Reviewed by Jinyan Li, Canadian Tax Journal/Revue Fiscale Canadienne Vol. 65, No. 3 (2017), pp. 836-839
The income tax system in many mature democracies, such as Australia, Canada, the United Kingdom, and the United States, has been in place for about 100 years. Canada is commemorating the centennial of the 1917 Income War Tax Act this year. The fundamental functions, structure, and policy objectives of income taxation have remained more or less unchanged, even though the governing legislation has become more complex, more nuanced, and more messy. One of the most significant changes in recent decades has been the introduction of anti-avoidance measures to force everyone (taxpayers, tax administrations, and judges) to find the true purpose and intent of tax law by piercing through layers and layers of technicalities; and to test such a purpose against artfully designed tax structures. Domestically, most countries have introduced a general anti-avoidance rule (GAAR). On the international front, the base erosion and profit shifting (BEPS) project, led by the G20 and the Organisation for Economic Co-operation and Development (OECD), aims at, among other things, allocating profit to the jurisdiction in which actual (as opposed to artificial, or “paper”) economic activities take place, establishing global cooperation and collaboration in sharing information about taxpayers and about other tax administrations’ practices (such as rulings), and creating a multilateral tax instrument (MLI) to reduce the gaps created by bilateral tax treaties. BEPS measures other than the MLI, which has the force of law in respect of the signatories and the covered tax agreement, are non-legally binding soft law, or norms. Their implementation may depend on the domestic GAARs.
GAARs – A Key Element of Tax Systems in the Post-BEPS Tax World, edited by Michael Lang and five other leading international tax experts, is a timely and valuable contribution to the literature and the current debates about tax law in a post-BEPS world. The book has 38 chapters, consisting of an opening chapter by Rick Krever (“General Report: GAARs”), a chapter on the European Union, and individual chapters on 36 countries, including common-law jurisdictions (for example, Australia, Canada, New Zealand, the United Kingdom, and the United States), civil-law jurisdictions (Austria, France, Italy, Mexico, and Spain), as well as BRICS (Brazil, Russia, India, China, and South Africa). The Canadian chapter’s author is Martha O’Brien. The authors participated in a conference held on 3-5 July 2014, where they addressed issues identified in a common questionnaire, which is found in an appendix to the book. The structuring of the country-specific papers follows the topic headings in the questionnaire:
1. GAARs – an emerging trend in the tax landscape and in the political debate of
2. Requirements for the application of GAARs
3. Legal consequences of applying GAARs
4. GAARs and SAARs (specific anti-avoidance rules)
5. GAARs and tax treaties
6. GAARs and EU law requirements (the freedoms; directives)
7. GAARs and recent European developments (CCCTB; recommendations of the Commission)
8. Alternatives to GAARs.
Krever’s opening chapter offers much more than the synthesis of other chapters that we usually find in general reports of this kind. Krever provides deeper insights about GAARs than the aggregate of the country-specific chapters. He begins by highlighting the importance of GAARs:
“Quite possibly no other feature of tax law provides a better insight into a nation’s tax psyche than its anti-avoidance rules. The intersection of general anti-avoidance rules (GAARs) – as well as their ancillary specific anti-avoidance rules (SAARs) – with operative provisions of tax law reveals much about all aspects of a country’s tax system: citizens’ tax morale; judicial perspectives on taxation and legal interpretation; drafters’ inclinations towards technical or principled drafting; and legislators’ willingness to confront politically sensitive issues or their tendency to delegate the tough decisions to administrators and courts.”1
Because of their sensitivity to a country’s individual tax psyche, the GAARs of different countries are different. Krever explains the wide spectrum of GAARs in terms of their scope, role, application, and effectiveness across different countries. However, there is a common theme to the GAARs – because of the inherent uncertainty arising from a GAAR and the rule’s lack of precise borders, great power and responsibility devolve to the adjudicators. Krever notes that supporters of a GAAR have to trust that the judges will exercise those powers “as good men”.2
Krever classifies the GAARs according to four models: the “acts and benefits” model; a statutory “substance over form” model; a “judicial abuse of law” model; and a “statutory abuse of law” model. The Canadian GAARs corresponds to the “acts and benefits” model because it looks at acts carried out by taxpayers and at benefits realized, with no need to identify an economic substance.
There are some remarkable similarities among the different GAAR models with respect to the types of avoidance cases addressed. A common situation is one in which the tax law offers, on its face, alternative tax outcomes depending on the form or structure of a transaction, and taxpayers proceed to arrange their affairs to qualify for the less-taxed form or structure by (1) substituting a multi-step and multi-party arrangement for the simple transaction that attracts a higher tax burden or (2) shifting a transaction from one tax rule to another not by establishing alternative structures and arrangements but simply by relabelling a transaction as a different form. Another common type of GAAR case is one where the taxpayer seeks to exploit the literal interpretation of rules. Irrespective of the types of avoidance transactions being addressed, the GAARs commonly have a subjective test: Was the taxpayer’s purpose, in using the transaction or arrangement under attack, to avoid tax?
Krever explains the importance of the “counterfactual” in the application of GAARs. For a GAAR to succeed and tax to be recovered, tax authorities must be allowed to “develop a counterfactual to the tax-motivated events that actually took place and assess on the basis of that hypothetical transaction”.3 According to Krever, this counterfactual can be a hypothetical alternative or a recharacterized transaction that achieves the same economic outcome as the steps actually taken. He claims that “a fully effective GAAR must also envisage a hypothetical ‘nil transaction’ – the fiction that the taxpayer would not have entered into any transaction if the actual one undertaken is disregarded for tax purposes”.4
In the rest of his general report on GAARs, Krever discusses the relationship between GAARs and SAARs, tax treaties, and EU law. He also canvasses viable alternatives to a GAAR, such as better-drafted tax law in general, better-drafted GAARs, better-designed tax expenditures, and a shift to principle-based drafting that removes many of the weaknesses currently exploited by taxpayers. He notes, however, that “there are precious few examples of jurisdictions moving to principle-based drafting or other drafting techniques to overcome the features in their tax laws that have given rise to avoidance opportunities”5 and therefore GAARs continue to be needed.
Canadian readers of the country-specific reports may be interested in the reports concerning jurisdictions that have investment and trade interactions with Canada; these reports may provide a sense of the application of the GAARs in those jurisdictions. The Canadian report by O’Brien provides an excellent overview of GAAR and its relationship with SAARs and tax treaties. O’Brien notes that the BEPS report has not had any direct influence on GAAR in Canada (this was true at the time of her writing the report, in 2014, and it is true today). She also reviews the cases involving GAARs in the tax laws of Canadian provinces, and she suggests, without providing further analysis, that the provincial GAARs may indicate how an international GAAR might be designed.6 It would be interesting to learn why the provincial GAARs could shed light on the design of an international GAAR, given that the provincial GAAR is largely a copy of federal GAAR. It is difficult to imagine that any sovereign country would transplant a foreign GAAR without adjusting it to suit the local tax psyche.
1 Lang et al., at 1.
2 At 3, quoting the minister who oversaw the introduction of a GAAR in the Netherlands.
3 At 11.
5 At 20.
6 At 167.