RJ McLeod Investments Inc v McLeod, 2021 ABQB 439

Court of Queen’s Bench of Alberta Citation: RJ McLeod Investments Inc v McLeod, 2021 ABQB 439 Date: 20210603 Docket: 2001 10399 Registry: Calgary Between: R.J. McLeod Investments Inc. Plaintiff - and - Roderick J. McLeod and the Attorney General of Canada Defendants _______________________________________________________ Reasons for Decision of the Honourable Madam Justice J.C. Price _______________________________________________________ I. Introduction [ 1 ] R.J. McLeod Investments Inc. (“RJM”), after declaring and paying dividends to its sole shareholder Roderick J. McLeod, got an unexpected tax bill.

It asks this Court to grant an Order for rescission or rectification reversing the declaration and payment of the dividends. [ 2 ] RJM and Mr. McLeod assert that the intention was to pay capital dividends on a tax-free basis from, and only in an amount

equal to, RJM’s capital dividend account (“CDA”). They say that their tax advisor thought RJM had a significant CDA when, in fact, its CDA balance was nil. [ 3 ] The issue in this Application is whether rescission or rectification is available to RJM and Mr. McLeod and, if so, whether the Court should exercise its discretion to grant such relief . If the equitable relief is not granted, either RJM or Mr. McLeod will have to pay tax on the dividends. The Attorney General of Canada opposes the Application. [ 4 ] For the reasons that follow, I dismiss the Application. II.

Background Facts [ 5 ] RJM is a corporation existing under the laws of the Province of Alberta. It owns a range of investments, including shares and other securities of both public and private companies. Mr. McLeod is the president, sole director and sole shareholder of RJM. He is a lawyer who specializes in real property law. [ 6 ] RJM and Mr. McLeod have had various tax advisors. Between 2002 and 2009, their principal tax advisor was Luna Taniguchi Nicoll Schmidt. Between 2009 and August 25, 2014, their principal tax advisor was Adams MacFarlane Chartered Accountants (“Adams MacFarlane”).

Since August 25, 2014, their principal tax advisor has been Buchanan Barry LLP (“Buchanan Barry”). [ 7 ] Mr. McLeod deposed that he was advised by Adams MacFarlane sometime on or before August 27, 2013 that: a. RJM had a CDA balance of $563,027; and b. RJM could elect under subsection 82(2) of the Income Tax Act (Canada) to deem the payment of one or more dividends to its sole shareholder (himself) to be tax-free capital dividends to the extent of that CDA balance. [ 8 ] Mr.

McLeod says he understood from Adams MacFarlane that neither he nor RJM would pay tax if he received a capital dividend in an amount less than or equal to RJM’s CDA balance. [ 9 ] There is no dispute that capital dividends may be paid tax-free by private corporations to their Canadian-resident shareholders from the corporation’s CDA, which tracks various tax-free amounts that have been accumulated by the corporation. The CDA is a running balance account which is reduced by capital dividends paid.

To pay a capital dividend, the corporation must make an election to designate the entire amount of the dividend as a capital dividend by filing certain forms and documents with the Canada Revenue Agency (“CRA”). If the amount elected as a capital dividend exceeds the corporation’s CDA balance, only the amount of the CDA balance will be a capital dividend. The amount that exceeds the CDA balance will be subject to tax payable by the corporation and/or the recipient shareholder: see Income Tax Act , RSC 1985, c. 1 (5 th Supp ), ss 75(2), 82(1), 83(2), 89(1), 121, 184(2), 184(3) and 184(f).

See also Income Tax Folio S3-F2-C1 , Capital Dividends Date modified: 2019-07-25. [ 10 ] Allegedly, Adams MacFarlane, in the computation of RJM’s CDA balance, failed to take into account that RJM had paid a capital dividend to Mr. McLeod in the amount of $641,649 on June 16, 2007. A copy of the director’s resolution and prescribed form, both signed by Mr. McLeod dated June 7, 2007, are in evidence before me. [ 11 ] In or about 2013 and 2014, on instruction from Mr. McLeod, Adams MacFarlane prepared the necessary forms for capital dividends to be paid to Mr. McLeod from RJM.

The prescribed forms and director’s resolutions were executed by Mr. McLeod and the following dividends were declared and paid by RJM to Mr. McLeod: a. a $200,000 dividend was declared and paid in cash on September 1, 2013; b. a $200,000 dividend was declared and paid in cash on March 1, 2014; and c. a $150,000 dividend was declared and paid by the issuance of a non-interest bearing promissory note on September 1, 2014 (collectively, the “Dividends”). [ 12 ] Mr. McLeod deposed that at the time the Dividends were declared and paid, he had no current or anticipated need for the funds.

They were comingled and invested with his personal investment account. There is no evidence before me of the details of the investments nor of whether they incurred profits or losses. [ 13 ] Neither RJM nor Mr. McLeod takes any responsibility in the miscalculation of RJM’s CDA balance. Mr. McLeod deposed that he would not have authorized payment of the Dividends if he had been aware that RJM’s CDA was nil. [ 14 ] Mr. McLeod deposed that he prepared the director’s resolutions from precedent documents he received from Adams MacFarlane.

He takes no responsibility for the terms of the resolutions and deposed that he relied entirely on the advice of Adams MacFarlane, in particular that the Dividends would be tax free. [ 15 ] Mr.

McLeod was questioned about one of the terms in the director’s resolutions, which reads as follows: It is further RESOLVED that should any subsequent determination be made by any competent taxing authority that an insufficient amount exists in the Corporation’s Capital Dividend Account for payment of this dividend, the Corporation intends, in accordance with the Income Tax Act of Canada , to deem the excess amount to be paid as an eligible dividend pursuant to Subsection 89(14) of the said Act.

In the event that any competent tax authority determines that an insufficient amount exists in the General Rate Income Pool for the payment of the above referenced dividends then the excess amount shall be treated as a non-eligible dividend.

[ 16 ] Mr. McLeod testified that he inserted this term into each of the director’s resolutions declaring the Dividends based on his accountant’s advice that it was necessary. The transcript from the questioning reads as follows: A. ... I prepared the document that is part of Exhibit C. To be honest with you, that paragraph you read was Greek to me; I – it meant nothing to me. I didn’t realize that it had the import it now has. Q. And did you read it before you put it in the resolution? A. Yes, I did. In fact, well, I typed it.

I prepared this resolution of the director that you’re looking at, and I sent it to McFarlane and asked him if it was what he had in mind, is this what he wanted. And he gave me – he gave his blessing, and I signed it. Q. And when you were typing it and putting it in, what did you think it meant? A. I just thought it was a standard clause that would be inserted in a document like this. It – it – it really didn’t – I didn’t think it was problematic. Q. And what did you think the effects of this standard clause was that you were typing in? A. You know, I can’t recall addressing my mind to it.

He told me that I had the capital dividend account; I believed him. This was the next step, and I was doing what I was told. You know, I was not – I’m a lawyer, but I wasn’t a corporate lawyer. You know, I did primarily real property work. And so I just did what I was told thinking that it was the right thing to do. Q. So I have to ask, as a real property lawyer, is it your practice or are you comfortable including provisions in documents that you don’t understand? A. No, not – no, I wouldn’t do that. I -- this paragraph was provided to me by my chartered accountant.

He told me that it was necessary for it to be included in this resolution, and I did what I was told. It meant nothing. Q. And did he tell you why it was necessary? A. Not that I recall. Q. And did you ask? A. You know, I can’t remember if I asked him or not to be fair, to be honest, I don’t know. [ 17 ] After RJM paid the Dividends to Mr. McLeod and made the capital dividend elections, it received three separate letters each dated January 5, 2015, from the CRA informing it that it had made excessive capital dividend elections and that the Dividends would be subject to tax under

Part III of the Income Tax Act at a rate of 60 percent. In the letters, the CRA proposed two alternative options to the assessment of

Part III tax, both of which would characterize the Dividends as dividends taxable to Mr. McLeod. [ 18 ] Litigation ensued, which included the following steps: a. RJM filed this Application on September 3, 2020. In support of the Application, affidavits were sworn by Mr. McLeod on August 14, 2020 and by Mark Rintoul, a member-partner of Buchanan Barry, on August 31, 2020, both of which were filed on September 3, 2020; b. The Attorney General of Canada was added as a Respondent by consent on September 21, 2020; c. Questioning was held on October 9, 2020 and Mr. McLeod was cross-examined on his affidavit.

The following documents were made exhibits to the questioning: i. Affidavit of Mr. McLeod sworn January 28, 2020. That affidavit is almost identical to the affidavit sworn by Mr. McLeod on August 14, 2020; ii. Transcript of the oral questioning of Mr. McLeod held February 21, 2020 on Mr. McLeod’s affidavit sworn January 28, 2020; iii. Amended Statement of Claim filed June 13, 2017 by Mr. McLeod and RJM against Gary Luna and Jeffrey MacFarlane for damages arising from alleged breaches of duty and negligence relating to RJM’s CDA; iv.

Statement of Defence filed February 2, 2018 by Jeffrey MacFarlane denying any breach and/or negligence; v. Statement of Defence filed October 10, 2019 by Gary Luna denying any breach and/or negligence. d. On November 26, 2020, Arlene Manson, a Senior Individual Services Agent with the CRA, affirmed an affidavit in response to the Application; e. On October 14, 2020, the Application was adjourned by consent order to a special chambers date to be confirmed by the Court Coordinator.

Ultimately, that special chambers application was heard by me on March 17, 2021. [ 19 ] My review of the pleadings in the action commenced by RJM and Mr. McLeod against their former tax advisors, Jeffrey MacFarlane and Gary Luna, indicates that they blame one another for failing to record or consider the 2007 capital dividend of $641,649. Among other things, Mr. MacFarlane faults Mr.

McLeod for neglecting or failing to disclose to him that RJM previously had declared and paid dividends out of its CDA and for signing an election form in 2013 that incorrectly stated no previous capital dividend election had been made.

[ 20 ] RJM’s and Mr. McLeod’s Amended Statement of Claim against their former tax advisors states that “the Plaintiffs elected to proceed with an Application to the Court of Queen’s Bench for rectification and reversal of the wrongfully declared capital dividends”. At questioning on October 9, 2020, Mr. McLeod stated that the claim was on hold pending the outcome of the within Application. [ 21 ] There is no dispute that RJM intended to and did in fact declare capital dividends to Mr. McLeod in the total amount of $550,000. However, RJM and Mr.

McLeod assert that they intended to do so only on the basis that the Dividends would be tax free. They argue that it would be unconscionable, unfair and/or inequitable in the circumstances, that being the mistake made by their accountant in calculating RJM’s CDA balance, for either of them to have to pay tax on the Dividends. To obviate this problem, they ask this Court to grant them equitable relief reversing the declaration and payment of the Dividends. III. Issue [ 22 ] As earlier stated, the issues in this Application are whether rescission or rectification is available to RJM and Mr.

McLeod and, if so, whether the Court should exercise its discretion to grant either equitable relief reversing the declaration and payment of the Dividends. IV. Law and Analysis [ 23 ] Equitable remedies, including rescission and rectification, are discretionary judicial remedies. Whether such a remedy will be granted depends on the facts of each case. A. Is Rescission Available to RJM and Mr. McLeod? [ 24 ] The purpose of rescission is to eliminate an unfair benefit one party to a contract has received due to a mistake made by one or both parties.

This is achieved by cancelling and unwinding the contract and issuing whatever ancillary orders are necessary to put the parties back into their pre-contract positions: see GHL Fridman, The Law of Contract in Canada , 6 th ed (Toronto: Carswell, 2011), at pp 762 and 771-772. [ 25 ] In Stone’s Jewellery Ltd v Arora, 2009 ABQB 656 at paras 28 , 47-57, this Court articulated the following criteria for granting rescission of a contract on equitable grounds: i. the applicant has made a mistake with respect to a contract; ii. it would be unfair, unjust or unconscionable not to correct the mistake; iii. there is no other adequate legal remedy available; iv. seeking rescission is not a form of retroactive tax planning; and v. there would be no prejudice to any third parties. [ 26 ] Further guidance with respect to rescission was provided by the Court of Appeal in Beazer v Tollestrup Estate , 2017 ABCA 429 .

Citing Stone’s Jewellery , the Court of Appeal stated at para 27: At common law, mistakes as to the quality or value of the subject matter, rather than the identity of the subject matter, cannot render a contract void ab initio unless the mistake is fundamental to the contract: Bell at 218; Fridman at 242. Moreover, the mistake must go to the parties’ intention to contract rather than the motivation for doing so: Fridman at 243; [ Stone’s Jewellery ] at para 27. The equitable doctrine of mistake arises when a mistake renders the enforcement of a contract unconscionable: Solle v.

Butcher (1949), [1950] 1 K.B. 671 (Eng. C.A.) at 692, [1949] 2 All E.R. 1107 (Eng. C.A.) . Because of the mistake, the contract is voidable and rescission can be granted. Rescission is a discretionary remedy and available even where the mistake is insufficient to render the contract void ab initio at common law: Stone’s Jewellery at paras 28-30. [ 27 ] In this case, what is at issue is not a contractual agreement per se , but the declaration and payment of dividends. Significantly, the alleged “mistake” was not the declaration and payment of the Dividends, but the tax consequences thereof. RJM and Mr.

McLeod, operating on the erroneous advice of their former tax advisor, mistakenly thought the Dividends would be effectively tax free. [ 28 ] In support of their application, RJM and Mr.

McLeod cite Collins Family Trust v Canada (Attorney General) , 2020 BCCA 196 for the proposition that rescission is an available remedy in tax-driven cases such as this notwithstanding the decisions of the Supreme Court of Canada in Canada (Attorney General) v Fairmont Hotels Inc , 2016 SCC 56 and Jean Coutu Group (PCJ) Inc v Canada (Attorney General) , 2016 SCC 55 , both of which I will discuss in more detail later in these Reasons. [ 29 ] In Collins , relying on Re Pallen Trust , 2015 BCCA 22 , the British Columbia Court of Appeal granted rescission of dividends paid in 2008 and 2009.

The Court held at para 4: [T]hat neither Fairmont nor Jean Coutu , have undermined the principles expressed and applied in Pallen Trust regarding the availability of rescission on the particular facts of that case. [ 30 ] It was brought to my attention at the hearing of this Application that the Crown has sought leave to appeal Collins to the Supreme Court of Canada. Accordingly, the Attorney General of Canada urged me not to follow the British Columbia Court of Appeal cases cited by RJM and Mr. McLeod. I note that on March 25, 2021, the Supreme Court of Canada granted leave to appeal Collins . I

take judicial notice of the BCCA cases but, as the law in that province is not binding on this Court, my focus and attention is on the law of Alberta and the binding authorities of the Supreme Court of Canada. [ 31 ] I turn, then, to the criteria set out in Stone’s Jewellery . [ 32 ] I do not find it unconscionable, unfair or inequitable that the Dividends willingly declared and paid by RJM to Mr. McLeod should result in a tax liability. Mr. McLeod, as the sole director and shareholder of RJM, was in a position to know whether he previously had received dividends from RJM’s CDA.

While it is not for me to decide the claims advanced by RJM and Mr. McLeod against their previous tax advisors, for purposes of this Application, I do not consider it inequitable that RJM and Mr. McLeod should bear some responsibility for the result of the Dividends. In any event, the mistake was not in respect of the transaction itself, but its effect. [ 33 ] Next, I reject RJM’s and Mr. McLeod’s argument that there are “no relevant” alternative remedies available to them. In addition to the legal action against their former tax advisors, other alternative remedies available to RJM and Mr. McLeod include: i.

They can elect to treat the excessive capital dividends as regular dividends so they are taxed at Mr. McLeod’s marginal tax rate of up to 19.29% instead of at the 60%

Part III tax rate. I note that the resolutions Mr. McLeod prepared to declare the Dividends explicitly contemplate this legislatively available remedy. ii. As set out in the written argument and authorities of The Attorney General of Canada, the Minister of National Revenue has broad discretion to:

a) cancel interest or penalties otherwise payable under section 220(3.2) of the Income Tax Act , and

b) grant permission to revoke an election for a capital dividend under section 83(2) of the Income Tax Act . iii. As submitted by The Attorney General of Canada, RJM and Mr. McLeod may apply to the Governor in Council for an order remitting their liability to pay tax on the Dividends pursuant to

section 23 of the Financial Administration Act . [ 34 ] RJM and Mr. McLeod may or may not succeed in pursuing any of these remedies. Indeed, some may even be considered “long shots”. Nevertheless, the question is not whether RJM and Mr. McLeod will be successful in pursuing such alternative relief, but whether there is a remedy at law: see Canada Life Insurance Company of Canada v Canada (Attorney General) , 2018 ONCA 562 paragraph 92 . I find that there are adequate alternative remedies that may be pursued. [ 35 ] Next, I find that what RJM and Mr.

McLeod are asking this Court to do is a form of retroactive tax planning. While they do not like the tax effect of their transaction, it has been complete for several years and Mr. McLeod has had the benefit of the funds in his personal investment account. I agree that the Court should not help taxpayers circumvent measures enacted by Parliament by reversing transactions only to avoid tax liability. [ 36 ] Lastly, I find that prejudice to third parties is not relevant in these circumstances. If rescission is granted, Mr. McLeod will be subject to tax if and when the funds are paid out as ordinary dividends.

I note that the Attorney General of Canada made no mention of this factor in her brief or oral submissions. [ 37 ] On review of the facts of this case and the factors that must be established, I find that rescission is not available to RJM and Mr. McLeod for the mistake allegedly made by their former tax advisors. B. Is Rectification Available to RJM and Mr. McLeod? [ 38 ] In the alternative, RJM and Mr. McLeod seek rectification of the director’s resolutions and promissory note to reduce the amount of the Dividends and promissory note to zero.

I agree with the Attorney General of Canada that rectification is not available in this case. [ 39 ] Rectification is a retroactive correction of written instruments that do not accurately express the intent of the parties: Fairmont at paras 12 and 38. It is an equitable remedy that is available where the parties were in agreement on the terms of their contract but failed to record them correctly.

It aligns the instrument with what the parties agreed to do, not what, with the benefit of hindsight they should have agreed to do: Fairmont at paras 78 and 79. [ 40 ] This Court has recognized that rectification may be available where the parties can establish that their agreement was intended to produce a specific tax outcome but failed to do so because the plan was implemented improperly: Baytex Energy Ltd v Canada (Attorney General) , 2015 ABQB 276 at paras 28 and 31 . [ 41 ] The Court in Baytex at para 30, citing Performance Industries Ltd v Sylvan Lake Golf & Tennis Club Ltd. , 2002 SCC 19 at paras 31 , 37 and 40, held that, in order to obtain rectification, the parties must get over the following “high hurdles”: 1.

The existence and content of a “definite and ascertainable” prior oral agreement; 2. That the agreement was in effect at the time the instrument sought to be corrected was executed; 3. That the written instrument is inconsistent with the prior agreement; and 4. The precise form in which the written instrument can be made to express the prior intention. [ 42 ] Each rectification case must be assessed on its facts having regard to these criteria.

In Fairmont at para 3, Justice Brown succinctly summarized the circumstances in which rectification may be available: Rectification is limited to cases where the agreement between the parties was not correctly recorded in the instrument that became the final expression of their agreement: [citations omitted]. It does not undo unanticipated effects of that agreement: [citations omitted].

While, therefore, a court may rectify an instrument which inaccurately records a party’s agreement respecting what was to be done, it may not change the agreement in order to salvage what a party hoped to achieve. Moreover, these rules confining the availability of rectification are generally applicable, including where (as here) the unanticipated effect takes the form of a tax liability.

To be clear, a court may not modify an instrument merely because a party has discovered that its operation generates an adverse and unplanned tax liability. [ 43 ] In Jean Coutu , the companion case to Fairmont , Justice Wagner stated at para 43: I recognize that “[i]ncome tax law is notoriously complex and many taxpayers rely on tax advisors to help them comply”: Guindon v. R., 2015 SCC 41 , [2015] 3 S.C.R. 3 (S.C.C.), at para. 1 .

But when taxpayers agree to certain transactions and later claim that their advisors made mistakes by failing to properly advise them that the transactions they agreed to would produce unintended tax consequences, the appropriate avenue to recoup their ensuing losses is not through the retroactive amendment of their agreement .

Rather, if the mistakes are of such a nature as to warrant it, taxpayers can bring a claim against their advisors, who generally have professional liability insurance, and try to prove that claim in the courts. [Emphasis added]. [ 44 ] In an unreported decision cited by the Attorney General of Canada, Alexei Melnitchouck and Intelmax Corp v Her Majesty the Queen in Right of Canada , Action No. 1801 01460, on March 28, 2019, Justice Marriott, relying on Fairmont and Jean Coutu , dismissed an application for rectification on facts similar to those in this case.

The applicants in Intelmax, relying on advice from their tax advisor, triggered a tax liability because the CDA balance of the corporation was less than the capital dividends declared and paid. In her oral decision, Justice Marriott found that where a taxpayer receives and acts on incorrect advice that a capital dividend can be paid tax free, rectification cannot be used to undo the payment of the dividend.

I agree with Justice Marriott that it is not the role of this Court in a rectification application to cure a defective resolution entered into on professional advice. [ 45 ] As was stated in Fairmont , rectification is a “potent remedy” and should be used with “great caution”. It should not be used as a substitute for due diligence for to do so may undermine the confidence of the commercial world in written contracts: Fairmont at para 13. In this case, there were no errors made in the preparation of the director’s resolutions; the error was in the calculation of RJM’s CDA balance.

What the parties failed to do was conduct the proper due diligence necessary to accurately calculate RJM’s CDA balance. [ 46 ] On the record before me, it is clear that RJM and Mr. McLeod intended to declare and pay the Dividends. The mistake was not in recording or drafting the director’s resolutions or promissory note, but rather a misapprehension as to the tax effect. Whether or not Mr. McLeod needed the funds is not relevant. To “rectify” the Dividends to nil would not bring them in line with RJM’s and Mr. McLeod’s intention, but rather would cancel the transaction altogether. RJM and Mr.

McLeod are asking this Court to “rectify” a mistake in the transaction itself, not the recording of it. [ 47 ] It is worth repeating here what was stated by Justice Brown in Fairmont at para 13: “rectification is unavailable where the basis for seeking it is that one or both of the parties wish to amend not the instrument recording their agreement, but the agreement itself”. Giving due consideration to the Supreme Court of Canada’s decisions and the “high hurdles” that must be overcome, I find that rectification is unavailable on the facts of this case. V.

Conclusion [ 48 ] Based on the facts before me and the law in Canada on equitable relief, neither rescission nor rectification is available to RJM and Mr. McLeod in this case. The Application for an order rescinding or rectifying the director’s resolutions and the subsidiary orders applied for is dismissed. [ 49 ] As the successful party, the Attorney General of Canada is entitled to costs.

If counsel cannot resolve the issue of costs, counsel for the Attorney General of Canada shall submit written costs submissions not to exceed five pages with a Bill of Costs and any Offer to Settle attached within 45 days of the issuance of these written reasons. Counsel for RJM Inc. and Mr. McLeod shall submit their written response not to exceed five pages with any Offer to Settle and a Bill of Costs, if desired, within 30 days of receipt of the Attorney General of Canada’s costs submissions. All submissions are to be filed and copies provided to me through my judicial assistant.

Heard on the 17 th day of March, 2021. Dated at the City of Calgary, Alberta this 3 rd day of June, 2021. J.C. Price J.C.Q.B.A. Appearances:

Dan V. Misutka for R.J. McLeod Investments Inc. and Roderick J. McLeod Valerie Meier for the Attorney General of Canada