covenant Letter; and

a power of attorney in favour of OSFC.

(g)

(h)

31.

Net Cash Flow after payment of operating expenses from the operations of the STIL II

Partnership, other than from the sale or other realization of the Mortgages or underlying

properties, was to be applied as follows:

First:

$250,000 annual management fee to OSFC*

Second:

$200,000 annual administration fee to 1004568 Ontario Inc.*

Third:

Fourth:

Fifth:

to pay interest on the $14.5 million Promissory Note at the rate of

7.5%/annum

75% of remaining cash flow to OSFC as an incentive management

fee

balance, 70% to Class A Units, 30% to Class B Units

* The amounts of these fees were subject to re-negotiation after two years.

32.

Net Proceeds after payment of all selling costs from the sale or other realization of the

STIL II Partnership Mortgages and/or underlying properties was to be applied as follows:

First:

$14.5 million applied 82.684% to STC in payment of the Promissory

Note and 17.316% to fund to be held in escrow to secure payment of

the Promissory Note

Second:

Third:

next $3 million (after discharge of the Promissory Note from funds is

escrow) to Class A Units to be held on account of the required security

deposits to fund payment of the Additional Amount

next $14.9 million allocated 91% to STC and 9% to STIL II

Partnership of which 99% went to SRMP Partnership and 1% to

1004568 Ontario Inc. Of the amount allocated to SRMP Partnership,

the first $850,000 [w]as to be allocated to the Class A Units with the

balance to be allocated 70% to the Class A Units and 30% to the Class

B Units.

Fourth:

balance allocated 50% to STC and 50% to STIL II Partnership of

which 99% went to SRMP Partnership and 1% to 1004568 Ontario Inc.

Of the amount allocated to SRMP Partnership, 70% went to the Class

A Units and 30% to the Class B Units.

33.

34.

OSFC and the SRMP Partnership entered into an agreement dated September 10, 1993

pursuant to which the SRMP partners assumed and agreed to perform OSFC's obligations

under the STIL II Purchase Agreement and Amended and Restated STIL II Partnership

Agreement.

As at September 30, 1993, as a result of the sale of some of the said properties and the

write-down of the remaining properties to fair market value, the difference between STIL

II's said cost of the properties of $85,368,872 and their sale price and fair market value,

respectively, resulted in a loss to STIL II for tax purposes in excess of $52,000,000, 99%

of which was allocated to SRMP, which SRMP then allocated to its partners in

proportion to their respective unit holdings, the Appellants' shares thereof being those set

out in Appendix "A" hereto.

35.

36.

The Appellants deducted their said share of the SRMP loss in computing their income

for their 1993 or 1994 taxation years, depending on when their taxation year ended. Some

of the Appellants, in addition to reducing their taxable income for those taxation years to

NIL, also computed noncapital losses which they then carried forward to future taxation

years or back to prior taxation years.

In reassessing the Appellants for their 1993 or 1994 taxation years, as the case may be,

the Minister of National Revenue disallowed to said Appellants their share of the SRMP

loss, with the result that the Appellants had taxable income in that year, rather than a

noncapital loss which could be carried back or forward to other taxation years.

During its 1992 and 1993 fiscal periods, the STIL II Partnership carried on business

with a reasonable expectation of profit.

37.

38.

39.

During its 1993 fiscal period, the SRMP Partnership and its partners carried on business

with a reasonable expectation of profit.

Apart from the properties comprising the STIL II Portfolio, neither STIL II nor SRMP

ever acquired or sold any real property.

APPENDIX "A"

SRMP REALTY & MORTGAGE PARTNERSHIP

ANALYSIS OF CAPITAL ACCOUNTS

PARTNERS

# OF

OPENING CONTRIBUTION WITHDRAWALS

NET

INCOME

(LOSS)

CLOSING

BALANCE

UNITS BALANCE

CLASS 'A'

UNITS

TFTI Holdings

Ltd

NSFC Holdings

Ltd

Viam Properties

Ltd

1.00

0

110,000

0

(1,047,689)

(937,689)

19.00

2,090,000

(19,906,100) (17,816,100)

Amalio De Cotiis

Innocenzo De

Cotiis

0.33

0

36,667

0

(349,195)

(312,528)

Michael De Cotiis

Frank B. Mayer

347059 BC Ltd

and Verlaan

Investments Inc.

0.33

3.00

0

36,667

330,000

0

(349,195)

(3,143,068)

(312,528)

(2,813,068)

Charles E. Beil

Steven M. Cook

A. Barrie

0.80

0.70

1.00

0

88,000

77,000

110,000

0

(838,152)

(733,383)

(1,047,689)

(750,152)

(656,383)

(937,689)

Davidson

Lorne A. Green

John N. Gregory

Douglas H.

0.40

0.50

0.40

0

44,000

55,000

44,000

0

(419,076)

(523,845)

(419,076)

(375,076)

(468,845)

(375,076)

Mathew

W. Jack Millar

Warren J. A.

Mitchell

0.50

0

55,000

0

(523,845)

(468,845)

John R. Owen

Ian H. Pitfield

James H.G. Roche

Craig C. Sturrock

Total Class 'A'

0.40

0.50

0.80

35.00

0

44,000

55,000

0

(419,076)

(523,845)

(838,152)

(375,076)

(468,845)

(750,152)

88,000

3,850,001

(36,669,029) (32,819,028)

CLASS 'B'

UNITS

OSFC Holdings

12.00

2.00

0.50

0

12

2

0

(12,572,274) (12,572,262)

Ltd

TFTI Holdings

Ltd.

NSFC Holdings

Ltd

(2,095,379)

(523,845)

(2,095,377)

(523,844)

1

Eugene Kaulius

0.50

15.00

0

1

15

0

(15,715,342) (15,715,327)

(103) (103)

Total Class 'B'

ROUNDING

DIFFERENCES

TOTAL

50.00

0

3,850,016

0

(52,384,474) (48,534,458)

[6]

Leaving aside for the moment the many details spelled out in this extensive Statement of Admitted Facts,

one will appreciate that the losses claimed by the Appellants resulted in the end from six key transactions which are

as follows:

1.

2.

The incorporation of 1004568 by STC. ("TRANSACTION 1")

The formation of the STIL II partnership between STC (99%) and

1004568 (1%). ("TRANSACTION 2")

3.

4.

5.

6.

The sale by STC of the non-performing mortgages to STIL II using

subsection 18(13) of the Act. ("TRANSACTION 3")

The sale by STC of its partnership interest in STIL II (99%) to OSFC.

("TRANSACTION 4")

The formation of the SRMP partnership by OSFC and TFTI.

("TRANSACTION 5")

The sale by OSFC of 76% of its 99% interest in STIL II to the other

SRMP partners, some of which are Appellants in the present case.

("TRANSACTION 6")

[7]

Throughout these Reasons for Judgment, the above transactions may occasionally be referred to by

number.

[8]

Total losses claimed by the SRMP partners holding the 35 Class "A" as well as the 15 Class "B" Units

amounted to $52,384,474 or $1,047,689 per unit. Appendix "A" to the Statement of Admitted Facts gives the details

concerning each SRMP partner's participation in and the contribution to the partnership as well as the losses claimed

by each. During evidence and in argument the $52,384,474 in losses was often rounded off to $50 million.

III

REVIEW OF EVIDENCE

(A) GENERAL COMMENTS

Pursuant to Judge Beaubier's order dated June 7, 2001, the transcripts of Mr. Richard Bradeen's testimony

[9]

before Judge Bowie of this Court in OSFC Holdings Ltd. v. The Queen (hereinafter OSFC (TCC)) 99 DTC 1044,

[1999] 3 C.T.C. 2649, were filed by consent of the parties to constitute Mr. Bradeen's evidence in the present

appeals. Mr. Bradeen is a chartered accountant and was, during the relevant period and until 1997, a partner in the

accounting firm Ernst & Young ("E & Y") in Toronto. In May of 1991 Mr. Bradeen, under the direction of Mr.

William Drake the senior partner in charge of liquidation at E & Y, assumed responsibility for overseeing the

liquidation of STC's mortgage loan portfolios. Mr. Bradeen's duties involved supervising the daily management of

the assets, enforcing security rights, collecting on personal and corporate guarantees and selling the underlying

assets with the overall purpose of maximizing the proceeds to the estate for the benefit of the creditors.

[10]

[11]

Seven witnesses testified for the Appellants.

Eugene Kaulius, in addition to explaining OSFC's involvement in the transactions,

testified for himself and on behalf of NSFC Holdings Ltd. and TFTI Holdings Limited,

companies ultimately controlled by Peter Thomas, who also controlled OSFC. Mr. Kaulius

emphasized that Mr. Thomas is very experienced in real estate, having founded the Century 21

real estate firm in Canada. Mr. Kaulius is a chartered accountant by training and was, from 1992

until 1998, president of OSFC, NSFC, TFTI and Samoth Capital Corporation (Samoth), a public

corporation of which Mr. Thomas was chairman during these years.

[12]

John Norman Gregory and Steven Mark Cook testified on behalf of the lawyers with

the firm of Thorsteinssons who were partners in SRMP, including Mr. Gregory and Mr. Cook,

themselves, Charles E. Beil, A. Barrie Davidson, Lorne A. Green, Douglas H. Mathew, W. Jack

Millar, Warren J.A. Mitchell, John R. Owen, Ian H. Pitfield, James H.G. Roche and Craig C.

Sturrock. Mr. Gregory specified, however, that Messrs. Davidson, Green and Roche are now

deceased. He further stated that Mr. Millar departed the firm to form his own law firm a few

years ago, and that Mr. Pitfield is now a judge in the Supreme Court of British Columbia. With

the exception of Messrs. Roche and Davidson, these persons are all Appellants in these

proceedings. Mr. Gregory further testified that he was fairly experienced in the real estate

business at the time he acquired his half partnership interest in SRMP. His experience was

acquired through training as well as through his personal experience in rental properties, both

residential and commercial. He stated that he had never been involved in a syndicated

partnership but was, as a lawyer, very familiar with real estate syndication. Mr. Cook testified

that he was familiar with real estate through his training.

[13]

Michael De Cotiis testified on behalf of his two brothers, Amalio and Innocenzo De

Cotiis. Messrs. De Cotiis are heavily involved in the real estate business and hold, among other

companies and interests, shares of a company called Viam Properties Ltd., of which they are also

directors. While Messrs. De Cotiis and Viam Properties Ltd. were partners in SRMP, only

Innocenzo and Amalio De Cotiis are Appellants in the present proceedings. The hearing of the

appeal of Michael De Cotiis (1999-482(IT)G) has been adjourned by order of Judge Beaubier

dated June 7, 2001 and is to be heard in conjunction with the appeal of Viam Properties Ltd.

(2000-5103(IT)G) at a later date. However, of the three brothers, Michael De Cotiis, was the one

who was mainly involved in the investment in SRMP. Having a better knowledge of the English

language, he was also in a better position to testify.

[14]

William Verlaan testified on behalf of Verlaan Investments Inc. and 347059 B.C. Ltd.,

real estate development companies of which he is president and shareholder and which are

partners in SRMP. Having started in real estate in the 1960s, Mr. Verlaan is also greatly involved

and has considerable experience in that business.

[15]

Frank Benjamin Mayer testified for himself. Mr. Mayer is an investment analyst who

has been specializing in real estate for over 28 years.

[16]

Stewart Robertson also testified for the Appellants, having been involved in the STIL

II transactions in the course of his employment with OSFC. Although Mr. Robertson took part in

the negotiations with E & Y, his role was principally to carry on the due diligence process and to

look after the day-to-day management of the properties included in the STIL II Mortgage

Portfolio (hereinafter the"Portfolio"). He would also provide information on those properties to

the SRMP partners. At OSFC, Mr. Robertson reported to Mr. Kaulius.

[17]

Lastly, counsel for the Appellants read in as evidence excerpts from the examination

for discovery of Mr. Turner, a senior appeals officer at the Canada Customs and Revenue

Agency.

[18]

Counsel for the Respondent attempted to have Mr. Richard Charles Taylor, a chartered

accountant and a chartered business valuator with the firm Low Rosen Taylor Soriano in

Toronto, accepted as an expert and to have his report entered as evidence or, in the alternative, to

have him testify on limited matters confined to market rates of return or the proper calculation of

rates of return. Counsel for the Appellants challenged to the admissibility of Mr. Taylor's expert

evidence primarily on the basis that a major part of his report consisted in findings of fact made

by him in the OSFC (TCC) trial that did not fall within the area of his qualifications. Further to

accept Mr. Taylor's testimony on limited matters of market rates of return or the proper

calculation of rates of return would, according to counsel for the Appellants, allow him to engage

in a completely different exercise than the one he was initially asked to undertake. By Order

dated July 18, 2001, I refused to admit Mr. Taylor's evidence, essentially for the reasons

advanced by counsel for the Appellants. The Reasons for Order were signed on July 30, 2001.

[19]

Read-ins from the examination for discovery of Douglas H. Mathew, Warren J.A.

Mitchell, Ian H. Pitfield and Craig G. Sturrock were however entered as evidence for the

Respondent. Transcripts of the examination for discovery of Steven M. Cook as well as

transcripts of the testimony of Eugene Kaulius in the OSFC (TCC) case, supra, before Judge

Bowie, were also adduced by the Respondent.

[20]

The documentary evidence consists of Exhibits 1 to 203 contained in volumes I to XV,

of various other Exhibits numbered 204 to 209, of Exhibits A-1 to A-17 contained in the

Appellant's Supplemental Book of Documents, and of various other documents numbered A-18

to A-21. In addition, counsel for the Respondent filed a Brandeis Brief consisting of documents

on the legislative history of section 245 of the Act and on foreign tax legislation. The Brandeis

Brief also contains numerous writings on the subject of tax avoidance.

[21]

During examination of the witnesses, counsel for the Appellants placed great emphasis

on the underlying assets of the Portfolio, and more particularly on their target realisation value,

in order to demonstrate the primary business purpose of the Appellants in becoming partners in

SRMP. In cross-examination, counsel for the Respondent challenged their claim in that respect.

Central to that question is Exhibit A-16 entitled "Summary of STIL II Assets", a document that

would have been prepared and reviewed periodically by Mr. Robertson and provided by him

from time to time to the Appellants. I do not wish to comment at this time on the pertinence or

importance of that document. However, for the sake of a better understanding of the evidence

adduced by the parties, I have decided to reproduce it at this point. To further such

understanding, I have also decided to offer thereafter a brief description of the properties listed in

Exhibit A-16. The description of the properties as they were in early 1993 was provided in Mr.

Gregory's testimony and to a greater extent in Mr. Robertson's testimony. Numerous comments

were also provided by Mr. Kaulius.

[22]

Exhibit A-16 reads as follows:

SUMMARY OF STIL II ASSETS

Property

Name

No.

of

Units Ft.

Number Annual

Minimum

Net Sales

Proceeds

Price per

Unit on

Cost

Cap. Appraisal

Rate Values

on

Date of

Milborne Target

Ta

of Sq.

Cash

Flow

Appraisal Estimate Realization Sa

of Value Total

April/93

Da

Cost

21,270

71,230

(61,000)

(438,000)

150,000

500,265 $23.50/sqft

2,387,000

6,200,000

07/92

05/91

05/92

700,000

2,000,000

1,250,000

1

0

1

99 Rideau

23 Lesmill

Shurguard

Oakville

Georgian

Estates

247,630

$3.48/sqft

766

258

165

1,021,500

15%

2,000,000

3,870,000

13,150,000

270,000

470,000

Phase I

1,792,782

$27,272 15%

11%

05/92

55,000

2,000,000

9,000,000

0

Phase II

2,690,909

Phase II

498,768

Phase III

997,536

5,979,995

309,125

639

332

60,000

19%

1,600,000

05/92

06/92

500,000

0

1

Shurguard

Hamilton

Masonville

Estates

848,000

3,805,520

$22,891 11%

17,400,000

60,000

19,900,000

3,805,520

495,265

31,200

14,943

30,000

0

$20/sqft

6%

1,000,000

519,000

07/92

02/93

01/93

800,000

450,000

0

Mt. Baker

Enterprises

Atherton

Place

47

394,835

940,315

$8,500 sold

12%

110,000

1,211,000

1,200,000

Turner

Crossing

(75.7%)

170,495 $1,439,000 $17,500,000

$49,337,000

$37,800,000

0

Properties

[23]

At the outset, it is worth noting that Mr. Robertson said the properties were not class "A" or "B"

properties and many would not have been purchased but for the fact that they were part of a take-it-or-leave-it

package deal presented by E & Y. The majority of the properties were located in Ontario.

[24]

The 99 Rideau property was located in the Byward Market area of Ottawa. It was at

the time a three-storey building with a McDonald's restaurant and other tenants. This property

had been designed as a hotel, a fact with which Samoth and Mr. Thomas were very familiar.

However, the project had been stopped, as zoning and height regulations prevented the

development of this project as designed. As the property sat, it was essentially "a hotel lobby

without a hotel." However, Mr. Robertson said that OSFC and later SRMP had looked at

potentially getting involved with a local developer to actually finish the hotel with five or seven

storeys instead of 17, if the tenants, and particularly the McDonald's restaurant, would agree to

having their leases bought out. However, McDonald's had a 99-year lease that was essentially

prepaid. As Mr. Robertson described it, "it was a wild card."

[25]

The 23 Lesmill property was a very well-built office building in the Don Mills area of

Toronto. However, it was quite problematic because it was substantially vacant and generating

significant negative cash flow — some $438,000 — at the time. Mr. Robertson stated that the

problem with the building was that it had been developed as an office condo, 26% of the units

having been sold at that time. Therefore, what OSFC and later SRMP acquired was a mortgage

on the remaining 74% of the property. As a result, they ended up being partners with small

individual owner-occupiers, some of whom had no money to contribute capital if needed. The

vacancy level was attributable to the rental market in the area in which the property was situated.

According to Mr. Robertson, it was improbable that the property's net operating cash flow would

improve in the near future. A sale by auction was contemplated early on in the process.

[26]

The Shurguard Oakville and Shurguard Hamilton properties were mini-storage

properties in Oakville and in Hamilton. The one in Oakville was older but larger and had the

advantage of a better net operating income. The one in Hamilton was newer and better built but

had high property taxes and, as a result, a relatively small net operating income. Mr. Robertson

stated that these properties were viewed as an opportunity to hold land with cash flow and wait

until the market turned around, at which point either the properties could be sold outright to a

builder or a joint venture could be entered into with a builder.

[27]

The Georgian Estates property was a large development in Barrie, Ontario. The

constructions on the property were not well suited to a harsh environment, being of wood not

concrete. Mr. Robertson described it as being a nine-acre site with three components. The first

consisted of three student residence buildings with a total of 258 bedrooms, which generated

significant cash flow eight months of the year. The second component consisted of two

condominium buildings, each having 66 units. The third component was an L-shaped project

with a 30,000 square foot strip mall on the ground floor and 34 residential condominiums on the

second and third floors. It is worth noting that there was no cash flow from the strip mall because

more than half of the property was vacant. While this property had several constructions flaws, E

& Y had invested substantial amounts of money to correct deficiencies. Moreover, the net

operating cash flow from some components of the property was good and there was opportunity

to make it substantially better if the student vacancy factor was remedied. According to Mr.

Robertson, the substantial potential cash flow from this property, as well as from the Masonville

Estates, was one of the key elements of the whole Portfolio, since it would give OSFC and

SRMP the "luxury of time on the entire Portfolio."

[28]

The Masonville Estates property was located in London, Ontario, close to the

University of Western Ontario, and consisted of two residential building towers. This property

was not particularly well built but was of new construction and most of the apartments had two

bedrooms and two bathrooms, which was seen as an advantage, as it created privacy. As a result

of its proximity to the University, most of the apartments were rented to students at very high

rents. However, under its mode of operation at that time, the property was only rented eight

months of the year, as students moved out for four months during the summer. Also, the building

had some deferred maintenance to be done and there were some basic, fundamental flaws in its

construction. However, Mr. Robertson stated that, here again, E & Y had spent millions of

dollars dealing with construction deficiencies, most of the work having been done by the time

OSFC came into the project and the negotiations were completed. As it had been represented to

OSFC that both the Masonville Estates and Georgian Estates either were or would shortly

become registered condominiums, the Masonville Estates project was seen as beneficial,

condominiums being at a premium as compared to apartment blocks. According to Mr.

Robertson, whether OSFC, and later SRMP, was to sell Masonville Estates as individual condos

or to sell the whole property to a condo retailer or syndicator, they expected to obtain a premium

price, since it would already be in condo form. Moreover, the cash flow from the property was

significant and a decrease in property taxes was expected from its registration as condominiums.

Since the property had tenants at that time, there was very little risk to selling the condominium

units, as long as the cash flow was covering debt service.

[29]

The Mount Baker and Atherton Place properties were both located in Winnipeg.

Mount Baker was a small warehouse, which had experienced settling underneath it. As a result

of the structural problems that entailed, only one half of the property was suitable for the storage

of items of any significant weight. In addition the property had an access problem: the actual

entrance was reached by crossing the neighbour's property via an easement. Access from the

other side of the property would require construction across a culvert at a cost of between

$75,000 and $100,000. Further, the borrower on the property was an irrational individual who

was purporting to be both landlord and tenant and there was some question as to whether or not

he could be removed so that increased rents could be charged. Atherton Place was a small

apartment building with a long list of problems, most related to the fact that it was located in a

dangerous neighbourhood. It is worth mentioning that there was an agreement of sale pending on

Atherton Place at the time OSFC was negotiating the purchase of STC's 99% interest in the STIL

II Partnership. It sold just prior to the closing between OSFC and STC, but for less than

$450,000.

[30]

Turner Crossing was a shopping mall located in Regina. As may be seen from Exhibit

A-16 (reproduced at paragraph 22 of these Reasons), there was an offer of $1,211,200 on this

property at the time the transaction between STC and OSFC closed. However, the sale did not go

through and the property was sold a year or two later to another purchaser.

[31]

Despite the extensive Statement of Admitted Facts, the evidence given at trial lasted

almost nine days. In the following review of the evidence concerning the circumstances

surrounding the key transactions mentioned in paragraph [6] of these Reasons for Judgment, I

will concentrate on the admitted facts and the most important aspects of the evidence as

emphasized by counsel for both parties prior to argument. Although this is done to avoid

numerous repetitions, there will inevitably be some. If and when necessary, I will fill in what I

consider to be important elements that may have been overlooked or, more simply, I will add

details necessary for a better understanding of the facts.

(B) STC'S TRANSACTIONS (TRANSACTIONS 1, 2 AND 3)

[32]

The principal evidence regarding the purpose of STC's transactions, that is, the

transactions involving the creation of 1004568 as a wholly owned subsidiary of STC, the

formation of the STIL II partnership and the transfer of STC's portfolio mortgages to STIL II,

was provided by means of the testimony given by Richard Bradeen in the OSFC (TCC) case,

which was introduced in evidence through transcripts. Reference was also made to a number of

exhibits adduced in evidence.

[33]

[34]

The Appellants' counsel emphasized in particular the following points.

Once appointed as liquidator of STC, E & Y's duty was to maximize the assets of STC

for the benefit of its creditors. In an effort to speed up the liquidation process considering the

difficulties the real estate markets were experiencing at that time, E & Y decided to package for

sale one or more portfolios of mortgages with what they thought would be attractive

characteristics. According to Mr. Bradeen, the creation of such portfolios was viewed at the time

as a way to bring in partners with expertise in real estate in order to realize better net proceeds, as

well as a way to create a marketing separation between STC and the assets to be sold. It was also

viewed as a way to generate an additional payment through the tax benefit attached to the

portfolios. The tax benefit from what ultimately became the Portfolio was considered to be 5/35

of the estimate of STC's proceeds on the Portfolio or $5 million on a Portfolio with a fair market

value of $30 million to $35 million.

[35]

For the purposes of transactions involving the created portfolios, a non-arm's-length

partnership was chosen as the appropriate vehicle. Liquidator's Report No. 13 (Exhibit 1, vol. I),

which accompanied the motion for approval of STC's transactions presented to Houlden J.,

indicates the following to be the objectives of the transfer of the portfolio to a non-arm's-length

partnership:

PART III - STRATEGIC OBJECTIVES

The following objectives of the Liquidator can be accomplished by the transfer of

the Mortgages to the Partnership:

(a)

Enhanced Marketability

The proposed transfer of Mortgages to the Partnerships has the

potential to enhance the value and marketability of the Mortgages

and the underlying real property, and may also enhance the

marketability and value of Standard Trust's assets generally.

To some extent, the enhanced marketability of the Mortgages may

arise simply from the separation of the Mortgages and underlying

real property from the other assets of Standard Trust. The

Liquidator intends to dispose of the assets of Standard Trust in an

orderly manner and is prepared to wait out the market where

appropriate. In spite of clearly stating this approach to potential

purchasers of Standard Trust's assets, a perception persists in the

marketplace that properties may be acquired on "fire sale" terms.

Under the arrangements the Liquidator is proposing the

Partnerships will become responsible for realizing on the

Mortgages and the underlying real property, and this may

emphasize to the market the nature of the realization process which

is contemplated, and produce better recoveries.

(b)

Additional Flexibility for Liquidator

The proposed transaction will also give the Liquidator greater

flexibility in the realization process for Standard Trust's assets

generally. In addition to being able to sell mortgage assets or

parcels of real estate directly, the Liquidator would also have the

option of selling some or all of Standard Trust's interest in the

Partnerships. Accordingly, the range of realization methods at the

Liquidator's disposal and the potential for maximizing the overall

value of Standard Trust's assets would be increased under the

proposed transaction.

If the Liquidator wishes to sell any of Standard Trust's interest in

the Partnerships, such sale would be subject to this Court's

approval. In addition, since the Liquidator's objective is to enhance

the marketability of Standard Trust's assets and not to isolate them

from the supervision of the Court, the Liquidator will cause the

Partnerships to seek this Court's approval of any proposed

transaction in respect of the Mortgages or the underlying real

property in any circumstances where such approval would have

been required had the Mortgages not been transferred to the

Partnerships.

(c)

Protection of Standard Trust's Estate

The Liquidator, through Standard Trust's ownership of the

Subsidiary, will cause the Partnerships to continue the process of

realizing maximum value from the Mortgages. To this end, the

Partnerships may sell Mortgages or foreclose, commence power of

sale proceedings, or obtain quit claims in respect of the underlying

real property from mortgagors in such a manner as is deemed

appropriate by the Subsidiary. All of the foregoing realization

procedures are of course presently at the disposal of the Liquidator.

No flexibility in the realization process will be sacrificed by the

transfer of the Mortgages to the Partnerships.

The recoveries from the Mortgages will continue to be available

to Standard Trust and its creditors through distributions from the

Partnerships and dividends from the Subsidiary, both of which will

be controlled by Standard Trust. However, to ensure that any

claims relating to the Mortgages are subject to the Court's

supervision to the same extent as at present, the Liquidator

requests that the order of this Court dated July 19, 1991 requiring

leave of this Court in any proceedings against Standard Trust or

the Liquidator be varied so that such leave would also be required

on the same terms, so long as Standard Trust retains its ownership

interest in the Partnerships, for any proceedings against the

Partnerships.

In the event that the Liquidator subsequently determines that the

marketability of the Mortgages and the underlying real property is

not enhanced by the separation of these assets from Standard

Trust's other assets, the Liquidator could cause the Partnerships to

be dissolved, and the Mortgages returned to Standard Trust without

cost (apart from the costs of the transfer itself). Accordingly, apart

from the transaction costs involved, Standard Trust would not put

any funds at risk by engaging in the proposed transaction, and

would have the option of undoing the transaction in its entirety if

we subsequently determine that this is appropriate. The Liquidator

does not anticipate that overall expenses will be higher by

engaging in the proposed transaction.

[36]

To the above, Mr. Bradeen added in his testimony that the partnership vehicle was

found to be a good way of bringing in partners with real estate expertise to help with the

disposition of the assets and with the management process, as real estate people are familiar with

the partnership vehicle. Using a partnership was also viewed as an advantage because there was

no capital tax. According to Mr. Bradeen, a partnership also seemed fairly good from the

perspective of providing very detailed supervision and keeping a "hand in" in terms of

overseeing the eventual disposition of the assets. Flexibility in terms of selling the units of the

Portfolio as opposed to the underlying assets was also mentioned. Finally, the partnership

structure was useful for tax purposes, allowing the transfer of losses, which would bring some

additional value to the estate.

[37]

Counsel finally emphasized that the Appellants were not involved in STC's

transactions, which transactions did not originate with the Appellants, their advisors or anyone

connected with the Appellants.

[38]

Counsel for the Respondent emphasized the following points.

[39]

E & Y had sold a number of STC's non-performing mortgages to various purchasers

for cash, either at a substantial discount or as part of a package including performing mortgages.

In Exhibit 106 (vol. VIII), there is a detailed list of nine transactions by which E & Y sold a total

of 4195 STC mortgages between June 24, 1991 and June 24, 1994. These transactions were

confirmed by Mr. Bradeen during cross-examination in the OSFC (TCC) case. However, with

respect to what ultimately became the STIL I and STIL II Portfolios, a non-arm's-length

partnership was resorted to instead of doing a simple cash sale at a discount. Part of the reason

why E & Y opted for this vehicle was that it would result in an increased purchase price for the

portfolio by virtue of the tax benefit accruing to the purchasers. As stated by Mr. Bradeen, "we

thought that we would receive a better, a better price, an enhanced deal by packaging the assets

in this manner." Further, Mr. Bradeen admitted that the chances were slim that they would have

gotten the price they got from OSFC had there been no tax benefit in the package. The

importance of this tax objective is illustrated by Exhibit 77 (vol. VI), which is a copy of Draft 3

of the Real Estate Portfolio Transaction Term Sheet (E & Y) dated July 24, 1992, a document

setting out the steps that were to be followed in transferring STC's losses on the mortgages to

outside investors by utilizing subsection 18(13) of the Act. The transfer of the losses to a non-

arm's-length partnership was admitted to be essential to the completion of the scheme laid out in

that document. Interestingly enough, the selection of mortgages for the portfolio that was to be

transferred to the contemplated STIL II was based in part on "sizable losses," as indicated in

Exhibit 91 (vol. VI), which is a copy of a memo to file from Mr. Bradeen, Allan Mark and Glen

Shear of E & Y regarding updated appraisals for STIL I dated December 3, 1992. Part of this

document provides as follows:

. . . The selection of the mortgages transferred into STIL I on

October 23, 1992 was based on a number of factors considered

favorable to the marketing of the 99% partnership interest in STIL

I. These factors included low environmental risks associated with

the properties, sizable losses, and current positive net operating

income or potential asset appreciation.

[40]

While this paragraph applied specifically to STIL I, Mr. Bradeen admitted that similar

considerations applied to STIL II. As a matter of fact, the very same statement specifically

relating to STIL II appears in Exhibit 108 (vol. VIII), which is an undated copy of a document

entitled Review of Proposed Transaction.

[41]

With respect to Houlden J.'s knowledge of the purpose of the creation of STIL II,

counsel for the Respondent emphasized that while Houlden J. had been given Liquidator's

Report No. 13 (Exhibit 1, vol. I), he had not been given Exhibit 110 (vol. VIII), which is an

undated copy of the draft liquidator's report. Contrary to Liquidator's Report No. 13, the draft

report clearly indicated the tax losses were an object of the transactions. This document reads in

part as follows:

The Mortgages have an aggregate cost base for tax purposes of

approximately $195 million. The partnership purchasing the

Mortgages under the Proposal will acquire this tax base and will be

able to realize tax losses in connection with its ownership and sale

of the Mortgages and the Real Estate.

[42]

Counsel for the Respondent acknowledged that Liquidator's Report No. 22 (Exhibit 9,

vol. I), which was also given to Houlden J. for the purpose of obtaining approval of the sale of

STC's 99% interest in STIL II to OSFC, includes, at page 7, a mention of the tax aspect of the

transactions in the form of the following statement with respect to the purchase price:

an additional payment calculated on the basis of partnership losses

allocated to OSFC as set out in section 2.07 of the Purchase

Agreement up to a maximum of $5,000,000.

[43]

However, counsel for the Respondent emphasized that, apart from this reference, there

is no real indication that Houlden J. was informed about the tax component of the STC

transactions. In particular, Mr. Bradeen did not know for certain whether the tax aspects of the

transactions were explained to the Court and he did not know whether the possibility that the

transactions might be attacked by Revenue Canada as avoidance transactions was discussed with

the Court. I might add here that Mr. Bradeen admitted that he was not present before Houlden J.

but said he believed, from his discussions with counsel and Mr. Drake, his superior, that the

mechanics of the transactions were explained to him.

[44]

It is worth mentioning that while the Appellants' counsel put great emphasis on

Liquidator's Report No. 22 and the reference therein to an additional payment for tax losses, this

document, dated June 22, 1993, was not presented to Houlden J. at the time the STC transactions

occurred, that is, in October 1992. It is only when E & Y sought the Court's approval with

respect to the transfer of STC's interest in STIL II to OSFC (in June 1993) that the document was

submitted to him. Apart from the mention of the additional payment in the report, there is no

indication that Houlden J. was informed at that time of the tax component of the STC

transactions.

(C) OSFC'S TRANSACTION (TRANSACTION 4)

[45]

With respect to OSFC's purchase of STC's 99% interest in STIL II, counsel referred

mainly to the testimony of Messrs. Kaulius and Robertson, as well as to the transcript of the

testimony of Mr. Bradeen in the OSFC (TCC) case. Several exhibits adduced in evidence were

also referred to.

[46]

[47]

Counsel for the Appellants emphasized in particular the following points.

As stated in paragraph 7 of the Statement of Admitted Facts, between August of 1992

and January of 1993, E & Y contacted prospective purchasers of STC's 99% interest in STIL II,

including OSFC. As stated in paragraph 8 of the Statement of Admitted Facts, negotiations

between E & Y and OSFC started in January of 1993. On March 5, 1993, OSFC wrote a first

letter of intent (Exhibit 14, vol. I) in order to have the properties "tied up" before they invested

further in the project. The negotiations continued until the conclusion of the final purchase

agreement dated May 31, 1993 (Exhibit 15, vol. II). I would add here that in fact the closing

finally took place on June 29, 1993.

[48]

The negotiations between E & Y and OSFC began in January 1993 and lasted until the

end of June 1993; they were described by both parties as having been very difficult. Mr. Bradeen

said they were "a very difficult set of negotiations", "very difficult and acrimonious" and

"somewhat hostile." Mr. Kaulius called them "very challenging." Indeed, the deal almost fell

apart at the end of May, as OSFC did not agree with the deal as a whole. In counsel's view, the

whole negotiation process shows that it was "very much a negotiated business deal," as opposed

to "a normal tax avoidance transaction, where everything is pre-structured in advance and these

transactions proceed like clockwork."

[49]

From E & Y's point of view as indicated in the above-mentioned Liquidator's Reports

Nos. 13 and 22, OSFC's expertise in real estate made it an attractive purchaser of the STIL II

interest. From OSFC's point of view, the focus was to limit its "downside risk" by ensuring that

the fixed payment obligation toward STC would be minimized and that OSFC's managerial

control over the management and exploitation of the Portfolio would be maximized, as would the

potential upside return available to OSFC once the "net sales proceeds" realized from the

Portfolio exceeded certain thresholds.

[50]

Great emphasis was placed on the evidence of the steps taken by OSFC to ensure the

attainment of these objectives. These steps included the extensive due diligence with respect to

the properties underlying the Portfolio that was done by OSFC through Messrs. Robertson and

Kaulius, which resulted in the preparation of similarly extensive due diligence binders (Exhibits

63, 64, 65 and 66, vols. IV, V and VI). The evidence reveals that, as stated by the Appellants'

counsel:

. . . The due diligence process was more than a full-time job during

the period in which OSFC was negotiating with E & Y and

required OSFC to incur substantial out-of-pocket costs. The due

diligence included:

(a)

examination of the pertinent mortgage terms and

conditions;

(b)

(c)

review of previous lender conduct;

ascertainment of the strength of the security/charges in

place;

(d)

reviewing the tenant role and analyzing the terms of the

prevailing leases;

(e)

(f)

(g)

(h)

(i)

verifying receipt of the rent roll as represented by STC;

site visits;

examining local market conditions;

undertaking structural analysis of the buildings;

procuring environmental risk assessments for the

properties.

[51]

As a result of a number of deficiencies identified during the above-mentioned due

diligence process, OSFC negotiated several significant concessions from E & Y. These

concessions included the reduction of the fixed consideration payable from the $20 million first

proposed in the letter of intent dated March 5, 1993 to $17.5 million, the contribution by STC to

STIL II of $834,000 to compensate for outstanding construction and repair commitments and of

$473,000 to cover adjustments for property taxes and tenant deposits relating to the Portfolio, as

well as an extension beyond five years of the contemplated sale horizon for the Portfolio.

[52]

Mr. Kaulius was positive that the Portfolio was presented to OSFC as an indivisible

package, which E & Y would not break up. It was a take-it-as-is-or-leave-it proposition.

According to Mr. Bradeen, on the other hand, E & Y was willing to sell the STIL II Portfolio to a

third-party purchaser without any of the tax attributes attached to it. However, it was, in Mr.

Kaulius, and Mr. Robertson's view, unlikely that they could have obtained at that time the price

they assessed as being the fair market value of the properties. It was as a result of the foregoing

that the purchase price was negotiated, which was to be payable on the basis of a formula of

sharing the proceeds from the sale of the properties underlying the Portfolio over a period of

several years. Since interest was payable on the promissory note that was a component of the

purchase price, OSFC negotiated a full right of prepayment in respect thereof. It was OSFC's

intention to satisfy its obligations under the promissory note as soon as possible in order to

minimize its financial exposure and to immediately improve cash flow by eliminating the

significant interest amount otherwise payable on that note.

[53]

Counsel for the Appellants also reiterated that Liquidator's Report No. 22 (Exhibit 9,

vol. I), which was presented to Houlden J. for the purposes of the approval of the transfer of

STC's 99% interest in STIL II to OSFC, indicated that the additional payment for the tax losses

was a component of the purchase price. Counsel reminded the Court that Mr. Bradeen had stated

that he believed the mechanics of the transactions were explained to Houlden J. when E & Y

sought authorization for the transfer. Counsel for the Appellants submitted that Houlden J.'s

approval of the transactions certainly goes to show the bona fides of those transactions.

[54]

As a result of this transfer, and as stated in paragraph 13 of the Statement of Admitted

Facts, STC and 1004568 entered into an Amended and Restated Partnership Agreement on June

22, 1993 (Exhibit 19, vol. III). Pursuant to this Agreement STIL II's business was to be carried

on in accordance with a business plan approved by the partners (Exhibit 18, vol. II). However, it

was stressed that neither OSFC nor, later, the Appellants placed any great reliance on that

business plan as a realistic projection of the net proceeds to be realized, as OSFC's plan was very

different from that negotiated with E & Y. In fact, Mr. Kaulius explained that the business plan

was prepared in the course of negotiations between OSFC and E & Y and that OSFC's focus in

the negotiations was on securing control over managerial decisions with respect to the Portfolio.

The low scenario, as it was called, was intended to allow OSFC flexibility should it, for some

specific reason, want to sell any one asset at any given time. As Mr. Robertson explained, OSFC

focused on being able to sell the Lesmill property as soon as possible by auction. Such flexibility

was also said to be ensured by the "put option" that enabled OSFC on the one hand to compel

STC either to acquiesce in a proposed sale of a particular property to a third-party or to purchase

the property from STIL II on identical terms, and on the other hand, to retain any property within

the Portfolio by matching whatever third-party offer STC wished to accept. The numbers arrived

at in the business plan were also explained by the fact that at the time of the negotiations, OSFC

was still attempting to obtain a better aggregate purchase price from STC and thus advocated the

lowest possible values for the properties underlying the Portfolio for the purpose of establishing

the earn-out. E & Y conversely advocated the highest possible values.

[55]

[56]

Counsel for the Respondent emphasized the following points.

When first approached by Jonathan Baker of E & Y in January of 1993, Mr. Kaulius

was given the available overview information regarding the Portfolio. Mr. Kaulius stated that

this information package included a description of the properties and indicated the kind of

properties they were, the cash flows E & Y thought they generated and what their upsides were.

The existence of a partnership and how the tax losses would be transferred to OSFC were also

indicated. Mr. Kaulius' impression from the outset was that the properties were low quality. In

his own words, "these were not A properties, they weren't even B properties." From his

discussions with Mr. Baker, Mr. Kaulius felt that "they were not very good properties." Mr.

Kaulius moreover described some of them as "dogs" and pressed E & Y to remove them from

the Portfolio, which E & Y did not agree to do, as the transaction, as mentioned before, was

presented at the outset and throughout as a take-it-or-leave-it proposition. It is because OSFC did

not agree with E & Y's appraised value of about $33,000,000 that Mr. Kaulius came up with the

earn-out formula as a way to "bridge the difference" between that appraised value and the fixed

amount of $20 million agreed to in the March 5, 1993 letter of intent (Exhibit 14, vol. 1).

However, that fixed amount was subsequently reduced to $17.5 million as a result of the due

diligence process because the properties turned out to be of even lower quality than had been

originally thought. Counsel further emphasized that OSFC's first concern in this transaction was

to protect itself, that is, to try to get a low enough price to be able to get its money back. As was

said by Mr. Kaulius in particular, "the upside would look after itself."

[57]

Mr. Kaulius also admitted that OSFC did not try to negotiate away the tax losses,

which were an attractive part of the deal. The payment for the losses was based on 10 ¢ on the

dollar, which OSFC accepted from the outset. I might add here that from Mr. Kaulius' testimony

it is clear that payment for the losses would only have been made if those losses were ultimately

available, otherwise nothing would have been paid.

[58]

It was also stressed by counsel for the Respondent that Liquidator's Report No. 22

(Exhibit 9, vol. 1) referred to above does not identify the transfer of the losses as an objective

pursued by E & Y. In fact, E & Y's objectives in that regard are stated in the Liquidator's Report

in terms of the benefits to STC. That document reads in part as follows (at pages 12-14):

1.

BENEFITS TO STC

(a) Financial Benefits

On the basis of the same pattern of asset dispositions, the sale of

STC's partnership interest will result in a higher yield to the estate

compared to the results that will be obtained (i) if STC retained its

partnership interest (referred to in the table below as "Status

Quo"), or (ii) the results that would have been obtained if STC had

sold the Mortgages directly instead of transferring them to STIL II.

The proposed transaction: (i) will result in STC receiving cash

proceeds sooner by way of cash payable on closing; and (ii) may

result in STC receiving cash proceeds sooner by way of amounts

payable under the Note and any additional payment, than would

otherwise be the case on the basis of the same assumed pattern of

asset dispositions.

Using the market assumptions set out in the most recent STC

business plan and assuming the most probable course of

management action by STIL II, the proposed transaction will

generate the following net cash flows to STC:

[Footnote omitted.]

Status

Quo

Proposed

Incremental

Transaction

Benefit

($

million)

Total amount

received

Net Present

Value @ 12%

$31.7

$35.3

$3.0

$3.6

$27.7

$30.7

Note:

These financial projections are included for purposes of

illustration only. Actual results may vary materially.

[Footnote omitted.]

The total estimated net cash flow to STC from the OSFC

transaction is $35.3 million. This amount includes the deposit

($500,000), cash on closing ($2,500,000), the Note ($14,500,000),

the additional payment (a maximum of $5,000,000), the earn-out

($13,300,000) and interest and management fees payable to the

Subsidiary (totalling $1,400,000), less capital expenditure funding

and enforcement costs ($1,400,000). Incremental benefits to STC

from the proposed transaction could arise by virtue of the

additional payment over the next five years and the early

repayment of the Note out of net sales proceeds from the sales of

the Mortgages and underlying properties.

(b)

Real Estate Expertise

As discussed in Part V, OSFC will provide day-to-day

management services to STIL II. The partnership will therefore

benefit from OSFC's and Mr. Thomas' real estate and management

expertise.

(c)

Limitation of Market Risk

The minimum payment STC will receive from OSFC is

$17,500,000. This establishes a market floor with respect to the

Mortgages and protects STC in the event of further significant

declines of the real estate markets in the provinces where the

properties subject to the Mortgages are located.

(d)

Earn-Out

The earn-out will allow STC to participate indirectly to a

significant degree in any future profits realized by OSFC if the

Mortgages or underlying properties are ultimately sold in a more

favourable market.

(D) SRMP'S TRANSACTIONS (TRANSACTIONS 5 AND 6)

[59]

With respect to OSFC's syndication of its 99% interest in STIL II by the creation of

SRMP and the sale of Class A Units, counsel referred most particularly to the testimony of

Messrs. Kaulius, Gregory, Cook, De Cotiis, Verlaan and Mayer. Counsel also referred to

numerous exhibits.

[60]

[61]

The Appellants' counsel emphasized the following points.

According to Messrs. Kaulius and Robertson, OSFC solicited potential third-party

investors, including the Appellants, to participate in the venture in order to reduce the risk

involved and to fund the acquisition of its 99% interest in STIL II. Mr. Kaulius said that OSFC

intended almost from the start to syndicate its interest, because it was a very large transaction. As

stated in paragraph 18 of the Statement of Admitted Facts, OSFC and TFTI thus entered into an

agreement (Exhibit 35, vol. III) dated July 5, 1993 (the "SRMP Partnership Agreement") to form

a general partnership to carry on business under the name SRMP and to acquire and manage

OSFC's partnership interest in the STIL II partnership. As stated in paragraph 19 of the

Statement of Admitted Facts, the capital of SRMP was divided into 35 Class A units and 15

Class B units, with 14.50 of the latter being allocated to Mr. Thomas's private companies (OSFC,

TFTI and NSFC), and the remaining .50 unit being allocated to Mr. Kaulius.

[62]

I would add here that, as stated in paragraph 27 of the Statement of Admitted Facts,

OSFC signed a deed of assignment dated July 7,1993 assigning its partnership interest in the

STIL II Partnership to SRMP except for OSFC's right to perform certain services for the STIL II

Partnership and to receive a fee therefor (Exhibit 36, vol. III). As stated in paragraph 26 of the

Statement of Admitted Facts, on July 7, 1993, OSFC sold its STIL II interest to SRMP for a

stipulated composite purchase price that included in particular $3,850,000 in cash (Exhibit 40,

vol. III). As stated in paragraph 28 of the Statement of Admitted Facts, the above was confirmed

in an agreement between OSFC, SRMP and 1004568 dated July 7, 1993 (Exhibit 37, vol. III).

[63]

As stated in paragraph 29 of the Statement of Admitted Facts, on or about July 9,

1993, the Class A unitholders described in Appendix "A" thereto subscribed for the stated

number of Class A units, or fractions thereof, of SRMP for a composite price of $110,000 per

Class A unit (aggregating $3,850,000 for all 35 Class A unitholders). The Class A unitholders

also undertook the additional obligations described in paragraph 29 of the Statement of Admitted

Facts, namely, funding of their proportionate share of the "Additional Payment". To that end,

each Class A unitholder had to provide the documents mentioned in paragraph 30 of the

Statement of Admitted Facts.

[64]

As a result of both STIL II and SRMP being general partnerships, each SRMP partner

assumed and agreed to perform OSFC's obligations under the STIL II Purchase Agreement and

the Amended and Restated STIL II Partnership Agreement as provided in paragraph 33 of the

Statement of Admitted Facts. Each SRMP partner, whether a Class A or a Class B unitholder,

was thus jointly and severally liable with respect to any liabilities of SRMP and STIL II,

including the $14,500,000 promissory note and any other debt incurred. They all shared the risks

associated with a general partnership.

[65]

Counsel for the Appellants reviewed the allocation of the net operating cash flow from

STIL II by reference to a graphic depiction of the allocation (Schedule A to the Appellants'

Written Argument). This allocation is also detailed in paragraph 31 of the Statement of Admitted

Facts. In summary, the net operating cash flow of STIL II was allocated as follows:

1.

2.

3.

$250,000 was to be paid to OSFC as an annual management fee;

$200,000 was to be paid to 1004568 as an annual administration fee;

of the remainder, 1% was allocated to 1004568 and 99% to SRMP.

Of the 99% allocated to SRMP, the following further allocations were made:

1.

2.

3.

payment of the interest on the promissory note was to be made;

$12,000 was to be paid to OSFC as an administration fee;

75% of the remaining net annual cash flow was to be paid to OSFC as an

incentive fee;

4.

of the remaining 25%, 70% was to be paid to the Class A units and 30% to the

Class B units.

[66]

Counsel for the Appellants also reviewed the allocation of the proceeds by reference to

a graphic depiction of the allocation (Schedule B to the Appellants' Written Argument). This

allocation is also detailed in paragraph 32 of the Statement of Admitted Facts. In summary, the

Portfolio proceeds were allocated as follows:

1.

2.

1% was to be paid to 1004568;

99% was to be paid to SRMP.

Of the 99% allocated to SRMP, the following further allocations were made:

1.

2.

3.

Of the first $14,355,000 (being 99% of $14,500,000), 82.684% was to be paid

to STC on the promissory note and 17.316% was to be held in escrow to secure

future payments due under the promissory note. Pursuant to the SRMP

Partnership Agreement the entire $14,355,000 was to be paid to STC in respect of

the promissory note.

Of the next $3,000,000 allocated to SRMP (between $14,355,000 and

$17,355,000), 100% was to be paid to the Class A units. However, pursuant to the

SRMP Partnership Agreement these funds were to be directed into escrow and

applied to satisfy the Class A Unitholders' obligation to provide security deposits

in respect of their contingent obligation to fund the additional payment.

Of the next $9,444,443 (between $17,355,001 and $26,799,444), 91% was to

be paid to STC in respect of its earn-out and 9% to SRMP. However, the entire

amount allocated to SRMP — a maximum of $850,000 — was allocated to the

Class A Units, the holders of which pursuant to the SRMP Partnership

Agreement, directed these funds into escrow to satisfy the obligation to provide

security deposits in respect of their contingent obligation to fund the additional

payment.

4.

5.

Of the next $5,307,394 (between $26,799,445 and $32,106,839), 91% was to

be paid to STC in respect of its earn-out and 9% to SRMP. The 9% allocated to

SRMP was further allocated 70% to the Class A units and 30% to the Class B

units.

Of the next $5,513,160 (between $32,106,840 and $37,620,000), 50% was

allocated to STC in respect of its earn-out and 50% to SRMP. The 50% allocated

to SRMP was further allocated 70% to the Class A units and 30% to the Class B

units.

6.

Any Portfolio proceeds above $37,620,000 were allocated 25% to STC in

respect of its earn-out and 75% to SRMP. The 75% allocated to SRMP was

further allocated 70% to the Class A units and 30% to the Class B units. [1]

[67]

Messrs. Gregory, De Cotiis, Verlaan and Mayer were positive that at no time were any

of the Appellants given an opportunity to purchase the Portfolio, the underlying properties (or

any portion thereof) or any of the tax attributes associated with the Portfolio in any manner other

than as an acquisition of an interest in SRMP. Counsel for the Appellants noted that Mr. De

Cotiis and Mr. Verlaan attempted to buy up the Georgian Estates and Masonville Estates

properties and that Mr. De Cotiis even made a bid on the Lesmill property when it was auctioned

but he was unsuccessful.

[68]

The varying degrees of individual due diligence done by the Appellants were

explained. While some of the Appellants inspected one or more of the properties underlying the

Portfolio, all relied to some extent on the extensive due diligence done by Messrs. Robertson and

Kaulius for OSFC. The Appellants were afforded access to the due diligence binders completed

by OSFC. Some among them, in particular Mr. Gregory and Mr. Cook, testified that they

reviewed with Messrs. Kaulius and/or Robertson the contents of the Summary of STIL II Assets

(Exhibit A-16). In fact, as regards the Thorsteinssons partners, Messrs. Gregory and Cook were

in constant contact with Mr. Robertson during the due diligence process. The other

Thorsteinssons partners relied on Messrs. Gregory and Cook to consider and evaluate the

information presented by OSFC.

[69]

Based on their own due diligence and on their reliance on Mr. Kaulius' and Mr.

Robertson's due diligence, the Appellants believed that the aggregate net proceeds of

$37,800,000 from the disposition of the properties comprising the Portfolio arrived at in the

Summary of STIL II Assets (Exhibit A-16) was a reasonably attainable target. Counsel for the

Appellants emphasized, based on the examination for discovery of Mr. David Turner, that the

Revenue Canada auditor, Mr. Thomas Heinz Buschhausen, had indicated that there was nothing

unreasonable in thinking that the potential realization value of these properties would be in

excess of $35 million or even $37 million. Mr. Turner did not disagree with the statement. Based

on this assumption and on the allocation of cash flows and proceeds set out above, Mr. Gregory,

when acquiring his interest in SRMP, forecast a return of between 50% and 100% on invested

capital. His reconstructed calculations are summarized in Exhibit A-18 and show a projected

return over three years of $67,572/$110,000 or about 61%. In fact, Mr. Gregory admitted that the

return should have been computed over a period of 3½ years, which would have given an annual

rate of return of 17.5%.

[70]

For his part, without making a precise calculation, Mr. Cook expected "better than a

market rate of return" from his investment. Mr. Kaulius expected "better than 15%." Mr. Kaulius

added that this rate was the threshold return, inclusive of fees, expected by OSFC, in order for it

to be interested in the transaction. Other partners, in particular Messrs. De Cotiis, Verlaan and

Mayer, believed that the aggregate net proceeds would exceed $40 million or even $50 million.

Both Messrs. De Cotiis and Verlaan said they expected to double the money they invested.

During cross-examination, Mr. Robertson moreover stated that the return anticipated by OSFC

exceeded the return forecast by Mr. Gregory and other Appellants. He was referred to

calculations he made in 1998 based on actual cash flow as of December 31, 1997 as well as net

actual proceeds received plus an estimate of the value of the properties still in inventory. Given

that an amount representing the estimated value of the remaining properties is added to the net

actual proceeds, the calculations detailed in Exhibits 69 and 70 (vol. VI) result in total net cash

flow and proceeds of $6,317,192 for the SRMP partners, which translates into a 32.82% annual

cash-on-cash return on the Class A unitholders' cash investment of $3,850,000.

[71]

The Appellants were confident they would achieve their expectations, given the very

conservative valuations of the Georgian Estates and Masonville Estates. These properties alone

would produce sufficient proceeds to extinguish the promissory note. In support of this view, the

Appellants noted that the valuations of these properties were well below construction costs for

comparable properties, ignoring the cost of land, and represented only a fraction of the amount

originally lent by STC.

[72]

A number of the Appellants also believed that the properties within the Portfolio

would increase in value as the real estate market experienced its usual cycle. Moreover, the

Appellants drew comfort from the idea that a quick disposition of the Lesmill property would

stop a negative cash flow of some $500,000 and thus increase the net cash flow from the

Portfolio as a whole to an amount that would be more than sufficient to cover the interest

payable to STC on the promissory note. The sale proceeds could also be used to reduce the

outstanding amount of the promissory note. Accordingly, it was thought that upon the expected

sale of the Lesmill property, SRMP would have an expanded time frame, if necessary, in which

to maximize the net proceeds from the Portfolio.

[73]

Great emphasis was also placed on the fact that unlike the extensive work done on the

real estate aspects of the transactions, the negotiations and the due diligence on the issue of the

preservation, for tax purposes, of STC's historical cost of the Portfolio were superficial. In this

regard, E & Y simply provided OSFC with copies of the orders of Mr. Justice Houlden and

supporting documentation relating to the formation of STIL II as well as a

representation/warranty as to the amounts owing with respect to the Portfolio. In addition, it was

emphasized that the additional payment in respect of the tax attributes of the Portfolio was

contingent, that is, payable only if the resulting losses were available to the SRMP partners.

Moreover, it was stressed that the Appellants could have no entitlement to have allocated to them

any losses by STIL II/SRMP without first becoming Class A or B unitholders in SRMP and

assuming all of the risks and benefits associated with being a member of that general partnership.

[74]

Besides, while the Appellants all stated that the tax benefit was important, great

emphasis was placed on the fact that the benefit obtained was merely a deferral. In fact, the

adjusted cost base of the Appellants' partnership interests had to be reduced by the amount of the

losses allocated, and was therefore driven down to a negative value. Eventually a capital gain

would result from the disposition of each Appellant's partnership interest on termination of the

partnership or otherwise. For that reason, it was stated that the exact value of the tax benefit was

difficult to ascertain. Some Appellants insisted that the product obtained by multiplying the

applicable tax rate by the amount of SRMP losses deducted does not represent the value of the

tax benefit since it ignores the recapture of the tax benefit through the realization of the resultant

negative adjusted cost base in the form of a capital gain as well as the outlay of $125,700 for the

additional payment.

[75]

A calculation prepared by Mr. Cook entitled Value of Tax Deferred per Class A unit

was adduced as evidence (Exhibit A-21). This calculation is based on several assumptions, being

in part the following: it was assumed that SRMP losses allocated in 1993 to the Class A SRMP

partners were fully utilized against income otherwise subject to tax in the 1993 taxation year, and

that each unitholder had paid the full amount of the additional payment of $125,700 per unit. It

was further assumed that a termination event would occur in year 6, resulting in a recapture in

that year due to the negative adjusted cost base. The calculation is based lastly on a tax rate of

45%, an applicable capital gains inclusion rate of 75% for the 1993 taxation year, and an

applicable discount rate of 6% per annum, which was the prescribed rate of interest payable on

tax arrears as at April 1994. Based on these assumptions, Mr. Cook arrived at an initial tax

saving in the amount of $471,460 per Class A unit, reduced by the additional payment of

$125,700 and by the recapture amount of $219,364, resulting in a deferral of $126,396.

[76]

Based on an exchange of correspondence between counsel, the Appellants' counsel

further stressed that each Appellant stated his primary purpose in becoming a member of the

SRMP Partnership to be, in common with the other partners therein, to acquire and manage the

99% partnership interest previously held by OSFC in the STIL II Partnership and to realize a

profit from the administration and sale of the mortgages or the underlying properties held by the

STIL II Partnership, and that each also said he had a further purpose, which was to obtain a tax

benefit from his proportionate share of the SRMP Partnership losses.

[77]

Counsel for the Appellants further emphasized that OSFC was the managing partner of

SRMP, in addition to the role it played as manager of STIL II, and as such, carried out direct,

active and substantial management of the properties underlying the Portfolio and otherwise

managed both STIL II and SRMP under the terms of the relevant agreements. The Appellants

were confident that OSFC had the necessary expertise and acumen to manage the Portfolio.

OSFC's management of the Portfolio and underlying properties included rental property

renovation, tenant substitution and redevelopment of certain properties for resale. Counsel

emphasized, based mainly on the testimony of Mr. Robertson but also to some extent on the

testimony of Messrs. Gregory, Cook and Mayer, that as a result of OSFC's efforts, the following

results were obtained in respect of the properties within the Portfolio.

[78]

The 99 Rideau property was the subject of a number of redevelopment proposals and

offers for sale. It is still held for the benefit of those Appellants who were partners in the Crerar

Properties Limited Partnership ("Crerar"), a sister partnership that was formed in 2000 by the

partners in SRMP (with the exception of OSFC, related companies and the now deceased SRMP

partners). The purpose of the formation of Crerar was to enhance the partners' return on the

remaining Portfolio properties by purchasing STC's remaining entitlements under the earn-out

for a stipulated amount as well as its contingent entitlement to receive the additional payment,

and by securing termination of the OSFC management contract.

[79]

The net annual cash flow from the operations of the Shurguard Oakville property was

increased from $150,000 in 1993 to over $650,000 in 2000. It is still owned by the Appellants

who are partners in Crerar.

[80]

The Shurguard Hamilton Property was sold in 1995 for an amount in excess of the

targeted net sale proceeds.

[81]

The Georgian Estates Property was substantially improved through a

renovation/redevelopment project in order to ensure that a "quality product" was marketed to

third-party purchasers. The various components of this property were either retained in STIL II

or sold by either STIL II or Crerar in 2001. The net proceeds realized from the sale of these

assets were in excess of $12.2 million.

[82]

As indicated in Exhibit A-16, (reproduced at paragraph 22 of these Reasons), while

there was an offer on hand in May of 1993 for the Turner Crossing property, it did not lead to a

transaction. The property was subsequently sold in 1994 for net proceeds in excess of

$1,061,000.

[83]

The Atherton Place property was sold prior to the closing of the purchase by OSFC of

STC's 99% interest in STIL II.

[84]

The Lesmill property represented a particular challenge to the STIL II and SRMP

partners in light of the significant negative cash flow associated with its ownership in 1993. A

strategy was developed by OSFC to sell this property by auction as soon as possible for net

proceeds slightly over $2 million. As a result of this sale, the net operating cash flow from the

partnership increased by $600,000 per year. I would add here that Mr. Gregory explained that

this figure is arrived at by adding both the $438,000 gained by the elimination of the negative

cash flow from the property and the $150,000 reduction in costs for servicing the debt of $14.5

million, such debt being reduced by the $2 million proceed from the sale.

[85]

The Masonville Estates property was located in London, Ontario, which was harder hit

than other areas by the real estate downturn. While it was originally anticipated that individual

units would be sold on the retail market, that changed due to the economic conditions. Instead,

this project was sold en bloc for $14,900,000 in 1995 as a result of an unsolicited offer from a

third-party developer. I would add here that, according to Mr. Robertson, the total amount

received in cash, was received with interest, over a period of one year ending in May 1995.

While the sale proceeds received from this project were significantly less than had been targeted,

they did allow SRMP to eliminate the amount it owed STC under the promissory note. The sale

of the property at that time also saved SRMP from absorbing the negative cash flow associated

with the relocation of students during the summer months and also from incurring any

"marketing" costs associated with a syndication of the property. However, not all of the SRMP

partners were happy with the sale of the property en bloc or with the amount of net proceeds

received.

[86]

The Mount Baker property was sold in 1993.

[87]

As a result of the efforts of OSFC, the net proceeds realized by STIL II from the

disposition of the Portfolio prior to November 2000 were $30 million and the properties on hand

at that time had an estimated fair market value of $8 million.

[88]

Counsel for the Respondent emphasized several elements that indicate the SRMP

transactions were not undertaken primarily with profit in mind, either from OSFC's or from the

SRMP Class A partners' point of view. In this respect, counsel also noted contradictions in the

testimony of the various witnesses and the fact that the Appellants' purported expectations of

profit were not supported by the written evidence.

[89]

With respect to the contradictions in the testimony, counsel for the Respondent noted

that Mr. Kaulius had testified that the syndication by OSFC of its interest in STIL II was

contemplated because the Portfolio was too large for OSFC alone, while Mr. Robertson stated

that OSFC could have handled the transaction by itself, without the assistance of anyone, but

syndication was Mr. Thomas's usual way of doing business. Further, while Mr. Kaulius testified

at trial that OSFC could have used all the tax losses itself over several years, at his examination

for discovery, he had stated that one of the reasons for the syndication of OSFC's interest in

STIL II was that OSFC could not have used the entire $50 million in losses. Finally, according to

Mr. Robertson's testimony, OSFC could not have used the entire $50-odd million in tax losses at

any point.

[90]

As indicated in paragraphs 18 and 19 of the Statement of Admitted Facts, the

syndication was done through the creation of the SRMP partnership between OSFC and TFTI.

That partnership's capital was divided into 35 Class A units and 15 Class B units. Pursuant to

article 3.06 of the SRMP Partnership Agreement (Exhibit 35, vol. III), each Class A unit was

entitled to one vote and each Class B unit was entitled to three votes. Moreover, in article 3.06,

the Thorsteinssons partners agreed to vote as a block. Article 8.04 of the same agreement

provides that, as a result of the syndication, 30% of all SRMP's income and losses were to be

allocated to the Class B units and 70% to the Class A units of SRMP.

[91]

Pursuant to Liquidator's Report No. 22 (Exhibit 9, vol. I), under heading 3, "Operation

of the Partnership," in Part V, OSFC was required to "act in accordance with a business plan

approved by the partners and . . . be under the general direction the partnership's management

committee." In his testimony, Mr. Robertson stated that OSFC took this document seriously. The

business plan referred to (Exhibit 18, vol. II) set out a realization plan for the properties in the

Portfolio, along with a range of projected gross and net sales proceeds. However, none of the

Appellants who were Class A partners in SRMP made or attempted to make calculations of their

expected returns from SRMP on the basis of those actual projections. They knew that they could

expect only minimal returns from STIL II's net operating cash flow, and that significant profits

from the real estate could only come from its upside, that is, from net sales proceeds exceeding

about $33 million. At the time they purchased their Class A units, the extent of that upside was

not known to them: they hoped that the real estate market would turn upward from its depressed

state, but it could not be predicted when this might occur. Nevertheless, calculations made by

Mr. Gregory (Exhibit A-18) were based on the figures in the Summary of STIL II Assets

(Exhibit A-16), which are different from those in the business plan. Furthermore, while Mr.

Cook stated that OSFC's actions had to come within the business plan, Mr. Kaulius said that

Exhibit A-16 was never given to STC as it was an internal document.

[92]

While the Appellants' evidence with regard to their expectation of profit is largely

based on Exhibit A-16, counsel for the Respondent submitted that the evidence concerning this

document is confusing and contradictory.

[93]

First of all, Exhibit A-16 bears no date. Mr. Cook testified that it was sent to the Class

A unitholders by Mr. Robertson with his memorandum dated September 9, 1993 (Exhibit 49,

vol. IV), that is, well after the SRMP purchase transaction closed in June of 1993. However, in

re-examination by the Appellants' counsel, Mr. Robertson stated that Exhibit A-16 was in fact

the duplicate of a document that was originally prepared in the course of the due diligence

process. I would add here that Mr. Robertson said the document was initially created probably in

March or April 1993 and that its content had been discussed with the SRMP partners. Mr.

Robertson nonetheless thought that he had sent the actual Exhibit A-16 document with the

aforementioned memorandum on September 9, 1993 and that this memorandum would have

been one of the first sent to the investors. According to him, he did not send any memorandums

to anyone before the closing. Further, while Mr. Cook said that he had seen a similar document

previously, in May or June 1993, neither he nor any of the other Appellants could produce a

copy of any such document.

[94]

The target realization total figure in Exhibit A-16 is stated and was considered by

many witnesses to be the net proceeds of sale. Based on selling costs of $2,209,000 in the "high

scenario" in the business plan (Exhibit 18), counsel for the Respondent emphasized that the gross

proceeds would have had to be in excess of $40 million if net proceeds of that order were to be

realized and that no projections were made that contemplated a sale of the properties at

$40,000,000. However, I must add that during cross-examination, Mr. Cook stated that the focus

was on the net projections, which would take into account the selling costs. Also, Mr. Verlaan

stated that no one at OSFC ever provided him with anything in writing that showed net proceeds

over $37,000,000. In the view of counsel for the Appellants, the reference to $37,000,000 during

Mr. Verlaan's cross-examination should be construed as a reference to the $37,800,000 indicated

in Exhibit A-16 and not as an acknowledgment that he had never received Exhibit A-16. For the

Respondent's counsel, it is not clear whether Mr. Verlaan's statement should be construed as

indicating that he never saw Exhibit A-16 or rather as showing that he acknowledged that the

$37.8 million target in Exhibit A-16 was not supported by other documentation provided by

OSFC. As for Mr. De Cotiis, while he said that he had seen a spreadsheet similar to Exhibit A-16

in early 1993 "with all the properties and different things," he could not say whether it was the

same as Exhibit A-16.

[95]

Counsel for the Respondent also emphasized the fact that while Exhibit A-16 is based

on a unit-by-unit sale of the Masonville condos, Mr. Robertson stated there had been a debate in

early 1993 whether to sell Masonville en bloc or unit-by-unit. Since the STIL II management

committee first met on September 30, 1993, no decision on the matter of whether to sell

Masonville en bloc or unit-by-unit was made until that date because the management committee

had to agree on that point. I would add here that Mr. Robertson stated that given the premium in

the order of $10 000 a unit for a condo, it was the unit-by-unit mode of sale that was presented to

the investors in SRMP. Mr. Robertson further acknowledged that it would have taken up to three

or four years to sell all of the Masonville property unit-by-unit as condos so as to maximize its

value.

[96]

Moreover, counsel for the Respondent emphasized that the evidence was also

contradictory as to whether the amounts shown in Exhibit A-16 were actually net amounts. In his

testimony, Mr. Kaulius was positive that the target realization total of $37,800,000 in this

document was a net amount, that is, sale prices less any direct selling costs such as commissions

and legal fees. However, on this point, Mr. Mayer could not recall whether the figures were gross

or net. While earlier, during his examination for discovery, he had stated that he considered the

proceed to be "de minimis", he testified that "not all these sums would be coming back to the

investor, of course."

[97]

With respect particularly to the Atherton Place and Turner Crossing properties, Mr.

Kaulius stated that, as may be concluded from the figures reproduced under the heading

"Property Realizations" at page 4 of a memorandum to Mr. Gregory from Mr. Robertson dated

April 9, 1996 (Exhibit 57, vol. IV), the figures in the target realization total column in Exhibit A-

16 were gross figures, while Mr. Robertson stated that the figure given for Turner Crossing in

Exhibit A-16 was net. I would add here that Mr. Robertson said that, back in 1993, the figures in

Exhibit A-16 were only projections of what were thought to be net realizable values. However,

as Mr. Robertson explained later in his testimony, the net figure in this particular case was equal

to the gross figure, the only costs being the legal fees, which were borne by 1004568 out of its

$200,000 annual administration fee.

[98]

Counsel for the Respondent stated that with regard particularly to the Georgian

Estates, both Mr. Kaulius and Mr. Robertson asserted that the condominium unit price of

$55,000 shown in Exhibit A-16 was a net price, even though the appraisal values (page 2384,

Exhibit 95, vol. VII), Mr. Hunter Milborne's estimates (in Exhibit 66, vol. VI) and OSFC's own

due diligence binder for Georgian Estates (Exhibit 65, vol. V, and Exhibit 66, vol. VI) all show

projected gross selling prices of $50,000 per unit. Further, Mr. Robertson acknowledged in his

testimony that an investor looking at the Milborne Estimate column in Exhibit A-16, having read

the Milborne market study in the due diligence binder (Exhibit 66, vol. VI), and seeing $50,000

gross per unit would not know that the $55,000 figure given in Exhibit A-16 was net, unless that

investor asked. Counsel for the Appellants however noted that Mr. Kaulius said that the $50,000

in the Milborne report was also referred to more as a teaser reflecting the lowest price of a unit.

According to him, the average gross price would thus be situated between $50,000 as the lowest

price and $70,000-$80,000 as the highest price. The average net price would then be determined

from those gross numbers and not be based on $50,000.

[99]

Moreover, referring to the STIL II projection (Exhibit 95, vol. VII, page 2397) counsel

for the Respondent pointed out that a condo value of $55,000 per unit is indicated for Masonville

Estates and that 13.0% is then subtracted for selling costs. As the condo value of $60,000 per

unit indicated in Exhibit A-16 was said to be net, Mr. Robertson acknowledged that on that basis

the gross price would have had to be $68,695 per condo unit. However, he said that he had no

documentation demonstrating how he arrived at a value of $60,000 net.

[100]

Counsel for the Respondent also noted that Mr. Kaulius said he did not represent to the

investors that they would in fact realize the target of $37.8 million shown in Exhibit A-16.

Rather, he said that he would have given them some sort of range and that, with respect to a

Portfolio like this, the range could easily reflect a variation of 30%, maybe even more.

Furthermore, Mr. Kaulius said that when OSFC had finished its due diligence on the properties

he thought that $32-odd million in net sales was attainable but that the properties would need "a

lot of sprucing up." In fact, no more than $32 million in net proceeds has been realized to date.

However, the sister partnership, Crerar, still holds some $8 million worth of properties.

[101]

Counsel for the Respondent also referred to Exhibit 50 (vol. IV), which is a

memorandum from Mr. Robertson to Mr. Gregory dated January 17, 1994. Under the heading

"Summary", at page 4, this document states the following:

As you are aware, our initial projections targeted total realizations on

this portfolio ranging from $25 to $37 million. Any of you who have

misplaced your copy of those projections should contact Andrea

Donnison to obtain another copy. We welcome your comments and

suggestions as you follow the progress of the portfolio. At $28 million

in total net sales proceeds from the portfolio, SRMP will make a profit.

We expect to meet and exceed this number if the property market holds

up. At $33 million STIL II goes from 9% split with STC to a 50% split.

We are now targeting this $33 million level as our goal. We may be

able to reach this level with some market improvement.

[102]

According to Mr. Gregory, the $33 million target referred to therein was a new target

set in 1994, being a decrease of almost $5 million from the net target realization of $37,800,000

given in Exhibit A-16, which decrease resulted from the sale of the Masonville Estates property

for about $5 million less than had been anticipated. The $37,800,000 target realization total in

Exhibit A-16 was, again according to Mr. Gregory, the high end of the range referred to in the

above-quoted memorandum. However, Mr. Robertson testified that his reference to the target of

$33 million in that same memorandum was a reference to the earn-out formula. He thought that

by working hard STIL II could obtain more than $33 million for the properties, maybe $38

million. He said he wanted to use that higher number but Mr. Kaulius, being more cautious and

conservative, had made him use the $33 million figure in case the market fell apart. However, in

re-examination, Mr. Robertson stated that that memorandum was sent following the letter of

intent to purchase the Masonville property for some $4.9 million less than was first

contemplated. Nevertheless, counsel for the Respondent emphasized, while Mr. Robertson

testified that the memorandum of January 17, 1994, was an important document, he could not

recall what the initial projections of between $25 million and $37 million referred to therein

looked like. No evidence was adduced with respect to those initial projections.

[103]

Counsel for the Respondent also pointed out that if the $37.8 million realization total

in Exhibit A-16 is a gross rather than a net amount, and total selling costs are assumed to be

$2,209,000, half of which were to be borne by SRMP, Mr. Gregory's total return of $67,572

(Exhibit A-18) would be reduced to $45,703 or about 41.5% instead of 61% on a Class A unit

investment of $110,000, or to 11.9% instead of 17.5% per annum over 3½ years. Reference was

made to the testimony of Mr. Kaulius in this regard. I must add here that Mr. Kaulius only

agreed that the arithmetic was right without admitting that the basic assumption about gross

receipts was correct. Counsel for the Respondent also pointed out that whereas Mr. Gregory's

calculations produce a total net pre-tax profit of $67,572 over 3½ years, or 17.5% per annum,

Mr. Cook had calculated a total return of between $55,000 and $60,000.

[104]

Counsel for the Respondent referred as well to Exhibit A-20, which is a calculation

prepared by Mr. Cook at the time of the trial and which is based on the same assumptions as

those relied on by Mr. Gregory in preparing Exhibit A-18, except it ignores the cash flow —

which would have been minimal to Class A unitholders. According to this calculation, the SRMP

Class A partners could expect to recover their outlay of $110,000 per Class A unit once the

proceeds from the sale of the properties reached about $28,000,000. Although the investment

would have begun to become profitable from that point, counsel pointed out that Mr. Cook

acknowledged that profits would be significant only at the $32-33 million net proceeds level

since at that point the earn-out formula moved from a 9% share to a 50% share for SRMP.

[105]

Counsel for the Respondent referred to other elements as indicating that the

Appellants' expectation of profit was not necessarily what it was made out to be.

[106]

Counsel emphasized that, while Mr. Kaulius stated that OSFC looked to the cash flow

after payment of all the fees to pay the interest on the promissory note and that substantial cash

flow was expected, in his testimony in the OSFC (TCC) case he had said that OSFC did not

know in the spring of 1993 what the cash flow would be for the next five years. As a matter of

fact, Mr. Kaulius said that the $1.439 million projected cash flow referred to in Exhibit A-16 was

only "a look ahead for one year." Further, while Mr. Kaulius stated that OSFC, TFTI and NSFC

had throughout the due diligence process made a number of forecasts as to the profits that they

expected to realize or that they required from the STIL II and SRMP transactions, the forecasts

were continuously changing during that process. He stated that most of that type of forecasting

stopped once they got into the syndication process. However, no documents evidencing any such

forecasts were adduced in evidence. Mr. Kaulius also stated that OSFC did not calculate an

expected percentage return and that its main concern was the elimination of the $14.5 million

promissory note.

[107]

Mr. Kaulius stated as well that OSFC usually expected an annual rate of return on the

cash invested in a venture like STIL II of 15% or more, depending on the risks involved and that

the syndication was considered as a means to attain this threshold. Moreover, he stated that this

benchmark of 15% would include the $250,000 management fee, the incentive fee of 75% of net

cash flow, the $12,000 administration fee and the $850,000 obtained from the Class A SRMP

partners on syndication, which all represented returns to OSFC. However, it was admitted that

there were a number of risks involved in the STIL II venture, which would push OSFC's required

rate of return from its SRMP investment beyond the 15% threshold rate. The risks acknowledged

by Mr. Kaulius included the size of the Portfolio, OSFC's inexperience in the Ontario real estate

market, the absence of representations and warranties by STC, the purchase of debt rather than

real estate, the construction defects in some of the properties, the difficulty of knowing what the

fair market value of the properties was and the fact that this was a very risky venture given the

partners' joint and several liability on the $14.5 million promissory note. There was also the risk

that the market might turn downward, rather than upward. However, Mr. Kaulius stated that in

fact they proceeded "to minimize these risks." As for Mr. Robertson, he stated that the risk

entailed by the $14.5 million debt alone would cause OSFC to look for an annual rate of return in

excess of a 15% per annum, "hoping to get up into the twenties." In fact, Mr. Kaulius stated that

OSFC made more than 15% return on its investment of $3 million. Indeed, while OSFC had paid

$3,000,000 cash to STC, it received $3,850,000 cash from the Class A unitholders ($110,000 per

Class A unit) as a result of the syndication.

[108]

In addition, Mr. Kaulius stated that OSFC profited from the operating cash flow

because it got the major part of it as a result of the fees, including the incentive fee and the

payment for the sale of about 76% of the tax losses. On the other hand, the return from the cash

flow was negligible for the Class A partners. Consequently, the expectation of profit of the Class

A partners depended on the upside for the real estate, that is, on sharing substantially in the net

proceeds from the properties. However, the way the earn-out was structured, it could not be

expected that appreciable profits would be made until the net proceeds went well above about

$33,000,000. It was also pointed out by counsel for the Respondent that, according to the

evidence, the Class A partners were well aware of being exposed to unlimited liability as general

partners and concerned by the fact that they were jointly and severally liable on the promissory

note of $14.5 million payable to STC. It is clear from the testimonies that their main concern,

given that the real estate market might drop further, was to cover their downside through the

repayment of the promissory note.

[109]

Furthermore, counsel for the Respondent pointed out that Mr. Kaulius recognized that

through the syndication OSFC had sold approximately 76% of its 99% interest in STIL II to the

other SRMP partners and hence 76% of the $50-odd million in tax losses, for which it was

rewarded. Mr. Kaulius also recognized that the tax losses were presented from the outset as one

of the reasons why the deal was interesting to potential investors, although, according to him, the

focus was on the real estate.

[110]

Counsel for the Respondent further emphasized that, as may be seen from the copy of

a letter from E & Y to Mr. Thomas dated June 2, 1993 (Exhibit 102, vol. VIII), the

Thorsteinssons partners had been involved in the deal since the letter of intent stage, that is, at

least since March 5, 1993.

[111]

In this respect, it is worth referring to Exhibit 98 (vol. VII), which is a copy of a letter

from Peter Thomas to E & Y dated May 31, 1993 that was sent as an attempt to renegotiate

several clauses of the final deal. On the fourth page of the letter, Mr. Thomas proposed an

amendment regarding the sharing of the proceeds and explained his proposal as follows:

Following receipt of the documentation late Wednesday, the senior

partners at Thorsteinssons reviewed the entire package. Their position

is that in order to satisfy G.A.A.R. and the expectation of profits, the

break even point on realization of these mortgages must be reduced and

there must be a greater incentive for OSFC to realize a share of the

profits on the mortgages.

[112]

From both STC's and OSFC's perspective, as presented by Mr. Bradeen and Mr.

Kaulius, this comment was explained as being a last minute negotiation tactic. Moreover, Mr.

Gregory denied that such legal advice might have been given by one of the Thorsteinssons

partners. While he admitted in cross-examination that, as an investor, he had certainly discussed

the GAAR with Mr. Robertson, he stated that he did not express any concern regarding the

reduction of the break-even point on the realization of the mortgages.

[113]

With respect to the tax savings, counsel emphasized that the Appellants testified that

such savings that would accrue to them due to the SRMP losses were an attractive and important

consideration. Counsel referred to the extensive evidence, both documentary and oral, on what

the Appellants' tax savings were from their SRMP loss allocations.

[114]

In cross-examination of most of the witnesses, counsel for the Respondent presented a

calculation of the Appellants' approximate tax savings based on a rough formula. Even though

tax rates vary, depending on the amount of taxable income, the amounts of the tax savings to the

Appellants could be approximated by the application of an average corporate tax rate of 45.5%

and an average individual tax rate of 43.3% to the Appellants' share of the SRMP loss. Counsel

remarked that Mr. Cook used a 45% tax rate for himself in his calculation of the tax savings

(Exhibit A-21). Based on this rough formula, the approximate gross tax savings for a corporate

partner would have been $476,698 per Class A unit, and for an individual partner, $453,649 per

Class A unit. According to counsel for the Respondent, comparing these results with the

commercial return of $67,572 per unit calculated by Mr. Gregory (Exhibit A-18), the

approximate gross tax savings are more than 7 times higher than the commercial return in the

case of corporate Class A unitholders and 6.7 times higher in the case of an individual Class A

unitholder.

[115]

Counsel emphasized that even if the $125,700 that had to be paid with respect to each

Class A unit for the tax losses is deducted from the gross tax savings, the net tax savings for each

corporate Class A unit ($350,974) would remain 5.19 times higher than Mr. Gregory's

commercial return, while the net tax savings for each individual Class A unit ($327,935) would

be 4.9 times higher than Mr. Gregory's commercial return.

[116]

In the case of Class B unitholders (except OSFC), because they did not have to pay for

their tax losses nor for the acquisition of their Class B units (apart from their $1.00 contribution),

counsel for the Respondent submitted, their net tax savings would have been equal to their gross

tax savings and thus amount to $476,698 per Class B unit in the case of a corporate partner and

to $453,649 per Class B unit in the case of an individual Class B unitholder.

[117]

Then, referring to Mr. Cook's calculation of the tax savings (Exhibit A-21), counsel

for the Respondent noted that Mr. Cook based his calculation on a number of simplified

assumptions. The most significant of these was that a "termination event" would occur within 6

years after 1993 in the form of the completion of the implementation of the business plan or the

death of a partner, which would result, according to Mr. Cook's calculations, in a net deferral

benefit of $126,396.

[118]

However, counsel pointed out that, after conceding that his total expected tax benefit

from the transaction was "a very attractive part of it", Mr. Cook agreed that there was no "sunset

date" in the SRMP Partnership Agreement, that is, no date on which it would automatically be

terminated, and that, subject to the partnership's continuing to carry on business, it was entirely

within the remaining partners' power to keep the partnership alive by leaving as little as one

property in it. Counsel further emphasized that indeed article 2.07 of the SRMP Partnership

Agreement (Exhibit 35, vol. III) provides that the term of the partnership shall be indefinite and

that it shall be terminated only in accordance with the provisions of article 10.

Article 10.01 provides as follows:

10.01 Events Giving Rise to Dissolution

The Partnership shall be dissolved on the earliest of the following:

(a)

180 days following the bankruptcy of OSFC,

unless OSFC is replaced within such 180 day

period; or

(b)

the passage of a Partners Special Resolution

approving the dissolution and winding-up of the

Partnership provided that no such Partners Special

Resolution may be voted on or passed prior to

December 31, 2100.

[119]

Thus, to the extent that OSFC did not go bankrupt or, if it did, as long as it was

replaced within 180 days, the SRMP Partnership could not end prior to December 31, 2100.

Moreover, counsel emphasized that, as a matter of law, even if 1004568 was for some reason to

cease being a partner in STIL II, this would not mean the end of that partnership's existence.

[120]

On the question of the eventual termination of the partnership, it is also worth

referring to a copy of a memorandum from Mr. Robertson to Mr. Gregory dated April 9, 1996

(Exhibit 57, vol. IV). Under the heading "PropertyAcquisitions", this document reads in part as

follows:

The question before us now is whether the letters of credit should be gradually

released as we realize proceeds from property sales, prior to the acquisition of

another property. As originally planned we wish to continue the business of this

partnership. Therefore, a property acquisition should occur prior to the sale of

the last property in the portfolio.

[Emphasis added.]

[121]

A copy of another memorandum from Mr. Robertson to Mr. Gregory dated December

17, 1997 (Exhibit 208), is also relevant. In the last paragraph under the heading "Property

Realizations", that memorandum states the following:

The final consideration is the partnership can never be wound up,

or the tax consequences to the partners would be unacceptable.

Therefore, much of this value will remain in the partnership.

IV

INCOME TAX ISSUE (THE GAAR)

(A) PRELIMINARY COMMENTS

1.

Ruling in J.N. Gregory Appeal (1999-488(IT)G)

[122]

It is worth noting that by Notice of Motion filed pursuant to section 58 of the Tax

Court of Canada Rules (General Procedure), the Appellant John N. Gregory sought a

determination of the constitutional validity of section 245 of the Act as a preliminary question of

law. Associate Chief Judge Bowman heard the motion on March 6, 2000 and granted the

requested order on March 17, 2000 in Gregory v. The Queen (hereinafter Gregory(TCC)), 2000

DTC 2027. His order was however reversed by the Federal Court of Appeal on October 11, 2000

in The Queen v. Gregory (hereinafter Gregory(FCA)), 2000 DTC 6561. As the Federal Court's

judgment provides some indications regarding the analysis of the Charter issue, it may be of

some assistance to refer to the parties' arguments, as well as to the reasons of both courts.

[123]

Subsections 58(1) and (2) of the Rules provide as follows:

58.

(1) A party may apply to the Court,

(a) for the determination, before hearing, of a question of law

raised by a pleading in a proceeding where the determination of the

question may dispose of all or part of the proceeding, substantially

shorten the hearing or result in a substantial saving of costs,

or

(b) to strike out a pleading because it discloses no reasonable

grounds for appeal or for opposing the appeal,

and the Court may grant judgment accordingly.

(2) No evidence is admissible on an application,

(a) under paragraph (1)(a), except with leave of the Court or on

consent of the parties, or

(b) under paragraph (1)(b).

[124]

In support of his motion, the Appellant Gregory argued that the GAAR is

unconstitutional on the face of it since its application requires an analysis in two steps that

contradict each other. As a result, he submitted, the GAAR's constitutionality is a pure question

of law, the determination of which does not require factual evidence. He further distinguished

between adjudicative and legislative facts, contending that only the latter would be required in

order to determine the Charter issue.

[125]

The Respondent, however, argued that in order to establish that a particular piece of

legislation violates section 7 of the Charter a person must at minimum demonstrate that he is

affected by that legislation, for the courts will not decide hypothetical questions. Since at the

time of the motion there were non-GAAR issues raised in relation to the transactions in issue, the

Respondent submitted that a determination of the question stated in the Appellant's motion

would be hypothetical. The Respondent further submitted that a determination of the question

whether the GAAR breaches section 7 of the Charter requires a determination that the GAAR

violates one or more of the rights enumerated in that section. Contending that it is not

immediately apparent how the GAAR could deprive anyone of any of those rights (to life, liberty

and security of the person), the Respondent argued that whether it could or could not must surely

be established by evidence led by the person who is challenging its constitutional validity. As a

result, the Respondent concluded, the determination of the question stated by the Appellant

would require extensive evidence in the form of legislative and adjudicative facts. That being so,

the Respondent submitted that it was not a determination subject to section 58 of the Rules.

[126]

Judge Bowman granted the Appellant's motion for the following reasons, set out in

paragraph 17:

Counsel for the appellant stated that he does not intend to

adduce any adjudicative facts of the type that were

considered necessary in Danson or MacKay. His contention

is that section 245 is unconstitutional on its face and no

further evidence is necessary. He is not alleging any

unconstitutional effects on the appellant or on any class of

persons that would require the adducing of evidence. His

position is that the legislation is impermissibly vague and is

therefore contrary to the substantive requirements of the

rule of law and in violation of section 7 of the Charter. For

this counsel for the appellant contends that no evidence is

required. That is the manner in which he chooses to frame

the appellant's challenge to the legislation and it is not the

court's place (or the Crown's) to tell the appellant how to

present his case. Nor, in my view, should procedural

roadblocks be put in the way of a citizen's attempt to

invoke the supreme law of this country.

[127]

Judge Bowman ruled in paragraph 20, that "[t]he constitutionality of section 245 is a

separate and discrete issue of law that can be determined without reference to any of the other

facts that are in issue in this appeal."

[128]

However, the Federal Court of Appeal accepted the Respondent's argument. Noël J.A.

delivered reasons for judgment in which Rothstein J.A. concurred, while Létourneau J.A. gave

separate reasons.

[129]

Noël J.A. relied on Ontario v. Canadian Pacific Ltd. (hereinafter Ontario v. C.P.),

[1995] 2 S.C.R. 1031, a decision in which the Supreme Court of Canada, at page 1090, stated

that "[i]f judicial interpretation is possible, then an impugned law is not vague." Noël J.A.

concluded, at paragraphs 6 and 7 of his reasons:

It follows that before embarking on an analysis as to

whether section 245 is on the face of it impermissibly

vague, the Tax Court had to first attempt to apply section

245 to the particular facts in issue in the appeal before it; in

the words of the Supreme Court, if the impugned provision

can be applied to the relevant facts, it "is obviously not

vague". It is only after attempting to exercise this

interpretative function without success that the Court can

turn to the broader question raised by the respondent.

Without the relevant adjudicative facts, the question as

framed by the respondent is therefore not one which can be

adjudicated upon on a preliminary basis. This is sufficient

to dispose of the appeal and we refrain from expressing any

view on the other grounds advanced by our colleague for

allowing the appeal.

[130]

Létourneau J.A. came to the same conclusion although for different reasons. In

paragraph 8 of his reasons, he relied on Blencoe v. British Columbia (Human Rights

Commission), [2000] 2 S.C.R. 307 in stating that:

the question to be addressed in section 7 challenges is not

whether the alleged fact can engage section 7 of the

Charter, but whether the respondent's section 7 rights were

actually engaged in the circumstances of the case. Here

there are, beyond a mere assertion that they will, no

evidence whatsoever as to how, why and when the rights to

life, liberty and security of the respondent are engaged by

the potential application of section 245. I say potential

application because it is possible that the liability of the

taxpayer in these proceedings be determined by the Tax

Court adjudicating upon the non-GAAR issues, thereby

making it unnecessary to rule on the constitutionality of

GAAR.

[131]

He then stated, in paragraphs 9 and 11:

It is trite law that a section 7 challenge proceeds in two

steps. First, there has to be evidence that a citizen is

deprived of his section 7 rights. Second, evidence has to be

adduced that this was done in a manner that was not in

accordance with the principles of fundamental justice:

Blencoe, supra, R. v. Beare, [1988] 2 S.C.R. 387, at page

401. . . .

To accept this position without evidence that the

respondent's section 7 rights are engaged elevates freedom

from vagueness "to the stature of a constitutionally

protected section 7 right", something which cannot be

done: see Blencoe, supra, at paragraph 97.

[132]

[133]

He thus agreed with Noël J.A. in reversing Judge Bowman's order.

Some guidance may be taken from the foregoing. Noël J.A., relying on Ontario v. C.

P., supra, concluded in paragraph 6 of his reasons that "[i]t is only after attempting to exercise

this interpretative function without success that the Court can turn to the broader question raised

by the Respondent." The corollary to this seems to be that to the extent that the Court is

successful in its attempt to interpret section 245, the Charter issue may be disregarded. What is

less clear is what constitutes interpretation as contemplated by the Supreme Court of Canada in

Ontario v. C. P., supra. It was argued that if the interpretation requires the Court to exercise

discretion that is too broad, then the Court will have failed to exercise its interpretative function.

Further, that inconsistencies in the existing section 245 jurisprudence support such a conclusion.

In any event, it follows from the Federal Court of Appeal's decision that I must first proceed with

an analysis of the GAAR before turning to the Charter issue.

2.

Federal Court of Appeal Decision in OSFC

[134]

After the hearing in the present appeals, the Federal Court of Appeal rendered its decision dismissing

OSFC's appeal from the jugment of Judge Bowie of this Court on the basis that the GAAR provisions were

applicable in the circumstances. The judgment rendered on September 11, 2001 is reported as OSFC Holdings Ltd.

v. Canada (hereinafter OSFC(FCA)) 2001 DTC 5471. Counsel in the present appeals were then given the

opportunity to present supplementary written submissions in light of the Federal Court of Appeal's findings, which

they did. These submissions will be dealt with separately following the presentation of the initial arguments for both

sides at the hearing.

(B) INCOME TAX ACT PROVISIONS

[135]

Subsection 18(13) of the Act as applicable at the relevant time read as follows:

(13) Superficial loss — Subject to subsection 138(5.2) and

notwithstanding any other provision of this Act, where a taxpayer

(a)

who was a resident of Canada at any time in a

taxation year and whose ordinary business during that

year included the lending of money, or

(b)

who at any time in the year carried on a business of

lending money in Canada

has sustained a loss on a disposition of property used or held in

that business that is a share, or a loan, bond, debenture, mortgage,

note, agreement of sale or any other indebtedness, other than a

property that is a capital property of the taxpayer, no amount shall

be deducted in computing the income of the taxpayer from that

business for the year in respect of the loss where

(c) during the period commencing 30 days before and

ending 30 days after the disposition, the taxpayer or a

person or partnership that does not deal at arm's length

with the taxpayer acquired or agreed to acquire the

same or identical property (in this subsection referred to

as the "substituted property"), and

(d) at the end of the period described in paragraph (c), the

taxpayer, person or partnership, as the case may be,

owned or had a right to acquire the substituted property,

and any such loss shall be added in computing the cost to the

taxpayer, person or partnership, as the case may be, of the

substituted property.

Subsections 245(1) to 245(4) of the Act read as follows:

245. [General anti-avoidance rule]

(1) Definitions. In this section and in subsection 152(1.11),

"tax benefit" means a reduction, avoidance or deferral of tax or

other amount payable under this Act or an increase in a refund of

tax or other amount under this Act;

"tax consequences" to a person means the amount of income,

taxable income, or taxable income earned in Canada of, tax or

other amount payable by, or refundable to the person under this

Act, or any other amount that is relevant for the purposes of

computing that amount;

"transaction" includes an arrangement or event.

(2) General anti-avoidance provision.Where a transaction is an

avoidance transaction, the tax consequences to a person shall be

determined as is reasonable in the circumstances in order to deny a

tax benefit that, but for this section, would result, directly or

indirectly, from that transaction or from a series of transactions

that includes that transaction.

(3) Avoidance transaction. An avoidance transaction means any

transaction

(a)

that, but for this section, would result, directly or

indirectly, in a tax benefit, unless the transaction may

reasonably be considered to have been undertaken or

arranged primarily for bona fide purposes other than to

obtain the tax benefit; or

(b) that is part of a series of transactions, which series, but for

this section, would result, directly or indirectly, in a tax

benefit, unless the transaction may reasonably be

considered to have been undertaken or arranged primarily

for bona fide purposes other than to obtain the tax benefit.

(4) Provision not applicable. For greater certainty, subsection (2)

does not apply to a transaction where it may reasonably be

considered that the transaction would not result directly or

indirectly in a misuse of the provisions of this Act or an abuse

having regard to the provisions of this Act, other than this section,

read as a whole.

Subsection 248(10) of the Act reads as follows:

(10) Series of transactions. For the purposes of this Act, where

there is a reference to a series of transactions or events, the series

shall be deemed to include any related transactions or events

completed in contemplation of the series.

(C) ARGUMENTS

1.

Initial Submissions

[136]

Counsel for the Appellant's submission is best expressed in the following statement: in

cases where there is a real and substantial commercial transaction that underlies the impugned

transactions, the GAAR should not be applied to set aside any tax efficiencies associated with

those. In counsel's view, this interpretation would be consistent with the stated legislative

purpose of the GAAR, which was to legislatively implement a "business purpose" test similar to

the business purpose test found in the United States but rejected in Canada by the Supreme Court

in Stubart Investments Limited v. The Queen, [1984] 1 S.C.R. 536. It is counsel's contention that

in recent decisions of United States Court of Appeals, namely: IES Industries, Inc. and Alliant

Energy Corporation v. United States, U.S.Ct.App. (8th Circuit) (File Nos. 00-1221 and 00-1535,

June 14, 2001) and UPS v. Commissioner of IRS, U.S.Ct.App., (11th Circuit) (File No. 00-12720,

June 20, 2001), this "business purpose" test is satisfied if there is a real business, regardless of

the income tax implications that flow from the transactions. This interpretation would, in

counsel's view, limit the issue in many GAAR cases to the sufficiency of the commercial activity

carried on and the connection of the sought-after tax benefit to that activity, which, he submitted,

are palpable and tangible concepts with which the courts are comfortable. Counsel submitted that

in the present appeals, since the preserved historical cost of the Portfolio represented a tax-

planning efficiency associated with a real and substantial real estate business in the form of the

Portfolio, the GAAR cannot apply under this proposed interpretation.

[137]

Counsel further submitted that this interpretation is consistent with two distinct

approaches taken by this Court in recent GAAR cases. Based on the first approach, exemplified

by Rousseau-Houle v. The Queen, 2001 DTC 250 (English version: [2001] T.C.J. No. 169

(Q.L.)), the very recent Donohue Forest Products Inc. v. The Queen, 2001 DTC 823, and

Fredette v. The Queen, 2001 DTC 621, as well as the secondary reasons in Canadian Pacific

Limited v. The Queen (hereinafter Canadian Pacific (TCC)), 2000 DTC 2428, Jabs Construction

Limited v. The Queen, 99 DTC 729, and Geransky v. The Queen, 2001 DTC 243, counsel stated

that there is no misuse of the provisions of the Act or abuse having regard to the provisions of the

Act read as a whole if the taxpayer has implemented a bona fide commercial arrangement but has

chosen to do so by using the most advantageous tax alternative provided for in the Act. Referring

to the second approach, exemplified by Husky Oil Limited v. The Queen, 99 DTC 308, Canadian

Pacific (TCC), supra, and Geransky, supra, counsel stated that so long as the overall

arrangement has a bona fidecommercial objective, there will not be an avoidance transaction

simply because the commercial objective is met in a tax-efficient manner.

[138]

Counsel for the Respondent rejected the Appellants' contention that where there is an

overarching commercial transaction section 245 is not engaged. He submitted that the proper

approach was to engage in a disciplined analysis, like that set out by Judge Bowie in OSFC

(TCC), supra, and subsequently in Duncan et al. v. The Queen, 2001 DTC 96 (T.C.C.). In OSFC

(TCC), Judge Bowie formulated the following four-step analysis at paragraph 37:

I must answer the following questions in relation to the

application of GAAR:

1.

But for the application of section 245, would the

incorporation of 1004568, the formation of STIL II, and the

sale by Standard of its interest in STIL II to the Appellant,

or any of those transactions, have resulted in a tax benefit?

If the answer to the first question is yes, may the

transaction, or transactions, reasonably be considered to

have been undertaken or arranged primarily for bona fide

purposes other than to obtain the tax benefit?

If the answer to the first question is yes, and the answer

to the second question is no, did the transaction, or

transactions, result, directly or indirectly in a misuse of the

provisions of the Act, or an abuse of the provisions of the

Act read as a whole?

2.

3.

4.

If the first question is answered yes, the second no, and

the third yes, then which of the remedies set out in

subsection 245(5) is appropriate?

[139]

The presentation of counsel's detailed arguments will generally follow Judge Bowie's

analysis in OSFC (TCC), supra, which analysis was approved by the Federal Court of Appeal in

dismissing OSFC Holdings Ltd.'s appeal in the same case OSFC (FCA), supra.

(a)

Tax benefit (Subsection 245(1))

[140]

Counsel for the Appellants did not dispute that the Appellants obtained a tax benefit

within the meaning of subsection 245(1) as a result of the transactions in issue, though they

argued that the said benefit was limited in scope, contending that it was a mere deferral.

Nevertheless, in light of the broad definition of "tax benefit" reproduced above, counsel for the

Respondent submitted that there can be no doubt that the transactions resulted in a tax benefit.

The question relating to the value of the benefit will be addressed as part of the submissions

regarding primary purpose under subsection 245(3) of the Act.

[141]

In order for subsection 245(2) to apply, the tax benefit has to result from an avoidance

transaction or a series of transactions that include such a transaction. It must therefore be

determined whether all or any of the transactions in issue may be considered as avoidance

transactions or as a series of such transactions within the meaning of section 245.

(b)

Tax benefit as a result of an avoidance transaction or a series of

transactions that includes an avoidance transaction (subsections 245(2)

and (3))

(i)

Avoidance transactions and series of transactions in general

[142]

Relying on the reasons delivered by this Court in a number of cases, namely Husky

Oil, supra, Canadian Pacific (TCC), supra, Jabs Construction, supra,and Geransky, supra,

counsel for the Appellants contended that the GAAR should not apply where a real and

substantial business underlies the impugned transactions. To support his contention, he relied

particularly on the following part of Judge Bonner's Reasons for Judgment in Canadian Pacific

(TCC), supra, at paragraph 15:

The transactions which the Respondent says constitute the series were,

when viewed objectively, inextricably linked as elements of a process

primarily intended to produce the borrowed capital which the Appellant

required for business purposes. The capital was produced and it was so

used. No transaction forming part of the series can be viewed as having

been arranged for a purpose which differs from the overall purpose of

the series. The evidence simply does not support the Respondent's

position. Accordingly none of the transactions on which the

Respondent relies was an avoidance transaction within the meaning of

s. 245(3).

[143]

In light of the foregoing, counsel submitted that in the present appeals all the

transactions were in furtherance of a single commercial purpose, namely, the disposition of the

Portfolio by the SRMP partners. As a result, counsel submitted, none of the transactions in

question may be considered as avoidance transactions.

[144]

Counsel for the Appellants further submitted that the only relevant transaction was the

acquisition by the Appellants of their partnership interests in SRMP. Indeed, in counsel's view,

transactions in which the Appellants did not participate may not be considered as avoidance

transactions and are not relevant to the present appeals.

[145]

In counsel's view, for a transaction to be an avoidance transaction, two requirements

must be met. First, there must be a determination by the Court that the particular transaction, or a

series of transactions that includes the particular transaction, "would result, directly or indirectly,

in a tax benefit." If the first requirement is met, there must then be a determination by the Court

that the particular transaction cannot "reasonably be considered to have been undertaken or

arranged primarily for bona fide purposes other than to obtain the tax benefit", either from the

particular transaction or from the series. The second requirement being a purpose test, it is

counsel's contention that it is the primary purpose of the person undertaking or arranging the

particular transaction that must be assessed in determining whether that purpose was to obtain

the tax benefit.

[146]

It is counsel's contention that the word "obtain" is reflexive as it requires that the tax

benefit be obtained by the person whose purpose is being assessed. Accordingly, counsel's

position is that only transactions undertaken or arranged by the taxpayer to obtain the tax benefit

for himself are relevant. On this basis, counsel contended that the only relevant transaction in the

present appeals is the Appellants' acquisition of their partnership interest in SRMP. In his view,

consideration of previous transactions in a series is only relevant as a factor in objectively

determining whether the transaction in which the taxpayer participated was undertaken primarily

for a bona fide purpose other than to obtain a tax benefit.

[147]

Moreover, counsel submitted that transactions undertaken by a third party without

identifying the Appellants or without their having knowledge thereof cannot form part of a series

of transactions which results in a tax benefit for them. In counsel's view, the applicable test is

that set forth in Craven v. White, Commissioners of Inland Revenue v. Bowater Property

Developments Ltd., Baylis v. Gregory (hereinafter Craven v. White) (1988), 62 TC 151 (H.L.).

As a result, for there to be a series, there must be a direct connection or link between transactions

such that all the transactions in the series must have been preordained, in effect forming a single

composite transaction. Further, counsel submitted that there must be reasonable evidence that, at

the time of the first step, there was an identified target as regards the final steps and that the

transaction would be completed in such a manner as to attain that final target.

[148]

In any event, counsel submitted, the upstream transactions were not avoidance

transactions within the meaning of subsection 245(3). In fact, his contention is that STC's sole

objective in arranging the upstream transactions was to package the business comprising the

Portfolio in such a way as to maximize its proceeds on the sale of the business rather than to

obtain a tax benefit. In his view, this is evidenced by the fact that STC would have sold the

Portfolio directly had it received proceeds comparable to those it sought for the package.

[149]

For his part, counsel for the Respondent submitted that the analysis of whether a

transaction or a series of transactions is an avoidance transaction or a series of such transactions

requires the ascertainment of the taxpayer's primary purpose. In his view, this ascertainment

involves in the first instance the determination of a threshold question, being whether the

transaction or the series was commercially motivated. If this question is answered in the

negative, that ends the inquiry as by definition, such a transaction could not have been entered

into for any purpose other than to obtain a tax benefit. However, if the threshold question is

answered positively, a further question then arises: whether the transaction or series was entered

into primarily to obtain the tax benefit.

[150]

In counsel's view, the threshold question should not be construed to be the same as the

carrying-on-of-a-business or the reasonable-expectation-of-profit tests that the Act otherwise

contemplates, since those tests do not involve a quantitative analysis of the expectation of profit.

In counsel's view, the test set forth in subsection 245(3) does involve such a quantitative

analysis, the threshold question being whether the quantum of the profit that could reasonably be

expected from the transaction would have been sufficient to induce a profit-minded businessman

to enter into it. Conversely, the further question involves, in his view, a simple comparison of the

profit that could reasonably be expected from the transaction with the tax benefit it entails. It is

counsel's contention that if the quantum of the tax benefit significantly outweighs the expected

non-tax benefit, the inference will arise that the transaction cannot be considered to have been

undertaken primarily for a purpose other than to obtain that tax benefit.

[151]

Moreover, it is counsel's position that the words "unless the transaction may

reasonably be considered to have been undertaken or arranged primarily for bona fide purposes

other than to obtain the tax benefit" require that the analysis be conducted by reference to

objective standards and facts, and not merely on the basis of what the actor says his intention was

in entering into the transaction.

[152]

Counsel for the Respondent further submitted that the meaning of the terms "to obtain

the tax benefit" in subsection 245(3) is not as narrow as counsel for the Appellants suggested. It

is counsel's contention that the definition of "to obtain" does not require that the procurement

thereby referred to must necessarily be for the benefit of the author of the transactions. He

further referred to this Court's reasoning in OSFC (TCC), supra, in submitting that subsections

245(2) and 245(3) of the Act are carefully worded to ensure that they do not apply only to those

situations in which the tax benefit is enjoyed by the author of the transactions. Furthermore,

counsel contended that the provisions in both subsections 245(2) and 245(3) stating that the tax

benefit may result indirectly from a transaction or series of transactions clearly indicate that the

recipient of the tax benefit need not be the author of the transactions because an indirect result

need not have an immediate connection with a transaction or event that is said to cause the result

indirectly.

[153]

Moreover, counsel for the Respondent submitted that there may be several possible

tests for determining what type of transactions constitute a series of transactions, one such test

being the "binding commitment test" developed in Craven v. White, supra, a case relied on by

the Appellants' counsel. In the opinion of counsel for the Respondent, while it may be

appropriate to adopt this restrictive "binding commitment" test in pre-GAAR situations or with

respect to other areas of the Act that deal with a series of transactions, there is no justification for

adopting that test for the purposes of paragraph 245(3)(b). In counsel's view, other tests, such as

the "mutual interdependence" test and the "end result" test, are more appropriate. Pursuant to the

"mutual interdependence" test, two or more transactions constitute a series if the transactions are

so interdependent that the results of one transaction would be meaningless in the absence of the

completion of the other transaction or transactions. According to the "end result" test, which is

closely related to the "substance over form" doctrine, two or more transactions constitute a series

if they are in substance component parts of a single transaction, which component parts were

intended from the outset to serve the purpose of reaching the ultimate result. In counsel's view, it

follows from the wording of paragraph 245(3)(b) that, so far as a series of transactions is

concerned, that paragraph is clearly result- rather than purpose-oriented, and it would therefore

be better construed in the light of one of those tests.

[154]

According to counsel for the Respondent, STC's transactions and OSFC's transaction

were clearly mutually interdependent, as this Court found in OSFC (TCC), supra, for without

OSFC's transaction, the preceding three would not have proceeded nor have made sense, and in

the absence of STC's transactions, OSFC's transaction would not have taken place. On the basis

that the evidence clearly shows that the syndication of a portion of OSFC's partnership interest in

STIL II to the Appellants was contemplated at the time OSFC entered into the transaction,

counsel submitted that the SRMP transactions as well as the previous transactions thereto were

also mutually interdependent. Likewise, it is counsel's position that the "end result" test would

lead one to a similar conclusion, since the sole raison d'être of STC's transactions was to transfer

STC's tax losses to an arm's length person, such as OSFC and the Appellants.

[155]

However, it is counsel's contention that, should the Court find that paragraph

245(3)(b) requires that the receiver of the tax benefit that results from a series of transactions

have participated in at least one of the transactions constituting the series, subsection 248(10)

expands the concept of a series to encompass transactions carried out in contemplation of the

series. Relying on Black's Law Dictionary, 6th ed., (St. Paul, Minn. West Publishing Co., 1990),

page 318, counsel submitted that "contemplation" includes the consideration of an act or series of

acts with the intention of doing or adopting them. As a result, a transaction carried out in

contemplation of a series would, in his view, include a transaction that is carried out after the

transactions constituting the series occur, as well as a transaction planned or carried out in

advance of the series. Accordingly, it is his contention that SRMP's transactions would be part of

the series, and whether or not they were avoidance transactions is irrelevant.

[156]

In any event, counsel for the Respondent contended, should the Court apply the

Craven v. White, supra, "binding commitment test", subsection 245(2) would still be applicable

in the instant case. In his view, even if one assumes that the series of transactions in the present

case is limited to STC's transactions, this truncated series still resulted, albeit indirectly, in tax

benefits to OSFC and to the Appellants. As a result, it is counsel's contention that whether or not

OSFC's transaction and SRMP's transactions were avoidance transactions is irrelevant.

(ii)

SRMP's transactions in particular

[157]

Relying on The Oxford English Dictionary and on Husky Oil, supra, Canadian Pacific (TCC), supra,

Jabs Construction, supra, and Geransky, supra, counsel for the Appellants submitted that the word

"primarily" puts the emphasis on the root transaction. It is thus counsel's contention that the real estate

acquisition is paramount and predominant, being the essence of all the transactions; it is the essential and

main transaction. As such, the real estate acquisition is in counsel's view the primary purpose for the

Appellants' acquisition of their SRMP partnership interests.

[158]

To support his contention that the essential nature of the Appellants' purchase of their SRMP interest was

the acquisition of a substantial real estate portfolio, counsel relied on the evidence adduced at trial. He emphasized

that extensive due diligence relating to the potential risks and returns associated with the Portfolio was undertaken at

great cost in terms of both time and money before any deal was secured, whereas essentially no due diligence was

done in respect of the tax aspects. He also emphasized that the Appellants jointly and severally took on significant

other risks, including an obligation under the promissory note, all of which arose in respect of the real estate

business only. Further, the ongoing commitment of time and human resources related exclusively to the

management and realization of the assets underlying the Portfolio, while the tax benefit had no capital, time or

resource commitment associated with it. According to counsel, this is evidenced by the fact that the additional

payment was contingent, being due only if the losses were available to the Appellants. On the other hand, the risks

and rewards of the real estate Portfolio were the Appellants' regardless of the tax result. Counsel emphasized lastly

that the tax benefit did not arise in isolation, nor was it contrived, artificial or unrelated to the business being

acquired. On the contrary, the losses arose from the very properties acquired by the Appellants. From the Appellants'

perspective, the acquisition of the SRMP partnership interests was thus an economic package comprised of the real

estate business with the historical tax attributes attached thereto.

[159]

In contrast, counsel for the Respondent's position is that the SRMP transactions are not

ones that a prudent, profit-minded businessman would have entered into, and that the only

reasonable explanation with respect to the Appellants' acquisition of their SRMP partnership

interest was the tax benefit stemming therefrom. According to counsel, the SRMP transactions

were consequently avoidance transactions within the meaning of subsection 245(3).

[160]

In support of that conclusion, counsel emphasized that the structure the Appellants

bought into, did not, as the evidence reveals, allow them to make any profits from the sale of the

properties for proceeds of between $17,500,000 and about $28,000,000. Further, counsel noted

that the structure would not allow the Appellants any appreciable profits until the net proceeds of

sale were well in excess of $33 million. As a result, counsel contended, it is apparent that the

guaranteed purchase price of $17,500,000 was designed merely to limit the Appellants' downside

and not to enable them to make profits.

[161]

Moreover, counsel for the Respondent submitted that the evidence shows that the net

proceeds of sale figure of about $33,000,000 was regarded by both STC and OSFC, and also by

the Appellants, as being more speculative than the realization of net proceeds below that

threshold. This is, in counsel's view, demonstrated by STC's willingness to give up 50% or more

of the upside once the net proceeds exceeded about $33,000,000. It is also demonstrated,

according to him, by the failure of most of the Appellants to calculate or to pay attention to

expected rates of return. In counsel's view, an informed investor, serious about making an

investment from which substantial profits are expected, will of necessity have to quantify the

return anticipated by him. Otherwise, he will be unable to make an informed decision about

whether substantial profits may be expected and thus to make that investment in preference to an

alternative one.

[162]

Counsel for the Respondent further emphasized that the business plan according to

which the properties were to be disposed of provides for a "high scenario" - "low scenario" range

of projected net sales, and that only a business loss could be expected from the "low scenario"

net proceeds. Moreover, in his view, the evidence indicates that the "high scenario" net proceeds

were extremely speculative. He contended that the "high scenario" proceeds depended on a

dramatic upturn in the depressed real estate market of that time, which was not a certainty unless

one were prepared to keep the Portfolio for an indeterminate number of years. Considering the

pressing need to eliminate the $14.5 million promissory note as soon as possible, and the

Appellants' desire to recover their investment as quickly as possible, counsel submitted that the

disposition of several properties had to occur in the relatively short term. As a result, those

properties could not wait for a turnaround in the real estate market. In counsel's opinion, the

Appellants' expected profits, being based on $37,800,000 in net proceeds, were not reasonable.

To support his contention, counsel emphasized the previously noted confusing and contradictory

evidence concerning Exhibit A-16. In counsel's opinion, that entire document, and particularly its

alleged listing of target realizations as net proceeds, is utterly lacking in credibility. In his view,

it is totally unsupported by any other documentation or even by the Appellants' own testimony as

to how the alleged net sales proceeds, and net unit prices where applicable, were arrived at.

Moreover, counsel submitted that Exhibit A-16 was put forward by the Appellants at a late stage

to bolster their claim that in 1993 they made their investment decision based on the information

contained in that document.

[163]

In any event, counsel emphasized that, should the Court accept that the $37,800,000

target realization was a reasonable expectation in the circumstances, the 17.5% annual return

calculated by Mr. Gregory (Exhibit A-18) is a pre-tax return. In counsel's view, however, a

profit-motivated businessman, faced with joint and several liability on a promissory note of

$14.5 million and with unlimited liability as a partner in a general partnership, not to mention

other serious investment-specific risks, would expect an annual after-tax rate of return in excess

of 20%. Moreover, if the $37.8 million total target realization were gross, as counsel submitted,

the annual pre-tax rate of return would be less than 12%. In counsel's opinion, from a purely

commercial perspective, all the Class A unitholders cared about was getting out from under their

heavy debt liability and recouping their money as swiftly as possibly. In his view, making a

profit from the upside of the real estate was uncertain, speculative and strictly secondary.

[164]

Counsel for the Respondent therefore submitted that the Appellants' investment in

SRMP lacked the minimum ingredients normally associated with an investment of this type.

According to him, investors do not normally invest blindly, in amounts sometimes in excess of

their own net worth, without some other inducement. In his opinion, that inducement was the

immediate tax savings associated with the investment.

[165]

Moreover, counsel submitted that, while it is not disputed that STIL II and SRMP

were partnerships and thus their activities were carried on with a view to profit, this

acknowledgement is not inconsistent with his position that the Appellants' investment would not

have been made had there not been the tax benefits. In counsel's view, a determination that the

primary purpose of a transaction was to realize a commercial return rather than to obtain a tax

benefit requires the court to find that the transactions were carried out with a view to profit and

that there were quantifiable expected returns.

[166]

Alternatively, should the Court find that the transactions in issue were such as a

prudent, profit-minded investor would enter into, counsel submitted that quantitatively weighing

the expected commercial benefits against the expected tax benefits clearly indicates that the

primary purpose of the transactions was to obtain the tax benefits.

[167]

In fact, in counsel's opinion, the tax benefit to the Class A unitholders, after deducting

the amounts payable for the losses, was roughly 5 times greater, and the tax benefit to the Class

B unitholders was approximately 7 times greater, than the commercial benefit that could be

expected, assuming that Mr. Gregory's calculations contained in Exhibit A-18 and based on

Exhibit A-16 are accurate. While this comparison assumes an absolute tax benefit, rather than a

mere deferral, counsel submitted that there is no certainty, or even a strong likelihood, of the

occurrence of recapture of the tax benefit on an eventual disposition. As emphasized in the

review of the evidence, there are several indications that the Appellants did not intend that any

termination event occur.

[168]

Moreover, counsel submitted, if the target realization total of $37.8 million in Exhibit

A-16 was a gross figure, with roughly $2 million in selling costs associated with the disposition

of the Portfolio, the expected commercial benefit would further decline by about $20,000 per

Class A unit. The commercial benefit would of course decline even more with projected sales

proceeds of approximately $33 million.

(c)

Avoidance transaction which results in a misuse of the

provisions of the Act, or in an abuse of the provisions of the Act

read as a whole (Subsection 245(4))

(i)

Scope of subsection 245 (4) of the Act

[169]

As is clear from its wording, subsection 245(4) is a legislative screen. In cases where it may reasonably be

considered that the transaction would not result directly or indirectly in a misuse of the provisions of the Act or an

abuse having regard to the provisions of the Act, other than section 245, read as a whole, it excludes from the ambit

of the GAAR a transaction that would otherwise be an avoidance transaction.

[170]

Counsel for the Appellants contended that while the taxpayer bears the onus of proof regarding factual

matters which underlie the determination of the existence of a "tax benefit" and an "avoidance transaction," the

burden should lie on the Minister to positively demonstrate to the satisfaction of the Court either (a) that the

avoidance transaction misuses a particular provision of the Act, the manner in which the misuse is determined and

the nature of the misuse, or (b) that the avoidance transaction abuses an identifiable scheme within the Act, the

manner in which the abuse is determined, the nature of the abuse and why one particular scheme, rather than any

other relevant scheme, should be used in determining whether there has been an abuse. To support his contention,

counsel relied on Minister of National Revenue v. Pillsbury Holdings Ltd., 64 DTC 5184 (Ex. Ct.) as authority for

the proposition that the taxpayer usually bears the onus of proof with respect to factual matters that are within his

knowledge. Since the determination whether an impugned transaction constitutes a misuse or an abuse is not based

on factual matters that are within the knowledge of the taxpayer, it is counsel's position that the onus in this respect

should lie on the Minister. Counsel further submitted that the foregoing was explicitly recognized by Judge

Archambault in Donohue, supra, at paragraph 78, where he stated:

I do not believe that the respondent has succeeded in showing that, in

law, the ABIL deducted by DSF resulted in such a misuse.

[171]

With respect to a case of alleged misuse, counsel for the Appellants submitted that the Minister must

demonstrate that a provision of the Act has been used, the permitted uses of that provision and the manner in which

the taxpayer's use of the provision is outside of, and offends, those permitted uses.

[172]

With respect to a case of alleged abuse, counsel submitted that the Minister must identify a relevant

scheme dealing with the subject matter in question. It is also counsel's opinion that the Minister must explain the

scheme and how it is relevant to the avoidance transaction and further demonstrate the manner in which the scheme

has been abused. If the Minister succeeds at this stage, it remains open to the taxpayer to demonstrate that an equally

compelling scheme of the Act has been respected. According to counsel, such a demonstration should exclude the

application of the GAAR to the particular transaction. In support of this last contention, he submitted that it is open

to a taxpayer to structure a transaction or investment so as to choose among co-existing schemes in the Act. As an

example, counsel suggested that a taxpayer can choose to operate a business as a sole proprietor, to incorporate his

business, to operate as a partnership or to carry on business through a commercial trust, and that each of these

options is governed by a different scheme. In counsel's view, there cannot be misuse or abuse simply by virtue of the

scheme chosen. To conclude otherwise would mean that under the GAAR a taxpayer is not free to choose among

different alternatives in order to plan a commercial transaction in such way as to minimize tax. In counsel's opinion,

that proposition has traditionally been rejected at common law, was rejected by the Department of Finance in the

drafting of the GAAR and has specifically been rejected by the courts in interpreting the GAAR. Reference was

made to the Supreme Court of Canada's judgment in Shell Canada Ltd. v. Canada ("Shell"), [1999] 3 S.C.R. 622, in

which it is said at paragraph 46:

Inquiring into the "economic realities" of a particular situation, instead

of simply applying clear and unambiguous provisions of the Act to the

taxpayer's legal transactions, has an unfortunate practical effect. This

approach wrongly invites a rule that where there are two ways to

structure a transaction with the same economic effect, the court must

have regard only to the one without tax advantages. With respect, this

approach fails to give appropriate weight to the jurisprudence of this

Court providing that, in the absence of a specific statutory bar to the

contrary, taxpayers are entitled to structure their affairs in a manner that

reduces the tax payable: Stubart, supra, at p. 540, per Wilson J., and at

p. 557, per Estey J.; Hickman Motors Ltd. v. Canada, [1997] 2 S.C.R.

336, at para. 8, per McLachlin J.; Duha, supra, at para. 88, per

Iacobucci J.; Neuman, supra, at para. 63, per Iacobucci J.

[173]

Counsel noted that the same principle was recognized by the Department of Finance in the April 1988

Explanatory Notes to Draft Legislation and Regulations Relating to Income Tax Reform, where it is stated at page

348:

. . . It is recognized that tax planning — arranging one's affairs so as to

attract the least amount of tax — is a legitimate and accepted part of

Canadian tax law. . . .

[174]

Moreover, counsel for the Appellants submitted that Judge Bowman confirmed in Geransky, supra, that

the GAAR is not meant to limit a taxpayer's choices. At paragraphs 42 and 43, he said:

Simply put, using the specific provisions of the Income Tax Act in the

course of a commercial transaction, and applying them in accordance

with their terms is not a misuse or an abuse. The Income Tax Act is a

statute that is remarkable for its specificity and replete with anti-

avoidance provisions designed to counteract specific perceived abuses.

Where a taxpayer applies those provisions and manages to avoid the

pitfalls the Minister cannot say Because you have avoided the shoals

and traps of the Act and have not carried out your commercial

transaction in a manner that maximizes your tax, I will use GAAR to

fill in any gaps not covered by the multitude of specific anti-avoidance

provisions.

That is not what GAAR is all about.

[175]

Similar comments can also be found in Jabs Construction, supra, at paragraph 48, in Fredette, supra, at

paragraph 76 and in Rousseau-Houle, supra at paragraph 50.

[176] Conversely, counsel for the Respondent submitted that the misuse or abuse provisions in subsection

245(4) must be construed in the light of the doctrine of "abuse of rights", on which they are based. While counsel

recognized that the "abuse of rights" doctrine is foreign to the common law, he submitted that this does not mean

that Parliament cannot make it law in Canada by legislative prescription, which it evidently did for the purposes of

the GAAR. That doctrine, in counsel's view, has its origin in the principle that a right cannot be exercised in such a

way as to harm the enjoyment of the rights of others, and has been further developed and applied in European

contract, corporate and tax law to signify that one cannot use a right, such as one given by statute, for a purpose for

which it was not intended. Put in common-law language, this would mean, in counsel's view, that a right conferred

by a statute must be exercised in accordance with the object and spirit of the statutory provisions.

[177]

In counsel's opinion, it results from the foregoing that subsection 245(4) in effect explicitly recognizes

that the object and spirit of the provisions of the Act must be ascertained in order to determine whether any

particular provisions of the Act read as a whole have been used to attain or to frustrate the economic and other

results contemplated by them. It is counsel's opinion that this constitutes a fundamental departure from the tenet of

statutory interpretation according to which the object and spirit of a provision of the Act is irrelevant where the

words employed in that provision are clear and may technically fit the description of a particular transaction.

Accordingly, counsel submitted that such pre-GAAR cases, as Canada v. Antosko, [1994] 2 S.C.R. 312, Friesen v.

Canada, [1995] 3 S.C.R. 103, and Shell, supra, relied upon by the Appellants are of no assistance when applying the

GAAR.

(ii)

Misuse of subsection 18(13) of the Act

[178]

According to counsel for the Appellants, subsection 18(13) is one of a number of "loss

deferral" provisions in the Act, the effect of which is to deny the immediate recognition of losses

otherwise realized on the transfer of property to a non-arm's-length party, including a

partnership, and to carry over the historical tax attributes of the transferred property to the

transferee. In counsel's words, subsection 18(13) mandates a "rollover" at historical cost and is

an explicit provision in which Parliament expressly contemplates the transfer of mortgages from

a corporate entity to a partnership.

[179]

According to counsel, subsection 18(13) had in the present case precisely the effect

intended by Parliament, that is, the losses otherwise sustained by STC on the transfer of the

mortgages were added to the cost of the mortgages in the hands of STIL II.

[180]

Counsel for the Appellants submitted that it is difficult to conceive how a specific

provision of the Act, such as subsection 18(13), standing alone, can be misused, since any such

misuse would imply that subsection 18(13) has a defined purpose not expressed in the plain

words of the provision. In his view, the provision simply directs a certain result if specified

criteria are met. In so stating, counsel relied on the reasons for judgment of Judge Bowman (as

he then was) of this Court in Continental Bank of Canada and Continental Bank Leasing

Corporation v. The Queen, 94 DTC 1858 ("Continental Bank") (affirmed [1998] 2 S.C.R. 358

and [1998] 2 S.C.R. 298), at p. 1872:

What, then, is the "object and spirit" of subsection 97(2)? I

am not sure what its spirit, if any, is, — spirits tend to be

somewhat elusive — but its object seems rather

straightforward. It is to permit a taxpayer to transfer assets

to a partnership in return for a partnership interest without

triggering the immediate tax result that such a transfer

would normally entail . . . .

That, then, is the object and spirit of subsection 97(2), nothing more or

less. I do not see how a taxpayer who avails itself of that provision,

with both its advantages and potential disadvantages, can be said to

have acted in contravention of its object and spirit.

[181]

Counsel also relied on the reasons for judgment delivered by McLachlin J. (as she then

was) of the Supreme Court of Canada, in Shell, supra, at paragraph 40:

Second, it is well established in this Court's tax

jurisprudence that a searching inquiry for either the

"economic realities" of a particular transaction or the

general object and spirit of the provision at issue can never

supplant a court's duty to apply an unambiguous provision

of the Act to a taxpayer's transaction. Where the provision

at issue is clear and unambiguous, its terms must simply be

applied: Continental Bank, supra, at para. 51, per

Bastarache J.; Tennant, supra, at para. 16, per Iacobucci J.;

Canada v. Antosko, [1994] 2 S.C.R. 312, at pp. 326-27 and

330, per Iacobucci J.; Friesen v. Canada, [1995] 3 S.C.R.

103 at para. 11, per Major J; Alberta (Treasury Branches)

v. M.N.R., [1996] 1 S.C.R. 963, at para. 15, per Cory J.

[182]

On the basis of the foregoing, counsel contended that the words of subsection 18(13)

could not more clearly demonstrate that Parliament contemplated a transfer of mortgages to a

partnership and the subsequent introduction of arm's length members to that partnership. In

counsel's view, not only does subsection 18(13) explicitly refer to a transfer to a partnership, but

it also contains within it a limitation of the acquisition of an interest in the partnership by an

arm's length party. Counsel emphasized that by virtue of paragraphs 18(13)(c) and (d) subsection

18(13) can apply only if the transferor of the mortgages or a non-arm's-length party owns the

same or identical property within 30 days before or after the transfer. In his view, the corollary of

this is that if an arm's length party acquires the partnership interests within that time frame, the

rule will not apply. Counsel further contended that Parliament has contemplated the case of arm's

length parties and provided a "bright-line" rule mandating different results depending on when an

arm's length party acquires the property. In his view the "bright-line" rule has been respected in

the present appeals.

[183]

Further contending that a provision cannot be misused when it performs as intended or

as contemplated by Parliament, counsel submitted that there was no abuse of subsection 18(13)

in the transactions in issue since subsection 18(13) operated in the manner contemplated by

Parliament.

[184]

Counsel for the Respondent, on the other hand, submitted that it is evident from

subsection 18(13) that it was enacted as a "stop-loss provision", the object of which is to prevent

taxpayers who are in the money-lending business from artificially realizing losses on assets

which have declined in market value by transferring those assets to a person with whom they do

not deal at arm's length, while maintaining control of the assets through the non-arm's-length

nature of their relationship. In his opinion, subsection 18(13)'s purpose is not to effect the

transfer of unrealized losses from a taxpayer who has no income against which to offset those

losses to a taxpayer that does have such income. On the contrary, the transfer of superficial

losses to the transferee is merely a consequential rule allowing the superficial loss to be utilized

by the transferee rather than being lost altogether. Accordingly, it is counsel's position that if one

uses subsection 18(13) to transfer losses to an arm's length party, one is using it for a purpose for

which it is not intended and is therefore misusing it.

[185]

In that regard, counsel relied on this Court's reasons for judgment in OSFC (TCC),

supra, particularly at paragraph 54, where Judge Bowie stated:

. . . Subsection 18(13) was enacted as a stop-loss provision, the object

of which is to prevent taxpayers who are in the money-lending business

from artificially realizing losses on assets which have declined in

market value by transferring them to a person with whom they do not

deal at arm's length, while maintaining control of the assets through the

non-arm's length nature of their relationship with the transferee. The

use of that provision to effect the transfer of unrealized losses from a

taxpayer who has no income against which to offset those losses to a

taxpayer which does have such income is clearly a misuse.

[186]

Counsel also relied on the Department of Finance's April 1988 Explanatory Notes to Draft Legislation and

Regulations Relating to Income Tax Reform which deal with the new subsection 18(13) and which provide as

follows at pages 30 and 31:

New subsection 18(13) introduces a superficial loss rule that denies

such losses sustained by a taxpayer whose ordinary business includes

the lending of money. This rule is similar to the superficial loss rule in

paragraph 54(i) relating to capital properties. A superficial loss under

subsection 18(13) is a loss realized by the taxpayer on the sale or

transfer of a property that is a share or a loan, bond, debenture,

mortgage, note, hypothec, agreement of sale or any other indebtedness

that was not a capital property of the taxpayer where the same or

identical property (referred to as the "substituted property") is acquired

by the taxpayer or a non-arm's length person or partnership during the

period commencing 30 days before and ending 30 days after the sale or

transfer and that substituted property is held by the taxpayer or the

person or partnership at the end of that period. Any loss that is a

superficial loss is added in computing the cost of the substituted

property to the taxpayer or the person or partnership who owns the

property 30 days after the sale or transfer. . . .

[187]

Counsel also referred on this point to Edward A. Heakes, "New Rules, Old Chestnuts, and Emerging

Jurisprudence: The Stop-Loss Rules", Canadian Tax Foundation, Conference Report, 1995, p. 34:1, in which the

author analyzes a number of stop-loss provisions and the amendments proposed.

[188]

According to counsel, to limit the determination of the purpose of a provision to the words used therein is

to deny the very purpose of subsection 245(4) and thus to deny the meaning and applicability of the GAAR as a

whole.

[189]

Counsel for the Respondent did acknowledge that subsection 18(13) of the Act was amended in 1998 so as

to no longer provide that losses realized on the transfer of property from a financial institution to a non-arm's-length

entity will be added to the cost of the property to that entity, and so as to in effect "suspend" these losses in the

hands of the transferor. He submitted, however, that the amendment is entirely irrelevant to the issue in the present

case, since the GAAR operated to deny the legal result — that is, the tax benefit to the arm's length transferee of the

property — of subsection 18(13) as applicable at the relevant time.

(iii)

Abuse of the provisions of the Act read as a whole

[190]

Counsel for the Appellants submitted that the applicable scheme of the Act is the one that deals with

partnerships and the allocation of a partnership's income or losses to the partners at the partnership's year-

end, without regard to whether they were partners throughout the partnership's fiscal period. In counsel's

view, there is no rule of general application limiting the allocation of income or losses from a partnership so

as to take into account changes of partners during a partnership's fiscal year or limiting losses not financed

by partners. Nor is there, in his view, any general rule requiring that the property be held beyond the fiscal

year-end of the partnership to avoid the transfer of losses to new partners. Moreover, counsel submitted that

there is nothing in the Act that prevents a person from becoming a member of a partnership and benefiting or

suffering from the tax consequences of events that occurred prior to that person becoming a partner. Indeed,

it is counsel's position that the scheme of the Act, including subsection 18(13), expressly contemplates this.

[191]

In counsel's view, once the choice to proceed by way of a partnership was made by

STC, subsection 18(13) governed the move from the corporate scheme to the partnership scheme

and dictated the tax consequences. From that point forward, the tax consequences to the partners

of STIL II were governed by the partnership scheme, which has been adhered to in every way.

Furthermore, counsel submitted that although STC recognized the tax advantages of using a

partnership structure, it chose that structure for non-tax purposes namely, attracting purchasers

for the Portfolio and maximizing the value of its estate. Relying on Continental Bank, supra,

counsel contended that the fact that this choice was made in contemplation of a sale of the

partnership does not affect its validity. In counsel's view, since Parliament has contemplated and

facilitated the move from the corporate scheme of the Act to the scheme of the Act dealing with

partnerships, there can be no abuse of the Act when the comprehensive scheme dealing with

partnerships applies precisely as Parliament intended.

[192]

It is counsel's further contention that there is no general rule or scheme of the Act in

which losses not funded by a taxpayer may not be utilized by that taxpayer. In his view, a

taxpayer is entitled to use losses legally acquired unless there is an express prohibition of such

use. Counsel submitted, for instance, that in the corporate context, in the absence of section 111,

it would be open to any taxpayer to acquire control of a corporation and utilize its accumulated

losses. In his view, by enacting section 111, Parliament has legislated a restriction on the

unbridled use of corporate losses. Counsel submitted that it is only if control of a corporation has

been acquired by an unrelated party that the use of the non-capital losses is restricted for that

unrelated party. If there is no acquisition of control, counsel submitted, the use of the losses

remains unrestricted, even in the absence of a specific enabling rule.

[193]

It is counsel's further contention that no general scheme for losses may be inferred

from the narrow limitation in section 111. In his view, an exception does not define a scheme

and the Supreme Court of Canada has explicitly warned against extrapolating and finding a

general scheme of the Act based only on anti-avoidance rules that apply in specific

circumstances. In this regard, counsel referred to Neuman v. M.N.R., [1998] 1 S.C.R. 770, a

decision in which Iacobucci J. stated, at paragraph 35:

. . . I wish to make some observations to place the present debate into

its proper perspective. First, s. 56(2) strives to prevent tax avoidance

through income splitting; however, it is a specific tax avoidance

provision and not a general provision against income splitting. In fact,

"there is no general scheme to prevent income splitting" in the ITA (V.

Krishna and J. A. Van Duzer, "Corporate Share Capital Structures and

Income Splitting: McClurg v. Canada" (1992-93), 21 Can. Bus. L.J.

335, at p. 367). Section 56(2) can only operate to prevent income

splitting where the four preconditions to its application are specifically

met.

[194]

Counsel further submitted that in his recent decision in Donohue, supra, Judge

Archambault of this Court refused to find any general scheme of the Act despite the Minister's

general thesis regarding such a scheme.

[195]

In counsel's view, the fact that there is no counterpart to section 111 with respect to the

use of losses sustained by a partnership or trust that were not funded by a partner or a beneficiary

does not signify that Parliament has not addressed the issue. Rather, it is counsel's position that

the schemes of the Act dealing with partnerships and trusts simply use a different mechanism.

[196]

According to counsel, the mechanism used in the scheme of the Act dealing with

partnerships is the computation of the adjusted cost base of the partnership interest.

Contributions to the partnership by a partner and any income allocated to the partner increase the

adjusted cost base of that partner's partnership interest. Withdrawals by a partner and losses

allocated to the partner reduce the adjusted cost base of the partnership interest. Hence, any

losses not funded by the partner will cause the adjusted cost base to become negative. Under

subsections 40(3) and 100(2), that negative adjusted cost base will be taxed to the partner as a

capital gain on disposition of the partnership interest. Accordingly, it is counsel's position that,

since the losses allocated to the Appellants will eventually be recaptured upon disposition of the

Appellants' partnership interest in SRMP, the result is in accordance with the mechanism that

Parliament has chosen to employ for the purpose of recognizing and accounting for losses from a

partnership.

[197]

Furthermore, counsel warned the Court of the "obvious danger of a broad application

of the misuse or abuse doctrine", which judicially "amends" the Act for the particular taxpayer.

Counsel submitted that the GAAR is not and should not be construed as an instrument of

legislation in the hands of the administration or, for that matter, the courts. Otherwise, in

counsel's opinion, the GAAR becomes a "roving and arbitrary ex post facto technical amendment

of which the taxpayer has no notice."

[198]

Having observed that Parliament did amend subsection 18(13) some time after the

transactions under review, counsel submitted that, through these amendments, Parliament chose

to fundamentally alter its policy regarding the recognition of losses. As a result of the

amendments, counsel submitted, the central approach of all the loss deferral rules in the Act

shifted from the carry-forward of the historical tax attributes to the "suspension" of the losses in

the hands of the original holder.

[199]

In counsel's view, until that fundamental change, the policy was to move the denied

loss to the non-arm's-length transferee for ultimate recognition by the transferee. After the

change, the loss remained with the transferor. On the basis of the foregoing, it is counsel's

submission that the result brought about by former subsection 18(13) in the case at bar was

wholly consistent with the policy in place at that time, and the subsequent amendments suggest

that the use of former subsection 18(13) in the present case was not contrary to the scheme of the

Act as it was prior to those amendments. On this point, counsel referred to paragraph 66 of Judge

Archambault's reasons in Fredette, supra:

. . . If Parliament believed there was reason to change its

tax policy with respect to this tax benefit, it was open to it

to do so. And it did so in 1995 for the fiscal periods

commencing after 1994. Consequently, it cannot be

concluded that the one-year carry-over resulted in a misuse

of, or an abuse having regard to, the provisions of the Act

read as a whole during the relevant period.

[200]

Finally, counsel submitted that the comprehensive nature of the amendments

illustrates the danger of judicial "amendment" of the Act using the GAAR. A broad construction

of the test of abuse would, in counsel's view, result in a lack of certainty for taxpayers and place

upon the courts or the Minister the role of Parliament. Counsel remarked that this is what the

Supreme Court of Canada cautioned the courts against in Shell, supra, where McLachlin J., as

she then was, stated at paragraph 43:

. . . The Act is a complex statute through which Parliament

seeks to balance a myriad of principles. This Court has

consistently held that courts must therefore be cautious

before finding within the clear provisions of the Act an

unexpressed legislative intention: Canderel Ltd. v. Canada,

[1998] 1 S.C.R. 147, at para. 41, per Iacobucci J.; Royal

Bank of Canada v. Sparrow Electric Corp., [1997] 1 S.C.R.

411, at para. 112, per Iacobucci J.; Antosko, supra, at p.

328, per Iacobucci J. Finding unexpressed legislative

intentions under the guise of purposive interpretation runs

the risk of upsetting the balance Parliament has attempted

to strike in the Act.

[201]

Counsel for the Respondent, on the other hand, submitted that the relevant scheme of

the Act in the case at bar lies in the basic rules for the computation of income provided in

Division B, and in the rules for the computation of taxable income provided in Division C,

pursuant to which rules income and taxable income must be computed separately for each

taxpayer.

[202]

Counsel emphasized a number of provisions in support of his contention. With respect

to the rules for the computation of income, he noted first that section 3 requires the determination

of "a taxpayer['s]" income from various sources and "the taxpayer's" taxable capital gains. He

then observed that section 4 requires the determination of "a taxpayer's" income or loss for a

taxation year separately for each source of that income. He then remarked that Subdivision (a) of

Division B (sections 5-8) provides rules for the computation of "a taxpayer's" income for a

taxation year from an office or employment, while Subdivision (b) of Division B (sections 9-37)

contains rules for the computation of "a taxpayer's" income for a taxation year from a business or

property. With respect to the rules for the computation of taxable income, counsel mentioned

subsection 111(1), which provides that "[f]or the purpose of computing the taxable income of a

taxpayer for a taxation year" a taxpayer may deduct such amounts as he may claim for "the

taxpayer's" non-capital losses, net capital losses and other defined losses incurred in prior and

subsequent taxation years. He further emphasized that subsections 111(3)-(7) impose limitations

on the deductibility of such losses in certain circumstances, including where control of a

corporation has been acquired during a year.

[203]

In counsel's view, it is clear from these provisions that income and taxable income

must be computed separately for each taxpayer, by source, and that there is no computation of

income for several taxpayers together, that is, there is no sharing with other taxpayers of income

earned by a taxpayer and of losses incurred by him.

[204]

Counsel further submitted that the Act's policy of not permitting the sharing with other

taxpayers of income earned by a particular taxpayer has been recognized judicially in Mersey

Docks and Harbour Board v. Lucas (1883), 8 A.C. 891 (H.L) and Woodward's Pension Society

v. Minister of National Revenue, 59 DTC 1253 (Ex. Ct.); affd. 62 DTC 1002. In particular,

counsel referred to the following excerpt from the reasons for judgment of Thorson P. of the

Exchequer Court at pp. 1260-1261:

The other specific submission was that the appellant was

entitled to exemption under the section by reason of the fact

that it was impossible for it to keep or distribute its profit

but must pay it to the pension trustees and that,

consequently, the appellant did not own it. In support of

this contention counsel relied strongly on the decision of

the Supreme Court of Canada in Minister of National

Revenue v. St. Catharines Flying Training School Limited,

[1955] S.C.R. 738 [55 DTC 1145]. There it was held by

Locke J., who delivered the judgment of the Court, that the

respondent in that case had no income liable to taxation

since the surplus held by it was, in effect, held in trust for

the Crown. In my opinion, that finding has no application

to the facts in the present case and is certainly not an

authority for the submission that the appellant was exempt

from tax under section 62(1)(i). It would be unrealistic and

fanciful to hold that the appellant had no income in the year

ending January 31, 1953. In its own statement of revenue

and expenditure for the year, Exhibit E8, shows its income.

The fact that it was required to pay over its surplus funds to

the pension trustees cannot possibly nullify the fact that the

appellant had an income. The income was earned by it as

the result of its own operation in dealing with its own

property. How can it then be said that it did not own its

income? The fact that a person must devote his property to

a particular purpose cannot alter the fact that when he

acquired the property it was his.

[205]

Counsel further emphasized that his position is supported by Judge Bowie's reliance

on the reasons for judgment in Canada v. Duha Printers (Western) Ltd., [1996] 3 F.C. 78

(F.C.A.), reversed on other grounds by Duha Printers (Western) Limited v. Canada, (hereinafter

Duha Printers (SCC)) [1998] 1 S.C.R. 795, for the proposition that the Act does not, except

where it specifically so authorizes, allow the transfer of losses from one person to another. In

counsel's view, since STIL II's losses from the Portfolio were not incurred by it in carrying on its

business, but were incurred instead by STC, the scheme of the Act that is relevant in the present

case is that which deals with the transfer of losses between corporations, rather than that dealing

with partnership losses.

2. Supplementary Submissions

[206]

Counsel, both for the Appellant and the Respondent, have provided the Court with

supplementary written submissions concerning the recent decision of the Federal Court of

Appeal in OSFC (FCA), supra.

[207]

Counsel for the Appellants submitted that the very inconsistency that they assert

makes section 245 unconstitutional was acknowledged to exist by Rothstein J.A., speaking for

the majority of the Court in OSFC (FCA), when he stated at paragraph 63:

. . . If, in a misuse or abuse analysis, the Court is confined to a

consideration of the language of the provisions in question, it

would seem inevitable that the GAAR would be rendered

meaningless. . . . Having regard only to the language of the

provisions will therefore always result in a finding of compliance

and therefore no misuse or abuse.

[208]

Counsel for the Appellants further submitted that Rothstein J.A. dealt with the

dilemma by arbitrarily overriding the words Parliament used based on a subjective perception of

policy and that he may have dealt with the dilemma differently if he had had the benefit of the

Appellants' counsel's argument here regarding the unconstitutionality of section 245. Therefore,

it is open to this Court to find that the provision is unenforceable despite the Federal Court of

Appeal's decision.

[209]

Counsel for the Appellants referred the Court to the recent Supreme Court of Canada

decision in Ludco Enterprises Ltd. v. Canada, 2001 SCC 62, in which Iacobucci J. stated at

paragraph 38:

Furthermore, when interpreting the Income Tax Act courts must

be mindful of their role as distinct from that of Parliament. In the

absence of clear statutory language, judicial innovation is

undesirable . . . .

[210]

Counsel for the Appellants contended that Iacobucci J.'s analysis cannot co-exist with

the approach taken by the Federal Court of Appeal in overriding, based on a subjective

perception of policy, the words used by Parliament.

[211]

Counsel for the Appellants submitted that the conclusion of the majority of the Federal

Court of Appeal in OSFC (FCA), supra, that there was no misuse of subsection 18(13) and no

abuse of the partnership scheme cannot co-exist with their conclusion that there was an abuse of

the corporate loss scheme. The argument of counsel for the Appellants is that there can be no

abuse of the corporate loss regime of which subsection 18(13) forms a part when the provision

has been used in precisely the manner contemplated by Parliament.

[212]

Counsel for the Appellants also submitted that the Federal Court of Appeal's

conclusion that there was no abuse of the partnership scheme supports their position that there

has been no abuse of the Act read as a whole. Taxpayers are entitled to structure substantive

commercial transactions by choosing among alternative business vehicles. In this case, the

Appellants chose to utilize a partnership scheme specifically provided for in subsection 18(13),

and thus there is no abuse of the Act read as a whole.

[213]

Counsel for the Appellants stated that the Federal Court of Appeal's decision in OSFC

(FCA), supra, implies that section 245 can prohibit a taxpayer from choosing among co-existing

schemes in the Act in structuring a commercial transaction. It is submitted that this implication is

inconsistent with the views expressed in the recent Supreme Court of Canada decision in

Singleton v. Canada, 2001 SCC 61, where the Court endorsed a taxpayer's right to

advantageously order his affairs. Further, counsel stated that in Ludco, supra, the Supreme Court

of Canada confirmed that it is not for the courts to in effect legislate to cure defects in the Act. In

counsel's view this indicates that the Supreme Court of Canada would adopt a narrower approach

to the interpretation of section 245 than that taken by the Federal Court of Appeal in OSFC

(FCA), supra.

[214]

Counsel for the Appellants also submitted that there was a lack of evidence before the

Federal Court of Appeal in OSFC (FCA), supra, which led that Court to draw an incorrect

inference that there was no substantial commercial purpose behind the transactions. In the

present proceedings, there was an abundance of evidence presented concerning the legitimate

and substantial commercial nature of the real estate acquisitions at the core of the impugned

transactions. Counsel for the Appellants referred again to the hard negotiations over the purchase

price, the real estate expertise of several of the Appellants, the extent of the due diligence done

prior to the acquisition, the expert real estate management after the acquisition, the bona fides of

the Appellants' commercial expectations, the commercial risk of liability on the promissory note,

the unlimited liability in the context of a volatile commercial real estate market and the scheme

for the distribution of the net proceeds as between OSFC and SRMP as evidence of the

substantial commercial nature of the impugned transactions.

[215]

Counsel for the Respondent rejected the Appellant's contention that the Reasons for

Judgment of the majority of the Federal Court of Appeal in OSFC (FCA), supra, lend support to

a finding that section 245 is unconstitutional. Counsel rejected the Appellants' contention that

Rothstein J.A. found section 245 meaningless and in order to apply it had to override the words

of Parliament. On the contrary, he submitted, when Rothstein J.A. speaks of an analysis of the

GAAR that would be meaningless, he is referring to an interpretation that would confine the

analysis under subsection 245(4) to the words used by Parliament in a particular provision rather

than considering that provision's object and spirit or the policy behind it.

[216]

Counsel submitted that the fact that the Federal Court of Appeal found it possible to

apply subsection 245(4) in OSFC (FCA), supra, was in effect a determination that the provision

is not unconstitutional. In support of this submission, he referred the Court to the Supreme Court

of Canada's decision in Ontario v. C. P., supra, in which Gonthier J. stated at paragraph 79:

. . . In a situation, such as the instant case, where a court has

interpreted a legislative provision, and then has determined that the

challenging party's own fact situation falls squarely within the

scope of the provision, then that provision is obviously not vague.

There is no need to consider hypothetical fact situations, since it is

clear that the law provides the basis for legal debate and thereby

satisfies the requirements of s. 7 of the Charter.

[217]

Counsel for the Respondent also rejected the Appellant's contention that the Federal

Court of Appeal found an abuse of the corporate loss scheme in OSFC (FCA), supra. Rather, in

counsel's view, the Federal Court of Appeal found that the transactions in question violated the

general policy of the Act against the transfer of losses from one corporation to another. More

particularly, it is submitted that the Federal Court of Appeal found a general overarching policy

against loss trading that overrides specific provisions of the Act and the policy otherwise

applicable in a non-tax-avoidance context. Therefore the attempt to find an inconsistency

between, on the one hand, the Federal Court of Appeal's finding that the taxpayer complied with

the letter and policy of subsection 18(13) and the partnership rules and, on the other hand, this

overarching policy is misplaced. Further, counsel for the Respondent submitted that the Federal

Court of Appeal's findings regarding the policies of the Act are binding on this Court.

[218]

Counsel for the Respondent also rejected the Appellants' contention that the alternate

business vehicle argument was not advanced before the Federal Court of Appeal in OSFC

(FCA), supra, stating that the Appellant in that case alleged that a compelling and valid business

scheme had been chosen and adhered to. Nevertheless, according to counsel, the Federal Court

of Appeal, in the face of the legal and commercial validity of the transactions comprised in the

scheme, found that they contravened the policy in the Act against loss trading.

[219]

Counsel for the Respondent rejected the assertion that the Federal Court of Appeal

found that section 245 operated to prohibit a taxpayer from structuring a commercial transaction

by choosing among co-existing schemes in the Act. According to counsel for the Respondent, the

Court found that section 245 simply deprives a taxpayer of the benefit of transactions that

contravene the policy of the Act read as a whole.

[220]

Counsel for the Respondent stated that neither Ludco, supra, nor Singleton, supra, is

relevant to the interpretation of section 245. The relevant transactions in Ludco, supra, took

place prior to the enactment of section 245. In Singleton, supra, they took place after the

enactment. However, neither decision considered the application of section 245 of the Act.

[221]

Counsel for the Respondent submitted that the Federal Court of Appeal's finding that

the transactions in OSFC (FCA), supra, abused the policy against loss trading among

corporations is based on the basic premise that, as a matter of the Act's general policy, losses

cannot be transferred among taxpayers, regardless of whether the taxpayers are individuals or

corporations. There is, therefore, no valid reason for this Court not to apply the Federal Court of

Appeal's decision to the final two transactions involved in these appeals and find that they too

contravened the general policy against loss trading.

[222]

Counsel for the Respondents noted that the majority of the Federal Court of Appeal

found that subsection 248(10) broadened the meaning of the expression "series of transactions"

contained in subsection 245(3) such that, as long as the parties to a transaction took into account

the common law series of transactions (Transactions 1, 2 and 3) in deciding to complete a later

transaction, that transaction would form part of the series. In fact, the Federal Court of Appeal

found that the first four transactions formed a series. Therefore, counsel submitted, Transactions

5 and 6 form part of the series because the Appellants took the first four transactions into account

when entering into the later transactions. Counsel also referred to the opinion expressed by

Létourneau J.A., speaking for himself only, that Transaction 4 (OSFC's purchase of its 99%

interest in STIL II) was part of the series because it satisfied both the "mutual interdependence"

test and the "end result" test. Although noting that this approach best expresses the law regarding

the meaning of "series of transactions" in paragraph 245(3)(b) of the Act, counsel stated that, for

the purpose of the disposition of the present appeals, the opinion of the majority must govern.

[223]

Counsel for the Respondent submitted that the majority of the Federal Court of Appeal

found it necessary to inquire into whether Transaction 4 was an avoidance transaction purely for

convenience' sake so that it could express an opinion as to whether any of the transactions in the

series resulted in a misuse or abuse under subsection 245(4). Counsel stated that under no

circumstances can the majority's opinion be taken as establishing that all transactions in a series

must be found to be avoidance transactions before the series may be said to result in a tax

benefit. In counsel's view, since Transactions 1 through 4 have been found to be avoidance

transactions by the Federal Court of Appeal, then, so long as this Court finds that Transactions 1

through 6 constitute a series from which a tax benefit resulted, it is not necessary to find that the

final two transactions are also avoidance transactions. Regardless, it was submitted, referring to

the "threshold question" and the "second question" in the Respondent's initial submissions, that

the evidence in the present appeals overwhelmingly supports a conclusion that the final two

transactions are avoidance transactions.

[224]

Counsel for the Respondent further submitted that the evidence in OSFC (FCA),

supra, supports the conclusion that Transactions 5 and 6, that is, the Appellants' transactions

involved in the present appeals, were undertaken solely to obtain the tax benefit. Counsel

disagreed with the Appellants' contention that the Federal Court of Appeal did not have before it

extensive evidence of the substantial commercial nature of the core transactions and that, as a

result, it drew a poorly informed inference as to the fundamentals of the transactions, which lead

to the grossly inaccurate impression that the real estate portfolio was mere window dressing.

[225]

Counsel for the Respondent noted that although the majority of the Federal Court of

Appeal found that a simple comparison between the estimated tax benefit and the estimated

business earnings may not be determinative, especially where the estimates of each are close, the

Court stated that a potential tax benefit vastly greater than the estimated business earnings would

strongly suggest a primary tax purpose. In fact, in arriving at that conclusion, the majority of the

Federal Court of Appeal compared the potential tax benefit of $52 million with earnings of about

$6 million before selling costs under the earn-out formula and about $1 million in projected

operating income. The Court then stated that its conclusion was supported by the manner in

which the sale by OSFC of its interest in STIL II was effected, by the money OSFC received in

return and by the sharing of the proceeds and income received from STIL II amongst the SRMP

partners. In the present appeals, given that the estimated tax benefit to the SRMP partners far

exceeds the estimated business earnings, it is open for the Court to find that Transactions 5 and 6

were avoidance transactions. Based on the fact that business returns expected by the Appellants

in the present appeals were considerably less than those expected by OSFC and that the Federal

Court of Appeal found that Transaction 4 was an avoidance transaction, it follows that

Transactions 5 and 6 were a fortiori avoidance transactions.

[226]

Counsel for the Respondent also submitted that the documentary and other objective

evidence in the present appeals was essentially the same as that in OSFC (FCA), supra, and that

the only additional evidence here concerned the subjective intention of the Appellants.

According to counsel, this subjective evidence is not relevant and he referred the Court to the

reasons of the majority of the Federal Court of Appeal in OSFC (FCA), where Rothstein J.A.

stated at paragraph 46:

The words "may reasonably be considered to have been

undertaken or arranged" in subsection 245(3) indicate that the

primary purpose test is an objective one. Therefore the focus will

be on the relevant facts and circumstances and not on statements of

intention. It is also apparent that the primary purpose is to be

determined at the time the transactions in question were

undertaken. It is not a hindsight assessment, taking into account

facts and circumstances that took place after the transactions were

undertaken.

[227]

Counsel for the Respondent also noted that the majority of the Federal Court of

Appeal found that simply making the tax aspect contingent would not result in a finding that the

primary purpose was a business purpose, because such an approach would always deprive a

transaction of its avoidance character and thus nullify the purpose of the general anti-avoidance

provision. Accordingly, he submitted that this Court was bound to reject the Appellants' identical

argument in the present appeal.

[228]

Counsel for the Respondent also referred to Létourneau J.A.'s reasons for judgment in

which was expressed the opinion that the transactions constituted a misuse of subsection 18(13)

of that Act. Having cited Judge Bowie's conclusion on that matter, Létourneau J.A. said at

paragraph 134:

I agree. Subsection 18(13) was not intended to be used by a

corporation to increase the adjusted cost base of a related

corporation or partnership for the purpose of selling its losses to an

arm['s] length corporation.

[229]

Létourneau J.A. also agreed with Judge Bowie that the transactions were an abuse of

the Act as a whole when he said at paragraph 135:

. . . STC's losses were made a marketable commodity and

transferred from one corporation to another corporation through

the artifice of a partnership (the STIL II partnership) which had

never incurred the losses and acted as a conduit.

[230]

Counsel for the Respondent thus submitted that the minority of the Federal Court of

Appeal found a policy against loss trading underlying both subsection 18(13) and the Act read as

a whole.

[231]

Counsel for the Respondent stressed that the findings of the minority are to be

preferred to those of the majority. However, as they are findings of law rather than of fact and as

the findings of the majority are binding on this Court, counsel stated that, for the purposes of the

present appeals, the Respondent was adopting and relying on the findings of the majority.

(D)

ANALYSIS

[232]

I will state at the outset that I agree with the Respondent that section 245 of the Act is applicable in the

present case. It is applicable basically for the reasons advanced in the Respondent's initial as well as supplementary

submissions.

[233]

In determining whether section 245 of the Act is applicable, I have the benefit of the recent decision of the

Federal Court of Appeal in OSFC (FCA), supra. That decision, dealing with basically the same transactions as those

that are the subject of the present appeals, is also the first by the Federal Court of Appeal on the GAAR. It is trite to

say that I am bound by the findings of the majority of that Court regarding the interpretation of section 245 and other

sections of the Act.

[234]

According to the majority of the Federal Court of Appeal, the first task is to determine whether there is a

tax benefit. Next, it is necessary to consider whether the benefit results from a transaction that is an avoidance

transaction or from a series of transactions that includes an avoidance transaction.

(a)

Tax benefit

[235]

A "tax benefit" is defined in subsection 245(1) to include inter alia, a reduction,

avoidance or deferral of tax payable under the Act. Ultimately, whether there has been a "tax

benefit" or not is a question of fact.

[236]

On October 1, 1993, SRMP allocated its 1993 year-end losses of over $52 million to

its partners. Each of the individual Appellants in this appeal deducted his share of these allocated

losses against his other income for the year. The corporate Appellants did likewise in their 1994

taxation year. Because of insufficient income, some Appellants computed non-capital losses that

were carried back to prior years or forward to future years. This obvious tax benefit flows from

Transaction 6. The Appellants have not denied that the deduction of these losses is a tax benefit.

However, they assert that the benefit is limited in scope and that it is primarily merely a tax

deferral. The Appellants assert that the loss allocations reduced the adjusted cost base of each

partnership interest. As a result, on the dissolution of the partnership, on the sale of an interest in

the partnership or on the death of an individual partner, there would be a deemed disposition of

their partnership interest and a resulting capital gain and thus a recapture of 75% of the tax

benefit in that form.

[237]

Regardless of whether the losses claimed result in only a deferral of 75% of the

amount claimed, given the broad definition of tax benefit in subsection 245(1) there can be no

doubt that the losses claimed result in a tax benefit. It should be noted that 25% of the losses

claimed would produce a tax saving, not a mere deferral. Further, the present value of a deferral

is dependent on the length of the deferral and the applicable interest rates.

[238]

However, three key pieces of evidence point to the fact that the tax benefit

contemplated from the outset was more than just a deferral of tax. In my opinion, a permanent

tax saving was contemplated. First, the SRMP Partnership Agreement (Exhibit 35, vol. 3),

provides in article 10.01 that the SRMP partnership would only be dissolved at the earliest of the

following:

(a) 180 days following the bankruptcy of OSFC, unless OSFC

is replaced within such 180 day period; or

(b) the passage of a Partners' Special Resolution approving the

dissolution and winding-up of the Partnership, provided that

no such Partners' Special Resolution may be voted on or

passed prior to December 31, 2100.

[239]

Article 10.02 of the same document then lists all the events that would not terminate or

dissolve the partnership and states the intent that it should not be dissolved except as provided

for in article 10.01. Moreover, in his testimony, Mr. Cook admitted that the term was indefinite

and that there was no sunset date.

[240]

Second, a memorandum from Mr. Robertson to Mr. Gregory dated April 9, 1996

(Exhibit 57, vol. IV), states that pursuant to the original plan to continue the business of the

SRMP Partnership, a property acquisition should occur prior to the sale of the last property in the

Portfolio.

[241]

Third, in another memorandum from Mr. Robertson to Mr. Gregory dated December

17, 1997 (Exhibit 208), there is a statement at page 4 that "the final consideration is the

partnership can never be wound up, or the tax consequences to the partners would be

unacceptable."

[242]

This evidence certainly does not demonstrate that a mere tax deferral was

contemplated. I will address the question of the value of the tax benefit later when discussing the

primary purpose of the SRMP transactions. The death of any individual partners was definitely

not something that was foreseen at the time. Moreover, there is no evidence as to the exact tax

consequences following a partner's death nor, more particularly, as to whether or not there might

have been a rollover of their partnership interest.

(b)

Tax benefit as a result of an avoidance transaction or series of

transactions that includes an avoidance transaction

[243]

[244]

Transaction is defined in subsection 245(1) as including an arrangement or event.

According to the majority of the Federal Court of Appeal in OSFC (FCA), supra, a

transaction is part of a "series" under subsection 245(2) if:

1.

2.

3.

a series of transactions within the common law meaning of the term exists;

the particular transaction is "related" to the common law series; and

the related transaction is completed in contemplation of the series.

(i)

Common Law Series

[245]

The majority of the Federal Court of Appeal concluded that in enacting subsection

245(3) Parliament intended to adopt the common law definition of a "series of transactions"

developed by the House of Lords in Furniss v. Dawson, [1984] A.C. 474 (H.L.). Rothstein, J.A.

summarized that definition in paragraph 24 as follows:

. . . for there to be a series of transactions, each transaction in the

series must be pre-ordained to produce a final result. Pre-

ordination means that when the first transaction of the series is

implemented, all essential features of the subsequent transaction or

transactions are determined by persons who have the firm intention

and ability to implement them. That is, there must be no practical

likelihood that the subsequent transaction or transactions will not

take place.

(ii)

Related Transaction

[246]

The majority of the Federal Court of Appeal determined that this common law

definition was broadened by subsection 248(10), which provides that for the purposes of the Act,

where there is a reference to a series of transactions or events, the series shall be deemed to

include any related transactions or events completed in contemplation of the series.

[247]

Rothstein J.A. described the effect of the broadened definition on the application of

section 245 as follows in paragraph 36:

. . . Subsection 248(10) does not require that the related transaction

be pre-ordained. Nor does it say when the related transaction must

be completed. As long as the transaction has some connection with

the common law series, it will, if it was completed in

contemplation of the common law series, be included in the series

by reason of the deeming effect of subsection 248(10).

(iii)

Completed in Contemplation

[248]

Rothstein J.A. described the assessment of whether a related transaction is completed

in contemplation of a common law series, again in paragraph 36, as follows:

. . . Whether the related transaction is completed in contemplation

of the common law series requires an assessment of whether the

parties to the transaction knew of the common law series, such that

it could be said that they took it into account when deciding to

complete the transaction. If so, the transaction can be said to be

completed in contemplation of the common law series.

[249]

Accordingly, where the parties knew of the common law series and took that series

into account when completing the related transaction that transaction will be considered part of

the series.

[250]

The majority of the Federal Court of Appeal found that the first three transactions

were "pre-ordained" and thus constituted a common law series. It was further concluded that

Transaction 4, namely OSFC's acquisition of its STIL II partnership interest was related to the

first three transactions and was completed in contemplation of that series. Therefore, the majority

concluded at paragraph 39 that, based on the deeming effect of subsection 248(10), the first four

transactions constituted a series of transactions.

[251]

The task in the present appeal is to determine whether the Appellants knew of the first

four transactions and took that series into account when they completed Transactions 5 and 6.

[252]

Strangely enough, although the tax benefit to OSFC would have ultimately resulted

from Transaction 6, neither Judge Bowie in OSFC (TCC), supra, nor the Federal Court of

Appeal in OSFC (FCA), supra, made a definite finding as to whether Transactions 5 and 6 were

also part of the series. The situation is the same in the present appeals, as all the Appellants

would in the end have enjoyed the tax benefit resulting from Transaction 6.

[253]

However, Transactions 5 and 6 were commented on by the majority of the Federal

Court of Appeal in the following terms at paragraph 11:

The Appellant did not intend to retain its ninety-nine percent

interest in the STIL II Partnership. In transactions that were pre-

arranged before the closing of its purchase of the STIL II

Partnership interest, the appellant disposed of seventy-six percent

of its STIL II Partnership interest. The transactions were as

follows:

1.

July 5, 1993 - Formation of SRMP Realty and Mortgage

Partnership;

2.

September 22, 1993 - Closing of sale of appellant's ninety-

nine percent interest in STIL II Partnership to SRMP, with the

appellant obtaining a twenty-four percent interest in SRMP.

[254]

From this description it probably can be inferred that the majority of the Federal Court

of Appeal found that Transactions 5 and 6 had been arranged with full knowledge of the earlier

transactions and that the existence of those earlier transactions was taken into account in

completing Transactions 5 and 6.

[255]

In the present appeals, counsel for the Respondent submitted that the Appellants were

aware of the earlier transactions and had taken them into account when entering into

Transactions 5 and 6. On this point the Respondent referred to the SRMP Partnership Agreement

dated July 5, 1993 (Exhibit 35, vol. 3) and to the Agreement of Purchase and Sale of the STIL II

interest between OSFC and SRMP dated July 7, 1993 (Exhibit 40, vol. 3), as evidence of the

Appellants' knowledge.

[256]

In addition, counsel for the Respondent submitted that there is clear evidence that the

Appellants had been made aware of and become interested in participating in OSFC's acquisition

of the 99% interest in the STIL II partnership. According to counsel, the SRMP partners from

Thorsteinssons were involved in the syndication of OSFC's partnership interest in STIL II from

at least the time of the letter of intent dated March 5, 1993. As evidence of this, he referred to the

testimony of Mr. Bradeen before Judge Bowie in which Mr. Bradeen acknowledged that OSFC

intended from the outset to syndicate its partnership interest in STIL II to, among others, a

number of lawyers from Thorsteinssons. Counsel for the Respondent also referred to the

testimony given in these proceedings by Mr. Kaulius, who acknowledged that OSFC intended to

syndicate its partnership interest from the very beginning. I agree.

[257]

Thus, I find that Transactions 5 and 6 were completed in contemplation of

Transactions 1 through 4, as the Appellants knew of the earlier series and took it into account

when deciding to complete Transactions 5 and 6. By virtue of the deeming effect of subsection

248(10) of the Act, Transactions 1 through 6 therefore form a series of transactions for the

purposes of section 245.

[258]

Another precondition to the application of the GAAR is that there must be an

"avoidance transaction" as defined in subsection 245(3) of the Act.

[259]

In OSFC (FCA), supra, Rothstein J.A. summarized the assessment under section

245(3) as follows at paragraph 17:

Under subsection 245(3), to find that a transaction is an avoidance

transaction, two tests must be satisfied. The first is a results test.

The results test requires a determination of whether a transaction or

series of transactions would, but for the GAAR, result in a tax

benefit. The second is a purpose test. Here, the focus is on the

primary purpose of the transaction, or the individual transactions

that form the series, as the case may be. Only if a transaction or

series of transactions would result in a tax benefit is it necessary to

consider the primary purpose of the transaction or transactions.

[260]

Under the results test it must be determined that a tax benefit resulted from the

transaction or series of transactions. Rothstein J.A. noted that, with regard to the determination of

whether a transaction or series of transactions results in a tax benefit, it is not necessary that the

person who obtained the tax benefit be the person who arranged the transactions. He wrote at

paragraph 41:

. . . I see no words in subsection 245(3) that express or imply that

the person who obtains the tax benefit must necessarily have been

the person that undertook or arranged the transaction in question. I

think this interpretation is consistent with the scheme of section

245 which does not, in any of its subsections, link the obtaining of

a tax benefit to the person or persons undertaking or arranging the

transactions. In particular, subsection 245(2) speaks of the tax

consequences to a person without identifying who the person is,

other than that the tax benefit to that person would have resulted,

directly or indirectly, from an avoidance transaction or from a

series of transactions that includes the avoidance transaction.

Simply put, subsection 245(3) does not say that the person who

undertakes or arranges the transaction must be the one who obtains

the tax benefit.

[261]

Rothstein J.A. then discussed the second — primary purpose — test, noting that it is

an objective test that is to be applied with respect to the time at which the transactions in

question were undertaken, the focus being on the facts and circumstances of each case and not on

statements of intention. He stated at paragraphs 46, 48 and 58:

The words "may reasonably be considered to have been undertaken

or arranged" in subsection 245(3) indicate that the primary purpose

test is an objective one. Therefore the focus will be on the relevant

facts and circumstances and not on statements of intention. It is

also apparent that the primary purpose is to be determined at the

time the transactions in question were undertaken. It is not a

hindsight assessment, taking into account facts and circumstances

that took place after the transactions were undertaken.

. . .

. . . it is normally necessary to analyse the primary purpose of all

the relevant transactions. The reason is that the analysis under

subsection 245(4) involves assessing whether an avoidance

transaction would result in a misuse or an abuse of provisions of

the Act. It may be that some avoidance transactions in a series

would not result in a misuse or abuse. Therefore, it is necessary to

review all the relevant transactions to determine which ones are

avoidance transactions, in order for the analysis under subsection

245(4) to be complete. . . .

. . .

. . . I would stress that the primary purpose of a transaction will be

determined on the facts of each case. In particular, a comparison of

the amount of the estimated tax benefit to the estimated business

earnings may not be determinative, especially where the estimates

of each are close. Further, the nature of the business aspect of the

transaction must be carefully considered. The business purpose

being primary cannot be ruled out simply because the tax benefit is

significant.

[262]

In OSFC (FCA), supra, the majority of the Federal Court of Appeal determined that

Transactions 1 to 4 were avoidance transactions. Three questions thus arise here. First, does this

Court have to determine again whether Transactions 1 to 4 are avoidance transactions? Second,

is it sufficient to determine that Transactions 5 and 6 are part of the series of transactions that

included either "an avoidance transaction" or "avoidance transactions"? Third, is it necessary to

determine as well whether Transactions 5 and 6 are also both avoidance transactions?

[263]

The majority of the Federal Court of Appeal found it necessary to determine whether

or not Transaction 4 was also an avoidance transaction, stating at paragraph 48:

In view of this conclusion respecting the Standard transactions, it

appears the Tax Court Judge did not consider it necessary to

determine whether the appellant's acquisition of its STIL II

Partnership interest was also an avoidance transaction. However, in

my respectful opinion, it is normally necessary to analyse the

primary purpose of all the relevant transactions. The reason is that

the analysis under subsection 245(4) involves assessing whether an

avoidance transaction would result in a misuse or an abuse of

provisions of the Act. It may be that some avoidance transactions

in a series would not result in a misuse or abuse. Therefore, it is

necessary to review all the relevant transactions to determine

which ones are avoidance transactions, in order for the analysis

under subsection 245(4) to be complete. Accordingly, an

assessment of whether the appellant's acquisition of its STIL II

Partnership interest was an avoidance transaction must be

undertaken.

[264]

After applying the two-part test the majority determined that Transaction 4 was an

avoidance transaction. However, Létourneau J.A., speaking for himself, agreed with Judge

Bowie of this Court that, as Transaction 4 was part of a series of transactions, it was not

necessary to determine whether or not it too was an avoidance transaction.

[265]

In my view, it would be nonsensical and contrary to the wording of subsection 245(2)

and paragraph 245(3)(b) of the Act to interpret the majority's statement as imposing a

requirement that each of the transactions be an avoidance transaction. The use of the word

"series" would have no meaning if such an interpretation were adopted. I would tend to agree

with counsel for the Respondent that the majority engaged in an analysis of whether Transaction

4 was an avoidance transaction probably for the sake of convenience so that it could express an

opinion as to whether any of the transactions in the series resulted in a misuse or an abuse of the

Act and not because that analysis was necessary under subsection 245(3).

[266]

There is obviously more than one way to analyse transactions that are part of a series.

For example, the six transactions in issue could be grouped in twos. Transactions 1 and 2 could

be viewed as preparatory in nature. Transactions 3 and 4 would be considered the core

transactions in the sense that they are the very transactions that effected the transfer of the tax

losses from STC to an arm's length party. From this perspective, it is Transactions 3 and 4 that

would be the focus of the misuse and abuse analysis under subsection 245(4) of the Act. They

would in fact be considered the main avoidance transactions. Transactions 5 and 6 would be

viewed as permitting the end result, that is, the sharing among all the SRMP partners, including

OSFC and all the Appellants in the present case of the tax benefit already secured by OSFC.

[267]

It is interesting to note that more recently, in Her Majesty The Queen v. Canadian

Pacific Limited (hereinafter Canadian Pacific (FCA)), 2001 FCA 398, a unanimous Federal

Court of Appeal was of the view that section 245(3) only requires that one of the transactions in

the series be found to be an avoidance transaction. Sexton J.A. stated at paragraph 17:

If a transaction or series of transactions creates a tax benefit and

the primary purpose of any one of those transactions is to obtain a

tax benefit, then there was an avoidance transaction. Once it has

been established that an avoidance transaction occurred, subsection

245(4) must be considered.

[268]

It has been the Appellants' contention from the beginning that each transaction in the

series must be found to be an avoidance transaction. Further, the Appellants contend that the

Federal Court of Appeal did not have before it the extensive evidence of the substantial

commercial nature of the core transactions and the Appellants' participation in those transactions.

In view of the fact that lengthy submissions were made by each party on the issue of whether

Transactions 5 and 6 were avoidance transactions, I will conduct an analysis based on the

evidence before this Court. However, having found that Transactions 5 and 6 constitute part of

the series, I would again note that such analysis is not necessary in order for section 245 to apply.

In my opinion, the inquiry into the Appellants' primary purpose will probably prove later to have

been unnecessary.

[269]

Judge Bowie concluded in OSFC (TCC), supra, that the first three transactions were

avoidance transactions. He explained his determination as follows at paragraph 40:

. . . This requires that I examine the subjective evidence of Mr.

Bradeen against the more objective backdrop of the documents from

the liquidator's files, and common sense.

[270]

The Federal Court of Appeal accepted Judge Bowie's finding that the first three

transactions were avoidance transactions. The majority of the Federal Court of Appeal went on

to determine that Transaction 4 was also an avoidance transaction. In so determining, the

majority appears to have relied on the evidence of Mr. Bradeen and the documents admitted into

evidence during the trial in OSFC (TCC), supra.

[271]

During the course of the proceedings herein the transcripts of Mr. Bradeen's testimony

in OSFC (TCC), were filed by consent of the parties and constituted his evidence for the purpose

of the present appeals. As well, many of the documents that were filed in OSFC (TCC), were

also filed as evidence in the present proceedings. Moreover, two binders containing the

documentary evidence referred to during Mr. Bradeen's testimony in OSFC (TCC) were tendered

separately. Having reviewed this evidence and quite apart from the decisions of Judge Bowie in

OSFC (TCC), and of the majority as well as the minority of the Federal Court of Appeal in

OSFC (FCA), supra, I simply cannot reach a different conclusion in the present appeals. I do not

find that any of the evidence submitted by the Appellants in the case at bar would justify any

other conclusion. The peculiar and unusual manner in which E & Y proceeded in packaging the

mortgages comprised in the Portfolio and in which it effected the transfer from STC to STIL II

by entering into the first three transactions leaves no doubt about its purpose. It would be vain to

attempt to find in the evidence presented any serious indication of a primary business purpose to

those transactions. It was never demonstrated how the commercial objectives would be better

achieved through that scheme. Moreover, it is difficult to accept that a partnership would prove

to be a superior vehicle for carrying on the real estate business for STC when 99 % of the interest

it acquired in that partnership was meant from the outset to be disposed of to an arm's length

party as soon as possible after the period of 30 days prescribed in subsection 18(13) of the Act.

The 1% interest retained by 1004568 can only be considered to have been marginal from STC's

standpoint. In my opinion, the primary purpose was, to use the expression employed by both

Judge Bowie in OSFC (TCC), supra, and by Létourneau J.A. in OSFC (FCA), supra, to make

STC's tax losses, which would have been useless otherwise, "a marketable commodity" for

which it could obtain some additional money. To get $5 million for more than $52 million in

losses that would otherwise be worthless was the objective pursued from the outset. Although

Mr. Bradeen said otherwise, there is ample evidence that the deal was presented by E & Y as an

indivisible package comprising the Portfolio and the tax attributes. It is clear that E & Y had

proceeded differently in seven distinct transactions out of nine involving over 4000 mortgages.

Why was STIL II, and for that matter STIL I, created, if not primarily for the purpose of selling

the tax losses? There is little doubt that all the commercial objectives could have been attained

by other means. Now, whether or not Houlden J. was made fully aware of the tax implications of

the first three transactions and the subsequent sale of STC's partnership interest in STIL II to

OSFC makes no difference. After all, they were perfectly legal and enforceable transactions.

However, one will notice in examining in sequence Draft 3 of the Real Estate Portfolio

Transaction Term Sheet dated July 24, 1992 (Exhibit 77, vol. 11), which was never given to

Houlden J., Liquidator's Report No. 13 (Exhibit 1, vol. I) and finally Liquidator's Report No. 22

(Exhibit 9, vol. 1), which were given to Houlden J., that the tax aspect of the transactions is

rendered less and less evident.

[272]

On examination, OSFC's transaction (Transaction 4) does not warrant a different

conclusion as to its primary purpose. When comparisons are made, things should be stated as

they really are. A dollar is a dollar and 52 million dollars in losses offset 52 million dollars in

profits. One would thus have to look at the potential return on a dollar invested in the Portfolio

versus a dollar invested in purchasing someone else's losses. The return would vary depending

on the structure of the investment, the percentage of borrowed money used to make the

investment, the interest rate and the leverage effect. Next, additional tax considerations - such as

the applicable tax rates, interest deductibility and whether or not the tax savings are permanent or

represent merely a deferral, and if so, for how many years - would come into play. Estimates of

expected returns from the real estate portfolio could vary widely depending on the different cash

flow and proceeds hypotheses used, whereas the tax losses were a fixed amount of more than

$52 million and would not vary. At the end of the day, one thing remains clear: the basic, hard

numbers. If, as most of the evidence reveals, the total net potential realizable value of the

Portfolio was $37.8 million and the guaranteed purchase price was $17.5 million, the potential

profit from the proceeds was $20.3 million. The proceeds-sharing structure would allow less than

$3.4 million to go to OSFC and its future partners in SRMP as profit, as the rest would go to

STC and 1004568. It is true that most of the net operating income from the properties comprised

in the Portfolio would go to OSFC as payment of its substantial fees for managing the properties.

This could represent an additional amount of something in the order of between $1 and $2

million for OSFC, plus the $850,000 obtained on syndication. But, as the evidence shows, the

$37.8 million in proceeds was uncertain and speculative even if that target was thought to be

attainable through the expenditure of a lot of time and energy on managing the properties and, as

was said, on sprucing them up. However, the "purchase price" for the $52-odd million of losses

was a mere $5 million, or less than 10 ¢ for each dollar of potentially usable tax losses. The

payment of that $5 million to STC was moreover contingent on the availability of the losses for

tax purposes. And no time or energy was involved; all that was required was that it be accepted

by the tax authorities. Otherwise, the "purchase price" for the tax losses would simply be nil. To

put it bluntly, the tax losses were ten times the maximum profit expected from the real estate. I

simply do not believe that an investor would not have figured what the real numbers were on

each side of the equation. To be sure, the real estate deal had to make sense and the risk had to be

minimized, as Mr. Kaulius said. The sheer magnitude of the tax reward and its cost compared

with the potential profit from the real estate would have made it attractive to anyone who

specialized in the field and who was knowledgeable, skilled and willing to take the risks.

However, those risks could best be minimized by sharing them with others. On that aspect, there

is clear evidence from both Mr. Kaulius and Mr. Robertson that OSFC could not have utilized

the $52 million in losses and that the decision to syndicate its interest in STIL II was made at the

very outset.

[273]

With regard to Transactions 5 and 6, as stated above, their effect was to spread the

STC losses to arm's length parties. According to the majority of the Federal Court of Appeal in

OSFC (FCA), supra, the first step in determining whether a transaction or series of transactions

constitutes an avoidance transaction is the results test requiring the court to determine whether

the transactions or series of transactions would result in a tax benefit but for the application of

the GAAR. Here the formation of the SRMP Partnership and the purchase of 76% of OSFC's

99% interest in STIL II effected the delivery of what would have have been a tax benefit to the

Appellants but for the application of the GAAR. Transactions 5 and 6 would accordingly result

in a tax benefit but for the application of section 245 of the Act.

[274]

It is worth noting that according to the Federal Court of Appeal in OSFC (FCA),

supra, it is not necessary that the person who obtained the benefit be the person who arranged the

transactions. So, regardless of who arranged and participated in any of the six transactions, the

Appellants' deduction of the allocated losses may still be denied under the GAAR.

[275]

The remaining question with regard to establishing whether Transactions 5 and 6 were

avoidance transactions is what the primary purpose of those transactions was.

[276]

I would remark at the outset that it is somewhat difficult to understand why British

Columbia real estate developers on the one hand and a group of lawyers, a few with experience

in real estate and all residing in British Columbia, on the other would be interested in investing in

third-rate properties that were all located in unfamiliar real estate markets in Ontario, Manitoba

and Saskatchewan. This might appear even more surprising at a time when the real estate market

was depressed and no one could predict with any accuracy when it would recover. Although

developers like Mr. Verlaan and Mr. De Cotiis might have been interested in some specific

properties, globally the properties underlying the Portfolio were, according to the descriptions

provided by Mr. Robertson and Mr. Kaulius, far from impressive. Here again, in my opinion, the

answer lies in the numbers, which speak for themselves.

[277]

In the supplementary submissions by counsel for the Respondent, it was emphasized

that the existence of a significant disparity between the tax benefit and the commercial benefit

suggests that the primary purpose was to obtain a tax benefit. Reference was made to the Federal

Court of Appeal's decision in OSFC (FCA), supra, in which Rothstein J.A., for the majority,

stated at paragraph 51:

The significant disparity between the potential tax benefit to the

appellant of about $52 million and expected returns from the

operation and disposition of the STIL II portfolio strongly suggests

that the appellant's acquisition of Standard's 99% interest in the

STIL II Partnership was not undertaken primarily for bona fide

purposes other than to obtain the tax benefit.

[278]

Further, counsel for the Respondent rejected the Appellants' contention that the

Federal Court of Appeal did not have before it sufficient evidence regarding the commercial

aspect of the transactions. Counsel for the Respondent noted that the documentary evidence

before the Federal Court of Appeal in OSFC (FCA), supra, was essentially the same as that now

before this Court and that the only additional evidence concerned the Appellants' subjective

intention, which is not relevant in determining the primary purpose under subsection 245(3).

[279]

It is worth noting that the majority of the Federal Court of Appeal also commented on

the primary purpose of Transactions 5 and 6. Rothstein J.A. stated at paragraphs 53 and 54:

. . . There is no indication the SRMP partners were involved in, or

knowledgeable about, the rehabilitation and disposition of

distressed mortgages. On the other hand, they would receive 76%

of the tax benefit accruing to SRMP. I think it is a fair inference

that the SRMP partners, other than the appellant, did not invest in

SRMP to participate in the rehabilitation and sale of distressed

mortgage properties. Rather, I think it is apparent from the

documentation that their interest was to obtain their share of the

tax benefit, that is, some $40 million in potential deductions.

The appellant made no secret of the close relationship between its

acquisition of the STIL II Partnership interest and the SRMP

transaction. Without the availability of the tax benefit to the SRMP

partners, the SRMP transaction would not have occurred. I think

therefore, notwithstanding its business purpose in acquiring the

Standard STIL II Partnership interest, that was not the primary

purpose for which the transaction was undertaken. Its primary

purpose was to obtain a tax benefit for itself and to assign to its

SRMP partners that portion of the tax benefit it did not require for

its own purposes, in consideration for a substantial cash payment

and other consideration from those partners.

[280]

Clearly, in the estimation of the majority of the Federal Court of Appeal the primary

purpose of Transactions 5 and 6 was to obtain a tax benefit.

[281]

From my perspective, the evidence presented by the Appellants in these proceedings,

particularly the lengthy description of each property in the Portfolio and the evidence regarding

the difficult negotiations with E & Y, the extensive due diligence work done by OSFC and the

management of the properties, conveys a first impression that the commercial aspect of the

transactions was considerably more important, in both absolute and relative terms, than it was in

reality.

[282]

While the payment for the losses was contingent, the fact remains that the tax benefit

sought would not be obtained independently of the commercial component of the transaction.

Indeed, substantial amounts had to be paid for the Portfolio and the underlying assets, which

were far from first-rate properties. The risks involved were significant and they had a price. All

of which is to say that the Appellants have certainly succeeded in demonstrating that their

primary concern was the real estate aspect of the transactions. It is true that, because of the risks

involved, considerable time and effort had to be spent on minimizing those risks during the

negotiation process with E & Y and thereafter. There is more than ample evidence in this respect.

In my view, all this was done because, at the end of the day, if the tax losses were not accepted

by the authorities, the Appellants would be left only with the real estate, on which they did not

want to lose anything. However, primary concern does not equate with primary purpose.

[283]

Moreover, the concern over the commercial aspect of the deal during the negotiation

process between STC and OSFC might also have been due to a concern about the possible denial

of the tax benefit through the invocation of the GAAR. I would simply note here that, although it

was put forward as a last-minute negotiation tactic, this point is emphasized by the letter from

Peter Thomas to Mr. Drake of E & Y dated May 31, 1993 (Exhibit 98, vol. VII), which proposed

an amended sharing formula for the proceeds so as to increase OSFC's share of profits from the

mortgages in order to satisfy the GAAR and meet the expectation of profits.

[284]

As stated by the majority of the Federal Court of Appeal, the assessment of the

primary purpose of a transaction must be made with reference to the facts and circumstances and

not to statements of intention. As said before, the evidence indicates that the target realization

value of $37.8 million was uncertain and speculative. Given the prevailing real estate market and

the quality of the properties it would have required time and considerable effort to attain that

goal. Further, given the Appellants' pressing need to eliminate the $14.5 million promissory note,

it is clear that the decision to sell some of the properties could not have waited for the real estate

market to make a recovery.

[285]

Regardless, even if one merely weighs the risk inherent in the investment against the

target realization, it is more than doubtful from a commercial perspective that the investment in

the real estate Portfolio would have been made in the absence of immediate access to the

substantial losses of STC.

[286]

In my opinion, the investment in the real estate Portfolio was secondary to obtaining

of the tax benefit. In fact, the returns that the Appellants could reasonably expect to receive were

far less than those anticipated by OSFC. Only when the Portfolio had yielded between $26.7

million and $32.1 million would the Appellants begin to earn any profit from the sale of the

Portfolio.

[287]

It is not disputed that tax losses in the amount of $1,047,690 were allocated to each

Class A unit. Assuming a tax rate of 45%, this would have provided $471,460 in tax savings. If

one were to subtract the additional payment of $125,700 from the losses, the net immediate tax

savings per Class A unit would have amounted to $345,760.

[288]

At $32.1 million in proceeds from the Portfolio, each Class A unit would receive less

than $10,000 in profit. At that level the tax savings would be more than 34 times the before-tax

business profit from the disposition of the Portfolio.

[289]

As a rough approximation, the after-tax business profit would be $5,500 using the

same 45% tax rate. At that point, the tax savings would be more than 62 times the after-tax

business profit. It is not until the proceeds exceed the $32.1 million mark that any real profits

accrue to the Class A unitholders.

[290]

Even if one accepts Mr. Gregory's calculation of a pre-tax return of $67,572 — which

includes the net cash flow and net proceeds from the Portfolio on a realization value of $37.8

million — per Class A unit (Exhibit A-18), the potential tax benefit would still have been more

than 5 times the before-tax business profit. Using the same tax rate of 45%, the approximate

after-tax business profit would be less than $38,000 and the tax savings would still be more than

9 times the after-tax business profit.

[291]

With respect to the Class B unitholders, the tax benefit is even greater. Although, Mr.

Kaulius said that the Class B unitholders did not have to pay for the tax losses, their eventual

aggregate contribution to the additional payment was fixed at only $600,500, being the

difference between the aggregate contribution of $4,399,500 from the Class A unitholders

($125,700 per unit) and the total additional payment of $5,000,000. The Class B unitholders had

no obligation to present a $60,000 letter of credit and to provide $125,700 as security as the

Class A unitholders had to do (Exhibit 35, vol. III, article 3.02, and Diagram 5: Capitalization of

SRMP, July 9, 1993). Thus, each of the 15 Class B units would eventually contribute

approximately $40,033 and receive tax losses of $1,047,690 if those losses were in the end

available. Assuming a tax rate of 45% and subtracting the $40,033 contribution to the additional

payment, the net immediate tax savings per Class B unit would be over $431,000.

[292]

As with the Class A unitholders, at $32.1 million in proceeds from the Portfolio, each

Class B unit would receive less than $10,000 in profit. Assuming a tax rate of 45%, the after-tax

business profit from the Portfolio would be less than $5,500. At this level the tax savings would

be more than 78 times the after-tax business profit from the disposition of the Portfolio. If one

assumes proceeds of $37.8 million, the total profit per Class B unit would be $67,572, the same

as for each Class A unit, as per Mr. Gregory's calculations (Exhibit A-18). Using the same 45%

tax rate, the after-tax return would again be less than $38,000 and the tax benefit would be more

than 11 times higher.

[293]

Mr. Robertson's 1998 calculation of an annual cash-on-cash return of 32.82% on the

Class A unitholders' initial cash investment of $3,850,000 ($110,000 per Class A unit) is nothing

more than hindsight and is not to be taken as evidence of the Appellants' real expectations in

1993. Moreover, the calculation is partly based on an estimate of the value of the remaining

properties and not just on actual proceeds received. The same holds true for the statement that by

the year 2000 $30 million worth of properties had been sold and that the value of the remaining

properties was $8 million. For one thing, hindsight calculations are not evidence of the real

expectations the Appellants had back in 1993. However, they might serve as a further indication

that the short-term target realization dates shown in Exhibit A-16 were not meant to be strictly

adhered to — at least for some properties — in order that the business of the partnership might

be perpetuated. That this was the intention is demonstrated by ample documentary evidence

referred to earlier.

[294]

As I have already said, I do not accept the Appellants' assertion that the potential tax

benefit was merely a deferral. Hence, I do not accept Mr. Cook's calculation, on that basis, of a

tax benefit of only $126,396 in Exhibit A-21. There is more than sufficient documentary

evidence referred to in paragraphs 118 through 121 of these Reasons to indicate that the intent

was definitely not to cease to operate the partnership in the near future.

[295]

It seems obvious from the above calculations that the primary purpose of Transactions

5 and 6 was to obtain the tax benefit. However, there is another point that warrants comment.

There is evidence that most of the Appellants did not bother to calculate or pay any attention to

expected rates of return from the Portfolio. This can be interpreted as a further indication that the

primary purpose was to obtain the tax benefit. In conclusion, I find that Transactions 5 and 6

were avoidance transactions.

[296]

One final point also deserves comment. The Appellants submitted during these

proceedings that where the tax aspect of a transaction is contingent, the tax benefit cannot not be

the primary purpose. As stated by the majority of the Federal Court of Appeal in OSFC (FCA),

supra, simply making the tax aspect contingent will not result in a characterization of the

primary purpose of the transaction as being other than to obtain a tax benefit.

(c)

Avoidance transaction which results in a misuse of the

provisions of the Act or an abuse of the provisions of the Act

read as a whole (subsection 245(4))

[297]

Where it is determined that there is a tax benefit resulting from an avoidance

transaction or a series of transactions that include an avoidance transaction, section 245 will

apply, unless the avoidance transaction does not result in a misuse of a specific provision of the

Act or an abuse of the Act read as a whole. Subsection 245(4) of the Act is a relieving provision

that will prevent the application of section 245 of the Act where it can be shown that the

impugned transaction is not a misuse of a particular provision of the Act or an abuse of the Act

read as a whole.

[298]

In OSFC (FCA), supra, Rothstein J.A. outlined the application of subsection 245(4) as

follows in paragraph 59:

I turn to subsection 245(4). The first question is whether it may

reasonably be considered that any of the avoidance transactions

would result in a misuse of a specific provision or provisions of the

Income Tax Act. If so, the tax benefit resulting from the series will

be denied. If not, it is then necessary to determine whether it may

reasonably be considered that any of the avoidance transactions

would result in an abuse, having regard to the provisions of the

Act, other than section 245, read as a whole. Upon a finding of

abuse, the tax benefit resulting from the series will be denied.

[299]

According to Rothstein J.A., determining whether or not a transaction results in a

misuse or an abuse is a two-step process. At paragraph 67, he stated:

Determining whether there has been misuse or abuse is a two-stage

analytical process. The first stage involves identifying the relevant

policy of the provisions or the Act as a whole. The second is the

assessment of the facts to determine whether the avoidance

transaction constituted a misuse or abuse having regard to the

identified policy.

[300]

The first step involves an assessment of the policy of the specific provisions and of the

Act as a whole. Rothstein J.A. described the assessment of the relevant policy as follows in

paragraphs 68 to 70:

Ascertaining the relevant policy is a question of interpretation. As

such it is ultimately the duty of the Court to make this

determination. There is no onus to be satisfied by either party at

this stage of the analysis. However, from a practical perspective,

the Minister should do more than simply recite the words of

subsection 245(4), and allege that there has been misuse or abuse.

The Minister should set out the policy with reference to the

provisions of the Act or extrinsic aids upon which he relies.

Otherwise he places the taxpayer and the Court in the difficult

position of trying to guess the relevant policy at issue. Trying to

ascertain the policy of a specific provision or of an Act as a whole,

in the case of an Act as complex as the Income Tax Act, is a

difficult exercise, particularly when the transaction in question

conforms to the letter of the Act. Therefore, the Court requires the

assistance of the parties to enable it to reach a correct conclusion.

Nonetheless, with or without that assistance, the Court must

attempt to determine the relevant policy. . . .

It is also necessary to bear in mind the context in which the misuse

and abuse analysis is conducted. The avoidance transaction has

complied with the letter of the applicable provisions of the Act.

Nonetheless, the tax benefit will be denied if there has been a

misuse or abuse. This is not an exercise of trying to divine

Parliament's intention by using a purposive analysis where the

words used in a statute are ambiguous. Rather, it is an invoking of

a policy to override the words Parliament has used. I think,

therefore, that to deny a tax benefit where there has been strict

compliance with the Act, on the grounds that the avoidance

transaction constitutes a misuse or abuse, requires that the relevant

policy be clear and unambiguous. The Court will proceed

cautiously in carrying out the unusual duty imposed upon it under

subsection 245(4). The Court must be confident that although the

words used by Parliament allow the avoidance transaction, the

policy of relevant provisions or the Act as a whole is sufficiently

clear that the Court may safely conclude that the use made of the

provision or provisions by the taxpayer constituted a misuse or

abuse.

In answer to the argument that such an approach will make the

GAAR difficult to apply, I would say that where the policy is clear,

it will not be difficult to apply. Where the policy is ambiguous, it

should be difficult to apply. This is because subsection 245(4)

cannot be viewed as an abdication by Parliament of its role as

lawmaker in favour of the subjective judgment of the Court or

particular judges. In enacting subsection 245(4), Parliament has

placed the duty on the Court to ascertain Parliament's policy, as the

basis for denying a tax benefit from a transaction that otherwise

would meet the requirements of the statute. Where Parliament has

not been clear and unambiguous as to its intended policy, the Court

cannot make a finding of misuse or abuse, and compliance with the

statute must govern.

[301]

Once a policy has been identified the second step requires an assessment of the facts to

determine whether the avoidance transaction constituted a misuse of specific provisions or an

abuse of the Act as a whole having regard to the identified policy. Rothstein J.A. noted that in

carrying out the second step of the subsection 245(4) analysis the onus is on the taxpayer to

prove that the avoidance transaction was not a misuse of a specific provision or an abuse of the

Act as a whole. In this regard Rothstein J.A. stated at paragraph 68:

Of course, at the next stage, once the policy is determined, the

onus remains on the taxpayer to prove the necessary facts to refute

the Minister's assumptions of fact that the avoidance transaction in

question results in a misuse or an abuse.

[302]

In OSFC (TCC), supra, Judge Bowie stated the policy of subsection 18(13) of the Act

in the following terms at paragraph 54:

. . . Subsection 18(13) was enacted as a stop-loss provision, the

object of which is to prevent taxpayers who are in the money-

lending business from artificially realizing losses on assets which

have declined in market value by transferring them to a person

with whom they do not deal at arm's length, while maintaining

control of the assets through the non-arm's length nature of their

relationship with the transferee. The use of that provision to effect

the transfer of unrealized losses from a taxpayer who has no

income against which to offset those losses to a taxpayer which

does have such income is clearly a misuse.

[303]

In OSFC (FCA), supra, Létourneau J.A., speaking for himself, agreed, stating at

paragraph 134:

. . . Subsection 18(13) was not intended to be used by a corporation

to increase the adjusted cost base of a related corporation or

partnership for the purpose of selling its losses to an arm['s] length

corporation.

[304]

Based on the above-stated policy, my assessment would also have been that subsection

18(13) of the Act has been misused. I certainly do not agree with the assertion by counsel for the

Appellants that subsection 18(13) has been used in exactly the way intended by Parliament or

that it is an enabling or permissive provision that can be used to arrive at the result sought here,

for that would mean that Parliament was expressly permitting the transfer of losses between

arm's length taxpayers. Subsection 18(13) was used to effect the transfer of STC's losses to arm's

length parties that had nothing to do with STC's money-lending business. Further, in my view,

that is a misuse of the mechanics of the provision — which was enacted to delay the recognition

of a superficial loss — because the effect of the six transactions is to transfer assets to an arm's

length party at the transferor's cost when that provision was actually intended to cover the

transfer of assets to non-arm's-length parties at the transferor's cost.

[305]

However, in OSFC (FCA), supra, the majority of the Federal Court of Appeal

concluded at paragraph 81 that "none of the avoidance transactions resulted, directly or

indirectly, in a misuse of subsection 18(13)."

[306]

Counsel for the Respondent stated that, although the findings of Létourneau J.A —

who was in the minority — in OSFC (FCA) with regard to the policy of subsection 18(13) were

to be preferred, the findings of the majority in that case were binding on this Court, and that, for

the purposes of the present appeals, the Respondent was adopting and relying on the findings of

the majority. Accordingly, I do not think it would serve any useful purpose to go into detail on

this question.

[307]

However, it is worth noting that counsel for the Appellants submitted that this Court is

not bound by the findings of the Federal Court of Appeal with regard to assessing whether the

transactions constituted a misuse of subsection 18(13) or an abuse of the Act as a whole. Counsel

contended that the findings of the Federal Court of Appeal cannot logically co-exist with

subsequent decisions of the Supreme Court of Canada in Ludco, supra, and Singleton, supra.

Consequently, I would be permitted to fully examine the issue at first instance. However, I take

counsel's submission on this point to mean that this Court should reject both the Federal Court of

Appeal's finding in OSFC (FCA), supra, with regard to the policy of the Act as a whole and the

unanimous conclusion that there was an abuse of that policy.

[308]

I do not agree that the Supreme Court of Canada's recent jurisprudence displaces the

findings of the majority of the Federal Court of Appeal in OSFC (FCA) or relieves this Court

from adopting the stated policy of the majority of the Federal Court of Appeal. The Supreme

Court of Canada did not consider the application of the GAAR in either Ludco or Singleton.

There is no doubt that the Supreme Court of Canada will have the opportunity in the future to

provide guidance on the interpretation of section 245. However, until that time, this Court should

resist the Appellants' enticement to attempt to speak for the Supreme Court of Canada on issues

that have yet to be presented to that Court. Whether or how its decisions in Ludco and Singleton

will influence that Court's interpretation of this very distinct and exceptional statutory rule is not

for me to prophesize.

[309]

Both the majority and the minority decisions of the Federal Court of Appeal in OSFC

(FCA), supra, held that OSFC's acquisition of STC's losses through the acquisition of the latter

corporation's interest in STIL II constituted an abuse of the Act as a whole. After an extensive

review of how losses are treated under the Act, Rothstein J.A., speaking for the majority,

concluded at paragraph 98:

I have no difficulty concluding that the general policy of the

Income Tax Act is against the trading of non-capital losses by

corporations, subject to specific limited circumstances.

[310]

On the issue of whether the transactions constituted an abuse of the relevant policy

with respect to partnerships, the majority of the Federal Court of Appeal concluded that at the

relevant time there was no policy in the Act against the transfer of losses between partners.

Therefore, the transfer of the losses from the partnership to the partners did not constitute an

abuse of the Act as a whole. However, Rothstein J.A. felt that the avoidance transactions had to

be viewed in a wider context. At paragraph 105, he states:

However, to view the avoidance transactions here without taking

account of the wider context would be to ignore relevant facts and

in particular, the result of the series of transactions. What the

avoidance transactions accomplished was the transfer of the loss

from one corporation to another through the mechanism of

subsection 18(13) and the Partnership Rules. Having regard to the

GAAR, these transactions violated the general policy of the Act

against the transfer of losses from one corporation to another.

[311]

He further stated at paragraphs 111 to 114:

It is true, as the Tax Court Judge pointed out, that Standard's

business included dealing with its mortgages and in cases of

default, dealing with the mortgaged properties as well. However,

the loss which was acquired by the appellant from Standard did not

arise from Standard's dealing with distressed properties. It arose

from the lending of money on properties whose value fell

dramatically in the real estate downturn of the late 1980s and early

1990s.

The appellant did not acquire its STIL II Partnership interest to

rehabilitate an unprofitable mortgage-lending business. Standard

was in liquidation. The appellant's sole business purpose (besides

the tax benefit purpose) was to acquire its STIL II Partnership

interest on terms which would enable it to profit from the

management and disposition of distressed properties.

The business of lending money on the security of mortgages may

occasionally include disposing of distressed properties. But the

business of disposing of distressed properties does not include the

business of lending money on mortgages. In these circumstances, I

do not think the policy of the Act is such as to allow losses

incurred in the business of lending money on mortgages to be used

to offset profits in the business of rehabilitating distressed real

properties.

Therefore, I am not satisfied that this exception to the general rule

against the transfer of losses from one corporation to another

would be applicable on policy grounds in this case.

[312]

Counsel for the Appellants submitted both at trial and in the Appellants'

supplementary submissions that there is no general scheme in the Act prohibiting the transfer of

losses; rather there is a series of specific restrictions which apply only in specific circumstances.

Further, counsel argued that the conclusion that there is an abuse of the Act's corporate loss

scheme, and yet no misuse of subsection 18(13), which forms a part of the corporate loss regime,

and no abuse of the Act's partnership scheme constitute contradictory findings that cannot co-

exist.

[313]

Counsel for the Respondent noted that the policy against loss trading between

corporations that the majority of the Federal Court of Appeal found in the Act is a general policy

that overrides specific provisions of the Act or the policy behind them, which would otherwise be

applicable in a non-tax-avoidance context. Therefore, in his opinion, the submission of the

Appellants with regard to an inconsistency in the findings of the majority of the Federal Court of

Appeal has no merit. Further, in counsel's view, the alternative wording of subsection 245(4),

where immunity from the application of the GAAR is only available if the transaction does not

fall within either the misuse or the abuse tests, provides for instances where a transaction is not a

misuse of a specific provision's policy yet is still an abuse of the underlying policy of the Act as a

whole.

[314]

Firstly, as I have already indicated, my own view would be that there has been a

misuse of subsection 18(13) of the Act. However, while I have some difficulty in accepting the

Federal Court of Appeal's conclusion in the present case, I must concede that there is no

inconsistency in finding that there is no misuse of the policy of a specific provision and in

finding at the same time that there is an abuse of the Act read as a whole. The policy behind a

specific provision, especially a very detailed or technical provision that may involve an

arithmetic formula, might not be as clear as the general policy that may be seen when one looks

at the legislation from a global perspective. It is also true that the assessment of each is a separate

issue, a fact that is supported by the alternative wording of subsection 245(4). Although the

policy underlying a specific provision may be instructive for the purpose of determining the

general policy of the Act as a whole on a given subject matter, it is not necessarily determinative.

[315]

Secondly, I find myself in agreement with the general policy articulated by the

majority of the Federal Court of Appeal. The Act indeed contains a general policy against trading

in non-capital losses by corporations, which policy is subject to some specific exceptions. The

analysis by the Federal Court of Appeal need not be repeated here.

[316]

In the current appeals, I must assess whether the ultimate allocation of STC's losses to

the SRMP partners constituted an abuse of the Act's policy against the trading of non-capital

losses by corporations and, in a more general way, by any taxpayers. Obviously, if the losses

originated in the SRMP Partnership or the STIL II Partnership then the Appellants' access to the

losses through the purchasing of a partnership interest would not be an abuse of the policy

against the trading of non-capital losses. However, in the present appeals, as in OSFC (TCC),

supra, and OSFC (FCA), supra, the losses stem from STC, not the partnerships. What

Transactions 1 through 6 accomplish is the transfer of one corporation's losses to other

corporations and individuals. This is an abuse of the above-stated policy. The transfer of losses

by one taxpayer to another is definitely not permitted under the Act except in the case of

corporations, in very limited circumstances, pursuant to subsection 111(5). This was stated by

Rothstein, J.A. at paragraph 87 in OSFC (FCA), supra, "[g]enerally, there is no provision for the

sale of a loss to an arm's length purchaser as if it were inventory of the business", and by

Létourneau J.A. at paragraph 135, as if it were a "marketable commodity" referring to what

Judge Bowie had said in OSFC (TCC), supra, at paragraph 58. As a matter of fact, the losses

claimed had nothing to do with SRMP's business of managing, through OSFC, the underlying

properties of the Portfolio in order to maximize the income and the eventual proceeds on

disposition. They were from the outset and throughout STC's losses from its money-lending

operations, incurred and crystallized before the Appellants even contemplated entering into their

transactions.

[317]

Further, I would note that, for the purpose of these appeals, I accept the Respondent's

submission that the majority's conclusion that there is a general policy against the trading of

losses between corporations is in fact wider, and that, as a matter of the Act's general policy,

losses cannot be transferred from one taxpayer to another. This general policy is evident from the

structure of the Act.

[318]

In OSFC (FCA), supra, Rothstein J.A. stated the following at paragraph 85:

I agree with the respondent that under the Income Tax Act, every

person has an independent status and is liable for tax on that

person's taxable income. It would also appear that, as a general

policy, losses cannot be transferred from one taxpayer to another.

(See, for example, Hogg, Magee and Cook, supra, at page 406.)

[319]

In paragraphs 86 to 97, Rothstein J.A. undertook a closer examination of the rationale

of the policy and of the limited exception in the case of corporations. I agree with his

conclusions.

[320]

One further issue raised in the supplementary submissions of the Appellants warrants

discussion. The Appellants submitted that the implication of the Federal Court of Appeal's

decision is that the GAAR can be used to prohibit a taxpayer from structuring a commercial

transaction by choosing among co-existing schemes in the Act. In counsel's view, this

implication and approach is inconsistent with the Supreme Court of Canada's most recently

articulated policy in the Shell, supra, Ludco, supra, and Singleton, supra, decisions. In support of

this argument, counsel for the Appellants referred the Court to excerpts from those recent

Supreme Court of Canada cases.

[321]

Hence, in Shell, supra, at paragraph 46, the Supreme Court stated that ". . . in the

absence of a specific statutory bar to the contrary, taxpayers are entitled to structure their affairs

in a manner that reduces the tax payable . . . ."

[322]

In Singleton, supra, at paragraph 28, referring to the above statement, the Court added

that "[t]he fact that the structures may be complex arrangements does not remove the right to do

so."

[323]

In Ludco, supra, at paragraph 38, the Court said:

Furthermore, when interpreting the Income Tax Act

courts must be mindful of their role as distinct from that of

Parliament. In the absence of clear statutory language, judicial

innovation is undesirable: Royal Bank of Canada v. Sparrow

Electric Corp., [1997] 1 S.C.R. 411, at para. 112. Rather, the

promulgation of new rules of tax law must be left to Parliament:

Canderel Ltd. v. Canada, [1998] 1 S.C.R. 147, at para. 41. As

McLachlin J. (now C.J.) recently explained in Shell Canada Ltd. v.

Canada, [1999] 3 S.C.R. 622 at para. 43 . . . . .

The Court further stated at paragraph 39:

In addition, given that the Income Tax Act has many

specific anti-avoidance provisions and rules, it follows that courts

should not be quick to embellish the provisions of the Act in

response to concerns about tax avoidance when it is open to

Parliament to be precise and specific with respect to any mischief

to be prevented: Neuman v. M.N.R., [1998] 1 S.C.R. 770, at para.

63, per Iacobucci J . . . .

[324]

Here again, I find myself in agreement with the Respondent: the Federal Court of

Appeal's decision does not say that the GAAR can be used to prohibit a taxpayer from

structuring commercial transactions by choosing among co-existing schemes in the Act. Rather,

all the GAAR does is deny a tax benefit where it is determined that the transactions contravene a

clear policy of a provision or a policy of the Act read as a whole. Again, the Ludco, supra, and

Singleton, supra, cases did not involve the GAAR and thus neither can be said to enlighten this

Court as to the relevant interpretation of the GAAR. Moreover, while, as the Supreme Court of

Canada said, judicial innovation is undesirable in the absence of clear statutory language

subsection 245(4) clearly mandates an inquiry as to Parliament's policy. As Rothstein J.A. stated

in OSFC (FCA), supra, at paragraph 70 of his reasons, which I reproduce again: