The supreme court of Canada has handed the Canada Revenue Agency a significant victory in the CRA’s war against “buy low, donate high” art-flip tax shelters — without rendering a decision.
On April 20, the SCC dismissed two applications to appeal Federal Court of Appeal decisions involving two separate art-flip tax shelters, known as Nash v. Canada and Klotz v. Canada.
This means the FCA’s legal interpretation of how art donation shelters should be taxed remains the law of the land: whatever a donor pays for art is the amount he’ll be allowed to claim as a deduction, no matter what an appraiser subsequently says the art is worth.
In December 2003, the Finance Department unveiled Income Tax Act amendments to shut down all “buy low, donate high” tax shelters, including art flips. This latest judicial development has the same effect for art-flip deals made prior to the amendments.
The CRA is going after almost 10,000 participants in those pre-amendment art-flip shelters. It had put all its art-flip files on hold, except for these two test cases, to get direction from the courts on how to handle them.
Now the CRA will be moving against “hundreds, if not thousands” of taxpayers involved in art-valuation cases, says Arthur Drache, senior partner with Ottawa law firm Drache LLP.
The main issue in an art-flip case is deciding the fair market value of the art because FMV determines the amount of the tax credit a taxpayer can claim for the charitable donation.
In a typical art flip, the tax-shelter promoter buys works of art in bulk at very low prices, perhaps $50 each, and sells them to tax-shelter participants for about $300 each. Then the art is appraised at approximately $1,000 for each piece and donated in bulk to a public institution — often a U.S. university — that issues a tax receipt for the aggregate appraised value.
However, in Klotz, the Tax Court of Canada took direct aim at the art-flip process: “It is one thing to serendipitously pick up a long-lost masterpiece at a garage sale for $10, give it to an art gallery and receive a receipt for its true value,” wrote Tax Court Chief Justice Donald Bowman in his March 2004 decision. “It’s another for a tax-shelter promoter to buy thousands of prints for $50, create a market at $300 and hold out the prospect of a tax write-off on the basis of a $1,000 valuation. This case foundered on the shoals of common sense.”
The FCA upheld Bowman’s Klotz decision, and later quoted his reasoning when it denied the Nash appeal.
The inference to be drawn from the SCC’s decision about the Klotz and Nash appeals, says Drache, is that Bowman’s view of FMV “passed muster” with the SCC, too.
It will be an “uphill battle” for a taxpayer to argue that he should get a tax credit for an appraised value that is higher than the price paid for the art, says Doug Mathew, Toronto investment executive Frank Klotz’s lawyer and a partner in the Vancouver office of Thorsteinssons LLP.
“You would have to show something extraordinary about your purchase — [such as] you were able to make a better business deal than the average person involved in these [types of] transactions,” he says.
Interestingly, Justice Martin Rothstein, who was appointed to the SCC on March 1, had rendered the FCA’s Nash decision.
That doesn’t mean his new colleagues were reluctant to contradict him, says a Toronto tax lawyer. SCC judges disagree with each other all the time, he notes.
But they may have been satisfied with his decision, as it reconciled the two very different approaches taken by the two Tax Court judges.
In May 2005, the FCA upheld the Tax Court’s decision denying Klotz a tax credit claim of $258,400 through a Toronto-based tax shelter, Art for Education.
One of 660 participants in the Art for Education tax shelter, Klotz donated 250 prints to a U.S. university in 1999. Bowman decided the best evidence of what the art is worth is what the tax shelter participant paid for it ($300 each, in Klotz’s case).
In November 2005, the FCA overturned the Tax Court decision in a trio of cases, known collectively as Nash v. Canada.
@page_break@The cases were brought by Cademon Nash, Barbara Quinn and Susan Tolley on behalf of 1,850 taxpayers involved in an art-flip donation program run by Toronto-based CVI Art Management Inc.
The Nash plaintiffs won in Tax Court. The judge accepted the appraiser’s opinion on FMV. She used a market-comparison approach — contacting dealers, galleries, publishers — to value each piece before coming up with the FMV of the art bought and donated by each of the three taxpayers. IE
Beware — it’s open season on art-flip deals
Supreme Court decides it won’t review earlier rulings on art flips; CRA now expected to move aggressively
- By: Stewart Lewis
- May 2, 2006 May 2, 2006
- 10:15