Ludmer v. Attorney General of Canada, 2020 QCCA 697

The Canadian-resident taxpayers were shareholders of a BVI company (“SLT”) which, in turn, held notes issued by two foreign subsidiaries of two Canadian banks. The notes were payable in 15 years’ time and the amount payable was calculated by reference to the performance of a reference portfolio of equities or bonds.

CRA considered that there was a requirement to recognize deemed interest income on the notes under Reg. 7000(2)(d) given that, in contrast to the usual equity-linked notes that were available to investors at the time, these notes had “internal puts,” i.e., SLT had the right to terminate the notes at any time, on 367 days’ notice, at the market value of the reference assets. On this basis, it considered that the “the maximum amount of interest thereon that could be payable thereunder in respect of that year” was the difference between the maximum value of the reference assets at the end of the year and the maximum value in the prior years, and assessed accordingly, to treat such annual increase as foreign accrual property income of SLT under element A of the s. 95(1) FAPI definition.

In rejecting the Crown’s position that the trial judge erred in awarding damages stemming from his finding that CRA’s assessing position based on Reg. 7000 was inconsistent with its past practice, Schrager JA stated (at para. 67):

What the trial judge ruled as unreasonable was the lack of consistency and publicity. The CRA sought to apply a position solely to the Appellants, choosing to ignore that other equity-linked notes had pre-maturity redemption rights (albeit at the initiative of the holder rather than the issuer as was the case with SLT). Moreover, the CRA did not publicize its position adopted with respect to the Appellants apparently because of the plethora of equity-linked notes issued by Canadian financial institutions. All of this led him to the conclusion that the results ought by those spearheading the assessments was dictated by an unreasonable approach. I am consequently not convinced of any reviewable error in the trial judge’s conclusions that the conduct of the CRA in arriving at and applying the assessing position under Regulation 7000 was, in the circumstances of the case, unreasonable and, as such, constituted a fault

CRA made unreasonable reassessments with the knowledge that they were contrary to advice received from Rulings, offered in a settlement offer to settle elements that it knew it was going to abandon, failed to honour a commitment to give notice of the reassessments and delayed disclosures under the Access to Information Act process and made an inquiry with the Bermuda authorities that falsely stated that it was made in connection with a "criminal" investigation. In light of these and other failings by CRA, Hamilton JCS awarded the taxpayers approximately $4.8 million in damages,. In dismissing the taxpayers’ submissions that punitive damages should also have been awarded, Schrager JA stated (at paras. 102, 104):

The conduct of the CRA in performing the audits, driving the file, responding to ATIA requests and issuing the assessments and, finally, the manner of resolving the assessments was, as the trial judge ruled, abusive and constitutive of fault. However, wrongful, even reckless or negligent conduct, is not sufficient to justify the imposition of punitive damages. …

[T]o succeed, the claim for punitive damages must rest upon a finding of intentional conduct and an unlawful deprivation of property. … The deprivation (if the word is appropriate) intended by the CRA was the payment of monies in satisfaction of tax assessments issued in accordance with the ITA and the Income Tax Regulations. However abusive the CRA’s conduct might have been, it is difficult to subscribe to the Appellants’ arguments that there was here an intention to unlawfully deprive the Appellants of their property.