National Post (National Edition)
CIBC IN DIVIDEND TAX FIGHT
Disputing $298M reassessment over alleged ‘rental arrangements’
TORONTO • The Canadian Imperial Bank of Commerce is fighting a tax reassessment that could cost it hundreds of millions of dollars after it was accused by Canada’s tax authorities of improperly deducting dividend income received as part of an alleged “dividend rental arrangement.”
CIBC said in second-quarter filings released Wednesday that the Canada Revenue Agency had reassessed it for approximately $298 million of additional income tax, denying the deductibility of certain Canadian company share dividends claimed in 2011 and 2012 that were part of the alleged arrangement.
The bank also said it had in March filed a notice of appeal with the Tax Court of Canada in connection with the 2011 tax year, which aims to have the reassessment vacated.
“CIBC is confident that its tax filing positions were appropriate and intends to defend itself vigorously,” the bank said in its second-quarter management’s discussion and analysis.
“Accordingly, no amounts have been accrued in the interim consolidated financial statements.”
The dispute, which could have ramifications for other Canadian banks which have indicated they have dividend-related issues with the CRA, hinges on the tax treatment of dividends and so-called “dividend rental arrangements,” which have bedevilled Ottawa for decades.
Ordinarily, to avoid double taxation, Canadian companies can deduct dividends earned on shares of other Canadian firms because those dividends are typically paid out of after-tax earnings.
But tax rules prevent the deduction of dividends received as a result of deliber- ate arrangements in which one party receives a dividend while the economic benefits and risks that would usually come with owning shares — the ups and downs of the market, in other words — are effectively transferred to another party.
Such arrangements, which can be achieved through complex transactions, often involving derivatives, are frowned upon because they can be used to shift the tax benefit sofa dividend from a tax-exempt entity, which is indifferent to the deductibility of the dividend, to a taxable entity, which can use it to reduce its tax bill.
CIBC argued in its notice of appeal that the CRA had been mistaken in blocking the company’s deduction of nearly $420 million in dividends from its taxable income for the year 2011.
In the notice, the bank said that the dividends in question flowed from a portfolio of shares it held to hedge against a series of index swaps that the lender had struck with unnamed Canadian pension funds.
But while the CRA apparently took the position that the bank had done the deals with the main goal of receiving dividend income while dodging the risk of the shares, CIBC argued its actions had “bona fide purposes” behind them.
“The Pension Funds are key institutional clients of the CIBC Group that generate substantial revenues across a range of CIBC Group products and services,” the bank’s notice of appeal said.
“CIBC believed that offering Index Swaps enabled it to capture a greater share of the Pension Funds’ business.”
CIBC added in the appeal that it generally hedges its exposure to index swaps by buying and holding a portfolio of shares that match those tied to the swaps with the pension funds, reducing the risk the bank faces on the deals. Because it had bought shares for hedging, the lender was also receiving dividends, which the bank deducted from its taxable income for 2011.
“No person other than Cibc had the risk of loss or enjoyed the opportunity for gain or profit with respect to the Hedging Shares in any material respect,” CIBC said.
The bank denied that the dividends were part of any “dividend rental arrangement.”
“No transaction entered into by CIBC in respect of the Index Swaps or the Hedging Shares was an ‘avoidance transaction,’ ” the bank said.
“CIBC entered into the Index Swaps and acquired and held the Hedging Shares primarily for bona fide purposes other than to obtain a ‘tax benefit.’”
The CRA saw things differently. The agency sent CIBC a reassessment for its 2011 tax year in 2016, reducing the dividend-related deductions by the full amount of the hedging share dividends — nearly $420-million.
According to the notice of appeal, the tax agency increased CIBC’S tax assessment for 2011 by approximately $152 million to $360 million in federal tax and $86 million to $193 million payable in provincial and territorial tax, plus interest.
CIBC said it objected to the reassessment in September 2016, but in December 2017 the CRA affirmed its decision.
CIBC’S court case is just getting underway, and the government has yet to file its response to the bank’s appeal. None of the claims have been proven in court.
A CIBC spokesperson told Financial Post in an email that they had nothing further to add to what had been stated in the bank’s secondquarter filings.
“The circumstances of the dividends subject to the reassessments are similar to those prospectively addressed by the rules in the 2015 and 2018 Canadian federal budgets,” said the bank in its filing.
The CRA said that, due to the confidentiality provisions of the income tax act, and because the matter was before the courts, it could not comment on details of the CIBC case.
“The courts provide Canadians with a further independent review of disputed issues and court decisions serve to clarify the law or resolve differences of opinion between the CRA and taxpayers,” an agency spokesperson said in an email.
Any resolution could have impacts beyond CIBC. All of Canada’s Big Six banks have reported some sort of dividend-related issue with the CRA in recent financial statements, though some have not explicitly indicated that they involve “rental arrangements.”
One that was explicit was the Bank of Montreal, which noted in its first-quarter report to shareholders that the CRA had reassessed it for additional taxes and interest of around $192 million for the years ended Oct. 31, 2017, and Oct. 31, 2016.
The bank said the CRA’S issue was with dividend-related deductions the agency contended were received as part of a “dividend rental arrangement.”
“We remain of the view that our tax filing positions were appropriate and intend to challenge any reassessment,” BMO said.
In May, meanwhile, the CRA told CIBC it would also reassess the lender’s 2013 tax year for approximately $229 million in additional taxes, according to the bank’s filings. No exact reason was disclosed.
“It is possible that subsequent years may be reassessed for similar activities.”
National Bank Financial analyst Gabriel Dechaine said in a note that, combined, CIBC’S tax items would cause a hit of 30 basis points to the bank’s common equity tier 1 ratio, a measure of the bank’s capital strength.
The bank reported $328 million in income taxes for the quarter ended April 30, wherein CIBC also recorded a profit of approximately $1.3 billion.
NO TRANSACTION ENTERED INTO BY CIBC ... WAS AN ‘AVOIDANCE TRANSACTION.’