Tax Court of Canada Judgments

Docket: 2003-2379(IT)G

BETWEEN:

SEDONA NETWORKS CORPORATION,

Appellant,

and

HER MAJESTY THE QUEEN,

Respondent.

____________________________________________________________________

Appeal heard on July 28, 2005, at Montreal, Quebec.

Before: The Honourable Justice Pierre Archambault

Appearances:

Counsel for the Appellant:	Robert Taylor Al-Nawaz Nanji
Counsel for the Respondent:	Daniel Bourgeois Carole Benoit

____________________________________________________________________

JUDGMENT

          The appeal from the assessment made under the Income Tax Act for the 1999 taxation year is dismissed, with costs to the Respondent, in accordance with the attached reasons for judgment.

Signed at Ottawa, Canada, this 2^nd day of March 2006.

« Pierre Archambault »

Citation: 2006TCC80

Date: 20060302

Docket: 2003-2379(IT)G

BETWEEN:

SEDONA NETWORKS CORPORATION,

Appellant,

and

HER MAJESTY THE QUEEN,

Respondent.

REASONS FOR JUDGMENT

Archambault J.

[1]      Sedona Networks Corporation (Sedona) is appealing an assessment issued by the Minister of National Revenue (Minister) for the 1999 taxation year. The Minister denied Sedona's claim for refundable tax credits in the amount of $927,785 because he considered that Sedona was not, throughout this taxation year, a Canadian-controlled private corporation (CCPC) according to the definition of that term in subsection 125(7) of the Income Tax Act (Act), as required by subsections 127(10.1), 127.1(1)(2) and (2.01) of the Act.[1]

[2]      Sedona's shareholders are Canadian residents (including public corporations) and non-residents. The difficulty raised by this appeal concerns the application of the rule (hypothetical shareholder rule) in paragraph (b) of the definition[2] of CCPC. For the purpose of determining whether a corporation (target corporation) is controlled by non-residents, public corporations or corporations a class of the shares of which is listed on a prescribed stock exchange (these three categories of shareholders being referred to as disqualifying shareholders), this rule provides that each share of a corporation owned by such disqualifying shareholders should be treated as if it was owned by a "particular person" (hypothetical shareholder). One of the issues is whether paragraph 251(5)(b)[3] of the Act applies for the purposes of the rule, and, if so, how it does. This paragraph deems, inter alia, certain persons having rights (option rights) to acquire shares or to control the voting rights of shares of a corporation to have been in the same position in relation to the control of the corporation as if they owned the shares. Another issue is how to treat, for the purposes of the hypothetical shareholder rule, the shares owned by one corporation (controlled by a public corporation) when the voting rights of these shares have been transferred to another corporation (not a public corporation). The last issue is a factual one: whether a certain non-resident, a Mr. Manouch Khezri, had been granted a right to acquire shares of Sedona during its taxation year ending on September 30, 1999.

Facts

[3]      Most of the facts are not in dispute. Sedona was incorporated in 1998 under the Canada Business Corporations Act (CBCA) and was, throughout its 1999 taxation year, a private corporation as defined in subsection 89(1) of the Act. It was in the business of developing, manufacturing and distributing products that enable network service providers to deliver bundled voice and data services. During its 1999 taxation year, it incurred in Canada $2,929,361 of scientific research and experimental development expenditures. Unfortunately, it declared bankruptcy on March 30, 2001.

[4]      The following two tables describe the distribution of all Sedona's shares between, on the one hand, residents and non-"public corporations" (within the meaning of subsection 89(1) of the Act) (residents) and, on the other hand, non-residents and public corporations (non-residents/public), as determined by both the appellant and the respondent. The numbers in bold characters are the only figures in dispute in this appeal:

According to the appellant
SHARES	Residents	Non-residents/Public	Total
Com. sh.	6 666 000	148 000	6 814 000
Class A pref. sh.	1 300 000	500 000	1 800 000
Class B pref. sh.	1 315 789	8 771 931	10 087 720
	438 597		438 597
SUBTOTAL	9 720 386	9 419 931	19 140 317
% of ownership	50,78%	49,22%	100%
OPTIONS
Res. employee	526 500		526 500
Res. non-employee	207 000		207 000
Non-res. employee			−
Non-res. non-employee		342 000[4]	342 000
SUB-TOTAL	733 500	342 000	1 075 500
TOTAL	10 453 886	9 761 931	20 215 817
% of ownership	51,71%	48,29%	100%

According to the respondent
SHARES	Residents	Non-residents/Public	Total
Com. sh.	6 666 000	148 000	6 814 000
Class A pref. sh.	1 300 000	500 000	1 800 000
Class B pref. sh.	1 315 789	8 771 931	10 087 720
		438 597	438 597
SUBTOTAL	9 281 789	9 858 528	19 140 317
% of ownership	48,49%	51,51%	100%
OPTIONS
Res. employee	526 500		526 500
Res. non-employee	207 000		207 000
	438 597		438 597
Non-res. employee		458 000	458 000
Non-res. non-employee		342 000	342 000
SUBTOTAL	1 172 097	800 000	1 972 097
TOTAL	10 453 886	10 658 528	21 112 414
% of ownership	49,52%	50,48%	100%

[5]      All these shares entitle their holder to a right to vote. The 438,597 class B preferred shares were owned by the Bank of Montreal Capital Corporation (BMCC), a wholly-owned subsidiary of the Bank of Montreal (BMO). The latter is a Canadian public corporation for the purposes of the Act. A management agreement executed on January 10, 1996, between BMCC and Ventures West Management TIP Inc. (Ventures) was in place throughout Sedona's 1999 taxation year. Ventures is a Canadian resident corporation that was not a public corporation, within the meaning of subsection 89(1) of the Act. The management agreement gave Ventures both the right to exercise, as it deemed appropriate in its sole discretion, the voting rights with respect to the Sedona shares belonging to BMCC, and the right to acquire those shares in case of termination of the agreement by BMCC without proper cause. On January 10, 1996, BMCC also executed a power of attorney in favour of Ventures to facilitate the latter's carrying out and completing the management services to be provided to BMCC. According to Sedona, the shares in question should only be added to the "residents" column in the tables above. As to the Minister, he added the Sedona shares owned by BMCC to the "non-residents/public" column because BMCC was controlled by a public corporation, and, pursuant to paragraph 251(5)(b) of the Act, he also included them in the "residents" column because of Ventures having option rights in respect of them.

[6]      On July 22, 1999, Sedona's board of directors authorized the granting of option rights to Mr. Khezri, the grant was to take effect on October 15, 1999, but the rights vesting effective August 2, 1999. According to the testimony of the president of Sedona, Mr. Joseph Elchakieh, on examination for discovery, Mr. Khezri was hired in July 1999, although his actual first day of work was August 2, 1999. Mr. Khezri was told that no options could be granted to him in July because to do so would affect the CCPC status of Sedona. The letter granting Mr. Khezri the option on 458,000 shares was signed on October 15, 1999, by Messrs. Khezri and Elchakieh. The latter described his dealings with Mr. Khezri as follows at page 29 of the transcript of the examination for discovery:

Q.         This verbal agreement or understanding would have occurred when? After this? How long after?

A.         Yes. I believe within the time frame. We had the discussion, you know, plus or minus a few days. We had the discussion. I had the discussion with Mr. Khezri about the financial situation, about CCPC status, and him being aware that we will not be issuing the letter of options to him, and we will not be committing to providing him those shares up until the point of October 15, 1999. We were extremely careful about that.

Q.         But, he accepted the contract of employment?

A.         He did accept employment based on my promise to him that we will do that. We will carry that forward on October 15th.

[My emphasis.]

[7]      The Minister takes the position that, if paragraph 251(5)(b) of the Act is applicable, the option rights given to Mr. Khezri should be taken into account in determining whether the hypothetical shareholder controlled Sedona in 1999. Sedona, on the contrary, argues that the rights were not granted in Sedona's 1999 taxation year which ended on September 30, 1999 and therefore should be excluded for the purpose of determining if Sedona was a CCPC in 1999.

Analysis

[8]      The issues raised by these appeals will be resolved by a careful reading of the key relevant provisions. The first is paragraph (b) of the definition of CCPC found in subsection 125(7) of the Act. It is worth reproducing that particular provision again:

"Canadian-controlled private corporation" means a private corporation that is a Canadian corporation other than a corporation

. . .

(b)         that would, if each share of the capital stock of a corporation that is owned by a non-resident person or by a public corporation (other than a prescribed venture capital corporation) were owned by a particular person, be controlled by the particular person, or

[My emphasis.]

[9]      Before determining the scope of this provision, three preliminary comments are required. First, the issue to be decided here is whether Sedona is controlled by non-residents/public and not whether it is controlled by residents. Indeed, a corporation may be a CCPC even if it is not controlled by Canadian residents! Secondly, it is important to state the interpretative approach that should be followed with respect to a provision such as this one, which creates a legal fiction. I agree with this statement by Dussault J. in Survivance (La) c. R., 2005 CarswellNat 1067, at paragraph 36:[5]

Dans la mesure où une présomption ou une disposition déterminative a précisément pour effet de travestir la réalité, j'estime que l'on doit l'interpréter de façon stricte et en limiter la portée à ce qu'elle exprime clairement. Dans le cas présent, Société Nationale a acquis le contrôle de Les Clairvoyants durant la journée du 5 juillet 1994. Le paragraphe 256(9) établit que ce contrôle est réputé avoir été acquis au début de cette journée du 5 juillet 1994, rien de plus. Il n'établit pas que la personne qui détenait le contrôle légal ou effectif de Les Clairvoyants, soit La Survivance, a cessé simultanément de détenir ce contrôle. Rien non plus dans ce paragraphe ne permet de conclure que La Survivance serait réputée avoir disposé des actions du capital-actions de Les Clairvoyants avant le moment réel de leur disposition durant la journée du 5 juillet 1994, de sorte qu'au moment où cette disposition est survenue elle avait toujours le contrôle légal ou effectif de Les Clairvoyants . . .

[My emphasis.]

[10]     Thirdly, it is useful to give some background to the enactment of paragraph (b) of the definition of CCPC, which was added by S.C. 1998, c. 19, subsection 145(2), applicable after 1995. The purpose of this provision was clearly stated in the Technical Notes relative thereto issued by the Minister of Finance:

Currently, a corporation is a CCPC if it is a private corporation and a Canadian corporation (both of which terms are defined in subsection 89(1)), and it is not controlled, directly or indirectly in any manner whatever by one or any combination of public corporations (other than prescribed venture capital corporations) or non-resident persons. This amendment ensures that two other types of corporation are not CCPCs. The first type are corporations that, if they are not actually controlled by non-residents, avoid that status only because their shares are widely held. The second type are corporations the shares of which are listed on a foreign stock exchange. The following paragraphs describe in more detail how the amended definition applies to each of these cases.

A corporation the voting shares of which are distributed among a large number of persons is usually not considered to be controlled by any group of its shareholders, provided the shareholders do not act together to exercise control. As a result, it may be argued that a private Canadian corporation that is owned by a number of non-residents or public corporations is not controlled by non-residents or public corporations, and is thus a CCPC. New paragraph (b) of the CCPC definition clarifies that this is not the case. Paragraph (b) requires non-residents' and public corporations' shareholdings - not only of the corporation in question, but of all corporations - to be notionally attributed to one hypothetical person. If that person would control the corporation, then the corporation is not a CCPC.

[My emphasis.]

[11]     The hypothetical shareholder rule requires a two-step approach. The first step is the attribution of all the shares owned by disqualifying shareholders to the hypothetical shareholder and the second, a determination whether the target corporation is controlled by this shareholder. To properly apply the rule at the first step, it is important to note what the relevant provision says and what it does not say. It requires only that "each share . . . owned by" a disqualifying shareholder be attributed to the hypothetical shareholder. Subject to paragraph 251(5)(b) of the Act, which is applicable for the purposes of the definition of CCPC definition, the rule does not refer to option rights that are held by a disqualifying shareholder. A careful reading of paragraph 251(5)(b) is required, then, to decide if it applies for the purposes of the rule:

(b)         where at any time a person has a right under a contract, in equity or otherwise, either immediately or in the future and either absolutely or contingently,

(i)          to, or to acquire, shares of the capital stock of a corporation or to control the voting rights of such shares, the person shall, except where the right is not exercisable at that time because the exercise thereof is contingent on the death, bankruptcy or permanent disability of an individual, be deemed to have the same position in relation to the control of the corporation as if the person owned the shares at that time,

. . .

[My emphasis.]

[12]     A better understanding of the scope of this provision can be obtained by comparing its wording with that of paragraphs 256(1.4)(a) and (b) of the Act, which provide as follows:

(1.4) Options and rights

For the purpose of determining whether a corporation is associated[6] with another corporation with which it is not otherwise associated, where a person or any partnership in which the person has an interest has a right at any time under a contract, in equity or otherwise, either immediately or in the future and either absolutely or contingently,

(a)         to, or to acquire, shares of the capital stock of a corporation, or to control the voting rights of shares of the capital stock of a corporation, the person or partnership shall, except where the right is not exercisable at that time because the exercise thereof is contingent on the death, bankruptcy or permanent disability of an individual, be deemed to own the shares at that time, and the shares shall be deemed to be issued and outstanding at that time; or

(b)         to cause a corporation to redeem, acquire or cancel any shares of its capital stock owned by other shareholders of a corporation, the person or partnership shall, except where the right is not exercisable at that time because the exercise thereof is contingent on the death, bankruptcy or permanent disability of an individual, be deemed at that time to have the same position in relation to control of the corporation and ownership of shares of its capital stock as if the shares were redeemed, acquired or cancelled by the corporation.

[My emphasis.]

[13]     Under paragraph 256(1.4)(a) of the Act, the holder of option rights is deemed to own the shares and the shares are deemed to be issued. Under paragraph 251(5)(b), the owner of such rights is only deemed "to have the same position in relation to control . . . as if . . ." he owned the shares. So it is fair to conclude that, under the rule enunciated in the latter paragraph, no legal fiction of ownership is being created regarding the shares in respect of which option rights exist. The purpose of this rule is only to create a legal fiction for determining if control exists. In other words, it creates a legal fiction of control of a corporation, but not of ownership of that corporation's shares. The option rights held by disqualifying shareholders are not "shares", nor are the shares in respect of which the option rights exist "deemed" to be owned by those shareholders. So the option rights belonging to any disqualifying shareholder cannot be attributed to the hypothetical shareholder because only a "share . . . owned" by a disqualifying shareholder is to be so attributed. It is therefore irrelevant whether Mr. Khezri was granted option rights by Sedona in 1999 and I will not make any finding in that respect. As a result, we must attribute to the hypothetical shareholder only the Sedona shares owned by non-residents/public and the BMCC shares owned by BMO, a public corporation.[7]

[14]     The second step required by the hypothetical shareholder rule is to determine if, as a result of such attribution, the hypothetical shareholder controlled Sedona. It is important to note that the word used in paragraph (b) of the definition of CCPC is "controlled"; it does not say "controlled, directly or indirectly in any manner whatever". Therefore, it is the de jure concept of control as developed by the courts which is applicable and not the de facto concept of control as found in subsection 256(5.1) of the Act.[8]

[15]     The seminal court decision on control is that of Buckerfield's Ltd. et al. v. M.N.R., 64 DTC 5301, where Jackett P. stated at page 5303:

. . . I am of the view, however, that, in section 39 of the Income Tax Act, the word "controlled" contemplates the right of control that rests in ownership of such a number of shares as carries with it the right to a majority of the votes in the election of the Board of Directors. See British American Tobacco Co. v. I.R.C., [1943] 1 A. E. R. 13, where Viscount Simon L. C., at page 15, says:

The owners of the majority of the voting power in a company are the persons who are in effective control of its affairs and fortunes.

[My emphasis.]

This definition of control was affirmed by the Supreme Court of Canada in M.N.R. v. Dworkin Furs (Pembroke) Ltd. et al., 67 DTC 5035, and again in Duha Printers (Western) Ltd. v. The Queen, 98 DTC 6334.

[16]     In Vineland Quarries and Crushed Stone Limited v. M.N.R., 66 DTC 5092, Cattanach J. recognized that this "control" can be determined directly or indirectly through a chain of corporations. He stated at page 5098:

In my view the word "controlled" in section 39(4)(b) contemplates and includes such a relationship as, in fact, brings about a control by virtue of majority voting power, no matter how that result is effected, that is, either directly or indirectly.

. . .

On the authority of the British American Tobacco case,[9] I do not think it is appropriate to end the inquiry after looking at the share registers of the appellant and Sauder and Thornborrow Limited. It is proper and necessary to look at the share registers of Bold Investments (Hamilton) Limited and Sauder and Thornborrow Limited to obtain an answer to the inquiry whether the appellant and the two other companies are controlled by the same "group of persons". Where the registered shareholder in the first instance is a body corporate, you must look beyond the share register.

[My emphasis.]

[17]     Recognizing that control can be determined indirectly through a chain of corporations, Parliament, when it added the hypothetical shareholder rule to the definition of CCPC, took care to refer not only to the shares of the target corporation, but to those of any relevant corporation in the chain.[10] Given that BMO, a public corporation, controls BMCC because it owns all of its shares, the Sedona shares owned by BMCC are to be taken into account, as required by the Vineland Quarries case.

[18]     As mentioned above, paragraph 251(5)(b) of the Act applies to the definition of CCPC and is, at first blush, relevant for the purpose of determining if the hypothetical shareholder controls the target corporation. However, it is without any practical application at that level because the hypothetical shareholder obviously does not actually own any option rights and, as mentioned above, no such rights belonging to disqualifying shareholders are attributed to the hypothetical shareholder. But what if an intermediary corporation had options rights? It is unclear to me to what extent paragraph 251(5)(b) could be applicable with regard to BMCC for the purpose of determining whether the hypothetical shareholder controlled Sedona either directly or indirectly, and in particular whether BMCC owned option rights in respect of Sedona shares. I do not have to resolve this issue here because there is no evidence that BMCC owned any such rights in respect of Sedona shares.[11] Paragraph 251(5)(b) is therefore not applicable.[12]

[19]     However, I should add that, in any event, paragraph 251(5)(b) of the Act does not deem the actual owner of the shares (in respect of which option rights have been transferred to somebody else) to have ceased to own them or to have ceased to control the target corporation. This was recognized by Jackett P. in Viking Food Products Ltd. v. M.N.R., 67 DTC 5067 (Ex. Ct. Can.), [1967] 2 Ex. C.R. 11. In that decision, he had to interpret paragraph 139(5d)(b) of the Act (R.S.C. 1952) [now paragraph 251(5)(b)]. At page 5071 (DTC), he wrote that Parliament did not intend that this subsection "would have the unexpressed effect of artificially deeming a person to have ceased to control a company whose issued shares all belonged to him merely because he had granted an option to someone else to buy such shares". In an appendix to his reasons, at page 5073, he added:

In my view, this reductio ad absurdum argument is based upon an incorrect reading of subsection (5d). That subsection applies, when the question arises as to whether the owner of a "right" controlled the corporation and it directs that he should be deemed to have had the same position in relation to control of the corporation "as if" he owned "the shares". When the question arises as to whether the real owner of the shares controlled the corporation, there is no occasion to apply the deeming provision in subsection (5d). There is no possible justification for reading the provision as deeming the existence of two sets of shares in place of the one set that actually existed. [13]

[My emphasis.]

[20]     Sedona's counsel strenuously argued that the Sedona shares owned by BMCC could not be added to the "non-residents/public" column because the right to control the voting rights of these shares had been transfered to Ventures for a six-year period starting November 1, 1996. He stated at paragraphs 36, 39 and 41 of his memorandum of fact and law:

36.        The relevance of the ownership of a share in relation to the control of a corporation is from the exercise of the voting right attaching to that share in the election of directors, not by the passive act of being owner or holder of shares.

The Queen v. Alroy Industries Ltd., 76 DTC 6220 (F.C.T.D.) (Tab K in the Appellant's Book of Authorities).

. . .

39.        The essential purpose of the Buckerfield's test is to determine the locus of effective control of the corporation. It is impossible to say that a shareholder can be seen as enjoying such control simply by virtue of his or her ability to elect a majority of a board of directors, when that board may not even have the actual authority to make a single material decision on behalf of the corporation.

Duha Printers (Western) Ltd. v. The Queen, 98 DTC 6334 at para. 70 (S.C.C.) (Tab I in the Appellant's Book of Authorities).

. . .

41.        The Management Agreement between BMCC and Ventures Inc. was an act of BMCC (and of BMO) to give to Ventures Inc. the right to vote its shares of the Appellant, thus removing such right from the board of directors of BMCC. The Management Agreement was not an agreement external to BMCC, but rather an agreement to which BMCC itself was legally bound.

Management Agreement dated January 10, 1996 between Bank of Montreal Capital Corporation and Ventures West Management TIP Inc. (Tab A of the Joint of Book of Documents).

Duha Printers (Western) Ltd. v. The Queen, 98 DTC 6334 at para. 7 (S.C.C.) (Tab I in the Appellant's Book of Authorities).

[Only the underlined text is mine.]

Counsel for Sedona then added at page 19, paragraph 50:

(iii)        In any event, the Management Agreement was a unanimous shareholder agreement by which BMO stripped the rights from the BMCC Board of Directors to manage the business and affairs of BMCC and transferred such rights to Ventures Inc.

[My emphasis.]

[21]     In my view, these arguments are ill-founded. First, the principle put forward by Sedona's counsel in the above-quoted paragraph 36 is based on a statement in Alroy Industries taken out of context. This is what Decary J. stated at page 6221 in reference to paragraph 139(5d)(b):[14]

It is to be noted that these provisions go further than the ownership of shares as they refer also to "a right . . . to control the voting rights of shares in a corporation".

It is a clear recognition by Parliament that the voting control can be exercised by:

(a) shareholders who vote all the shares they own, which is the normal case in private or small corporations,

(b) shareholders who vote their shares and also shares for which they have proxies,

(c) persons that are [not][15] registered in the books as shareholders, voting by proxy shares not being owned by them.

That approach is surely realistic because the voting right carried by a share is far from being exercised all the time by the owner or holder of that share and it is by the exercise of the voting right that directors are elected, not by the passive act of being owner or holder of shares.

[My emphasis.]

[22]     So Decary J. was just stating the rationale for the statutory provision which broadens the criteria for the determination of control. One takes into account not only the shares that a person owns in a corporation, but also the option rights respecting the shares of this corporation. Decary J. did not, then, modify the jurisprudential definition of control, which focuses on the ownership of shares.

[23]     Secondly, these arguments of Sedona's counsel are not in conformity with the teachings of the Supreme Court of Canada in Duha Printers. In his reasons therein, Iacobucci J. summarized at paragraph 85 the principles of corporate and taxation law that are to be considered in determining whether there is de jure control:

¶ 85      It may be useful at this stage to summarize the principles of corporate and taxation law considered in this appeal, in light of their importance. They are as follows:

(1) Section 111(5) of the Income Tax Act contemplates de jure, not de facto, control.

(2) The general test for de jure control is that enunciated in Buckerfield's, supra: whether the majority shareholder enjoys "effective control" over the "affairs and fortunes" of the corporation, as manifested in "ownership of such a number of shares as carries with it the right to a majority of the votes in the election of the board of directors".

(3) To determine whether such "effective control" exists, one must consider:

(a)         the corporation's governing statute;

(b)         the share register of the corporation; and

(c)         any specific or unique limitation on either the majority shareholder's power to control the election of the board or the board's power to manage the business and affairs of the company, as manifested in either:

(i) the constating documents of the corporation; or (ii) any unanimous shareholder agreement.

(4) Documents other than the share register, the constating documents, and any unanimous shareholder agreement are not generally to be considered for this purpose.

(5) If there exists any such limitation as contemplated by item 3(c), the majority shareholder may nonetheless possess de jure control, unless there remains no other way for that shareholder to exercise "effective control" over the affairs and fortunes of the corporation in a manner analogous or equivalent to the Buckerfield's test.

[My emphasis.]

[24]     So unless it can be considered a unanimous shareholder agreement (USA) or some type of constating document,[16] the management agreement is not to be taken into account for the purpose of determining if "effective control" existed. It might be relevant for the purpose of determining de facto control, but not de jure control[17]. The management agreement is an "ordinary"[18] contractual arrangement between BMCC and Ventures which gives the latter wide powers in managing the technology portfolio of BMCC. It is just an external document[19] and, as a general rule, this kind of document is not to be taken into account as determinative of de jure control. It does not affect the corporate constitution of BMCC.[20] For instance, it is not a constating document limiting the powers of the BMCC's board of directors to manage its affairs. Nor does it modify the ownership rights of BMCC in the Sedona shares, although such rights may be exercised by Ventures in the course of the provision of its management services.

[25]     The management agreement cannot be considered to be a USA entered into by BMCC's shareholder either. BMO is not a party to this management agreement.[21] Under subsection 146(3) CBCA, a person who is the beneficial owner of all the issued shares of a corporation can make a written declaration that restricts in whole or in part the powers of the directors to manage the business and affairs of the corporation, and this declaration is deemed to be a USA. Here, there is no evidence that BMO made such a written declaration. If BMO had the intention of removing or altering directors' powers to manage the business and affairs of BMCC, it would have at the very least intervened in the management agreement and made its intention clear. However, such is not the case. So, in the present appeal, the existence of de jure control can only be determined by looking at the shareholder registers of Sedona and BMCC.

[26]     One last argument made by Sedona's counsel requires comments. I am referring to the argument he made at page 25 of his memorandum of fact and law:

(iv)        The particular person in the CCPC definition at s. 125(7)(b) does not have de jure control of the Appellant in any event: the Shareholders' Voting Agreement

67.        The Shareholders' Voting Agreement, to which the Appellant is a party, provides that there be five directors thereof. The parties agree to vote their shares to ensure that the directors represent both the resident shareholders and the non-resident and/or public corporation shareholders, with no side having the right to elect a majority of the directors. The Voting Agreement thus provides a basis upon which the parties to it can enforce their rights as against the Appellant. Like the Management Agreement vis-à-vis BMCC, the Voting Agreement is not an agreement which is external to the Appellant and can be enforced against it.

Shareholder Voting Agreement dated April 6, 1999 (Tab N of the Joint Book of Documents).

[27]     According to Duha Printers, the only way this document could be considered relevant for the purpose of determining de jure control[22] is if it was either a USA or a constating document which to a sufficient degree removed from the board of directors powers to manage the business and affairs of the corporation.[23] There is no evidence that all Sedona's shareholders entered into this agreement,[24] so it cannot be considered a USA within the meaning of section 146 CBCA. In any event, it does not restrict the powers of the directors to manage, or supervise the management of, the business and affairs of the corporation, as required by section 146 CBCA. Furthermore, even had it done so, it could not establish that Sedona was not controlled by non-residents/public throughout the 1999 taxation year, since it was entered into in April 1999, that is, during the relevant taxation year.

[28]     In light of the principles and the findings set out above, the only shares that are to be added in the non-residents/public column for the hypothetical shareholder are the Sedona shares that are actually owned by disqualifying shareholders and the Sedona shares that BMO controls through BMCC. The total of all these shares amounts to 9,858,528 out of 19,140,317 issued shares, which represents 51.51% and gives the hypothetical shareholder the right to a majority of the votes in the election of the board of directors. Therefore, Sedona is controlled by the hypothetical shareholder. Given that the hypothetical shareholder controls Sedona, the latter cannot be considered a CCPC.

[29]     For these reasons, Sedona's appeal must be dismissed, with costs to the Respondent.

Signed at Ottawa, Canada, this 2nd day of March 2006.

                                          « Pierre Archambault »

CITATION:                                        2006TCC80

COURT FILE NO.:                             2003-2379(IT)G

STYLE OF CAUSE:                           Sedona Networks Corporation and Her Majesty The Queen

PLACE OF HEARING:                      Montreal, Québec

DATE OF HEARING:                        July 28, 2005

REASONS FOR JUDGMENT BY:     The Honourable Justice Pierre Archambault

DATE OF JUDGMENT:                     March 2, 2006

APPEARANCES:

Counsel for the Appellant:	Robert Taylor Al-Nawaz Nanji
Counsel for the Respondent:	Daniel Bourgeois Carole Benoit

COUNSEL OF RECORD:

       For the Appellant:

                   Name:                              Robert Taylor

                   Firm:                                Couzin Taylor LLP

                                                          Tax Counsel

                                                          Ottawa, Ontario

       For the Respondent:                     John H. Sims, Q.C.

                                                          Deputy Attorney General of Canada

                                                          Ottawa, Canada

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