In recent years, rectification has become a useful tool for correcting mistakes that create unintended tax consequences for taxpayers. In December, however, the Supreme Court of Canada released two decisions that greatly restrict the application of rectification and could prove costly for lawyers.

Rectification is a long-standing equitable remedy in contract law. It enables a court to reform a written instrument that, by mistake, does not properly represent the agreement intended by the parties.

Following a decision of the Ontario Court of Appeal in 2000, Juliar ¹, rectification has been increasingly used in Canadian tax cases as some courts have allowed parties to rectify situations where a recorded transaction, though effected as intended, did not properly carry out the parties’ intentions from a tax perspective (that is, to avoid or reduce taxes).

In Juliar, the Court upheld a rectification order for taxpayers who were reassessed for deemed dividends on a share transfer. The Court rejected the idea that “intention” refers only to the purpose of the transaction and not its consequences, finding the parties’ underlying intention was to avoid income tax on the transfer and that the transaction itself, not just the documents, could be reformed. In other words, the parties merely required proof of an intention to effect a transaction on a particular tax basis, therefore widening the scope of rectification.

The Supreme Court of Canada refused leave to appeal Juliar, and later cases of that Court, Performance Industries ² and Shafron ³, addressed rectification but not in a tax law context – neither decision mentioned Juliar.

On December 9, 2016, the Supreme Court of Canada released Fairmont ⁴ clarifying and narrowing rectification at common law. In Fairmont, the majority (7–2) overturned Juliar, finding that it wrongly expanded the availability of rectification beyond cases where the written documents incorrectly recorded the parties’ agreement. The Court stated: “Rectification is not equity’s version of a mulligan. Courts rectify instruments which do not correctly record agreements. Courts do not “rectify” agreements where their faithful recording in an instrument has led to an undesirable or otherwise unexpected outcome. ⁵

Following Fairmont, it will no longer be possible to obtain orders rectifying transactions based on the parties’ intention to avoid or limit taxes. Instead, the onus will be on the taxpayers to show that the signed instruments contain errors that do not properly reflect the intended agreement. Jean Coutu ⁶, released concurrently, set out the same principles under Quebec civil law.

What does this mean for lawyers? The Income Tax Act is complex. Rectification has been an effective tool for correcting mistakes – it seems that will no longer be the case. Fairmont highlights a need for lawyers to draft carefully and to understand the mechanisms they are using for their clients. The best practice for lawyers not specializing in tax law will be to clearly inform their clients of such and recommend they seek tax advice. The Court has stated it will no longer act as an insurer for lawyers who improperly advise their clients on the tax consequences of a given transaction. The potential cost of providing erroneous tax advice, therefore, has just increased.

1. Attorney General of Canada v. Juliar (2000), 50 OR (3d) 728 (ONCA) | ↩
2. Performance Industries Ltd. v. Sylvan Lake Golf & Tennis Club Ltd., 2002 SCC 19. | ↩
3. Shafron v. KRG Insurance Brokers (Western) Inc., 2009 SCC 6. | ↩
4. Canada (Attorney General) v. Fairmont Hotels Inc., 2016 SCC 56. | ↩
5. Fairmont, at para 39. See note 4. | ↩
6. Jean Coutu Group (PJC) Inc. v. Canada (Attorney General), 2016 SCC 55. | ↩