By: Adam Aptowitzer
The recent Supreme Court of Canada decision in Canada v. Fairmont Hotels Inc.[1] is of interest to the entire legal community but of perhaps particular importance in the tax world. The case dealt with the concept of rectification – usually only examined in detail in the first year of law school. Rectification is used when a written contract does not reflect the intention of the parties. In those cases a Court can change the contract to match the intentions of the parties. Whereas this can be an issue for all contracts in all circumstances, the tax world is particularly interested in the concept because not only do tax consequences flow from almost every agreement but those consequences are often the reason for the agreement in the first place – particularly between non arm’s length parties. Consequently, if the agreement does not effect the desired tax consequences parties have been known to seek rectification in order for the agreement to be changed and the desired outcome achieved.
The formal concept of rectification for those of us who went to law school prior to the Ontario Court of Appeal decision in Juliar[2] (2000) meant, quite simply, that if the written words on the page did not represent the agreed upon intention of the parties then rectification was the appropriate remedy to change the contract – with the blessing of the relevant Court. However, in Juliar the concept was subtly changed but with major consequences. There the Court held that rectification could be granted if the outcome of the agreement rather than the agreement itself did not reflect the intention of the parties. Of course, rectifying a contract to change the outcome is different than amending a contract which does not reflect the intention of the parties.
In Fairmont Hotels the Supreme Court effectively returned the law back to its previous state. Namely, rectification is only available where the agreement does not reflect the intention of parties. If the outcome is an undesired outcome but the words reflect what the parties wanted to do then rectification cannot be granted. Moreover, the Court held that there must be some extrinsic evidence to indicate what the parties actually intended for the wording of the document before a Court can amend the agreement.
This is a particular concern in the tax community where agreements are often structured between taxpayers and related entities. Often times, agreements between these parties are executed only for tax purposes. Especially under these circumstances it would be imperative for advisors to have a solid understanding of the tax consequences of a particular set of transactions prior to reducing the agreement to writing. It may also be important that planning memos be produced prior to any transaction so that the extrinsic evidence can be produced just in case rectification is required. Further, in a situation where counsel are developing agreements in which the CRA may have an alternate application of the law to the facts it may be wise to detail the reasoning behind the agreements at the time they are signed. In this way, if a lawyer needs to rectify the agreements at least the evidence will be prepared.
[1] 2016 SCC 56
[2] Juliar v. Canada (Attorney General) (1999), 46 O.R. (3d) 104, aff’d (2000), 50 O.R. (3d) 728