Duha Printers (Western) Ltd. v. Canada, 1998 SCC 827

Duha Printers (Western) Ltd. v. Canada, [1998] 1 S.C.R. 795

Duha Printers (Western) Ltd. Appellant

v.

Her Majesty The Queen Respondent

Indexed as: Duha Printers (Western) Ltd. v. Canada

File No.: 25513.

1998: March 17; 1998: May 28.

Present: L’Heureux‑Dubé, Gonthier, McLachlin, Iacobucci, Major, Bastarache and Binnie JJ.

on appeal from the federal court of appeal

Income tax -- Deductions from income -- Non-capital losses -- Amalgamation of corporations -- Predecessor corporation -- Meaning of “control” -- Corporation acquiring shares of inactive company in order to take advantage of its accumulated non-capital losses -- Corporation amalgamating with inactive company -- Whether change in control prevented corporation from deducting inactive company’s non-capital losses -- Whether unanimous shareholder agreement to be considered in assessing who has de jure control of corporation -- Income Tax Act, R.S.C. 1952, c. 148, ss. 87(2.1), 111(1), (5).

A predecessor of the appellant corporation decided to acquire the shares of an inactive company (“Outdoor”) in order to take advantage of the substantial non-capital losses it had accumulated. The company which owned the shares of Outdoor (“Marr’s”) subscribed for a sufficient number of shares in the appellant’s predecessor to give it a majority of the voting shares. An agreement was entered into among all the shareholders of the appellant’s predecessor pursuant to which its affairs were to be managed by a board of directors, elected by the shareholders from a list of nominees specified in the agreement. The agreement also restricted the transfer of shares so that no shares could be transferred without the consent of the majority of the directors. The appellant’s predecessor purchased all the outstanding shares of Outdoor from Marr’s for $1. It then amalgamated with Outdoor, thereby creating the appellant.

In its 1985 tax return the appellant deducted from its income non-capital losses which had been incurred by Outdoor in previous years, pursuant to s. 111(1) of the Income Tax Act (“ITA”). Section 87(2.1) of the ITA provides that where there has been an amalgamation of two or more corporations, the new corporation is deemed to be the same corporation as each predecessor corporation for the purposes of determining the non-capital losses of the new corporation. Under s. 111(5), however, where “control” of a corporation has been acquired by another person (the “purchaser”), that corporation’s non-capital losses from the carrying on of a business are only deductible by the purchaser in a subsequent taxation year if, throughout that year, the business in question was carried on by the purchaser with a reasonable expectation of profit -- that is, as a going concern. The Minister of National Revenue disallowed the deduction on the basis that Marr’s did not control the appellant’s predecessor prior to its amalgamation with Outdoor. The Tax Court of Canada allowed the appellant’s appeal, but that decision was overturned by the Federal Court of Appeal.

Held: The appeal should be allowed.

Under the ITA, “control” of a corporation normally refers to de jure, not de facto, control. The general test is whether the majority shareholder enjoys “effective control” over the affairs and fortunes of the corporation, as manifested in the ownership of such a number of shares as carries with it the right to a majority of the votes in the election of the board of directors (the Buckerfield’s test). While the general approach to the determination of control has been to examine the share register of the corporation to ascertain which shareholder, if any, possesses the ability to elect a majority of the board of directors, it is entirely proper to look beyond the share register when the constating documents provide for something unusual which alters the control of the company. Although “ordinary” shareholder agreements and other external documents generally should not be considered in assessing de jure control, a unanimous shareholder agreement (“USA”) is a constating document and as such must be considered for the purposes of this analysis. The USA is a corporate law hybrid, part contractual and part constitutional in nature. It can result in a fundamental change in the management of the company, since under s. 140(5) of the Manitoba Corporations Act (the “Corporations Act”) the shareholders who are parties to the USA assume all the rights, powers, duties and liabilities of the directors which are removed by the agreement, and the directors are relieved of their duties and liabilities to the same extent. The fact that the USA has supplanted the long-standing principle of shareholder non-interference with the directors’ powers to manage the corporation, an otherwise exclusive right which is granted by the statute and the corporate constitution, clearly indicates that it is at least as important as the articles and by-laws in assessing de jure control.

Under s. 140(2) of the Corporations Act, to be valid a USA must restrict, in whole or in part, the powers of the directors to manage the business and affairs of the corporation. The agreement in this case constituted a USA within the meaning of s. 140(2). Article 4.4 of the agreement, which prevented the corporation from issuing further shares “without the written consent of all of the Shareholders”, imposed a clear restriction upon the directors’ statutory powers of management. However, the mere existence of a USA does not necessarily alter the de jure control of a corporation. Rather, it is possible to determine whether de jure control has been lost as a result of a USA by asking whether the USA leaves any way for the majority shareholder to exercise effective control over the affairs and fortunes of the corporation in a way analogous or equivalent to the power to elect the majority of the board of directors.

The provisions in the USA at issue in this case did not in fact result in the loss of de jure control by Marr’s. The inability to issue new shares without unanimous shareholder approval, while surely a restriction on the powers of the directors to manage the business and affairs of the appellant’s predecessor, was not so severe a restriction that Marr’s could be said to have lost the ability to exercise effective control over the affairs and fortunes of the company through its majority shareholdings. Marr’s, by virtue of its ability to elect the majority of the board of directors, enjoyed de jure control over the appellant’s predecessor immediately prior to its amalgamation with Outdoor. Nothing in the constating documents, including the USA, served to alter this state of affairs. Accordingly, there was no change in control occasioned by the amalgamation, which means that s. 111(5) of the ITA did not prevent the appellant from deducting from its 1985 taxable income the non-capital losses accumulated in previous years by Outdoor, regardless of whether or not the business of Outdoor was intended to be or was actually carried on by the appellant as a going concern.

Cases Cited

Distinguished: Oakfield Developments (Toronto) Ltd. v. Minister of National Revenue, 1971 CanLII 147 (SCC), [1971] S.C.R. 1032; Minister of National Revenue v. Consolidated Holding Co., 1971 CanLII 191 (SCC), [1974] S.C.R. 419; The Queen v. Lusita Holdings Ltd., 84 D.T.C. 6346; Alteco Inc. v. Canada, 1993 CanLII 17089 (TCC), [1993] 2 C.T.C. 2087; referred to: Buckerfield’s Ltd. v. Minister of National Revenue, 1964 CanLII 1187 (CA EXC), [1964] C.T.C. 504; Minister of National Revenue v. Dworkin Furs (Pembroke) Ltd., 1967 CanLII 112 (SCC), [1967] S.C.R. 223; Canada v. Antosko, 1994 CanLII 88 (SCC), [1994] 2 S.C.R. 312; International Iron & Metal Co. v. Minister of National Revenue, 1972 CanLII 181 (SCC), [1974] S.C.R. 898, aff’g 1969 CanLII 1612 (CA EXC), [1969] C.T.C. 668; Vina-Rug (Canada) Ltd. v. Minister of National Revenue, 1968 CanLII 66 (SCC), [1968] S.C.R. 193; British American Tobacco Co. v. Inland Revenue Commissioners, [1943] 1 All E.R. 13; Donald Applicators Ltd. v. Minister of National Revenue, 1969 CanLII 1546 (CA EXC), 69 D.T.C. 5122, aff’d 71 D.T.C. 5202; The Queen v. Imperial General Properties Ltd., 1985 CanLII 7 (SCC), [1985] 2 S.C.R. 288; Harvard International Resources Ltd. v. Provincial Treasurer of Alberta, 93 D.T.C. 5254; Motherwell v. Schoof, 1949 CanLII 240 (AB SCTD), [1949] 4 D.L.R. 812; Atlas Development Co. v. Calof (1963), 1963 CanLII 834 (MB QB), 41 W.W.R. 575; Stubart Investments Ltd. v. The Queen, 1984 CanLII 20 (SCC), [1984] 1 S.C.R. 536.

Statutes and Regulations Cited

Canada Business Corporations Act, R.S.C., 1985, c. C-44.

Corporations Act, R.S.M. 1987, c. C225, ss. 1(1) “affairs”, “business”, 6(3), (4), 20(1), 25(1), 97(1), 98(1), 116, 129(5), 140(2), (5), 207(1)(b), 240.

Income Tax Act, R.S.C. 1952, c. 148 [am. 1970-71-72, c. 63], ss. 87(2.1) [ad. 1977-78, c. 1, s. 42; am. 1984, c. 1, s. 38], 111(1) [rep. & sub. 1984, c. 1, s. 54], (5) [rep. & sub. 1980-81-82-83, c. 140, s. 70; rep. & sub. 1984, c. 1, s. 54], 251(2)(c), 256(5.1) [ad. 1988, c. 55, s. 192], (7)(a)(i) [ad. 1977-78, c. 1, s. 99; am. 1980-81-82-83, c. 48, s. 112, c. 140, s. 131].

Authors Cited

Concise Oxford Dictionary of Current English, 9th ed. Oxford: Clarendon Press, 1995, “affairs”.

Dickerson, Robert W. V., John L. Howard and Leon Getz. Proposals for a New Business Corporations Law for Canada, vol. 1. Ottawa: Information Canada, 1971.

Iacobucci, Frank. “Canadian Corporation Law: Some Recent Shareholder Developments”. In Nancy E. Eastham and Boris Krivy, eds., The Cambridge Lectures 1981: Selected Papers Based upon Lectures Delivered at the Conference of the Canadian Institute for Advanced Legal Studies, 1981, held at Cambridge University, England, and l’Université Catholique de Louvain, Louvain-la-Neuve, Belgium. Toronto: Butterworths, 1982, 88.

Iacobucci, Frank, and David L. Johnston. “The Private or Closely-held Corporation”. In Jacob S. Ziegel, ed., Studies in Canadian Company Law, vol. 2. Toronto: Butterworths, 1973, 68.

Welling, Bruce. Corporate Law in Canada: The Governing Principles, 2nd ed. Toronto: Butterworths, 1991.

APPEAL from a judgment of the Federal Court of Appeal, [1996] 3 F.C. 78, 198 N.R. 359, 27 B.L.R. (2d) 89, [1996] 3 C.T.C. 19, 96 D.T.C. 6323, [1996] F.C.J. No. 738 (QL), reversing a judgment of the Tax Court of Canada, [1995] 1 C.T.C. 2481, 95 D.T.C. 828, [1994] T.C.J. No. 1140 (QL), ordering a reassessment. Appeal allowed.

Joel Weinstein and Jonathan Kroft, for the appellant.

Robert Gosman, Sean D. Shore and Roger Taylor, for the respondent.

//Iacobucci J.//

The judgment of the Court was delivered by

[1] Iacobucci J. -- In this appeal, this Court is required to examine the definition of “control” for the purposes of s. 111(5) of the Income Tax Act, R.S.C. 1952, c. 148, as amended, in order to determine whether the appellant corporation was entitled to deduct from its 1985 taxable income certain non-capital losses incurred by a predecessor corporation in an amalgamation. In this regard, it will be necessary to consider which of various factors may properly be considered in assessing the de jure control of a corporation, and in particular, whether a unanimous shareholder agreement, as contemplated by the Manitoba Corporations Act, R.S.M. 1987, c. C225 (the “Corporations Act”) (and by other statutes modelled after the Canada Business Corporations Act, R.S.C., 1985, c. C-44 (the “CBCA”)), is to be considered a constating document for the purposes of the de jure control inquiry.

I. Facts

[2] This case proceeded on an agreed statement of facts, and therefore the facts are not in dispute. Duha Printers (Western) Ltd. (“Duha No. 1”), incorporated in Manitoba in 1963, carried on business as a specialty printer. Prior to and as at February 7, 1984, all of the voting shares of Duha No. 1 were held either directly or indirectly by Emeric Duha, his wife, Gwendolyn Duha, and their three children.

[3] Outdoor Leisureland of Manitoba Ltd. (“Outdoor”), incorporated in Manitoba in 1971, carried on business as a retailer of recreational vehicles. As at February 8, 1984, the shares of Outdoor were held by Marr’s Leisure Holdings Inc. (“Marr’s”), of which William Marr and his wife, Norah Marr, owned 62.16 percent of the voting shares. On that date, and as early as 1983, Outdoor was inactive and had accumulated non-capital losses in the amount of $541,044.

[4] On December 3, 1983, the directors of Duha No. 1 authorized the president of the corporation, Emeric Duha, to proceed at his discretion to acquire the shares of Outdoor in order to attempt to take advantage of the substantial non-capital losses which the latter had accumulated, so long as the losses could be purchased advantageously and if the related costs did not exceed $10,000. This set into motion the chain of events which ultimately gave rise to this litigation.

[5] On February 7, 1984, Duha No. 1 amalgamated with 64457 Manitoba Ltd., a wholly owned subsidiary of Duha No. 1, to form Duha Printers Western Ltd. (“Duha No. 2”). This caused a deemed year-end, permitting Duha No.1 to take advantage of a small business deduction, and the shareholders of Duha No. 2 received the same number of shares as they had previously owned in Duha No. 1. On February 8, 1984, the articles of Duha No. 2 were amended to increase the authorized capital of the company by creating an unlimited number of Class “C” preferred shares. These shares entitled their holders to non-cumulative dividends equal to 9 percent of the redemption price (the stated capital for each share). Each share also carried with it the right to one vote, which was to cease either upon the transfer of the share or upon the death of its holder. The Class “C” shares were redeemable by Duha No. 2 with the consent of the holder, or without the consent of the holder in the event that the shares were transferred.

[6] Marr’s subscribed for 2,000 Class “C” shares at a price of one dollar each, for a total of $2,000, on February 8, 1984. Consequently, Marr’s then held a 55.71 percent majority of the voting shares in Duha No. 2. It is worth noting that, for the period ending December 31, 1983, Duha No.1 had net income of $182,223 and retained earnings of $296,486. For the period ending January 2, 1985, it had net income of $630,115 and retained earnings of $571,543.

[7] Also on February 8, 1984, an agreement was entered into among all of the shareholders of the new corporation, Duha No. 2 (the “Agreement”). Aside from describing itself in Article 3.1 as a “unanimous shareholders agreement”, the Agreement stated that it dealt with the operation and management of the company’s business and affairs. According to Article 2 of the Agreement, the affairs of Duha No. 2 were to be managed by a board of directors elected by the shareholders and composed of any three of Emeric Duha, Gwendolyn Duha, William Marr and Paul Quinton. Although Mr. Quinton was a close friend of both Emeric Duha and William Marr, and had served as a director of Duha No. 1 since 1974, it is common ground that he, Emeric Duha, and William Marr were not “related to each other” within the meaning of s. 251 of the Income Tax Act.

[8] The Agreement also restricted the transfer of shares so that no shares could be transferred without the consent of the majority of the directors (Article 4.1); prohibited any shareholder from selling, assigning, transferring, or otherwise encumbering its shares in any manner (Article 4.3); and provided that new shares could only be issued with the unanimous consent of the existing shareholders (Article 4.4). Further, in Article 6.1, the Agreement provided that shareholder disputes regarding the business, accounts, or transactions of Duha No. 2 were to be resolved by arbitration.

[9] On February 9, 1984, Duha No. 2 purchased all of the outstanding shares of Outdoor from Marr’s for $1. On the same date, 64099 Manitoba Ltd., a wholly owned subsidiary of Duha No. 2, purchased from Marr’s Leisure Products (1977) Ltd. (“Marr’s Leisure”), a wholly owned subsidiary of Marr’s, a receivable in the amount of $441,253 owed by Outdoor to Marr’s Leisure. Half of the total purchase price of $34,559 was payable on June 1, 1984, and the balance was payable upon the redemption of the 2,000 Class “C” shares of Duha No. 2 held by Marr’s.

[10] On February 10, 1984, Duha No. 2 and Outdoor effected a statutory amalgamation under the Corporations Act to form Duha Printers (Western) Limited (“Duha No. 3”). The shares of Outdoor were cancelled and the shareholders of Duha No. 3 received the same number and class of shares as they had previously owned in Duha No. 2. On March 12, 1984, the shareholders of Duha No. 3 elected Emeric Duha, Gwendolyn Duha and Paul Quinton as the three directors of Duha No. 3.

[11] On January 4, 1985, Duha No. 3, with the consent of Marr’s, redeemed the 2,000 Class “C” shares owned by Marr’s for a redemption price of $2,000. On February 15, 1985, the Agreement was terminated and Paul Quinton resigned as a director of Duha No. 3.

[12] In its corporate tax return filed on June 28, 1985, Duha No. 3 deducted from its income non-capital losses in the amount of $463,820, of which $460,786 had been incurred by Outdoor in previous years. The Minister of National Revenue disallowed the deduction on the basis that Marr’s did not control Duha No. 2 prior to its amalgamation with Outdoor, and that the transactions at issue were artificial and a sham. The Tax Court of Canada allowed Duha No. 3’s appeal, but this decision was overturned on appeal to the Federal Court of Appeal.

II. Relevant Statutory Provisions

[13] Income Tax Act, R.S.C. 1952, c. 148, as amended

87. . . .

(2.1) Where there has been an amalgamation of two or more corporations, for the purposes only of

(a) determining the new corporation's non‑capital loss, net capital loss, restricted farm loss or farm loss, as the case may be, for any taxation year, and

(b) determining the extent to which subsections 111(3) to (5.4) apply to restrict the deductibility by the new corporation of any non‑capital loss, net capital loss, restricted farm loss or farm loss, as the case may be,

the new corporation shall be deemed to be the same corporation as, and a continuation of, each predecessor corporation, except that this subsection shall in no respect affect the determination of

(c) the fiscal period of the new corporation or any of its predecessors,

(d) the income of the new corporation or any of its predecessors, or

(e) the taxable income of, or the tax payable under this Act by, any predecessor corporation.

111. (1) For the purpose of computing the taxable income of a taxpayer for a taxation year, there may be deducted such portion as he may claim of

(a) his non‑capital losses for the 7 taxation years immediately preceding and the 3 taxation years immediately following the year;

(5) Where, at any time, control of a corporation has been acquired by a person or persons (each of whom is in this subsection referred to as the “purchaser”)

(a) such portion of the corporation's non‑capital loss or farm loss, as the case may be, for a taxation year ending before that time as may reasonably be regarded as its loss from carrying on a business is deductible by the corporation for a particular taxation year ending after that time

(i) only if throughout the particular year and after that time that business was carried on by the corporation for profit or with a reasonable expectation of profit ...

251. . . .

(2) For the purposes of this Act “related persons”, or persons related to each other, are

(c) any two corporations

(i) if they are controlled by the same person or group of persons ...

256. . . .

(7) For the purposes of subsections 66(11) and (11.1), 87(2.1), 88(1.1) and (1.2) and section 111

(a) where shares of a particular corporation have been acquired by a person after March 31, 1977, that person shall be deemed not to have acquired control of the particular corporation by virtue of such share acquisition if that person

(i) was, immediately before such share acquisition, related (otherwise than by virtue of a right referred to in paragraph 251(5)(b)) to the particular corporation...

Corporations Act, R.S.M. 1987, c. C225

6(3) Subject to subsection (4), if the articles or a unanimous shareholder agreement require a greater number of votes of directors or shareholders than that required by this Act to effect any action, the provisions of the articles or of the unanimous shareholder agreement prevail.

6(4) The articles may not require a greater number of votes of shareholders to remove a director than the number required by section 104.

20(1) A corporation shall prepare and maintain, at its registered office and, subject to subsection (5), at any other place in Manitoba designated by the directors, records containing

(a) the articles and the by-laws and all amendments thereto, and a copy of any unanimous shareholder agreement;

97(1) Subject to any unanimous shareholder agreement, the directors of a corporation shall

(a) exercise the powers of the corporation directly or indirectly through the employees and agents of the corporation; and

(b) direct the management of the business and affairs of the corporation.

140(2) An otherwise lawful written agreement among all the shareholders of a corporation, or among all the shareholders and a person who is not a shareholder, that restricts, in whole or in part, the powers of the directors to manage the business and affairs of the corporation is valid.

140(5) A shareholder who is a party to a unanimous shareholder agreement has all the rights, powers and duties and incurs the liabilities of a director of the corporation to which the agreement relates to the extent that the agreement restricts the discretion or powers of the directors to manage the business and affairs of the corporation, and the directors are thereby relieved of their duties and liabilities to the same extent.

240 If a corporation or any director, officer, employee, agent, auditor, trustee, receiver, receiver-manager or liquidator of a corporation does not comply with this Act, the regulations, articles, by-laws, or a unanimous shareholder agreement, a complainant or a creditor of the corporation may, in addition to any other right he has, apply to a court for an order directing any such person to comply with, or restraining any such person from acting in breach of, any provisions thereof, and upon such application the court may so order and make any further order it thinks fit.

[14] A few explanatory words regarding this rather complex legislative scheme may be useful at this stage. Under s. 87(2.1) of the Income Tax Act, where there has been an amalgamation of two or more corporations, for the purposes of determining the non-capital loss of the new corporation for any taxation year, the new corporation is deemed to be the same corporation as, and a continuation of, each predecessor corporation. Therefore, for the purposes of s. 111(1), the new corporation is entitled to deduct from its taxable income for a year its non-capital losses for the seven years immediately preceding, and the three years immediately following, the year in question. However, this is subject to at least one important qualification: under s. 111(5), where “control” of a corporation has been acquired by another person (the “purchaser”), that corporation’s non-capital losses from the carrying on of a business are only deductible by the purchaser in a subsequent taxation year if, throughout that year and after that time, the business in question was carried on by the corporation with a reasonable expectation of profit -- that is, as a going concern. The foregoing provisions of the Corporations Act are relevant, potentially, as indicators of where “control” of a corporation lay at the material time or times.

III. Judicial History

A. Tax Court of Canada, 1994 CanLII 19247 (TCC), [1995] 1 C.T.C. 2481

[15] Rip J.T.C.C. observed first that, if Marr’s acquired control of Duha No. 2 on February 8, 1984, then ss. 251(2) and 256(7)(a)(i) of the Income Tax Act would deem there to have been no change of control when its shares were acquired the next day by Duha No. 2, given that the two companies would have been related to one another. As such, s. 111(5) would not prevent Duha No. 3 from deducting from its income the non-capital losses previously incurred by Outdoor, pursuant to s. 87(2.1), even though the business of Outdoor was not carried on by Duha No. 3 as a going concern.

[16] As a preliminary matter, Rip J.T.C.C. noted that, although the parties had referred to the Agreement as a “unanimous shareholders’ agreement”, the Agreement did not by its terms restrict the powers of the directors of Duha No. 2 to manage the business and affairs of the company, as required by the definition of “unanimous shareholder agreement” in s. 140(2) of the Corporations Act. In his view, the Agreement, while admittedly unanimous, was simply an ordinary shareholders’ agreement, not the special type of “unanimous shareholder agreement” contemplated by that statute.

[17] Turning to the substantive issues on the appeal, Rip J.T.C.C. began by stating that “control” of a corporation, for the purposes of the Income Tax Act, means de jure control, or the ownership of such a number of shares as carries with it the right to a majority of the votes in the election of the board of directors, and not de facto control: Buckerfield’s Ltd. v. Minister of National Revenue, 1964 CanLII 1187 (CA EXC), [1964] C.T.C. 504 (Ex. Ct.) (a definition adopted by this Court in Minister of National Revenue v. Dworkin Furs (Pembroke) Ltd., 1967 CanLII 112 (SCC), [1967] S.C.R. 223, inter alia). Rip J. noted also that, in assessing de jure control, the courts may examine the incorporating or constating documents of the company, which are “in effect an agreement between the shareholders and binding upon all the shareholders” (p. 2490).

[18] The Minister had argued that, although Marr’s owned a majority of the voting shares of Duha No. 2, the Agreement “totally neutralized” the ability of Marr’s to manage the company, since it effectively prevented Marr’s from: electing a majority of its choice to the board of directors, dissenting from corporate transactions and applying to the court for redemption of its shares, or selling its shares. However, after an extensive review of the case law, Rip J. was unable to find authority for the proposition that the Agreement should be taken to vitiate the apparent de jure control of Duha No. 2 by Marr’s. At the relevant time, Marr’s held more than 50 percent of the voting shares in Duha No. 2 and, in the view of Rip J.T.C.C., nothing in the constating documents prevented Marr’s from voting its shares in the normal course, nor was there any evidence that Marr’s was not the beneficial owner of the shares and thus unable to decide for itself how the shares were to be voted.

[19] Even if Rip J.T.C.C. had accepted that documents other than the constating documents could be considered, he found that nothing in the Agreement obliged Marr’s to vote its shares in the manner in which it did, that is, to vote for a majority of directors who were representatives of the Duha family. Marr’s was in a position to alter the board of directors, and there was no evidence, in the view of Rip J.T.C.C., that Mr. Quinton was a nominee of the Duha family. Therefore, Marr’s was free, by electing to the board Mr. Quinton, either Mr. or Mrs. Duha, and Mr. Marr, to ensure that neither Marr’s nor the Duha family would have a majority on the board of directors. Rip J.T.C.C. thus concluded that Marr’s, by virtue of its ownership of the majority of the voting shares on February 8, 1984, controlled Duha No. 2 at that time.

[20] Turning to whether the transaction was a sham, Rip J.T.C.C. acknowledged that the sole purpose of the chain of events was to enable Duha No. 3 to make use of the losses incurred by Outdoor, that de facto control of Duha No. 2 was never transferred to Marr’s, and that Marr’s never intended to control the company. However, he could not agree that the transaction was a sham, given that there was no attempt to disguise its true character. The various transactions were binding upon the parties and did precisely what they appeared to do. As for the argument that the transaction was contrary to the “object and spirit” of s. 111, Rip J.T.C.C. simply observed that the purpose of the section was to permit corporations to apply non-capital losses against income earned in subsequent years, that amalgamated corporations are entitled to deduct the losses of predecessor corporations in this manner if the amalgamated corporation is controlled by the same person or group as the predecessor, and that “control” in this sense refers to de jure and not de facto control. In his view, there was nothing in the transaction that violated the “object and spirit” of the provision.

[21] Therefore, Rip J.T.C.C. concluded that Marr’s did control Duha No. 2 on and immediately prior to February 8, 1984, when Duha No. 2 and Outdoor were amalgamated, and that it controlled Duha No. 3 during the taxation year on appeal. Accordingly, the appeal was allowed.

B. Federal Court of Appeal, 1996 CanLII 4053 (FCA), [1996] 3 F.C. 78

(1) Reasons of Linden J.A. (Isaac C.J. concurring)

[22] Like the trial judge, Linden J.A. was not persuaded that the transaction was a sham. The legal obligations between the parties were real and accomplished exactly what they purported to do. However, this was not sufficient to achieve the tax results ultimately desired by the parties. It remained to be seen whether the transactions came within the relevant sections of the Income Tax Act.

[23] Linden J.A. refused to treat as a distinct issue the “object and spirit” of the provisions in question, stating that, instead, the interpretation of the sections should reflect their objects. The object and spirit of a section will only be practically relevant when the application of that section to factual circumstances admits of doubt, not where the meaning of the section is clear and free of ambiguity or uncertainty: Canada v. Antosko, 1994 CanLII 88 (SCC), [1994] 2 S.C.R. 312. In the view of Linden J.A., the purpose of the provisions at issue on this appeal was “to permit a deduction of a loss if control has not changed hands but to deny it if control has changed hands” (p. 109).

[24] Linden J.A. acknowledged that control, for these purposes, means de jure and not de facto control, and that the single most important factor to consider is the voting rights attaching to shares. However, he was equally of the opinion that the scope of scrutiny under the de jure test has been extended “beyond a mere technical reference to the share register” (p. 109). After an exhaustive review of the case law, including cases which he interpreted as relying upon restrictions in the constating documents and “other agreements” as an indicator of de jure control -- and, in particular, Minister of National Revenue v. Consolidated Holding Co., 1971 CanLII 191 (SCC), [1974] S.C.R. 419 -- Linden J.A. concluded (at p. 118) that:

. . . it is important to look to the legal position of the parties as displayed in the wider circumstances of the parties’ affairs. . . . [T]rue de jure control is just what it is stated to be, control at law. Any binding instrument, therefore, must be reckoned in the analysis if it affects voting rights.

[25] Linden J.A. held that, “[i]n determining issues of corporate control, the Court will look to the time in question, to legal documents pertaining to the issue, and to any actual or contingent legal obligations affecting the voting rights of shares” (p. 121). These factors, he held, “are simply facts with legal consequences, so that the distinction between de jure and de facto is not as stark as it once was”. In his view, then, “corporate control must be real, effective legal control over the company in question” (p. 121). Such an analysis, he continued, incorporates an appreciation for various considerations which might affect the way in which shares are or could be voted. He concluded that, “if majority ownership does not allow for real legal control over a company, the de jure test of control will not have been met” (p. 124).

[26] Applying the law to the facts of the instant appeal, Linden J.A. held that Marr’s did not control Duha No. 2 because the Agreement determined that the majority of the Board of Directors would always be nominees of the Duha family. He found that Mr. Quinton was effectively a nominee of the Duha family because he had been a longtime friend of Mr. Duha, had been a director of Duha No. 1 for ten years, and had signed the resolution authorizing the subscription by Marr’s of the 2,000 Class “C” shares, the entering into the Agreement by the corporation, and the purchase of Outdoor’s shares. On this basis, Linden J.A. concluded that an election of any combination of the directors listed in the Agreement assured the Duha family of control over Duha No. 2. He also noted that Duha No. 2 was worth almost $600,000, and opined that no reasonable person would believe that a $2,000 share purchase would actually yield control of a company of such value. In his view, it was not coincidental that the three Duha family nominees were in fact elected as directors and that Marr’s did not elect its own majority shareholder to the board.

[27] Linden J.A. was of the view that the Agreement likely qualified as a unanimous shareholder agreement (“USA”) under s. 140(2) of the Corporations Act, given that it operated to restrict the powers of the directors both directly and indirectly. However, he also held that the Agreement did not have to meet this statutory requirement before it could be considered in a de jure control analysis. The Agreement, signed by all the shareholders and by Duha No. 2, was legally binding and had significantly affected how the shareholders could vote their shares. These, in his view, were the minimum conditions to be met before the Agreement could be considered in a de jure control examination, given that “[c]ertain cases of the Supreme Court of Canada explicitly state” (p. 125) that external agreements are not to be considered irrelevant to the issue of de jure control. He distinguished the case of International Iron & Metal Co. v. Minister of National Revenue, 1972 CanLII 181 (SCC), [1974] S.C.R. 898, aff’g 1969 CanLII 1612 (CA EXC), [1969] C.T.C. 668, on the basis that the agreement in that case was “contrived to multiply a tax benefit” (p. 126) and that the parties to whom control was supposedly transferred by the agreement were not parties to it, per se.

[28] Moreover, there was other evidence that Marr’s did not control Duha No. 2. Linden J.A. noted that the amended articles of Duha No. 2 stated that the company could not issue new voting shares without unanimous shareholder consent and found that this meant that Marr’s could not change its restricted choice of directors by using its majority share position. He held that Marr’s ability to dissolve Duha No. 2 was not determinative and was little more than “a chimera” because, upon a dissolution, Marr’s would receive nothing beyond the stated value of its shares, would forfeit the receivable and would actually suffer a net loss.

[29] Linden J.A. concluded that the intentions of the parties had been that Marr’s would not control Duha No. 2, that the legal obligations between the parties ensured that the Duha family would retain control over the company, and that this was the legal effect of the transactions. In his view (at p. 129), the appellant had “used the technicalities of revenue law and company law to conjure a legal remedy for restrictions to which it would otherwise be subject. They did not succeed.” He concluded, therefore, that Outdoor and Duha No. 2 were not related prior to the amalgamation, that Duha No. 2 never carried on the business of Outdoor as a going concern or with a reasonable expectation of profit, and that the appellant therefore could not make use of Outdoor’s non‑capital losses.

(2) Reasons of Stone J.A. (Isaac C.J. concurring)

[30] Like Linden J.A., Stone J.A. would have allowed the appeal, but for different reasons. In his view, the Agreement was to be considered along with the constating documents of the corporation because it was a USA within the meaning of the Corporations Act. Stone J.A. noted that s. 97(1) of the Corporations Act gives directors the power to direct “the business and affairs of the corporation” and that s. 1(1) defines “affairs” as including “the relationships among a body corporate, its affiliates and the shareholders, directors and officers of those bodies corporate but . . . not . . . the business carried on by those bodies corporate”. He further held that, to be a USA for the purposes of s. 140(2) of the Corporations Act, the Agreement had to restrict the powers of the directors to manage the business and affairs of the corporation.

[31] Stone J.A. noted that Article 2.1 of the Agreement required the shareholders to “cause the affairs of the Corporation to be managed by a board of three (3) directors” (emphasis added), and reasoned that this, by exclusion, did not leave the directors with the power to manage the business of Duha No. 2. Further, Article 6.1 of the Agreement provided for the resolution by arbitration of any dispute arising among the shareholders with respect to the “business or accounts or transactions” of the company. Ordinarily, in his view, no dispute as to the “business” of the company would arise between the shareholders, as the business of a corporation is, in the absence of a USA, to be directed by the board of directors. On this basis, he concluded that the Agreement restricted the powers of the directors and was thus a USA within the meaning of the Corporations Act. Thus, in his view, the Agreement had to be considered when examining de jure control.

[32] In the circumstances of this case, Stone J.A. concluded that the Agreement prevented Marr’s from obtaining the de jure control that it otherwise might have held by virtue of owning 55.71 percent of the voting shares of Duha No. 2. Even though Marr’s could in theory determine the composition of the board of directors, its ability to elect a board that could manage only the “affairs” and not the “business” of Duha No. 2 was not de jure control. Stone J.A. also observed that the referral to arbitration of irreconcilable differences between shareholders implied that the unanimous agreement of all shareholders, not simply a majority of votes, was required for business decisions. In this respect, Marr’s clearly lacked de jure control over Duha No. 2. Stone J.A. concluded, therefore, that Outdoor and Duha No. 2 had not been related before they amalgamated and that Outdoor’s losses could not be utilized by Duha No. 3.

[33] While it was not necessary to the manner in which he proposed to dispose of the case, Stone J.A. also held that the transaction was not a sham, as the Minister alleged, given that the requisite element of deceit as to the true nature of the transaction was not present in the circumstances.

IV. Issues

[34] The ultimate issue on this appeal is whether Duha No. 3 should have been entitled to deduct from its 1985 business income non-capital losses incurred in previous years by Outdoor, pursuant to s. 111(5) of the Income Tax Act. To answer this question, it will be necessary to decide whether documents other than the constating documents of a corporation should be considered in determining de jure control of a company for the purposes of ss. 111(5) and 251(2)(c) of the Act, and whether USAs enjoy any special status in this regard. If either or both of these questions are resolved in the affirmative, it will then be necessary to establish whether or not the Agreement was a USA within the meaning of s. 140(2) of the Corporations Act and, if so, whether it in fact deprived Marr’s of de jure control over Duha No. 2. On appeal to this Court, the Minister did not pursue the argument that the transaction was a sham.

V. Analysis

A. “Control” of a corporation

[35] It has been well recognized that, under the Income Tax Act, “control” of a corporation normally refers to de jure control and not de facto control. This Court has repeatedly cited with approval the following test, set out by Jackett P. in Buckerfield’s, supra, at p. 507:

Many approaches might conceivably be adopted in applying the word “control” in a statute such as the Income Tax Act to a corporation. It might, for example, refer to control by “management”, where management and the board of directors are separate, or it might refer to control by the board of directors. . . . The word “control” might conceivably refer to de facto control by one or more shareholders whether or not they hold a majority of shares. I am of the view, however, that in Section 39 of the Income Tax Act [the former section dealing with associated companies], the word “controlled” contemplates the right of control that rests in ownership of such a number of shares as carries with it the right to a majority of the votes in the election of the board of directors. [Emphasis added.]

Cases in which this Court has applied the foregoing test have included, inter alia, Dworkin Furs, supra, and Vina-Rug (Canada) Ltd. v. Minister of National Revenue, 1968 CanLII 66 (SCC), [1968] S.C.R. 193.

[36] Thus, de jure control has emerged as the Canadian standard, with the test for such control generally accepted to be whether the controlling party enjoys, by virtue of its shareholdings, the ability to elect the majority of the board of directors. However, it must be recognized at the outset that this test is really an attempt to ascertain who is in effective control of the affairs and fortunes of the corporation. That is, although the directors generally have, by operation of the corporate law statute governing the corporation, the formal right to direct the management of the corporation, the majority shareholder enjoys the indirect exercise of this control through his or her ability to elect the board of directors. Thus, it is in reality the majority shareholder, not the directors per se, who is in effective control of the corporation. This was expressly recognized by Jackett P. when setting out the test in Buckerfield’s. Indeed, the very authority cited for the test was the following dictum of Viscount Simon, L.C., in British American Tobacco Co. v. Inland Revenue Commissioners, [1943] 1 All E.R. 13, at p. 15:

The owners of the majority of the voting power in a company are the persons who are in effective control of its affairs and fortunes. [Emphasis added.]

[37] Viewed in this light, it becomes apparent that to apply formalistically a test like that set out in Buckerfield’s, without paying appropriate heed to the reason for the test, can lead to an unfortunately artificial result. The task before this Court, then, is to determine whether, just prior to the amalgamation, Marr’s was in effective control of the affairs and fortunes of Duha No. 2 by virtue of its majority shareholdings.

[38] There is no real dispute between the parties that the de jure control test is applicable in the present circumstances. Rather, the dispute is as to which factors may be considered in assessing de jure control. In the submission of the appellant, both Linden and Stone JJ.A. erred in their respective applications of the test: Linden J.A. by holding that this Court has widened the test such that bare contractual agreements between shareholders may be considered, and Stone J.A. by concluding that the agreement here in question was a unanimous shareholder agreement within the definition of that term in the Corporations Act, and that a USA may be considered in assessing de jure control for the purposes of ss. 111(5) and 251(2)(c) of the Income Tax Act. I will examine each of these submissions in turn.

(1) External agreements

[39] In his reasons, after reviewing a number of authorities, Linden J.A. concluded (at p. 118) that

. . . true de jure control is just what it is stated to be, control at law. Any binding instrument, therefore, must be reckoned in the analysis if it affects voting rights.

In the view of Linden J.A. (at p. 118) “it is important to look to the legal position of the parties as displayed in the wider circumstances of the parties’ affairs”. But while this might seem a sensible approach at first glance, I can find no general support in the extensive authorities cited for Linden J.A.’s application of it.

[40] The general approach to the determination of control, as I have already noted, has been to examine the share register of the corporation to ascertain which shareholder, if any, possesses the ability to elect a majority of the board of directors and, therefore, has the type of power contemplated by the Buckerfield’s test, supra. The case law seems to point only to limited circumstances in which other documents may be examined, and then only to a narrow range of documents which may be considered. In my view, this is readily apparent even in the case law cited by Linden J.A. in support of the opposite position, which I shall now briefly discuss.

[41] The first case in which the Buckerfield’s test was applied by this Court was Dworkin Furs, supra. Of the five appeals decided together in Dworkin Furs, the one that is most relevant to the instant case is Aaron’s Ladies Apparel Limited, which involved a provision in the articles of association of the corporation which required the unanimous consent of all shareholders or directors, as the case may be, for the successful passage of any resolution. A group of shareholders held two-thirds of the total voting shares of the corporation, and the issue before the Court was whether the aforementioned provision deprived this group of de jure control. Hall J., writing for the Court, held that the provision did nullify the shareholders’ control of the company (at p. 236):

Control of a company within Buckerfield rests with the shareholders as such and not as directors. A contract between shareholders to vote in a given or agreed way is not illegal. The Articles of Association are in effect an agreement between the shareholders and binding upon all shareholders. Article 6 in question here was neither illegal nor ultra vires.

[42] In his reasons, Linden J.A. appears to have taken this statement to support the proposition that the court is entitled to consider ordinary contracts between shareholders to assess control. However, the flaw in this interpretation is immediately obvious: in Dworkin, Hall J. was dealing not with an “ordinary” contractual arrangement but with a provision of the company’s articles of association, one of its constating documents. It is entirely proper to look beyond the share register when the constating documents provide for something unusual which alters the control of the company. To consider every legally binding arrangement between shareholders as such, however, is another matter entirely. As I will explain in more detail below, the distinction between contractually binding agreements outside the constating documents on the one hand, and legally binding provisions within the constating documents on the other, is crucial. With respect, Linden J.A.’s interpretation of Dworkin Furs cannot be sustained. In fact, Gibson J. in International Iron & Metal Co. v. Minister of National Revenue, 1969 CanLII 1612 (CA EXC), [1969] C.T.C. 668 (Ex. Ct.), expressly distinguished the shareholders’ agreement there at issue from the “contract” considered in Dworkin Furs, which was “part of the constitution of the Company” (p. 674).

[43] Attempted analogies to other cases cited by Linden J.A. suffer from similar frailties. For example, Linden J.A. cites Donald Applicators Ltd. v. Minister of National Revenue, 1969 CanLII 1546 (CA EXC), 69 D.T.C. 5122 (Ex. Ct.), aff’d 71 D.T.C. 5202 (S.C.C.), as standing for the proposition that de jure control is to be determined in light of the overall voting structure of the company, including “the effect of any restrictions imposed on the decision-making powers of the directors by the memorandum, the Articles, and by any shareholders agreements” (pp. 115-16). In fact, Thurlow J. (as he then was) made no reference whatsoever in that case to shareholders’ agreements as an indicator of de jure control, restricting his analysis and comments, at p. 5125, only to the memorandum and articles of the company.

[44] What does emerge, however, from Donald Applicators, is the notion that, in determining de jure control, the court is not limited to a strictly technical and narrow interpretation of the share register and associated share rights of a corporation. Rather, as this Court confirmed in The Queen v. Imperial General Properties Ltd., 1985 CanLII 7 (SCC), [1985] 2 S.C.R. 288, at p. 295, “these rights must be assessed in their impact ‘over the long run’”. However, this view of control, at least as enunciated by Thurlow J. in Donald Applicators, still depends upon the share rights and other powers granted by the corporate constitution, not upon any external shareholders’ agreement. Donald Applicators turned on the power of the shareholders to pass any ordinary resolution as well as special resolutions by which they could remove the powers of the directors and reserve decisions to their particular class of shareholders. Given that extensive power, it could not be said that the particular shareholders lacked de jure control “in the long run”. However, as shall be seen, the question of control “in the long run” does not arise in the instant case, as the majority shareholder group retained the immediate voting power to elect directors.

[45] Similarly, in Imperial General Properties, supra, the issue of control arose following a corporate reorganization which saw the original majority owners of the corporation create non-participating preference shares which were issued to another group of shareholders. While each class of shareholders then held 50 percent of voting

shares, meaning that neither enjoyed clear majority control, the corporate constitution provided that a 50 percent vote was sufficient to wind up the company, in which case the assets of the corporation would be distributed only among the common shareholders. Therefore, Estey J., writing for the majority of this Court, held that the common shareholders had a clear advantage over the preferred shareholders and thus enjoyed de jure control. While the apparent equality of voting power in this case made it necessary for the majority to resort to the constating documents of the corporation to assess the reality of the situation, Estey J., at p. 298, made clear that this was no extraordinary step in the law:

The approach to “control” here taken does not involve any departure from prior judicial pronouncements nor does it involve any “alteration” of the existing statute. The conclusions reached above merely result from applying existing case law and existing legislation to the particular facts of the case at bar. The application of the “control” concept, as earlier enunciated by the courts, to the circumstances now before the court is, in my view, the ordinary progression of the judicial process and in no way amounts to a transgression of the territory of the legislator.

[46] With this admonition in mind, I do not believe that Imperial General Properties assists the Minister’s case. The approach taken by the majority in deciding the case flows logically from its facts, and, in particular, the voting equality that was apparent on the share register. Indeed, the limitation of this case to the corporate structure and combination of share interests of its particular circumstances was explicitly acknowledged by Estey J. at p. 298. No such parity of shareholding is present in the circumstances of the instant appeal. In addition, in the emphatic words of Wilson J., dissenting (McIntyre J. and Lamer J., as he then was, concurring), at pp. 307-8:

Although the scope of scrutiny under the de jure test has been extended beyond a mere examination of the share register in order to determine who really has voting control, there has been no deviation from the principle that voting control is the proper indicium of control until [Oakfield Developments (Toronto) Ltd. v. Minister of National Revenue, 1971 CanLII 147 (SCC), [1971] S.C.R. 1032]. I am of the view, therefore, that the decision in Oakfield is anomalous and should not be followed. For the courts suddenly to change direction in face of well-settled and long-standing authority in our tax jurisprudence is, in my view, quite inappropriate. . . . I do not think that this is a suitable area for judicial creativity. People plan their personal and business affairs on the basis of the existing law and they are entitled to do so.

[47] Apart from whether or not it is good authority in light of the foregoing dictum of Wilson J., Oakfield Developments (Toronto) Ltd. v. Minister of National Revenue, 1971 CanLII 147 (SCC), [1971] S.C.R. 1032, which was also cited by Linden J.A. in the instant appeal, is, in my view, clearly distinguishable from the case at bar. In that case, as in Imperial General Properties, the Court had recourse to the constating documents of the corporation only because there was no other clear indicator of de jure control, as each of two shareholder groups held 50 percent of the overall voting shares of the company. Therefore, the Court considered the share rights attached to each class of shares and concluded that, because the holders of one class had the power to dissolve the company and to receive all surplus upon its dissolution, that class had de jure control even though its voting power was no greater than that of the other class. Perhaps more importantly, though, there is no indication that the Court in either case looked to any external shareholder agreement as an indicium of control; rather, only the specifics of the constating documents were considered.

[48] Equally distinguishable, in my view, are Consolidated Holding, supra, and The Queen v. Lusita Holdings Ltd., 84 D.T.C. 6346 (F.C.A.), two cases in which the courts considered documents other than the constating documents only because the majority of the shares in the companies in question were held by trustees. It was therefore necessary to examine the trust instruments in order to determine what, if any, limitations existed on the trustees’ powers to vote the shares. As it happened, in both cases, the trustees could be constrained in their voting of the shares by the actions of their co-trustees: in Consolidated Holding, the will of the deceased shareholder provided that “the views, discretion or direction of any two of my trustees shall be binding upon the other of my trustees” (p. 422), while in Lusita Holdings it was found as a fact by Stone J.A. that “[t]he right to control the voting rights resided in the co-trustees and not in either of them” (p. 6348).

[49] These factors, in my view, clearly demonstrate the distinction between a trust instrument and other external documents for the purposes of assessing de jure control. A trust imposes upon the trustee a fiduciary obligation to act within the terms of the trust instrument and for the benefit of the beneficiary. That is, the trustee is not free to act other than in accordance with the trust document, and if the trust document imposes limitations upon the capacity of the trustee to vote the shares then these must accordingly be taken into account in the de jure control analysis. By contrast, any limitations which might be imposed by an outside agreement are limitations freely agreed to by the shareholders, and not at all inconsistent with their de jure power to control the company. In other words, limitations on the voting powers of trustees must be seen as limitations on their capacity as free actors in the circumstances. No such limitations encumber the ordinary shareholder in his or her exercise of de jure control, even if an outside agreement exists to limit actual or de facto control.

[50] In any event, I certainly do not think it can be said that Consolidated Holding supports the very broad proposition gleaned from it by Linden J.A. (at p. 118), that “[a]ny binding instrument . . . must be reckoned in the analysis if it affects voting rights.” For precisely the reasons expressed by Wilson J. in the above-quoted passage of her dissent in Imperial General Properties, and in keeping with the approach taken by courts since Buckerfield’s, it is clear that the general test for de jure control remains majority voting control over the corporation, as manifested by the ability to elect the directors of the corporation. While this Court has occasionally been willing to examine factors other than the share register of the company, its assessment has been restricted only to the constating documents, not external agreements. The only exception to this rule has been in cases like Consolidated Holding, where the shareholders’ very capacity to act has been limited by external documents, but this has to date been manifested only in cases where the shares are held by trustees.

[51] Thus, I would conclude that, as a general rule, external agreements are not to be taken into account as determinants of de jure control. This is consistent with the relatively recent decision of the Alberta Court of Queen’s Bench in Harvard International Resources Ltd. v. Provincial Treasurer of Alberta, 93 D.T.C. 5254, in which Hutchinson J. declined to interpret the reasons of Estey J. in Imperial General Properties, supra, as inviting the consideration of agreements other than constating documents, other than possibly as an indicium of de facto control. For Linden J.A. to rest his disposition of the instant case on the basis that, in determining issues of corporate control, “the Court will look to the time in question, to legal documents pertaining to the issue, and to any actual or contingent legal obligations affecting the voting rights of shares” (p. 121) was, with respect, inconsistent with the Canadian jurisprudence in this area.

[52] Moreover, as Wilson J. correctly observed in her dissent in Imperial General Properties, supra, taxpayers rely heavily on whatever certainty and predictability can be gleaned from the Income Tax Act. As such, a simple test such as that which has been followed since Buckerfield’s is most desirable. If the distinction between de jure and de facto control is to be eliminated at this time, this should be left to Parliament, not to the courts. In fact, while it is not directly relevant to the outcome of this appeal, I would observe nonetheless that Parliament has now recognized the distinction between de jure and de facto control, adopting the latter as the new standard for the associated corporation rules by means of s. 256(5.1) of the Income Tax Act, enacted in 1988.

[53] In addition, I do not think that the respondent’s case is assisted by the decision of the Tax Court of Canada in Alteco Inc. v. Canada, 1993 CanLII 17089 (TCC), [1993] 2 C.T.C. 2087. Alteco concerned an agreement which provided, inter alia, that no shares in the corporation could be sold or pledged without unanimous shareholder consent, that the five-member board of the company could not be altered without unanimous consent, and that the minority (49 percent) shareholder was entitled to three of the five seats on the board. This agreement was indeed considered in deciding that the minority shareholder enjoyed de jure control over the company. But two significant distinctions separate Alteco from the case at bar. For one, Bell J.T.C.C. found that the agreement at issue in Alteco was a “unanimous shareholder agreement” within the definition of that term in the Saskatchewan Business Corporations Act. While it may be that the agreement in the present case was also a USA, a possibility which I shall consider below, this was not the basis for the reasoning of Linden J.A., and it simply cannot be said that giving effect to a USA as a determinant of de jure control necessarily opens the door to the consideration of all shareholder agreements for this purpose.

[54] Secondly, the agreement in Alteco guaranteed the minority shareholder a majority of seats on the board of directors. As I see it, it is not clear in the case at bar that either party enjoyed this type of guaranteed control. While it is true that Marr’s could only elect one direct nominee of its own, it would have been possible, as the trial judge found, for it to elect its own nominee, one Duha nominee, and Paul Quinton, who could not be said to be a nominee of either party. While Mr. Quinton was a longtime friend of the Duha family and a director of Duha No. 1, he was also a friend of William Marr and no actual evidence was adduced to suggest that his loyalties lay with the Duhas. If anything, this assessment must have come down to a question of credibility, and with respect, it was not open to Linden J.A. to interfere with such a finding of the trial judge in the absence of palpable and overriding error. In any event, however, the major concern of the de jure test is to ascertain which shareholder or shareholders have the voting power to elect a majority of the directors. The test neither requires nor permits an inquiry into whether a given director is the nominee of any shareholder, or any relationship or allegiance between the directors and the shareholders.

[55] Therefore, as I have indicated, I conclude that Linden J.A. erred in considering the Agreement for the purposes of ascertaining de jure control, even assuming, for the sake of argument only, that he was correct in treating it as an ordinary shareholders’ agreement. This determination is generally to be restricted to the share register of the company, as is clear from Buckerfield’s and the related case law. However, as I have already mentioned, it would be unduly artificial to restrict the analysis in this way if something exists in the corporate constitution of the company to alter the picture of de jure control. Thus, to ensure an accurate result, the share register should be read in light of the relevant corporate law legislation (in this case, the Corporations Act) and the constating documents of the corporation. External agreements, however, have no place in this analysis; they are relevant only to de facto control.

[56] Of course, all of this begs the question of the status of the unanimous shareholder agreement, in its statutory form, as a determinant of de jure control. It is to this question that I now turn.

(2) Unanimous shareholder agreements

(a) The nature and significance of the USA for the purposes of de jure control

[57] Stone J.A. based his concurring reasons on the characterization of the agreement in question as a USA. Important references to such agreements in the Corporations Act are to be found in ss. 97(1) and 140(2). Section 97(1)(b) contemplates the abrogation, by a USA, of the power of the directors to “direct the management of the business and affairs of the corporation”, while s. 140(2) confirms the validity of such agreements for the purpose of restricting the powers of the directors to manage said business and affairs.

[58] The legal status of the USA, which is a unique species of agreement given its statutory origin and recognition, has nonetheless been a matter of some uncertainty. At the outset, it is important to bear in mind the distinction between the tests of de jure and de facto control developed by the courts. In my view, the de jure standard was chosen because in some respects it is a relevant and relatively certain and predictable concept to employ in determining control. In general terms, de jure refers to those legal sources that determine control: namely, the corporation’s governing statute and its constitutional documents, including the articles of incorporation and by-laws. The de facto concept was rejected because it involves ascertaining control in fact, which can lead to a myriad of indicators which may exist apart from these sources. See, for example, F. Iacobucci and D. L. Johnston, “The Private or Closely-held Corporation”, in J. S. Ziegel, ed., Studies in Canadian Company Law (1973), vol. 2, 68, at pp. 108-12.

[59] As I have already indicated, agreements among shareholders, voting agreements, and the like are, as a general matter, arrangements that are not examined by courts to ascertain control. In my view, this is because they give rise to obligations that are contractual and not legal or constitutional in nature. Thus, to my mind, the issue comes down to whether the USA is to be characterized as constitutional or contractual in nature. If it is the former, then its provisions are to be examined under the de jure control analysis; if it is the latter, then its provisions are beyond the scope of that test. For a discussion of the origin of the USA in Canadian corporate law, see, generally, R. W. V. Dickerson, J. L. Howard and L. Getz, Proposals for a New Business Corporations Law for Canada (1971), vol. 1, at paras. 298-299.

[60] Fortunately, the instant case provides ample opportunity to put this debate to rest. In my view, for the reasons that follow, the USA is to be considered a constating document for the purposes of determining de jure control of a corporation.

[61] The argument for treating a USA as part of the corporate constitution, along with and equivalent to the articles of incorporation and the by-laws, is strong, given the role of such an agreement in the overall context of corporate governance. As Professor Welling points out in Corporate Law in Canada (2nd ed. 1991), at pp. 481 et seq., prior to statutory provision for USAs, the ability of shareholders to control a corporation incorporated in Canadian jurisdictions (and which, I would add, did not follow the English memorandum and articles of association system of incorporation) was in reality limited to the power to elect and dismiss directors. Directors generally owe a duty not to the shareholders but to the corporation, and shareholders could not, therefore, control the day-to-day business decisions made by the directors and their appointed officers. In other words, although the shareholders could elect the individuals who would make up the board, the board members, once elected, wielded virtually all the decision-making power, subject to the ability of the shareholders to remove or fail to re-elect unsatisfactory directors.

[62] However, in a private or closely held corporation, it may generally be assumed that the dominant interests to be served by decision-making are the expectations and needs of the shareholders, as opposed to the corporation in the abstract. These corporations were modelled to some extent on incorporated partnerships, and the underlying economic policy was thought to be best met by enabling the shareholders to arrange the organization of their enterprise as they choose: see Iacobucci and Johnston, supra.

[63] Because, at common law, shareholders could not agree to fetter or interfere with the discretion of the directors, even unanimously (see Motherwell v. Schoof, 1949 CanLII 240 (AB SCTD), [1949] 4 D.L.R. 812 (Alta. S.C.), and Atlas Development Co. v. Calof (1963), 1963 CanLII 834 (MB QB), 41 W.W.R. 575 (Man. Q.B.)), legislative intervention was needed to allow shareholders to choose their corporate control and management structure. See Iacobucci, “Canadian Corporation Law: Some Recent Shareholder Developments”, in The Cambridge Lectures 1981 (1982), 88, at pp. 92 et seq.

[64] The advent of the USA, first in the CBCA and then in other statutes modelled after it, materially altered this situation by providing a mechanism by which the shareholders, through a unanimous agreement, could strip the directors of some or all of their managerial powers as desired by the shareholders. Rather than removing the directors from their positions, a USA simply relieves them of their powers, rights, duties, and associated responsibilities. This may be accomplished without specific formality; all that is required appears to be some unanimous written expression of shareholder will. The result, however, amounts to a fundamental change in the management of the company, as s. 140(5) of the Corporations Act provides that the shareholders who are parties to the USA assume all the rights, powers, duties and liabilities of the directors which are removed by the agreement, and that the directors are relieved of their duties and liabilities to the same extent. As I have already intimated, what is in effect created is an “incorporated partnership” with statutory force.

[65] Stone J.A. opined that, if an agreement can be viewed as a USA within the definition in the Corporations Act, it is to be read alongside the corporation’s constating documents in determining the issue of de jure control. I agree. The fact that the USA has supplanted the long-standing principle of shareholder non-interference with the directors’ powers to manage the corporation, an exclusive right which is granted by the statute and the corporate constitution, clearly indicates that it is at least as important as the “traditional” constating documents in assessing de jure control. It would be truly artificial to conclude, only on the basis of the share register, the articles of incorporation, and the by-laws, that one shareholder has de jure control over the corporation by virtue of its apparent power to elect the majority of the board of directors, if a USA exists which limits substantially the power of the board itself.

[66] In other words, the USA is a corporate law hybrid, part contractual and part constitutional in nature. The contractual element is immediately apparent from a reading of s. 140(2): to be valid, a USA must be an “otherwise lawful written agreement among all the shareholders of a corporation, or among all the shareholders and a person who is not a shareholder”. It seems to me that this indicates not only that the USA must take the form of a written contract, but also that it must accord with the other, general requirements for a lawful and valid contract. More generally, the USA is by its nature able to govern both the procedure for running the corporation and the personal or individual rights of the shareholders: see Iacobucci, supra.

[67] The constitutional element of the USA is even more potent than its contractual features. Numerous provisions of the Corporations Act that govern fundamental aspects of the running of the corporation, including the management of its business and affairs (s. 97(1)), the issuing of shares (s. 25(1)), the passing of by-laws (s. 98(1)), the appointment of officers (s. 116), and the situations in which a dissenting shareholder can request dissolution of the company (s. 207(1)(b)), are expressly made subject to the USA. More generally, s. 6(3) reads as follows:

6(3) Subject to subsection (4), if the articles or a unanimous shareholder agreement require a greater number of votes of directors or shareholders than that required by this Act to effect any action, the provisions of the articles or of the unanimous shareholder agreement prevail. [Emphasis added.]

Subsection (4) stipulates only that the articles may not require a greater number of votes to remove a director than that required elsewhere in the Act, but does not place any such limitation on a USA. This denotes the equivalent constitutional status of the USA vis-à-vis the articles of incorporation.

[68] This status is greatly reinforced by s. 20(1) of the Corporations Act, which requires that a copy of any USA, along with the articles and by-laws of the corporation, be contained in the corporate records required by that section to be maintained at the registered office of the corporation. This is cogent evidence that the legislator has treated the corporation’s constating documents and the USA in pari materia. It is also significant that s. 240 of the Corporations Act includes USAs along with the Act, the regulations promulgated thereunder, and the articles and by-laws of a corporation as documents the breach of which entitle a complainant or a creditor to seek a compliance order or other remedy deemed appropriate by the court. As well, the provisions of a USA may be enforced against the corporation and its officers and directors although they need not be parties to the agreement. This stands as a further indication of the constitutional character of the USA.

[69] Thus, a USA can play a vital role in the de jure control analysis. If the Buckerfield’s test were to be followed slavishly and the inquiry limited only to the share register of the corporation, or even extended to the articles of incorporation and by-laws but not to USAs, then a company could circumvent the test or obfuscate the picture of corporate control simply by confining to a USA provisions that substantially alter the way in which corporate decisions are made. If, by a USA, the board of directors is deprived of the power to manage the business and affairs of the corporation, this is more than simply an issue of de facto control. It would defy logic to treat de jure control as remaining unaltered by an agreement which, by the very statute which governs the incorporation of the company and the governance thereof by its articles and by-laws, is given the same power as the articles to supersede the statutory provisions for corporate control. Not only is this a distinction without a difference, but it is also one without any principled foundation.

[70] As I have said, the essential purpose of the Buckerfield’s test is to determine the locus of effective control of the corporation. To my mind, it is impossible to say that a shareholder can be seen as enjoying such control simply by virtue of his or her ability to elect a majority of a board of directors, when that board may not even have the actual authority to make a single material decision on behalf of the corporation. The de jure control of a corporation by a shareholder is dependent in a very real way on the control enjoyed by the majority of directors, whose election lies within the control of that shareholder. When a constating document such as a USA provides that the legal authority to manage the corporation lies other than with the board, the reality of de jure control is necessarily altered and the court must acknowledge that alteration.

[71] Therefore, I would conclude that, while “ordinary” shareholder agreements and other external documents generally should not be considered in assessing de jure control, in keeping with the long line of jurisprudence to this effect, the USA is a constating document and as such must be considered for the purposes of this analysis. To this end, I must add that, to the extent that it held that a USA is not one of the constating documents of a corporation, Alteco, supra, was wrongly decided. It is true that, at common law, a unanimous agreement between or among shareholders would have been considered only as part of the de facto analysis. However, in my view, the unique status of the statutory form of USA in corporate law, when compared to other shareholder agreements, provides a complete answer to the appellant’s concern that the consideration of the USA for the present purpose would open the door to the consideration of all agreements between shareholders. Unlike an “ordinary” shareholder agreement, which cannot interfere with the exercise of the directors’ powers, a USA can and must do so. Moreover, as we have seen, a USA can in fact incorporate provisions that would otherwise be contained in the articles. Viewed in this light, I fail to see how the USA can be ignored as a vital determinant of de jure control.

[72] The appellant correctly points out that to recognize the USA as affecting de jure control begs the question of how much power must be removed from the directors before one may safely conclude that the majority voting shareholder no longer has de jure control. Certainly, the existence of a USA does not necessarily imply the loss of de jure control. But I cannot agree that there is no rational basis for determining when a majority shareholder loses de jure control on the basis of a restriction of the directors’ powers. As I will discuss in more detail below, this issue comes down to a question of fact, turning on the extent to which the powers of the directors to manage are restricted, to what extent these powers have devolved to the shareholders, and to what extent the majority shareholders are thereby able to control the exercise of the governing powers.

[73] Accordingly, two questions remain to be answered: whether the Agreement in this case was a USA, and, if so, whether it in fact deprived Marr’s of de jure control over Duha No. 2.

(b) Was the Agreement a USA?

[74] Section 1(1) of the Corporations Act defines a USA as, inter alia, an agreement of the type described in s. 140(2). Stone J.A. recognized that this section discloses a number of requirements for a valid USA: the agreement must be “otherwise lawful”, must be among all the shareholders of the corporation (as well as, possibly, a non-shareholder), and must restrict, in whole or in part, the powers of the directors to manage “the business and affairs of the corporation”. There is really no room for debate as to whether the Agreement satisfied the first two criteria. To the extent that the status of the Agreement is in question, the issue is whether it satisfied the third.

[75] In the view of Stone J.A., the Agreement satisfied those requirements and was therefore a USA. He based this conclusion on a technical analysis of the Agreement, and especially Article 2.1, which provided that the “affairs” of the corporation were to be managed by the board of directors, and Article 6.1, which provided for the settlement by arbitration of disputes between shareholders on matters concerning the “business” of the corporation. From these provisions, Stone J.A. inferred that the Agreement deprived the directors of Duha No. 2 of the power to manage the “business” of the corporation, leaving them with control only over its “affairs”. Because s. 1(1) of the Corporations Act defines “business” as a concept separate from and exclusive of “affairs”, Stone J.A. concluded that the Agreement restricted the s. 97(1) management power of the directors and was therefore a USA within the meaning of s. 140(2).

[76] For my part, I find this conclusion difficult to accept. To provide that the directors shall have the power to manage the “affairs” of the corporation cannot, without more, be taken to exclude them from the management of the “business”. Despite the separate definitions of the two concepts in s. 1(1), it seems to me that clearer language would be required to remove such a fundamental power from the directors. Moreover, it is not at all clear that “affairs” must be defined, for the purposes of the Agreement, by reference to its statutory definition -- especially, as I will discuss below, when to so define this term could lead to a rather awkward result. Indeed, the Concise Oxford Dictionary (9th ed. 1995) defines “affairs” as including “business dealings”. Considering this linguistic ambiguity in addition to the foregoing concerns, I do not think it safe to conclude that the intention of Article 2.1 was to deprive the directors of their power to manage the business of Duha No. 2.

[77] I take a similar view of the effect of Article 6.1. The presence of this arbitration clause to resolve disputes among shareholders does not lead to the conclusion that all business of the corporation was to be transacted by unanimous shareholder resolution, as the Minister contends. Again, clearer language would be required to achieve this end, particularly when it is considered that the result of such an arrangement would be that the entire corporation could be paralyzed by the dissent of a single shareholder on a very minor issue. A better interpretation, as contended for by the appellant, is that the word “business” in Article 6.1 was used to refer to corporate business that is ordinarily transacted among shareholders, rather than business of the corporation which is within the power of the directors to manage. In fact, this is consistent with s. 129(5) of the Corporations Act, which makes specific reference to “business” transacted by shareholders at an annual or special meeting of shareholders.

[78] Generally speaking, USAs exist to deal with major issues facing a corporation: corporate structure, issuance of shares, declaration of dividends, election of directors, appointment of officers, and the like. General business decisions are not ordinarily touched by such arrangements, and with good reason: it would not be efficient, for business purposes, to remit every decision, however minor, to a shareholder vote, let alone to require unanimous agreement among the shareholders on such decisions. Fundamental disagreements among shareholders are ordinarily dealt with by different means, such as, for example, buy-sell arrangements or other methods of dispute resolution. In exceptional cases, a USA may provide that an aggrieved shareholder may apply to the court for dissolution of the corporation and the return of his or her share capital. But these are long-term solutions which are agreed upon with a view to facilitating the ongoing operation of the business, undisturbed by the day-to-day wrangling and disagreements that often characterize the relationships among shareholders in closely-held companies, while permitting insurmountable disputes to be resolved by special measures. This is vastly different from requiring unanimous consent to every action taken in furtherance of the business of a corporation. Such an extraordinary corporate policy would require specific expression in the constating documents. In my view, the provisions cited by the Minister do not qualify as such.

[79] However, this is not to say that the Agreement does not affect the powers of the directors at all and, as such, is not a USA. On the contrary, Article 4.4, which prevented the corporation from issuing further shares “without the written consent of all of the Shareholders”, imposed a clear restriction upon the directors’ power to manage. According to s. 25(1) of the Corporations Act,

Subject to the articles, the by-laws and any unanimous shareholder agreement . . . shares may be issued at such times and to such persons and for such consideration as the directors may determine. [Emphasis added.]

Thus, by reserving to themselves one of the powers of management which the Act expressly grants to the directors, the shareholders obviously restricted in part the ability of the directors to manage the corporation. Additionally, the language of s. 25(1) makes clear that, in the absence of a specific provision in the constating documents, such can only be accomplished by means of a USA. To my mind, there is no doubt that this brings the Agreement within the terms of s. 140(2).

[80] To summarize my conclusions on this point, I agree with Stone J.A. that the Agreement constituted a USA, within the meaning of s. 140(2) of the Corporations Act, but for different reasons. While the provisions of Articles 2.2 and 6.1 did not, to my mind, pose any restrictions on the power of the directors to manage the business and affairs of the corporation, Article 4.4 surely did. The next question, therefore, is whether this particular USA had the effect of depriving Marr’s of de jure control over Duha No. 2.

(c) The effect of the USA

[81] As I have already said, the simple fact that the shareholders of a corporation have entered into a USA does not have the automatic effect of removing de jure control from a shareholder who enjoys the majority of the votes in the election of the board of directors. Rather, the specific provisions of the USA must alter such control as a matter of law. But to what extent must these powers be compromised before the majority shareholder can be said to have lost de jure control over the company?

[82] In my view, it is possible to determine whether de jure control has been lost as a result of a USA by asking whether the USA leaves any way for the majority shareholder to exercise effective control over the affairs and fortunes of the corporation in a way analogous or equivalent to the power to elect the majority of the board of directors (as contemplated by the Buckerfield’s test). There need be no concern that the consideration of USAs in the de jure analysis will lead either to uncertainty or to a situation where every USA would automatically imply a loss of de jure control by the majority shareholder. It will in every case be necessary to establish this result by examining the specific provisions of the USA in question.

[83] In my view, the provisions in the Agreement at issue in this case did not in fact result in the loss of de jure control by Marr’s. The inability to issue new shares without unanimous shareholder approval, while surely a restriction on the powers of the directors to manage the business and affairs of Duha No. 2, was not so severe a restriction that Marr’s can be said to have lost the ability to exercise effective control over the affairs and fortunes of the company through its majority shareholdings. In fact, Thurlow J. expressly found in Donald Applicators, supra, at p. 5125, that “the authority of the directors of the appellant companies [was] only slightly restricted or modified” from their statutory powers by their inability to issue new shares, and that this restriction did not have “any serious effect on the authority of the directors to govern the business of the company and generally to direct its affairs”. These holdings, along with the balance of the reasons in Donald Applicators, were affirmed by this Court.

[84] Thus, I would conclude that, in the circumstances of this case, the general rule holds. Marr’s, by virtue of its ability to elect the majority of the board of directors, enjoyed de jure control over Duha No. 2 immediately prior to its amalgamation with Outdoor. Nothing in the constating documents, including the USA, served to alter this state of affairs. Accordingly, there was no change in control occasioned by the amalgamation, which means that s. 111(5) of the Income Tax Act did not prevent Duha No. 3 from deducting from its 1985 taxable income the non-capital losses accumulated in previous years by Outdoor, regardless of whether or not the business of Outdoor was intended to be or was actually carried on by Duha No. 3 as a going concern.

(3) Summary of principles and conclusion as to control

[85] It may be useful at this stage to summarize the principles of corporate and taxation law considered in this appeal, in light of their importance. They are as follows:

(1) Section 111(5) of the Income Tax Act contemplates de jure, not de facto, control.

(2) The general test for de jure control is that enunciated in Buckerfield’s, supra: whether the majority shareholder enjoys “effective control” over the “affairs and fortunes” of the corporation, as manifested in “ownership of such a number of shares as carries with it the right to a majority of the votes in the election of the board of directors”.

(3) To determine whether such “effective control” exists, one must consider:

(a) the corporation’s governing statute;

(b) the share register of the corporation; and

(c) any specific or unique limitation on either the majority shareholder’s power to control the election of the board or the

board’s power to manage the business and affairs of the company, as manifested in either:

(i) the constating documents of the corporation; or

(ii) any unanimous shareholder agreement.

(4) Documents other than the share register, the constating documents, and any unanimous shareholder agreement are not generally to be considered for this purpose.

(5) If there exists any such limitation as contemplated by item 3(c), the majority shareholder may nonetheless possess de jure control, unless there remains no other way for that shareholder to exercise “effective control” over the affairs and fortunes of the corporation in a manner analogous or equivalent to the Buckerfield’s test.

B. Object and spirit

[86] In light of the foregoing conclusions, it is not necessary to consider whether the Federal Court of Appeal erred in considering the object and spirit of the Income Tax Act provisions, the intentions of the parties, and the commercial reality of the transactions, given that the relevant provisions of the Act are clear and unambiguous. However, I would like to comment briefly on the suggestion by the appellant that Linden J.A. would have denied the taxpayer the benefit of the provisions of the Act “simply because the transaction was motivated solely for tax planning purposes”.

[87] It is well established in the jurisprudence of this Court that no “business purpose” is required for a transaction to be considered valid under the Income Tax Act, and that a taxpayer is entitled to take advantage of the Act even where a transaction is motivated solely by the minimization of tax: Stubart Investments Ltd. v. The Queen, 1984 CanLII 20 (SCC), [1984] 1 S.C.R. 536. Moreover, this Court emphasized in Antosko, supra, at p. 327 that, although various techniques may be employed in interpreting the Act, “such techniques cannot alter the result where the words of the statute are clear and plain and where the legal and practical effect of the transaction is undisputed”.

[88] Although Linden J.A. cites these principles in his reasons, he appears not to have adhered to them in his analysis. At various junctures, he comments broadly about the apparent structuring of transactions, including the one at issue in this appeal, solely for tax purposes, and seems to imply, particularly in his analysis of the International Iron and Buckerfield’s cases, supra, that the courts will not permit shareholders to attain tax benefits by means of “contrived” transactions. To the extent that this analytical approach may have affected his ultimate decision, Linden J.A. was, with respect, in error. It was entirely open to the parties to use what Linden J.A. referred to as “technicalities of revenue law” to achieve their desired end: to transfer de jure control of Duha No. 2 to Marr’s while preventing Marr’s from exercising actual or de facto control over the business of the corporation. Indeed, this is what they accomplished, and nothing in the “object and spirit” of any of the various provisions can serve to displace this result. That is, while the general purpose of s. 111(5) may be to prevent the transfer of non-capital losses from one corporation to another, the parties successfully excepted themselves from the general rule by bringing the two companies under common control prior to their amalgamation.

VI. Disposition

[89] For these reasons, I would allow the appeal, set aside the judgment of the Federal Court of Appeal, and restore the judgment of the Tax Court of Canada, with costs to the appellant throughout.

Appeal allowed with costs.

Solicitors for the appellant: Aikins, MacAulay & Thorvaldson, Winnipeg.

Solicitor for the respondent: George Thomson, Winnipeg.