On April 22, 2008, the important decision of Prevost was released by the Tax Court of Canada. The facts in Prevost were quite straightforward:
- Prevost was a Canadian corporation at all relevant times. Its shareholder was a foreign corporation – Prevost Holding B.V. – that was resident in the Netherlands.
- Prevost Car Inc. paid dividends to its parent non-resident shareholder in 1996, 1997, 1998, 1999, and 2001.
- When Prevost Car Inc. paid the dividends to its non-resident shareholder, it withheld tax, which is a necessary withholding pursuant to subsections 212(1) and 215(1) of the Income Tax Act. However, Canada has a tax treaty with the Netherlands and pursuant to Paragraph 2, Article 10 of the treaty, it reduced the withholding rates from the normal rate of 25% to 5%.
- The CRA reassessed Prevost Car Inc. on the basis that the “beneficial owner” of the dividends were the corporate shareholders of Prevost Holding B.V. – who were residents of the United Kingdom and Sweden. The reassessment increased the withholding rate from the 5% that Prevost Car Inc. had withheld to 15% and 10% for certain amounts of the dividends relying upon the Canada-Sweden tax treaty and the Canada-UK tax treaty.
Accordingly, the case turned on whether or not the beneficial owners of the dividends were in fact the corporate shareholders of Prevost Holding B.V. Paragraph 2 of Article 10 of the Canada-Netherlands treaty reads as follows:
“However, such dividends may also be taxed in the State of which the company paying the dividends is a resident, and according to the laws of that State, but if the recipient is the beneficial owner of the dividends the tax so charged shall not exceed:
a) 5 per cent of the gross amount of the dividends if the beneficial owner is a company…”
Accordingly, as already mentioned, the case turned on the interpretation of the phrase beneficial ownership. The Court provided an interesting analysis of what the phrase beneficial ownership means. The Court also analyzed a recent England and Wales Court of Appeal decision that was called upon to interpret the term beneficial ownership within the context of the civil law of Indonesia, Indofoods. Indofoods obtained notoriety a couple of years ago when the decision was released and tax practitioners have been waiting for its application in Canada. To my knowledge, this is one of the first decisions in Canada that has referenced Indofoods.
After its lengthy analysis of what the phrase beneficial ownership means, the Court found that Prevost Holding B.V. was in fact the beneficial owner of the dividends and not the Swedish and United Kingdom shareholders. Accordingly, the reassessments by the CRA will be reversed pending the CRA’s possible appeal. It will be interesting to see whether or not the CRA appeals this decision. It is also interesting to see the CRA tactics in that it ignored the form of legal ownership and instead appeared to apply substance in the application of tax law. Absent sham, the Canadian Courts have consistently recently held that legal form matters. Accordingly, this decision is comforting and would appear to set the CRA back in future possible cases of this type pending a possible appeal.