M&A update: Canadian federal budget 2017 tax measures

Yesterday, Budget 2017 was tabled by the Liberal government. While Budget 2016 contained many significant tax changes, Budget 2017 does not. Despite having indicated in its 2015 election platform and in Budget 2016 that the Liberal government intended to eliminate a number of perceived tax advantages it considered were benefitting wealthy Canadians and not the middle class, the Liberal government deferred dealing with those perceived tax advantages, but indicated that a paper would be delivered in the coming months outlining issues and providing proposed policy changes relating to tax planning strategies being used by private corporations that provide tax advantages that may be perceived to be unfair.

Below are a summary of the tax proposals in Budget 2017 that relate to M&A.

Investment fund mergers

Merger of switch corporations into mutual fund trusts

Currently, the Income Tax Act (Canada) (the Act) contains rules that allow for certain mergers of mutual funds on a tax-deferred basis. For example, a merger of two mutual fund trusts or a merger of a mutual fund corporation and a mutual fund trust fall within these rules. However, these rules do not currently allow for the tax-deferred reorganization of a mutual fund corporation into multiple mutual fund trusts. Such a reorganization may be relevant for switch corporations, which are mutual fund corporations with multiple classes of shares, where each class of shares represents a different investment fund.

Budget 2017 proposes to expand the mutual fund merger rules to allow a mutual fund corporation that is a switch corporation to reorganize into multiple mutual fund trusts on a tax-deferred basis. For this measure to apply, in respect of each class of shares of the mutual fund corporation that is or is part of an investment fund, all or substantially all of the assets allocable to that class need to be transferred to a mutual fund trust and the shareholders of that class must become unitholders of that mutual fund trust. This measure will apply to qualifying reorganizations that occur on or after March 22, 2017.

Segregated fund mergers

Segregated funds are life insurance policies that share many similar characteristics to mutual fund trusts; however, unlike mutual fund trusts, segregated funds cannot merge on a tax-deferred basis. Budget 2017 proposes to allow for the merger of segregated funds on a tax-deferred basis to provide consistency between the treatment of segregated funds and mutual fund trusts. It is also proposed that a segregated fund be able to carry over non-capital losses that arise in taxation years that begin after 2017 and apply the non-capital losses in computing its taxable income for taxation years that begin after 2017. The use of these losses will be restricted following mergers of segregated funds. These measures will apply to mergers of segregated funds after 2017 and to losses arising in taxation years that begin after 2017.

For further reading, please see our full report on tax measures regarding Budget 2017.

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New cybersecurity requirements for DFS-regulated entities

Deal Law Wire - Norton Rose FulbrightNew cybersecurity requirements for Department of Financial Services (DFS)-regulated entities took effect on March 1, 2017. The New York DFS created these requirements in response to recent or potential threats to sensitive electronic information, particularly financial information and private consumer information. EY’s report provides an overview of the new framework with implications for the affected entities. A main goal is to protect information systems of the affected entities and the non-public information stored in those systems.

The new cybersecurity requirements include indications for the below-noted areas. An annual statement certifying compliance with these requirements must be submitted to the Superintendent by February 15th. In the context of a M&A transaction, purchasers considering the acquisition of a DFS-regulated entity should conduct effective due diligence to ensure the target is in compliance with these new requirements.

Risk assessment

Each entity must periodically assess the risk to its information systems from a cybersecurity standpoint. This assessment must be in accordance with defined policies and is to inform the cybersecurity program and policies developed under the new requirements.

Cybersecurity program

Each entity must maintain a cybersecurity program that performs enumerated cybersecurity functions including the identification and detection of, protection against, response to, and recovery from cybersecurity events and risks, including an incident response plan. The entity must also manage access to its non-public information by maintaining user access privileges, having policies on data retention, monitoring access, providing training regarding access, and implementing encryption or encryption-like protection for non-public information held or transmitted by the entity, including over external networks. The entity must also ensure that its (or third-party) development of computer applications meet defined security-related standards. Further, the entity must perform penetration testing and vulnerability assessments on its cybersecurity program at a specified frequency and in accordance with the risks identified by its risk assessment.

Cybersecurity policies

Each entity must adopt a written policy or policies that address, as applicable, 14 enumerated items relating to information access management, security, data governance, business continuity and recovery, and risk assessment and response. Further, each entity must adopt written policies applicable to information systems and non-public information that are accessible to its third party service providers.

Chief Information Security Officer (CISO) and personnel

Each entity must designate a CISO who is responsible for managing and enforcing the cybersecurity program and policies. The CISO must prepare a written report to the entity’s board of directors. The entity must also have qualified cybersecurity personnel who are trained in addressing cybersecurity risks.

Notices to Superintendent and record keeping

In the event of a material cybersecurity event, the entity must notify the Superintendent within 72 hours.

Additionally, the entity must maintain records that support its annual certification of compliance with these requirements, as well as certain audit trails that can help support its normal operations and that can detect and respond to material cybersecurity events.

The author would like to thank Larissa Leong, Articling Student, for her assistance in preparing this legal update.

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Trends in U.S. post-deal litigation

As we reported in 2014, United States post-deal litigation became more of a rule than an exception in the early-to-mid 2010s, with over 95% of M&A transactions attracting litigation. In many cases, a single deal could result in multiple suits distributed across state jurisdictions. The majority of these actions were “disclosure-only”, aimed at prompting the target company to make additional disclosure (and generally resulting in large fees for plaintiffs’ counsel) and drew a great deal of criticism from lawmakers and jurists. However, changes may be on their way, led by the state of Delaware.

Delaware developments

In the last two years, a series of Delaware decisions has begun to curtail the post-deal litigation trend. In 2015, Corwin v. KKR Fin. Holdings LLC established the business judgment rule as the standard of review in post-closing damages litigation. The next year, re Trulia rejected a disclosure-only action that would not have resulted in substantial benefit to shareholders. Delaware courts have also recently begun enforcing forum selection clauses in deals in efforts to hamper multi-jurisdictional deal challenges.

A recent paper published by the University of Pennsylvania Law School (the Paper) evaluates the impact that these recent jurisprudential changes have had on the Delaware M&A litigation landscape. Notably, the authors discovered that the percentage of Delaware deals subject to post-closing actions halved between 2015 and 2016, declining to 32%. During the same period, the percentage of settlements rejected by the court rose from close to 0% to around 20% and median attorneys’ fees declined from $500,000 to $275,000. Furthermore, there is evidence that the changes in Delaware have affected the national rate of litigated deals, which declined from 93% to 84% between 2013 and 2014 and more substantially to 64% in 2016. The national decline may be partly attributed to the disappearance of multi-jurisdictional actions related to Delaware matters as a result of forum selection provisions.

Too much of a good thing?

The changes brought on by the Delaware decisions are not without their drawbacks. The authors of the Paper warn that over-zealous restrictions on post-deal litigation is likely to dissuade legitimate claims and thus allow target company boards to act without fear of reprisal. Furthermore, the authors stressed the importance of Delaware’s balancing act to remain the top destination for corporate residency. With other states such as Nevada and New York (in which a state court recently opted not to follow re Trulia) already competing for Delaware’s position, it could be risky to adopt overly defensive standards.

Creative adaptations

The authors of the Paper assert that creative counsel have found and will likely continue to find ways to adapt to the changes. Already, the authors noted a rise in motions for dismissal combined with “mootness” fees as an alternative to traditional challenges (whereby if the plaintiff can establish that an action has resulted in disclosure mooting the litigation, the parties can settle and the defendants generally pay a voluntary “mootness fee” to plaintiff’s counsel). Furthermore, more claims are being brought in federal court, which are outside the restrictions imposed by forum selection clauses. Finally, despite recent limitations on appraisal remedies in Delaware, these actions are more prevalent each year, filling the vacuum left by traditional challenges that have become no longer viable.

Canadian perspective

As we discussed in a previous article, while post-deal litigation has never been as prominent in Canada as it has south of the border, it does still occur. It would therefore benefit Canadian dealmakers to keep informed of the developing scenario in the United States, and in Delaware in particular, which is often looked to by Canadian courts regarding matters of emerging corporate law.

The author would like to thank Peter Charbonneau, Articling Student, for his assistance in preparing this legal update.

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M&A: the subsection 20(24) election

In a business acquisition transaction, it is not uncommon to find an assumption by the purchaser of the obligations of the vendor to deliver goods or perform services in the future for which the vendor has already received payment. In such a scenario, there are two possible outcomes from a tax perspective, as set out below:

No election made under subsection 20(24) of the Income Tax Act

Typically the purchaser would treat the assumed obligation as part of the consideration for the purchase of the business. Where no election is made, the purchaser would not be able to deduct expenses required to fulfill the obligations since the expenses would relate to the acquisition of a capital asset. The vendor would include in its income the payment it receives from its customers but no deduction would be allowed to the vendor since no expenses would have been incurred to fulfill the obligations.

Election made under subsection 20(24) of the Income Tax Act

In contrast, if consideration has been received by the purchaser for the assumption of obligations, an election under subsection 20(24) may be available. The tax burden associated with prepaid income amounts then shifts from the vendor to the purchaser.

In effect, the election allows the vendor to deduct the amount of consideration in respect of the assumed obligations from its income. Meanwhile, the purchaser must recognize that amount in its income but is allowed to deduct any expenses related to the performance of the vendor’s obligations.

When should the election be made?

The execution of an election pursuant to subsection 20(24) is often in the interests of the vendor. Whether making the election is in the purchaser’s interest is dependent upon the amount of the income inclusion, the period over which the deductions may be made and the amounts of those deductions.

Since the election can only be made if both parties agree, it is imperative that both sides determine whether the election is right for them and be prepared to negotiate should the other side disagree.

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The InterOil decision: robust and independent fairness opinion required

A recent decision of the Yukon Court of Appeal, InterOil Corporation v Mulacek, has potentially significant consequences for corporate governance practices in the context of plans of arrangement.

Fairness opinions in plans of arrangement

When a corporation proposes a plan of arrangement to its shareholders, it is generally considered a best practice of corporate governance to obtain a fairness opinion that assesses the financial fairness of the arrangement for affected shareholders. The fact that the directors sought expert financial advice evidences compliance with their fiduciary duties and, when applying for court approval, is an important factor in persuading the court that the plan is “fair and reasonable”.

InterOil Corporation v Mulacek: Yukon Supreme Court decision

The decision in InterOil Corporation v Mulacek suggests that unless the fairness opinion is thorough, balanced and independent, it may be of limited use as evidence that an arrangement is fair and reasonable.

At first instance, the chambers judge approved an arrangement involving the exchange of the shares of InterOil Corporation for shares of Exxon Mobil Corporation valued at $45 per share, plus a capped “contingent resource payment” (CRP). The judge reviewed InterOil’s board process and the fairness opinion obtained from its financial advisor. With respect to the fairness opinion, the judge found that it:

  • Lacked independence because the expert’s fee was contingent on the success of the arrangement;
  • Failed to disclose the details of the contingency fee;
  • Failed to address the value of the resource assets and the impact of the cap on the CRP so that shareholders could consider whether the arrangement reflected that value;
  • Failed to account for the CEO’s significant financial incentive for the arrangement to proceed; and
  • Was otherwise deficient because it failed to refer to specific documents or facts to indicate what the opinion was based on and lacked analysis of that information.

Despite these findings, the judge found the arrangement “fair and reasonable”. 80% of InterOil’s shareholders voted in favour of it and many of the details lacking in the fairness opinion were evident in the information circular.

InterOil Corporation v Mulacek: Yukon Court of Appeal decision

The Court of Appeal reversed this finding. It held that the shareholders were not in a position to make an informed choice as to the value they would be giving up and the value that they would be receiving. For the reasons outlined above, the fairness opinion was inadequate for that purpose.

In addition to the fairness opinion problems, other facts put the fairness of the arrangement in doubt: the CEO was in a position of conflict; the “independent” special committee likely was not independent; and the arrangement was not a “necessity”. Therefore, the inadequacy of the fairness opinion was not the only basis for the decision. However, the Court’s decision still serves to elevate the importance of a robust and independent fairness opinion, particularly where there may otherwise be some question whether the plan is “fair and reasonable”.

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Chinese capital controls shake-up global M&A market

In late 2016, the Chinese State Council announced new capital controls were to be put in place as of January 1, 2017, with the aim of reducing the outflow of currency from China. These new measures are seen as likely to have significant impacts on industries around the globe, such as housing markets and insurance, as well as the broader market for international mergers and acquisitions (M&A) by initiated by Chinese companies around the world.

Crackdown on money laundering

One of the principal aims of the regulations appears to be a crackdown on money laundering through the purchase of overseas properties. According to Bloomberg, for individuals, the regulations introduced restrictions on international payments and reporting requirements for banks whose customers seek to complete any cash transaction in amounts greater than 50,000 yuan or any overseas transfer of amounts equal to USD$10,000 or more. When completing applicable foreign exchange transactions, individuals are required to pledge that such funds will not be used for the purchase of foreign property, securities or insurance. As well, individuals must provide a detailed breakdowns of their proposed use of funds.

Increased scrutiny on large transactions

In addition to these personal restrictions, according to CNBC, the new regulations also appear to be aimed at curbing outbound M&A activity through increased scrutiny by Chinese regulators of any transaction out of the country valued over USD$10 billion, with transactions under USD$1 billion likely to receive less thorough review. Though there has been typically little public comment from the Chinese government on the new capital controls, the the Financial Times reported the Chinese State Administration on Foreign Exchange as trying to counter the idea that the government wants to curb M&A activity, but rather that it wished to “crack down on ‘fake’ transactions while continuing to clear genuine ones.” The FT further reports that analysts and bankers see the Chinese government as being concerned about the quality of Chinese overseas investments” and fearing that “transactions are being rushed through without proper due diligence to cash in on the [US] dollar’s continuing appreciation against the renminbi.”

Despite the sense in the market that the Chinese government is seeking to curb outbound M&A activity, CNBC’s report suggests that high dollar value transactions out of China show no signs of stopping all together and that investments considered strategically significant to Chinese interests will receive approval. Media reports have also cited Chinese regulatory support for Dalian Wanda’s USD$1 billion buy-out of Dick Clark Productions as evidence that high profile and politically connected firms are considered exceptions to the new capital control measures, and that such firms will continue to be able to complete high dollar-value outbound transactions. (Despite previous statements of support for the Dalian Wanda-DCP transaction by Chinese authorities, media reports state that DCP’s owner,  Eldridge Industries, subsequently filed suit in Delaware claiming termination fees after one of its affiliates terminated the transaction alleging that Dalian Wanda had “failed to honor its contractual obligations” when the transaction failed to close by the end of February.)

Consequences of new capital controls

A Reuters report notes that a result of greater scrutiny on outbound transactions has been a spike in inbound M&A activity and that he value of inbound M&A transactions has “already reached $7.1 billion so far in 2017, almost double the amount in the same period last year”. This increase in inbound M&A activity is intertwined with desire of the Chinese government “rebalance the economy away from infrastructure, heavy industry and export-led growth and towards domestic consumption”. Whereas the Chinese government had previously considered many sectors off limits to foreign direct investment, a desire to increase domestic consumption and growth means that “foreign investments no longer need to go through a cumbersome approval system, and there has even been some loosening” in certain sectors previously deemed too internally sensitive to be opened to foreign competition.

Though the effect of these changes in Chinese economic policy will continue to evolve over the coming months and years, this new emphasis on stability at home and stopping any slide in the value of the renminbi against the dollar is already showing signs of slowing outbound M&A activity while bringing new opportunities in China for buyers looking to expand into that market. Based on our recent experience, it pays to be patient and to remain optimistic – Chinese regulatory approvals are not altogether gone for good.

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How deal team size can help produce post-transaction synergies

Deal Law Wire - Norton Rose FulbrightRegardless of whether the parties are public or private, the potential synergies that can be gained from an M&A transaction are among the most common reasons cited by acquirers when justifying their proposed transactions to stakeholders. However, without careful planning and execution, these synergies often fail to have the impact on the bottom line that management expects when deals are first conceived. A recent article by McKinsey & Company suggests that by broadening their deal teams, acquirers may be better equipped to realize these post-transaction synergies.

Problems with lean transaction teams

Typically, executives tend to keep deal teams as lean as possible in order preserve confidentiality. According to McKinsey, as a result of this, these small and isolated teams are apt to misevaluate synergies as they can lack insider information from relevant members of management. Without this information, deal teams are more prone to cognitive biases and are less likely to achieve buy-in from critical stakeholders.

Members of management can add value

In order to avoid this, deal teams should consider bringing in specific members of management who can assist the acquirer in executing its strategy with respect to synergies between the two companies. These individuals can provide critical information and can be especially valuable to validate costs and assumptions as well as to evaluate transition timelines. Furthermore, by involving select members of management, acquirers can begin integration planning earlier in the deal process and will be better equipped to promote a shared culture between the two companies.

Deal team size impacts effective due diligence

Strategically increasing the size of deal teams can also lead to a more effective due diligence process. While overestimating synergies was the second largest cause of difficulties or disappointments in transactions, the failure of due diligence to identify critical issues was the largest cause of difficulties in a recent survey. By bringing in the right individuals with the proper expertise, deal teams can put themselves in the best position to identify problems and, if possible, design solutions to solve them. In addition to internal resources, deal teams should also be sure to bring in external experts early on in the due diligence process. These experts can leverage their deal experience and outsider perspective to help identify risks that internal deal team members may overlook.

While increasing the size of a deal team can also increase the possibility of a confidentiality breach, the potential benefits of a larger deal team should still be seriously considered by acquirers. By using a larger team, acquirers can put themselves in the best position possible to achieve their predicted synergistic gains and to identify critical issues during the due diligence process.

The author would like to thank Mark Bissegger, Articling Student, for his assistance in preparing this legal update.

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Distressing prospects for distressed debt?

According to a Debtwire report released this month, the North American distressed debt market will be characterized by continued volatility throughout 2017, with the oil & gas sector presenting the most attractive opportunity for investors. Financial services, industrials and real estate were also identified in the report as being ripe for investment in the coming year.

Downward allocation trends

2016 saw a lower year-over-year asset allocation to distressed investing, with 50% of respondents stating that they had increased their allocation to distressed debt, compared to 68% of respondents in 2015. This downward trend was explained mainly by concerns over general market conditions and the slow pace of economic recovery, both of which pushed investors to hold onto their capital.

Looking ahead, 43% of respondents indicated that they expected to allocate equivalent amounts to distressed debt in 2017 relative to the previous year, while 21% suggested they would decrease their allocation. Meanwhile, only 36% of respondents anticipated an increase in allocation.

M&A at the fore

In line with the previous year, strategic M&A was identified by 35% of respondents as the primary driver of market activity. As companies struggle to grow organically in a time of sluggish economic progress, respondents expected an increased emphasis on consolidation, synergy optimization and mutual growth benefits through strategic M&A.

The oil & gas sector was identified as being a likely active area for M&A due to the fall in prices within the sector. Indeed, 51% of respondents anticipated allocating more capital to oil & gas companies in 2017, while only 10% planned to decrease allocations. Of those companies expecting to increase their allocation in this sector, 27% of respondents predicted their allocations would increase between 26-50%, while a further 22% of respondents anticipated their allocation would increase between 1-25%.

Interestingly, 26% of respondents pointed to capital expenditures as the likely primary force behind primary issuance in 2017, more than doubling expectations from the previous year, when only 12% of respondents anticipated they would lead. Expectations regarding the role of refinancing (17%) and dividend recapitalization (7%) mirrored last year’s results, while leveraged buyouts are predicted to play a markedly smaller role in the year ahead, declining from 32% in 2016 to 15% in the coming 12 months.

An optimist perspective

Although the global macroeconomic climate has tempered certain investors’ appetite for distressed debt, others see opportunity in light of current market conditions, as economic uncertainty, slow credit markets and volatile commodity prices have created enticing investment opportunities in undervalued companies.

The author would like to thank Brian Peebles, Articling Student, for her assistance in preparing this legal update.

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2017 merger review thresholds for Competition Act and Investment Canada Act

The threshold for certain pre-closing net benefit reviews under the Investment Canada Act (ICA) and the threshold for a pre-closing merger notification under the Competition Act have been increased for 2017.

Competition Act

Canada uses a two part test for determining whether a pre-merger notification is necessary. The two-part test is based on the size of the parties and the size of the transaction. The transaction size component can be adjusted annually for inflation. Under the size of the parties test, the parties, together with their affiliates, must have aggregate assets in Canada or annual gross revenues from sales in, from or into Canada, in excess of $400 million. Under the size of transaction test, the value of the assets in Canada or the annual gross revenue from sales (generated from those assets) in or from Canada of the target operating business and, if applicable, its subsidiaries, must be greater than $88 million. The 2016 transaction size threshold was $87 million.

These changes will take effect March 4, 2017.

Investment Canada Act

In general, any acquisition by a ‘non-Canadian’ of control of a ‘Canadian business’ is either notifiable or reviewable under the ICA. Whether an acquisition is notifiable or reviewable depends on the structure of the transaction and the value and nature of the Canadian business being acquired, namely whether the transaction is a direct or indirect acquisition of control of a Canadian business. With limited exceptions, the federal government must be satisfied that a reviewable transaction ‘is likely to be of net benefit to Canada’ before closing can proceed; notifiable transactions only require that the investor submit a report after closing. Separate and apart from the net benefit review, the ICA also provides that any investment in a Canadian business by a non-Canadian can be subject to a national security review.

In April 2015, the metric used to calculate the review thresholds changed. Prior to April 24, 2015, the acquisition of control of a Canadian business by a non-Canadian was generally subject to pre-closing review and approval by the responsible Minister where the book value of the assets of the Canadian business exceeded a prescribed threshold ($375 million in 2016). Lower thresholds ($5 million) existed for the acquisition of control of a business related to Canada’s national identity or cultural heritage, or where the buyer was not from a member of the WTO.

As of April 24, 2015, the threshold for the net benefit review is generally based on the enterprise value of the Canadian business. The threshold was to be $600 million for two years, followed by two years at $800 million, and then $1 billion for a year, after which it would be adjusted annually for inflation. To encourage more foreign investment in Canada, the government plans to adopt the $1 billion limit earlier than expected, sometime in 2017.  Until then, the threshold will change to $800 million on April 24, 2017.

Under the Canada-European Union Comprehensive Economic and Trade Agreement (CETA), Canada committed to significantly increase the threshold for review under the ICA to $1.5 billion for investors from members of the European Union in most industry sectors. Given most favoured nation clauses in other free trade agreements Canada has signed, several of Canada’s other trading partners, including the United States, are poised to benefit from this provision as well. As the CETA has not yet taken effect, the timing for the $1.5 billion threshold is not known, but could be as early as summer of 2017.

How enterprise value will be determined will depend on the nature of the transaction:

Publicly traded entity: acquisition of shares Market capitalization plus total liabilities (excluding operating liabilities), minus cash and cash equivalents
Not publicly traded entity: acquisition of shares Total acquisition value, plus total liabilities (excluding operating liabilities), minus cash and cash equivalents
Acquisition of assets Total acquisition value, plus assumed liabilities, minus cash and cash equivalents transferred to buyer

The enterprise value test will not apply to all transactions. The lower review thresholds remain for: (i) cultural industries; (ii) investors from non-WTO members; and (iii) SOEs. These investments will continue to be reviewable based on a book value of assets test using the current monetary thresholds which can be adjusted annually to account for changes in gross domestic product.  Effective February 11, 2017, this threshold is now $379 million.

Updated to clarify that the timing of the change in the Enterprise Value threshold to $1 billion has not yet been determined.

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Federal court on common interest privilege: information shared in a transaction no longer protected

During commercial transactions, it is common for parties to a transaction to share documents and information that each party’s respective counsel had prepared in relation to the transaction. These documents or information typically concern matters that, upon sharing with the other parties, would assist in the completion of the transaction, such as the steps, procedure or structure of the transaction.

Until recently, such documents and information would have been considered privileged communications and protected from disclosure to third parties under the doctrine of “advisory” common interest privilege (Advisory CIP) which applies, as succinctly put by the Federal Court, where:

“different clients […] represented by different lawyers […] share privileged information [i.e., solicitor-client privileged information] on a matter of common legal interest not related to actual or anticipated litigation.”

Iggillis Holdings Inc v Canada (National Revenue), 2016 FC 1352 at 9.

Accordingly, if a person, such as a regulatory body, that was not a party to the transaction requested disclosure of such communication and would otherwise be entitled to this disclosure under applicable law, each party could assert Advisory CIP in order to refuse such disclosure.

However, a recent decision from the Federal Court of Canada has recently called into question the availability of the otherwise seemingly established doctrine, ruling that Advisory CIP in commercial transactions does not exist (at least) in Canada.

In that case, counsel for the purchaser had prepared a memorandum which was disclosed to the seller (whose counsel albeit also participated in creating the memorandum) in the course of the sale and purchase of certain assets and shares. In the memorandum, purchaser’s counsel advised as to how to structure the transaction in the most tax-efficient manner. The purpose of circulating the memorandum was to ensure the seller agreed on the steps in the transaction, understood any risks involved and had the opportunity to discuss these risks and negotiate changes to the transaction.

During Canada Revenue’s Agency (CRA) review of the transaction, the CRA requested production of the memorandum pursuant to its powers under the Income Tax Act, RSC 1985, c 1 (5th Supp). In refusing production, the seller (and purchaser as intervener) asserted Advisory CIP over the memorandum. Accordingly, the CRA brought an application to the Federal Court in order to enforce production of the memorandum.

After reviewing the origins, jurisprudence and suitability of the doctrine in Canada, the court held that the establishment of the doctrine was based on erroneous and faulty grounds and ruled that the doctrine was no longer available to protect privileged communications shared in commercial transactions, ordering production of the memorandum to the CRA. Notably, however, the court did confirm that communications shared between clients represented by the same lawyer (or law firm) are privileged and therefore protected from disclosure to third parties under joint-client privilege:

“There is no controversy regarding the privileged nature of communications involving a common interest in situations where two or more clients are represented by the same lawyer.”

Iggillis Holdings Inc v Canada (National Revenue), 2016 FC 1352 at 9.

This decision, as rightfully acknowledged by the Federal Court, contradicts a long line of jurisprudence accepting and applying Advisory CIP to circumstances similar to that in this case (that is, different parties represented by different counsel) and, not surprisingly, is now on appeal. Further, it is important to note that the decision is not binding on provincial superior courts, where most commercial cases are litigated and where the status quo continues to recognize Advisory CIP (at least, until further notice). Nonetheless, it will be interesting to see how the Federal Court of Appeal decides on the future of Advisory CIP in Canada.

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