On December 22, 2022, the Court of Appeal of Québec upheld a Superior Court ruling that GST and QST input tax credits and refunds ("ITCs/ITRs") claimed by a petitioner in connection with damage payments arising from agreements disclaimed in the course of a Companies' Creditors Arrangement Act proceeding count as "post-filing claims". Post-filing claims are claims against CCAA debtors arising after the filing date of the "initial application" and the issuance of an Initial Order pursuant to the CCAA ("Filing Date").

  • In this ruling, cited as Arrangement relatif à Bloom Lake, 2022 QCCA 1740, the Court of Appeal confirmed that the Agence du revenu du Québec could not set off a tax debt that predated the Filing Date against the ITCs/ITRs that had been "earned" after such date, during a period in which the taxpayer was under CCAA protection.
  • The Court of Appeal also found the wording of subsection 182(1) of the Excise Tax Act ("ETA") and section 318 of the Act respecting the Québec sales tax ("QSTA"), with respect to the application of GST and QST to certain damage payments, to be unambiguous. The right to claim ITCs/ITRs only arose once the GST and QST were deemed to have been paid on the damage payments, which, in the case at hand, occurred after the Filing Date. In other words, even though the compensatory payments were owed in respect of contracts which had been entered into prior to the Filing Date, the right to claim ITCs/ITRs only arose after such date.
  • While recognizing that the CCAA gives the supervising judge discretion to allow pre-post compensation in exceptional circumstances, the Court of Appeal found that no such circumstances existed in the case at hand, and pointed out that, as stated by the Supreme Court of Canada ("SCC") in Montreal (City) v. Deloitte Restructuring Inc., such discretion must only be used in "exceptional circumstances, given the high disruptive potential of this form of compensation".

Background

On January 27, 2015 (i.e., the Filing Date in the case at hand), CCAA proceedings were initiated before the Superior Court in respect of petitioners Cliffs Québec Iron Mining ULC ("CQIM") and other affiliated companies (collectively with CQIM, "CCAA Parties"), which operated the Bloom Lake mine in Fermont, Québec. On June 29, 2018, a plan of arrangement was sanctioned by the Superior Court to wind down the estates of the CCAA Parties such that net proceeds could be distributed to their creditors (the "Plan of Arrangement").

As of the Filing Date, the Tax Authorities were owed an aggregate amount of $13,391,896.40 ("Pre-Filing Claims"). The Pre-Filing Claims were notably based on unpaid GST and QST on taxable supply of goods and services supplied to CQIM by third-party suppliers prior to the Filing Date and which remained unpaid on the Filing Date.

In implementing the Plan of Arrangement, FTI Consulting Canada Inc., in its capacity as court-appointed monitor ("Monitor"), commenced the first interim distributions to unsecured creditors. As part of such interim distributions, four of CQIM's creditors received partial damage payments ("Damage Payments") from CQIM as a result of the latter's cancellation or disclaiming of certain of its contracts with those creditors in accordance with the CCAA (section 32).

Pursuant to specific deeming rules in subsection 182(1) ETA and section 318 QSTA ("Sales Tax Provisions"), the Damage Payments were deemed to be consideration for a taxable supply and GST and QST were also deemed to be included and therefore paid by CQIM as part of the distributions made by the Monitor. As a consequence of the application of the Sales Tax Provisions, CQIM was in a position to claim corresponding ITCs/ITRs to recover GST and QST amounts deemed to be included in the Damage Payments. CQIM claimed a total amount of $7,459,258 as ITCs/ITRs in its GST and QST returns for the period ending November 30, 2018 ("ITC/ITR Claim").

The Tax Authorities sought to offset the ITC/ITR Claim against their Pre-Filing Claims to avoid disbursing any amount to the Monitor. The Tax Authorities took the position that the ITC/ITR Claim could be used to set off their Pre-Filing Claims which would thereby be reduced from $13,391,896.40 to $5,932,638.55.

The Monitor filed a motion in Superior Court challenging the validity of this "compensation" mechanism. It argued that the ITC/ITR Claim was a post-filing claim that cannot be set-off against the Pre-Filing Claims.

Superior Court Decision

Justice Pinsonnault of the Superior Court agreed with the Monitor and CQIM that the ITC/ITR Claim was a post-filing claim that could not be set-off against the Pre-Filing Claims. The Superior Court relied on the unambiguous wording of the Sales Tax Provisions, which makes it clear that GST and QST are deemed to be included in certain types of payment, such as the Damage Payments, at the time of payment.

In this case, the Damage Payments were disbursed during the first interim distributions of August 2018. Therefore, the ITC/ITR Claim necessarily constituted a post-filing claim, from which it followed that CQIM had selected the correct reporting period in which to make the ITC/ITR Claim in its GST and QST returns (i.e., the period that included the date the Damage Payments were disbursed by the Monitor). Since the right to the ITC/ITR Claim arose only when the Sales Tax Provisions deemed GST and QST amounts to be included in the Damage Payments – which was more than three years after the Filing Date – CQIM obviously was not entitled to the ITC/ITR Claim with respect to any periods prior to the Filing Date.

Finally, the Superior Court found no basis for allowing a so-called "pre-post" set-off or compensation, citing the 2017 Kitco decision of the Court of Appeal for the general proposition that post-filing claims cannot be compensated by or offset against pre-filing claims. The Superior Court rejected the Tax Authorities' argument that this rule should apply only in CCAA restructurings and not in CCAA liquidations: nothing in the CCAA or case law suggests that CCAA proceedings involving a sale of assets, as in the present case, should be subject to a different set of rules than those applying in a restructuring situation such as Kitco.

The Superior Court consequently ordered the Tax Authorities to pay, without set-off or compensation of any kind, the ITC/ITR Claim with applicable interest.

Court of Appeal Decision

For the reasons of Kalichman J.A., in which Mainville and Lavallée JJ.A. concurred, the Court of Appeal dismissed the Tax Authorities' appeal. The Superior Court's ruling having thus been affirmed, the motion for directions was granted and it was more firmly established that, as a general rule, the Tax Authorities could not set off post-filing claims against pre-filing claims.

Three arguments were at the heart of the Tax Authorities' appeal, each of which was rejected by the Court of Appeal.

The ITC/ITR claim was a pre-filing claim because the Damage Payments flowed from contracts entered into pre-filing

The first argument advanced by the Tax Authorities was that the ITC/ITR Claim constituted a pre-filing claim because the cancelled or dismissed contracts – in respect of which the Damage Payments were due – related to pre-filing periods. The Court of Appeal did not agree, noting instead that the Sales Tax Provisions evidenced an unambiguous intention that the GST and QST deeming rules should apply at the time of payment. As noted above, payment in this case was made during the post-filing period, three years after the Filing Date (para. 28). Thus, the ITC/ITR Claim was a post-filing claim and could not be set off against the Pre-Filing Claims (para. 24).

The Sales Tax Provisions and CCAA should be read in harmony, so as to deem the sales taxes collected at the time of contracting

The Tax Authorities also argued that the Sales Tax Provisions should be read "in harmony" with the CCAA. Taking this approach to interpretation would, they argued, mean that the supply from the disclaimed contracts would be deemed to have been paid for, and the sales taxes collected, at the time the contracts were entered into (para. 32). The Court of Appeal did not accept this interpretative approach because the CCAA and the sales tax laws are not part of a single legislative scheme. In other words, they are not in pari materia and do not need to be harmonized. Had Parliament intended the provisions to be read as a harmonious whole, it would have indicated this explicitly (paras. 33 and 34), as it did in subsection 222(1.1) and section 265 of the ETA when it stated that certain provisions needed to be read in conjunction with provisions of the CCAA. (see para. 96 of the Superior Court ruling)

The Superior Court should have used its discretionary authority under the CCAA to set off the pre-filing and post-filing claims

Finally, the Tax Authorities argued that the Superior Court erred in failing to use its discretion under the CCAA to allow compensation between pre-filing and post-filing claims (para. 42). The Court of Appeal agreed that there is no absolute prohibition on "pre-post" compensation following the SCC's decision in Montreal (City) v. Deloitte Restructuring Inc. The Court of Appeal went on to say, however, that while courts may enjoy broad discretion under the CCAA to allow pre-post compensation, such discretion can only be exercised in exceptional circumstances (para. 44). Citing the SCC's reasons in the Deloitte Restructuring matter, the Court of Appeal stated that in exercising such discretion, a court must keep three baseline considerations in mind: "(1) the appropriateness of the order being sought, (2) due diligence and (3) good faith on the applicant's part". (para. 46, referring to para. 85 of the SCC reasons)

The Court of Appeal proceeded to determine that, considering what the SCC had characterized as the "high disruptive potential of this form of compensation" (para. 20 of the SCC reasons), the Superior Court had not committed any error, "much less a reviewable error" by not using its discretion to allow the Tax Authorities to use "pre-post" compensation in the case at hand. (para. 50)

Result

For the reasons set out above, the Court of Appeal dismissed the Tax Authorities' appeal.

Key Takeaways

  • In the context of insolvency proceedings, petitioners often disclaim contracts and leases (notably, pursuant to section 32 CCAA). The Court of Appeal decision, affirming the Superior Court ruling, substantiates the position that ITC/ITR claims relating to damage payments for agreements disclaimed or cancelled in the course of insolvency proceedings are "post-filing" in nature due to the effect of subsection 182(1) ETA and section 318 QSTA.
  • This decision also confirms that, in accordance with the remedial objectives of the CCAA, the general "pre-post" compensation prohibition extends to any restructuring under the CCAA (including CCAA liquidation proceedings), thereby limiting the scope of any set-off or compensation mechanism that the Tax Authorities might wish to employ.
  • Although there is no absolute "pre-post" compensation prohibition, a CCAA Court's discretion to allow such "pre-post" compensation should only be exercised in exceptional circumstances in a rigorously controlled manner, considering what the SCC has characterized as the "high disruptive potential of this form of compensation".

The authors would like to thank Antonin Lapointe, stagiaire, for his collaboration.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.