Tomorrow morning (November 20, 2012), the Federal Court of Appeal is scheduled to hear an appeal by Morguard Corporation (“Morguard”, formerly operating as Acktion Corporation), regarding the taxation of a “break fee” received as a result of a failed takeover bid.
Break fees are an agreed-upon fee to be paid by or on behalf of a target corporation to a prospective purchaser on the rejection of that prospective purchaser’s bid and the acceptance of another offer. Break fees are intended to reflect, more or less, the monetary and non-monetary costs incurred by the prospective purchaser in making a bid, and are common in sophisticated takeover transactions.
The Morguard case concerns a $7.7 million break fee received by Morguard on withdrawal from a bidding war. In its return, Morguard treated the payment as a capital gain but was reassessed by the Minister of National Revenue on the basis that the amount was an income receipt. On appeal to the Tax Court of Canada, the trial judge agreed with the Minister’s position that, on the facts of the case, the break fee represented income and should be taxed accordingly. For our analysis of the Tax Court decision, see our earlier blog post.
The taxpayer has appealed the trial judge’s decision to the Federal Court of Appeal on the basis that the lower court erred in law and in fact. The Appellant has described the issues raised in the appeal as follows:
- Whether the trial judge erred in law by concluding that the taxpayer received the break fee on income account rather than capital account.
- If received on capital account, whether the break fee was received in circumstances that gave rise to a capital gain.
- Whether the trial judge made palpable and overriding errors in finding that the taxpayer was in the business of doing acquisitions and takeovers, and received the break fee in the ordinary course of its business similar to the receipt of dividends, rents, or management fees.
- Whether the trial judge made a palpable and overriding error in finding that the break fee was not linked to a capital purpose of the taxpayer.
- Whether the trial judge erred in law in his interpretation and application of the Supreme Court of Canada decision in Ikea Ltd. v. Canada  1 S.C.R. 196.
- Whether the trial judge erred in law by applying the legal test developed by the Federal Court of Appeal in The Queen v. Cranswick (82 DTC 6073) to break fees.
The Crown, on the other hand, has framed the issues as follows:
- Whether the trial judge committed a palpable and overriding error in finding that the negotiation and receipt of the break fee by the appellant was part of the ordinary course of its regular real estate business.
- Whether the trial judge was correct in concluding that the break fee should be included in the computation of the appellant’s income because it was received in the ordinary course of its business.
- Whether the trial judge correctly applied the jurisprudence to conclude that the break fee was not a windfall.
We intend to report again after the hearing in the Federal Court of Appeal.