The order relate to the admissibility of two expert reports that Blackberry Limited wanted to submit in an appeal filed with the tax court concerning an assessment of approximately $17.1 million of FAPI (for research and development services received from US affiliates) and a reduction of the US corporate tax paid by US affiliate corporations when determining the FAT deduction. The first report contained an opinion on the development of international tax principles in Canada and the second report contained an opinion firstly, on alternative hypothetical transfer pricing structures and secondly, on the policy ramifications of a “hypothetical” model receiving similar treatment as that which the Appellant received from the Minister. The tax authorities held, that the reports were irrelevant, unnecessary and prejudicial and therefore inadmissable. Order of the Tax Court The Court ruled in favor of the tax authorities. “The two-step test for determining expert evidence admissibility was initially articulated by the Supreme Court of Canada (“Supreme Court”) in Mohan and subsequently clarified in White Burgess. The Supreme Court’s direction may be summarized below: 1. Threshold admissibility: This step consists of four questions: is the evidence logically relevant; is it necessary to assist the trier of fact; are there other exclusionary rules; and is the expert properly qualified. 2. Gatekeeper function / Residual discretion to exclude: This step is a cost-benefit analysis of the help and harm of the evidence. Does the probative value outweigh potential prejudice, confusion, and prolonged court time? This can be thought of as an application of the general exclusionary rule.”.  According to the Court the expert reports did not pass the test, but in the order the Court states that “Both Dr. Mintz and Mr. Rolph will have their inadmissible opinions otherwise placed before the Court, just not in the form of expert evidence. Dr. Mintz will be heard through the authentic, unvarnished Technical Report he helped author 24 years ago. Mr. Rolph will be heard through the introduction in argument and submissions by Appellant’s counsel of the analogous “hypotheses” and conclusions he has provided in Section 3 of his report.” ...

In 1992, Loblaw Financial Holdings Inc. (“Loblaw Financial”), a Canadian corporation, incorporated a subsidiary in Barbados. The Central Bank of Barbados issued a licence for the subsidiary to operate as an offshore bank named Glenhuron Bank Ltd. (“Glenhuron”). Between 1992 and 2000, important capital investments in Glenhuron were made by Loblaw Financial and affiliated companies (“Loblaw Group”). In 2013, Glenhuron was dissolved, and its assets were liquidated. For the 2001, 2002, 2003, 2004, 2005, 2008 and 2010 taxation years, Loblaw Financial did not include income earned by Glenhuron in its Canadian tax returns as foreign accrual property income (“FAPI”). Under the FAPI regime in the Income Tax Act (“ITA”), Canadian taxpayers must include income earned by their controlled foreign affiliates (“CFAs”) in their Canadian annual tax returns on an accrual basis if this income qualifies as FAPI. However, financial institutions that meet specific requirements benefit from an exception to the FAPI rules found in the definition of “investment business” at s. 95(1) of the ITA. The financial institution exception is available where the following requirements are met: (1) the CFA must be a foreign bank or another financial institution listed in the exception provision; (2) its activities must be regulated under foreign law; (3) the CFA must employ more than five full-time employees in the active conduct of its business; and (4) its business must be conducted principally with persons with whom it deals at arm’s length. Loblaw Financial claimed that Glenhuron’s activities were covered by the financial institution exception to the FAPI rules. The Minister disagreed with Loblaw Financial and reassessed it on the basis that the income earned by Glenhuron during the years in issue was FAPI. Loblaw Financial objected and appealed the reassessments. The Tax Court held that the financial institution exception did not apply, as Glenhuron’s business was conducted principally with non-arm’s length persons. In reaching its decision, the court considered the scope of Glenhuron’s relevant business, looking at its receipt of funds and use of funds. It included in its analysis all receipts of funds indiscriminately, treating capital injections by shareholders and lenders like any other receipt of funds. The Tax Court also viewed Glenhuron’s use of funds as the management of an investment portfolio on the Loblaw Group’s behalf and regarded the influence of the Loblaw Group’s central management as pervading the conduct of business because of the Loblaw Group’s close oversight of Glenhuron’s investment activities. The Federal Court of Appeal disagreed with the Tax Court’s interpretation of the arm’s length requirement and with its analysis based on receipt and use of funds. It held that only Glenhuron’s income-earning activities had to be considered. It also found that direction, support, and oversight by the Loblaw Group should not have been considered, because these interactions are not income-earning activities and thus do not amount to conducting business with the CFA. It concluded that Glenhuron was dealing principally with arm’s length persons, and that Loblaw Financial was entitled to the benefit of the financial institution exception and did not need to include Glenhuron’s income as FAPI. It referred the reassessments back to the Minister for reconsideration However, the Tax Court’s interpretation of a technical provision in the Canadian legislation had the consequence that Loblaw would nonetheless have to pay $368 million in taxes and penalties. Judgement of the Supreme Court The Supreme Court upheld the decision of the Federal Court and set aside the assessment. The tax exception did apply, so Loblaw Financial did not have to pay taxes on the money made by Glenhuron. The arm’s length requirement was met. According to the Court “the FAPI regime is one of the most complicated statutory regimes in Canadian law”, but the question in this appeal is simple. Is a company “doing business” with a foreign affiliate when it manages and gives money to it? No. When the arm’s length requirement in the Income Tax Act is read in its grammatical and ordinary sense, it is clear money and management to an affiliate is not included in “doing business”. Loblaw Financial managed and gave money to Glenhuron, but it was not doing business with it. Rather, as a corporate bank, Glenhuron was doing business with other companies not related to it. So, the arm’s length requirement was met. As a result, the tax exception applied, and Loblaw Financial did not have to pay taxes on the money made by Glenhuron for the years in question. Click here for other translation ...