New Hope For Taxpayers Caught in Charitable Donation Tax Shelter Schemes
by Alexandra Tzannidakis
In November 2012, the Tax Court of Canada added an interesting new twist to the epic story of Canada Revenue Agency versus tax shelters with its decision in Berg v The Queen. The story is an old one. Every year, many Canadian taxpayers are seduced by the quick profit and respectable veneer of tax shelter schemes that turn on charitable donations. In return for fees paid to a promoter, they are offered a way to cut their taxes via inflated charitable donation receipts.
The CRA is, of course, well aware of these types of arrangements. The appellant in Berg had engaged in a common type of leveraged donation, where he bought some timeshare units that he paid for mostly by a loan (in the form of a promissory note) that was not actually intended to be repaid. He then donated the units to a registered charity and received a charitable donation receipt for the full, severely inflated amount, despite the fact that he was only out of pocket about ten percent of that amount.
In recent years, the CRA has been attacking such schemes on the basis that this type of donation does not qualify as a gift to the charity. Because the loan is conditional on making the donation, the whole thing is viewed as a business transaction for which each party received a benefit.
Although the Income Tax Act doesn’t define a “gift”, the leading case of Friedberg relies on the general principles of law state that a gift is “a voluntary transfer of property owned by a donor to a donee, in return for which no benefit or consideration flows to the donor,” with the practical exception that a tax advantage does not count as a benefit. However, a low-interest loan is considered to be a benefit. The CRA has been relying on the decision in Maréchaux to argue that where a donation is inextricably tied to the received benefit, no part of the arrangement can be considered a gift given without expectation of return. This means the CRA has been denying not only the inflated portion of taxpayers’ claimed credits, but the entire amount outright.
The problem with the CRA’s approach is that there is a long and straight trail of cases that make it clear that a donor’s underlying motivation for making a donation is irrelevant so long as the technical intention to make the gift exists. As the TCC put it in Klotz, “a charitable frame of mind is not a prerequisite to getting a charitable gift tax credit..No motive vitiates the tax consequences of a charitable gift” so long as the other elements of that gift are in place.
The distinguishing feature of Berg is that Mr. Berg was clever enough to have the party who gave him the loan sign a discharge for it, so that they couldn’t come calling later to collect on what was not meant to be a real debt. In a surprise move, Mr. Berg also eventually accepted the Crown’s assertion that the transaction documents were mere pretenses meant to obscure the property’s true value from the CRA. The court concluded from this that the transaction documents were not legally effective and therefore conferred no benefit on Mr. Berg beyond the inflated receipts. Unlike the assertion in Maréchaux that the loan (benefit) and donation were inextricably linked, the court in Berg saw fit on the facts to separate the two out. Mr. Berg’s gift, to the extent of the value of what he actually paid for the property, was found to meet the legal test of a charitable gift and was therefore eligible for the charitable donation tax credit.
It is obvious that the court was not happy with Mr. Berg for his ruse against the CRA, and indeed partly for this reason denied him the costs to which he would otherwise have been entitled. However, the judgment is a significant win for the appellant and, what is more, it has upset an entrenched line of CRA policy in the area. It will likely be a ray of hope to the many taxpayers who were denied tax credits for the parts of their reassessed donations that they actually paid for. We wait with interest to see whether Berg will be the basis of any successful challenges.