Huxley Energy Inc. vs the King

Originally published: June 2024

In its Huskey Energy Inc decision, the Tax Court of Canada ruled that 3 Luxembourg companies (“Luxcos”) were not beneficial owners (BO – a term I discussed many times https://lnkd.in/ej-ajvJ4) of the Canadian dividends on shares they had borrowed from 3 Barbados companies (“Barcos”) under a stock lending arrangement. As a result, the Luxcos were not eligible for the lower 5% dividend withholding tax (WHT) rate contained in the Canada-Luxembourg double tax treaty (DTT). The court even held that the 15% rate under the Barbados-Canada DTT was not available, as the dividends were not “paid to” the Barcos (though for procedural reasons, the Court could not increase the WHT beyond 15%).

In this article (https://lnkd.in/gqwBkV56 other discussion here: https://lnkd.in/gpgXMAUv https://lnkd.in/gUVGreiD), Christopher Steeves
and Sabrina Jackson-Nazareth criticize the decision. They argue a reasonable application means that if the legal owner does not have BO, the dividend should be treated as “paid to” the BO. I agree on this point. It has both significant precedent in other countries (eg https://lnkd.in/eDXkt8kk) and can fit into the DTT wording if BO is encapsulated in “paid to”.

The authors also argue that in a stock lending, the lender is not generally the BO of the shares. Although the borrower has an obligation to return the shares and compensate for dividends paid, those obligations can be settled in different ways. It seems that the Luxcos also bore some economic risk (ultimately in the form of an exchange loss).

I struggle with this argument. The Luxcos did not need to pass on the same cash, but with an obligation to pay an equivalent amount it lost economic exposure to the dividend (whereas the Barcos retained it). The Luxcos had the right to short sell the shares, but they didn’t actually do so and in truth, given the size of the stake (>70% combined), short selling would have been practically impossible.

BO is commonly interpreted based on substance rather than form. It seems clear that – in substance – the Luxcos never had any real other options or other intentions than to collect the dividends and pass it on. Any financing options would have economically amounted to the same result. To pretend otherwise seems overly formalistic.

If there had been actual short selling, the Luxcos would have been even less of a BO. If Canada would treat the synthetic dividend as paid by a Canadian company, Barcos would also clearly be BOs (right?). Are there are fact patterns where a more formalistic approach is more appropriate? The one case I can think of is where a legal owner has eliminated its economic exposure through derivatives with different unrelated counterparties. A substance-based approach might suggest that no one is BO. Perhaps, there it is reasonable to treat the legal owner as BO. But even there, I am not fully convinced.

Obvious disclaimers: this is not advice. These views are my own and do not necessarily represent my employer.