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Blog by Shaun Kimmins | January 8th, 2009


SCOC rules against mortgage scheme

Janice Tibbets, Canwest News Service

Published: Thursday, January 08, 2009

OTTAWA - A Toronto couple who attempted a complicated manoeuvre to effectively make the mortgage on their home tax deductible abused federal income tax laws, the Supreme Court of Canada ruled Thursday.

"It has long been a principle of tax law that taxpayers may order their affairs so as to minimize the amount of tax payable," Justice Louis LeBel wrote for the 4-3 majority. "However, this principle has never been absolute."

The split decision is a defeat for Earl and Jordanna Lipson, a Toronto couple who swapped non-deductible interest for deductible interest while buying their $750,000-home in 1994.

The scheme involved paying down their mortgage immediately after obtaining it, then using the repaid principal as collateral for an investment loan, which is tax deductible under the Income Tax Act.

The federal tax collector went after Earl Lipson, who then took his fight to the Tax Court of Canada.

A judge ruled that the Lipson transactions did not technically break the law, but that the scheme "was an obvious example of tax avoidance" because it was clearly intended to make the mortgage interest tax deductible.

The court's conclusion that the purpose of the transaction should be taken into account in deciding its legality was later upheld by the Federal Court of Appeal.

The case, which is a test of the legal limits of tax avoidance, has drawn enormous attention among tax advisers and the Supreme Court chamber was packed last April when the appeal was heard.

Toronto tax expert Jamie Golombek said that manoeuvring to make mortgage interest tax deductible has become increasingly commonplace in Canada but "a cloud has been hanging over this technique" for the last couple of years in light of the Lipson court battle.

A central issue in the case is the interpretation of an Income Tax Act principle, called the General Anti-Avoidance Rule (GAAR).

Enacted in 1988 to reduce abusive tax avoidance, the GAAR can make legal transactions illegal for being a "misuse or abuse" of the rules.

Writing in dissent, Justice Ian Binnie described the GAAR as "a weapon that, unless contained by the jurisprudence, could have a widespread, serious and unpredictable effect on legitimate tax planning."

The latest ruling builds on a 2001 Supreme Court decision that upheld a tax avoidance measure made by Vancouver lawyer John Singleton, who used $300,000 from an account at his firm to buy a house. He then went to the bank and borrowed $300,000 and used the money to repay the law firm account, effectively making his mortgage interest tax deductible.

That case, however, did not deal with whether the tax avoidance technique - which has been coined the Singleton Shuffle - was a violation of GAAR.

The Lipson manoeuvre was a more complicated version of the Singleton Shuffle.

 

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