Introduction: New Provincial Disclosure Obligations in Quebec for Nominee Agreements
A “nominee agreement” is a type of counter letter (or secret contract between taxpayers) in which one party (the “principal”) contractually agrees to grant a nominee a mandate to act on behalf of the principal. Under that mandate, the nominee can enter into contracts with a third-party on behalf of the principal without being obligated to disclose that the nominee is actually acting on behalf of the principal. In essence, a nominee agreement is another term to refer to a bare trust relationship, in which the nominee or bare trustee will be registered on title for property acquired, but that nominee will have no other ownership interest in the property or power to manage the property outside of the principal’s directions. While Canadian common law permits the creation of bare trust relationships, because Québec employs a civil law system, the power to create secret contracts like nominee agreements is instead derived under Article 1451 of the Québec Civil Code.
On September 24, 2020, the Government of Québec passed Bill 42, implementing new mandatory disclosure obligations for nominee agreements. Under that legislation, any nominee agreement entered into on or following May 17, 2019, must be disclosed to Revenu Québec (“RQ”) by preparing and filing Form TP-1079.PN (“Disclosure of a Nominee Agreement”) with the Québec Revenue Agency. Although there are no federal disclosure requirements for a nominee agreement, at the 2021 APFF Financial Strategies and Instruments Roundtable the Canada Revenue Agency (“CRA”) was asked to reconcile Québec’s new disclosure requirements and its policy views on disclosure of counter letters, which include nominee agreements. Specifically, the CRA was questioned whether it would accept a completed Form TP-1097.PN as a sufficient form of disclosure to satisfy the CRA’s published views that any secret contract be disclosed to the CRA for assessing taxes payable. While the CRA’s response to that question may be viewed as dismissive, the resulting Income Tax Ruling 2021-0901061C6 (“Disclosure of a Counter Letter”) published on October 7, 2021, revived important questions concerning Canadian taxpayers’ obligations to disclose transactions involving secret contracts to the CRA.
This article will first address the content of RQ’s Form TP-1079.PN, when it must be used for nominee agreements, and what it requires taxpayers to disclose. It will then address CRA’s views concerning disclosure of counter letters including nominee agreements. Finally it will then briefly discuss the implications of CRA’s Income Tax Ruling 2021-0901061C6, and what future challenges may be faced by taxpayers concerning counter letters in light of federal mandatory disclosure rules planned to come into effect in 2023 in Canada.
RQ’s Form TP-1079.PN (“Disclosure of a Nominee Agreement”)
Under Quebec’s mandatory disclosure rules, a taxpayer is obligated to disclose the existence of a nominee agreement concluded for a transaction or series of transactions by filing a completed Form TP-1079.PN with RQ within 90 days of the nominee agreement being concluded. Disclosure of a nominee agreement is not mandated by RQ using Form TP-1079.PN in two circumstances. First, disclosure is not required if the nominee agreement had no actual consequences for income-tax purposes. Second, disclosure is not required if the following conditions are met:
- The nominee agreement was concluded between an individual and a “related person” (within the meaning of the Canadian Income Tax Act, including individuals connected by blood relationship, marriage, common-law partnership or adoption);
- The nominee agreement covers the purchase of an “immovable” (that is to say, real property) exclusively for the individual’s personal use;
- The related person co-signed, at the request of a financial institution, when financing the purchase of the immovable; and
- Under the nominee agreement, the related person co-signed for no more than 50% of the immovable.
As part of filing Form TP-1079.PN, the identity of taxpayers and partnerships party to the nominee agreement must be provided, as well as a full description of the contractual elements and tax consequences of the agreement. Crucially, should the nominee agreement exist in written form it must be included with the disclosure as well.
Failure to disclose on time risks each party becoming jointly and severally liable for a penalty of $1,000, and an additional penalty of $100 for every day thereafter to a maximum penalty of $5,000. Although each qualifying nominee agreement must be disclosed, disclosure by one party to the nominee agreement will be considered as full disclosure by every other party to the agreement. Further, where disclosure is made concerning a partnership, successful disclosure deems every partner of that partnership to have made disclosure.
CRA’s Long-Standing Policy Concerning Counter Letters and the Avoidance of Shams
CRA has maintained, and continues to maintain, the position that parties to a counter letter are obligated to disclose the terms of that agreement and its consequences for Canadian income tax purposes to the CRA on a timely basis. The CRA has expressed that any failure to disclose relevant documentation with respect to a counter letter would qualify as a misrepresentation due to carelessness, neglect or wilful default justifying a reassessment of tax liability after the statute-barred period has passed under subsection 152(4) of the Canadian Income Tax Act. As well, the failure to disclose the true terms such an arrangement could attract gross negligence penalties under subsection 163(2) of the Canadian Income Tax Act.
The CRA has adopted a hard stance toward mandating disclosure of counter letters for a respectable reason. As ruled by the Supreme Court of Canada in Shell Canada Ltd. v Canada,  3 SCR 622, unless it can otherwise be concluded that a transaction or series of transactions is a sham or the transaction is contrary to the provisions of the Canadian Income Tax Act, then the CRA is obligated to respect the true legal relationship between the parties. Where the true legal relationship of parties is not expressed by the apparent contract that is formed between taxpayers, it becomes impossible to accurately assess taxpayer liability.
A counter letter may not be objectionable from a tax law perspective, either because it does not affect parties’ tax obligations or because the tax consequences of the counter letter are fully disclosed. However, using a counter letter or other secretive arrangement in a deceptive way does invite the question as to whether the arrangement is a sham. A sham for Canadian tax law purposes is a very specific type of arrangement that requires an element of deceit. The parties to an arrangement must have intended to deceive or mislead others (in the case of tax matters, the CRA) into believing that the rights and obligations between the parties were different than what they truly were, and thereby misrepresenting the legal effect of the transaction. It is not necessary that the parties turned their mind to actively deceiving others; all that is required is that parties present the transactions as being different from what they know it truly is.
Evidence of deceit can be obtained from two sources:
- By analyzing objective evidence that explain how the transactions were constructed; and
- By looking at circumstantial evidence and how the transaction or series of transactions were actually conducted between parties.
This can include among other factors; (1) the circumstances surrounding the development of a particular structure for the transaction(s); (2) the parties’ relative due diligence, involvement and oversight in participating in the transactions; (3) the parties’ ordinary business and investment practices; (4) the parties’ state goals and reasons for entering into the transactions; and (5) the legal rights and obligations as defined by transaction documents.
A sham must be proven on a balance of probabilities. Where a sham is found to exist the CRA and the courts will disregard the representations made by parties and look to the real transaction that occurred, which may result in denying the parties the tax benefits they sought to obtain. The purpose of CRA mandating disclosure of counter letters is therefore not to object to secret arrangements in which taxpayers properly account for the tax consequences of entering those arrangements. Rather, the purpose of mandating disclosure is to allow the CRA to ensure that taxpayers are properly assessed taxes for the transactions they engaged in and to aid in preventing taxpayers from engaging in sham transactions by disguising the true legal relationships formed between parties.
Role of Form TP-1079.PN in Meeting CRA Obligations to Disclose Counter Letters
At the 2021 APFF Financial Strategies and Instruments Roundtable, the CRA was questioned whether it would accept a completed Form TP-1097.PN as a sufficient form of disclosure to satisfy the CRA’s published views that any secret contract be disclosed to the CRA for assessing taxes payable. The CRA reaffirmed its position that counter letters must be disclosed in a timely manner, and refused to accept that filing a completed Form TP-1079.PN would be sufficient on its face to meet those obligations. Rather, CRA continues to expect that taxpayers will fully disclose, with all relevant documentation, those relationships to allow it to property assess those involved taxpayers. Thus, since it remains the taxpayer’s responsibility to ensure that disclosure is timely and complete, and that evidence provided is sufficient to determine the tax consequences of a particular counter letter or secret contract, a knowledgeable Canadian tax lawyer should be consulted.
Pro Tax Tip – New Mandatory Disclosure Obligations and Counter Letters
As part of the 2021 Federal Budget, the Minister of Finance proposed the creation of a new category of “notifiable transactions” under the Canadian Income Tax Act, in an effort to supervise Canadian taxpayers engaging in tax planning structures with uncertain tax treatments. Under the proposed amendments to the Canadian Income Tax Act, the Minister of Finance jointly with the Minister of National Revenue would be granted the power to designate a particular transaction or series of transactions as “notifiable transactions”. A transaction declared as a notifiable transaction would require any Canadian taxpayer engaged in a same or similar arrangement to file an information return disclosing their participation in that arrangement with the CRA.
Although counter letters have not been explicitly addressed as part of the Ministry of Finance’s published sample notifiable transactions, the CRA expressed as part of Income Tax Ruling 2021-0901061C6 that counter letters could very well be designated as notifiable transactions in the future. Should this ever be the case, then the penalties a taxpayer may face for non-disclosure would then step out of the realm of CRA policy and into the world of black-letter law. Specifically, the period of reassessment for a notifiable transaction remains live under the proposed section 237.4 as long as a taxpayer has failed to file an information return. Further, individuals who file late are subject to a maximum penalty of the greater of $25,000 and 25% of the tax benefit obtained from the transaction, while corporations with asset ownership over $50 million may be subject to a penalty of the greater of $100,000 or 25% of the tax benefit.
Being aware of how your arrangements are characterized for Canadian tax law purposes is therefore vital to preventing the unnecessary risk of facing CRA audits years after those arrangements have concluded. In order to prevent those issues from arising, you should absolutely consult with a top Canadian tax lawyer in Toronto to ensure that you will not face the risk of CRA action under its current administrative policies, as well as ensuring compliance with the future mandatory reporting obligations under the Canadian Income Tax Act to come into effect in 2023.
1) What is Revenu Quebec’s Form TP-1079.PN?
On September 24, 2020, the Government of Québec passed Bill 42, requiring that any nominee agreement entered into on or following May 17, 2019 be disclosed to Revenu Québec by preparing and filing Form TP-1079.PN (“Disclosure of a Nominee Agreement”). A Canadian taxpayer is obligated to file a completed Form TP-1079.PN for a qualifying nominee agreement with Revenu Québec within 90 days of the nominee agreement being concluded, and must include among other details the identity of taxpayers and partnerships party to the nominee agreement, and a full description of the contractual elements and tax consequences of the agreement. Failure to disclose on time risks each party becoming jointly and severally liable for a penalty of $1,000, and an additional penalty of $100 for every day thereafter to a maximum penalty of $5,000.
2) What is a counter letter?
A “counter letter” is a type of secret contract formed between parties that is used to disguise the true intent of those parties from any third parties they are otherwise dealing with. A nominee agreement, or a bare trust agreement, is one example of a counter letter. Under a nominee agreement or a bare trust, a principal grants a nominee or bare trustee with the power to enter into contracts and hold property for the principal. The nominee or bare trustee will be registered on title for property acquired under contract but otherwise holds no ownership interest in that property or has no powers or responsibilities to manage the property outside of the principal’s directions.
3) What is a sham for Canadian tax law purposes?
As ruled by the Supreme Court of Canada in Shell Canada Ltd. v Canada,  3 SCR 622, unless it can otherwise be concluded that a transaction or series of transactions is a sham or the transaction is contrary to the provisions of the Canadian Income Tax Act, then the CRA is obligated to respect the true legal relationship between the parties. A sham exists where taxpayers participating in an arrangement intended to deceive or mislead others (in the case of Canadian tax matters, the CRA) and misrepresent the legal effect of that arrangement. It is not necessary that the taxpayers turned their mind to actively deceiving others; all that is required is that parties present the transactions as being different from what they know it truly is.
4) What is the CRA’s view concerning the disclosure obligations of taxpayers who sign secret contracts and comfort letters?
The CRA reaffirmed its view in Income Tax Ruling 2021-0901061C6 that taxpayers who are parties to a counter letter are obligated to disclose that involvement and enough detail concerning the arrangement for the CRA to properly assess those taxpayers. It is not enough for those taxpayers to simply refile a copy of Form TP-1079.PN that was filed with Revenu Québec. Instead, it is the taxpayer’s responsibility to provide enough documentary evidence concerning the comfort letter to determine the true legal relationship between taxpayers and their resulting tax obligations.
"This article provides information of a general nature only. It is only current at the posting date. It is not updated and it may no longer be current. It does not provide legal advice nor can it or should it be relied upon. All tax situations are specific to their facts and will differ from the situations in the articles. If you have specific legal questions you should consult a lawyer."