Knights of Columbus v. The Queen

Knights of Columbus v. The Queen
Court (s) Database
Tax Court of Canada Judgments
Date
2008-05-16
Neutral citation
2008 TCC 307
File numbers
2007-2033(IT)G
Judges and Taxing Officers
Campbell J. Miller
Subjects
Income Tax Act
Decision Content
Dockets: 2007-2033(IT)G
2007-3490(IT)G
BETWEEN:
KNIGHTS OF COLUMBUS,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
____________________________________________________________________
Appeals heard on January 14, 15, 16, 17 and 18, 2008,
at Toronto, Ontario,
By: The Honourable Justice Campbell J. Miller
Appearances:
Counsel for the Appellant:
William I. Innes, Chia-yi Chua
and Brendan Bissell
Counsel for the Respondent:
Marie-Thérèse Boris and
Justin Kutyan
____________________________________________________________________
JUDGMENT
The appeals from assessments made under Parts I, I.3 and XII.3 of the Income Tax Act for the 2000 and 2002 taxation years are allowed, and the assessments are vacated in respect of the tax assessed, the penalties assessed and the interest assessed on the basis that the Knights of Columbus did not carry on business in Canada through a permanent establishment in those years.
Costs are awarded to the Appellant.
Signed at Ottawa, Canada, this 16th day of May 2008.
“Campbell J. Miller”
C. Miller J.
Citation: 2008TCC307
Date: 20080516
Dockets: 2007-2033(IT)G
2007-3490(IT)G
BETWEEN:
KNIGHTS OF COLUMBUS,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
REASONS FOR JUDGMENT
Miller J.
[1] The Knights of Columbus, a resident United States corporation, provides life insurance to its Canadian members. It relies upon Canadian agents to do so. The issue before me is whether the Knights of Columbus is liable for tax in Canada on business profits from its insurance business. This hinges on the application of the Convention between the United States of America and Canada with respect to Taxes on Income and Capital (the Canada-U.S. Treaty), specifically a determination of whether the Knights of Columbus has a permanent establishment in Canada as a result of either:
(1) carrying on its business through a fixed place of business in Canada (Article V(1) of the Canada-U.S. Treaty).
(2) using agents, other than independent agents acting in the ordinary course of their business, who habitually exercise in Canada authority to conclude contracts in the name of the Knights of Columbus (Article V(5) and (7) of the Canada-U.S. Treaty).
[2] Counsel for the Knights of Columbus stressed at the outset the complexity of the Treaty provisions, and consequently called three experts to explain them. With the greatest respect, my initial reaction to counsel equating the Organisation for Economic Co-operation and Development Model Convention (“OECD Model Convention”) to the special theory of relativity in its complexity was that it was just legal hyperbole, though having heard the experts, I have some greater appreciation of what counsel was getting at in his opening remarks.
Background
[3] The Knights of Columbus is a Roman Catholic fraternal organization established in New Haven, Connecticut in 1882. It came to Canada in 1897. The organization has four levels of councils: local, district, state (or province) and supreme. One purpose of the organization, through its insurance program, was to help widows and orphans of deceased members. This evolved into a formal insurance program.
[4] The Knights of Columbus in 2006 raised approximately 25% of its funds from its insurance activities. The Knights of Columbus is not subject to income tax on its insurance activities in the United States.
[5] The Knights of Columbus’ insurance business is handled through agents. In Canada, there are approximately 220 Field Agents, 22 General Agents, one Field Director, and a Chief Agent. I will describe the role of each, and then describe the business activities that take place in the United States, notably the underwriting process.
Chief Agent
[6] The description of the duties and responsibilities of the Chief Agent came from Mr. Tom Brockett, the Deputy Chief Accountant for the Knights of Columbus in New Haven. The Chief Agent for the Knights of Columbus in Canada during the relevant period, Mr. Soden, passed away in 2001.
[7] The Office of the Superintendent of Financial Institutions (“OSFI”) stipulates that organizations such as the Knights of Columbus must have a Chief Agent in Canada. It also requires that the Chief Agent keep certain records with respect to the Canadian insurance activity. It was Mr. Brockett who oversaw the preparation of the Canadian Annual Return, test of adequacy form and monthly and quarterly reports. Reports would be submitted to OSFI through the Chief Agent’s office, and his signature would be required on such reports. Documents would be kept at the Chief Agent’s office. So for example, if OSFI conducted a compliance review, it would have access in Canada to the records.
[8] Mr. Soden was a Chartered Accountant. He was paid an hourly fee for acting as Chief Agent. He would submit claims to the Knights of Columbus for his expenses. His office bore no indication of any connection to the Knights of Columbus, and no one from the Knights of Columbus had access to his office. Mr. Soden was not on the Board of the Knights of Columbus, nor on any management committee. He played no role in the sale of insurance and no role with any of the agents nor the insureds. He would have to attend OSFI examinations, but this would be with the Knights of Columbus’ Chief Accountant or Mr. Brockett.
[9] The Chief Agent was a signatory on the Knights of Columbus’ cash receipt bank account with the Bank of Montreal, but not on the disbursements account. Funds would move from the receipts to the disbursements account on the initiation of the Treasurer’s Department in New Haven. Mr. Brockett explained that the Chief Agent’s involvement with the banking arrangements was an OSFI requirement. OSFI also required a Canadian Trust to maintain investments in Canada to ensure the adequacy of the assets or the liabilities. The Knights of Columbus retained CIBC Mellon as its Canadian Trustee.
Field Director
[10] No arguments centered on the role of the Field Director, so I simply mention that the Field Director was a Knights of Columbus’ employee, whose role was to serve as something of a mentor to the General Agents in Canada.
General Agents
[11] The description of the General Agents’ work came from Mr. Brockett and a General Agent, Mr. Darrell Gall, who worked in Nova Scotia and Newfoundland and Labrador.
[12] The General Agent must be a member of the Knights of Columbus. He oversees eight to 10 Field Agents. The General Agent is not actively involved in making sales to members, though was not precluded from doing so. The General Agent makes his income from a commission override from the Field Agents in his jurisdiction at a rate determined by the Knights of Columbus. The Knights of Columbus also provides the following benefits to the General Agent: term insurance, pension plan, group medical plan, training in New Haven and certain incentives. The General Agent is responsible for recruiting, training, managing and motivating the Field Agents.
[13] The General Agent works primarily from home. The Knights of Columbus does not have access to the General Agent’s premises. There are no signs to indicate the General Agent’s house has any connection to the Knights of Columbus. The Knights of Columbus does not reimburse the General Agent for his expenses, although there is an expense allowance calculated as a percentage of sales commission. The General Agent does not account for any expenses in order to receive the expense allowance, which Mr. Gall indicated does not approximate expenses. He viewed it as an additional commission.
[14] The General Agent’s responsibility to recruit is ongoing. Mr. Gall described his activities in this regard as asking his Field Agents to keep their eyes open, advertising in parish bulletins, attending the Knights of Columbus’ meetings and communicating with local priests. Mr. Gall would meet several times with potential agents. If acceptable to him, the agent goes through a security check and is also screened by the Knights of Columbus in New Haven, though Mr. Gall indicated the Knights of Columbus never denied one of his applicants for an agency. Mr. Tom Smith, a Knights of Columbus’ Executive Vice-President testified that the Knights of Columbus reviews approximately 350 applications each year from a General Agent for consideration of a Field Agent. Mr. Smith himself reviews the most difficult applications and approves all but ten or twelve. A contract is then signed by the Field Agent, the General Agent and someone from the Knights of Columbus’ head office in New Haven.
[15] The General Agent determines the councils the Field Agent will serve. The new Field Agent will submit a budget to the General Agent who determines what funding the Field Agent will require, and makes a draw or advance request to the Knights of Columbus. The Field Agent is expected to repay this funding as he earns commissions. However, if the Field Agent does not earn enough and is terminated, the General Agent becomes liable for the debt that remains owing to the Knights of Columbus.
[16] The General Agent is primarily responsible for training the Field Agents. Indeed, Mr. Gall developed his own three-week program for his Field Agents. The Field Agent also receives training from the Knights of Columbus in New Haven. The General Agent is responsible for the cost of the Field Agent’s accommodation, while the Knights of Columbus picks up the balance of the expenses. The Knights of Columbus also offers a training program called Pro Start which involves reading a manual and doing regular tests, which are marked by the General Agent.
[17] It is the General Agent who regularly supervises and monitors the Field Agent. He is familiar with how all his Field Agents are handling their operations, and the General Agent will follow up if he is not seeing sufficient applications from the Field Agents. A General Agent may provide incentive programs beyond what the Knights of Columbus may offer. Similarly, the General Agent may set requirements beyond the Knights of Columbus’ expectations. Mr. Gall requires his General Agents to have a private space with a door, telephone, desk, fax and highspeed internet access.
[18] Mr. Gall considered his role similar to that of a franchisee. While he operates within the Knights of Columbus’ guidelines he runs his business his way for himself but not by himself. He is required to provide monthly reports to a Vice‑President at the Knights of Columbus.
Field Agents
[19] The Field Agents are the frontline workers. They are required to be Knights of Columbus’ members and can only solicit applications for sales of the Knights of Columbus’ insurance products, and then only from the Knights of Columbus’ members. The Field Agent is paid on a commission basis as well as receiving the expense allowance as described earlier. The Field Agent can also get bonuses if certain quotas are met.
[20] The contract entered into by the Field Agent with the General Agent and with the Knights of Columbus stipulates in part:
3. The Field Agent is authorized to solicit and procure applications for insurance from members of councils assigned to him. The insurance may be on the life of the member, his spouse or his minor children; provided, however, that no member may apply for insurance on a son age 18 or older; even if the son is still a minor under applicable state or provincial law. The Field Agent is also authorized to collect initial premium payments for such insurance and to perform such other tasks as may be incumbent upon them as the Order’s insurance sales representative.
The Field Agent shall have no authority to bind the Order to issue any insurance policy. He shall also have no authority: to waive, modify or amend provisions of any insurance policy or rider issued by the Order; to extend the time for paying any premium; to bind the Order by making any promise, or by accepting any representation or information not contained in an application for insurance; or to collect or receive any premium or partial premium, other than the initial premium, unless specifically authorized to do so by the Order.
4. Nothing contained in this Agreement shall be construed to create the relationship of employer and employee between the Order and the Field Agent, between the Order and the General Agent, or between the General Agent and Field Agent. The Field Agent shall be free to exercise independent judgment as to the eligible persons from whom applications for insurance will be solicited, and as to the time and place of such solicitation. The Field Agent shall abide by rules and procedures established by the Order, but such rules and procedures shall not be construed as interfering with the freedom of action of the Field Agent as described in this Agreement.
[21] Apart from the General Agent’s expectations with respect to the Field Agents’ home offices, there are no requirements regarding an office from the Knights of Columbus. The Knights of Columbus’ representatives do not have access to the Field Agents’ premises. The Field Agents’ home offices are not marked with any Knights of Columbus’ signage. The Field Agents who testified, Mr. Raymond Bechard and Mr. Mark John Lewans, both stated that they had a separate business phone line in their names, not in the name of the Knights of Columbus. They rarely met clients at their home offices. The offices were used mainly for administrative purposes. There was some indication that one Field Agent may have seen clients more often in the home office. The Field Agents conduct their business from their home office, their car and the homes of the Knights of Columbus’ members whose business they are soliciting.
[22] As well as the commissions (basic, expense and quota-based), the Knights of Columbus provides the following to Field Agents:
- some training, a rate book and kit for oral fluid tests, benefits such as pension, medical and term insurance, payment of their initial license and cards and letterhead, unless their production slips below quotas
[23] The Field Agent visits the Knights of Columbus’ member at home to discuss the Knights of Columbus’ insurance products and to conduct a needs analysis. This is intended to lead to a determination of the appropriate insurance coverage. The Field Agent is trained on the impact of certain medical conditions to assist in this determination. The Field Agent is equipped with a Knights of Columbus’ rate book, from which he can determine the approximate premium for the suggested insurance. The Field Agent completes the application, has it signed and collects the initial premium. This package is then sent to New Haven. The Field Agent cannot change any terms of the insurance application. The Field Agent leaves the applicant with a receipt and the Temporary Insurance Agreement Certificate.
[24] The Temporary Insurance Agreement is part of the application: indeed, an application cannot be submitted without it. Its terms are contained on one page of the application which also includes the receipt. Some of the relevant terms are:
Payment of Temporary Insurance
The Temporary Insurance will be paid to the beneficiary named in the application, if any person who is to be covered by the insurance contract applied for dies while the Temporary Insurance is in force.
Amount of Temporary Insurance
This Agreement provides Temporary Insurance, for any person who is to be covered by the insurance contract applied for, in the amount applied for on that person or $100,000, whichever is less.
Commencement of Temporary Insurance
The Temporary Insurance will start on the later of these dates: (a) the date of the above receipt; (b) the date of completion of any medical or paramedical examinations required at time of application.
Duration of Temporary Insurance
Unless this Temporary Insurance ends sooner for one of the three reasons listed in the Termination of Temporary Insurance section below, it will end 90 days after it starts.
Termination of Temporary Insurance
1. The Temporary Insurance will end when the Knights of Columbus issues the insurance contract as applied for.
2. The Temporary Insurance will end when the Knights of Columbus issues an insurance contract other than as applied for, and the contract is accepted by the contract owner.
3. The Temporary Insurance will end when the Knights of Columbus refunds the initial premium or restores the existing values used to pay the initial premium.
[25] The Temporary Insurance Agreement provides insurance to an applicant while the application is processed, having effect for 90 days or until the Knights of Columbus, through its underwriting process, either turns down the application or the insurance becomes permanent, if sooner. Mr. Smith testified that the Temporary Insurance Agreement is offered to be competitive in the industry. Mr. Brockett stated that the Temporary Insurance Agreement plays a very small role in the Knights of Columbus’ insurance business. The claims paid out under the Temporary Insurance Agreements are well below 1% of total claims. Premiums for the Temporary Insurance Agreements as a percentage of total premiums are even less, at a small fraction of 1%. Dr. Michael Conforti, the Knights of Columbus’ Medical Director, indicated that the claims’ process or payments under the Temporary Insurance Agreements are not factored into pricing the Knights of Columbus’ insurance products.
Underwriting Process
[26] The underwriting process takes place entirely in the United States. The New Business Department in New Haven reviews each application, checks information from the Medical Information Bureau and considers existing medical information. The Medical Information Bureau is a clearing house of information about medical status and prior dealings with individuals’ insurance. The application is then forwarded to the Underwriting Department for consideration.
[27] Dr. Conforti testified that it was he, along with the Chief of Underwriting who determined the medical criteria necessary to order certain medical requirements. He also relied on a Swiss Re manual to rate medical impairments. Dr. Conforti also plays a role in reviewing contestable claims.
[28] The Underwriting Department can approve an application, rate it substandard, postpone or decline an application. Approximately 90 to 92% of applications are approved, although as Dr. Conforti stated:
Yet you have to understand the majority of that 90 to 92 percent are for age and amounts that require medical requirements, and even of those that are standard, very often – you could still be standard but still have medical history that requires further investigation by the underwriter.
Approximately 2% are postponed or declined. If the underwriter determines more information is required they can order an attending physician statement or additional tests. The Underwriting Department supplies the agents with questionnaires for the more common ailments. Results of any additional tests go directly to the Underwriting Department. If an applicant dies while the underwriting is ongoing, the underwriting process will continue and, if the application is approved, the Temporary Insurance Agreement will operate to provide coverage.
[29] Dr. Conforti explained that the rate book which the agent has with him to assist in making the appropriate assessment of the applicant goes into a variety of factors, both medical and non-medical, that would impact on risk, even to the point of identifying when the agent might refuse to take an application. The Agent is also equipped with sufficient information to determine if a medical exam is required.
Expert Evidence
[30] The Appellant called three expert witnesses: Brian Arnold, David Rosenbloom and Richard Vann: all three were eminently qualified to comment upon the interpretation of “permanent establishment” as used in the OECD Model Convention, the UN Model Convention and corresponding commentaries. Mr. Rosenbloom, a former Director of the Office of International Tax Affairs of the United States Treasury Department, and the lead negotiator of the Canada-U.S. Treaty, also provided the American perspective on the relevant provisions of that Treaty.
[31] The Respondent brought a motion for an order declaring that the expert evidence of all the expert witnesses was inadmissible. The grounds the Respondent relied upon were that the expert evidence:
(i) was not necessary;
(ii) was not relevant;
(iii) opines on matters of domestic law; and
(iv) engages in advocacy.
[32] The Appellant countered that the experts provided evidence on what the OECD Model provisions were intended to mean, and with respect to Mr. Rosenbloom’s evidence, what the Canada-U.S. Treaty provisions were intended to achieve from an American perspective. In that light, the Appellant contends the evidence does not run afoul of any of the rules for admissibility as laid out in the R. v. Mohan[1] case from the Supreme Court of Canada.
[33] Rather than matching the detailed argument of both sides in analyzing the admissibility of the expert evidence globally, I shall outline only those aspects of the expert evidence upon which I intend to rely, and indicate why I find such evidence admissible. There are only two areas of expert evidence which will factor into my analysis:
(i) the significance of the requirement for a power of disposal by the Knights of Columbus over Canadian premises to find there is a fixed place of business of the Knights of Columbus in Canada; and
(ii) the inference to be drawn that substantial insurance activity could be carried out by an American organization such as the Knights of Columbus in Canada without subjecting itself to Canadian tax, due to the absence in the Canada-U.S. Treaty of an insurance clause similar to subparagraph 5(6) of the UN Model Tax Treaty.
[34] On both these matters it is the intent of the drafters of the Treaty that is the fact I am attempting to ascertain. I have no difficulty in finding such evidence relevant. As indicated by Justice La Forest in the decision Thomson v. Thomson[2]:
It would be odd if in construing an international treaty to which the legislature has attempted to give effect, the treaty were not interpreted in the manner in which the state parties to the treaty must have intended.
Also, as Justice Iacobucci opened his analysis in Crown Forest Industries Ltd. v. Canada[3]:
In interpreting a Treaty, the paramount goal is to find the meaning of the words in question. This process involves looking to the language used and the intentions of the parties.
Clearly, intention is relevant.
[35] With respect to necessity, where do I turn for guidance as to the drafters’ intention. In Crown Forest Industries Ltd., the Supreme Court of Canada accepted that it was entirely in order to rely on extrinsic materials to assist in the interpretation of a Treaty. Is it necessary for me to go beyond those materials (UN Model, OECD Model, commentaries, academic writings, international jurisprudence)? I believe it is. The experts brought a wealth of knowledge and background to the development of the term “permanent establishment” in the OECD Model and the UN Model. Indeed, they were involved in that very development. This was summarized and subjected to cross-examination and, consequently, provided me with evidence necessary to appreciate as fully as possible the intended meaning of “permanent establishment”, both in the OECD Model and, from an American perspective, in the Canada-U.S. Treaty.
[36] The Respondent argued that even if I got by the hurdles of relevance and necessity, I should find the expert evidence inadmissible as:
(i) it goes to domestic law; or
(ii) it engages in advocacy.
[37] With respect to the drafters’ intention in connection with the definition of the fixed place of business permanent establishment, and especially the requirement for some power of disposal, I do not conclude this is a matter of domestic law, certainly as it pertains to the OECD Model. Further, Mr. Rosenbloom’s opinion in that regard pertained to the American perspective only and not the Canadian perspective.
[38] With respect to the inference to be drawn from there being no insurance clause, which I will describe in more detail shortly, I also do not view this as a matter of interpreting domestic law. I recognize it is up to me to determine the meaning of permanent establishment as it pertains to the Knights of Columbus’ potential Canadian tax liability pursuant to the Canada-U.S. Treaty. Evidence leading to drawing an inference by the exclusion of an insurance clause that is found in another model, and indeed found in other Canadian tax Treaties is not evidence of domestic law: it is simply evidence of what was intended by the drafters by not including such a clause.
[39] I conclude these two areas of expert evidence do not run afoul of the criteria set out in Mohan, nor do they engage in advocacy. So, what was the expert evidence?
Fixed Place of Business
[40] Although the Commentary to the OECD Model refers to a place of business being “at the disposal” of the enterprise, the experts provided valuable insight as to what was intended by this aspect of the fixed place of business. It does not mean simply that the Knights of Columbus must have a key to the agent’s premises, as this would too easily circumvent the objective of this requirement, though, according to Mr. Vann, it is necessary to show an independent right of disposition in the principal, in this case the Knights of Columbus. Mr. Vann did not, in any detailed way, clarify the independent right, other than to stress the importance of distinguishing between the agent’s fixed place of business and the enterprise’s fixed place of business. This begs the question -- whose business is the agent carrying on at his place of business, or as Mr. Rosenbloom put it:
A place of business that is simply useful or used by an agent to carry on its function as an agent must be distinguished from a place of business that is used by the Knights to carry on its business, and the tool that we have to make that distinction is the words “at the disposal”.
Mr. Rosenbloom assisted in this regard suggesting that an agent carries on an agency business for the most part, but when actually meeting a prospective Knights of Columbus’ member to solicit an application, that could be viewed as the Knights of Columbus’ business. If those customer meetings regularly took place at the agent’s place of business, Mr. Rosenbloom conceded in such circumstances, the place of business could be viewed as being at the disposal of the non-resident enterprise. What struck me from the experts is how they struggled with the question of what business the agent carries on. Again, Mr. Rosenbloom:
The distinction is the fixed place of business used for the agent’s own activities, even though they help the Knights, and a fixed place of business used for the business of the Knights. That is the distinction I am trying to make. … I would draw your attention to paragraph 23 of the commentary on Article 5. I refer to this at page 16 of my report. I had been looking for it fruitlessly until now. The OECD commentaries say that the decisive criterion is whether the activity of a fixed place of business forms an essential and significant part of the activity of the enterprise as a whole. That’s essentially what I’m trying to say.
[41] All to say, the experts did not answer the very issue facing me, but this certainly illuminated the trickiness of nailing down precisely what was intended by a fixed place of business.
Inference from Lack of Insurance Clause
[42] Some background is in order. Paragraph 39 of the OECD Commentary on Article 5 of the OECD Model reads:
According to the definition of the term “permanent establishment” an insurance company of one State may be taxed in the other State on its insurance business, if it has a fixed place of business within the meaning of paragraph 1 or if it carries on business through a person within the meaning of paragraph 5. Since agencies of foreign insurance companies sometimes do not meet either of the above requirements, it is conceivable that these companies do large-scale business in a State without being taxed in that State on their profits arising from such business. In order to obviate this possibility, various conventions concluded by OECD Member countries include a provision which stipulates that insurance companies of a State are deemed to have a permanent establishment in the other State if they collect premiums in that other State through an agent established there – other than an agent who already constitutes a permanent establishment by virtue of paragraph 5 – or insure risks situated in that territory through such an agent. The decisions as to whether or not a provision along these lines should be included in a convention will depend on the factual and legal situation prevailing in the Contracting States concerned. Frequently, therefore, such a provision will not be contemplated. In view of this fact, it did not seem advisable to insert a provision along these lines in the Model Convention.
[43] The provision this Commentary refers to I have called the “insurance clause”. The insurance clause is embodied in Article 5(6) of the UN Model which reads:
Notwithstanding the preceding provisions of this article, an insurance enterprise of a Contracting State shall, except in regard to re-insurance, be deemed to have a permanent establishment in the other Contracting State if it collects premiums in the territory of that other State or insures risks situated therein through a person other than an agent of an independent status to whom paragraph 7 applies.
[44] Paragraph 26 of the Commentary on this Article states:
This paragraph does not correspond to any provision of the OECD Model Convention. It was included because it was the common feeling of the Group that the OECD definition of permanent establishment was not adequate to deal with certain aspects of the insurance business. Members from developing countries pointed out that if an insurance agent was independent, the profits would not be taxable in accordance with the provisions suggested in article 5, paragraph 7, of the United Nations Model Convention (based on Article 5, paragraph 6, of the OECD Model Convention); and if the agent was dependent, no tax could be imposed because insurance agents normally had no authority to conclude contracts as would be required under the provisions suggested in subparagraph 5(a) (based on Article 5, paragraph 5, of the OECD Model Convention). Those members expressed the view that taxation of insurance profits in the country where the premiums were being paid was desirable and should take place independently of the status of the agent. However, such taxation is based on the assumption that the person (employee or representative) through whom premiums are collected and risk insured is present in the country where the risk was located.
[45] Professor Arnold then draws the following inferences:
4.6.14 Some inferences may be drawn from Paragraph 39 of the Commentary on Article 5 of the OECD Model, Article 5(6) of the UN Model, and Paragraph 26 of the Commentary on that Article as set out in the preceding paragraphs. First, if the Canada-United States Tax Convention as amended contained a provision corresponding to Article 5(6) of the UN Model, then the Knights of Columbus would be deemed to have a PE in Canada because it collects premiums and insures risks in Canada through its agents. Second, as members of the OECD, both Canada and United States and their treaty negotiators must be considered to have been aware of the possibility, expressly stated in Paragraph 39 of the Commentary on Article 5 of the OECD Model, that insurance companies resident in one country could engage in large-scale business activities in the other country without having a PE there. Further, they must be considered to have been aware of the possibility, alluded to in Paragraph 39 of the Commentary on Article 5 of the OECD Model and evidenced by Article 5(6) of the UN Model, of including a specific provision with respect to insurance companies along the lines of Article 5(6) of the UN Model. The fact that they did not include such a provision indicates that they accepted the possibility that insurance companies resident in one state would organize their affairs so as to be taxable only in their country of residence despite carrying on substantial business activities in the other state. Third, given the widespread and clear recognition that the provisions of Article 5 of the OECD Model might not allow a country to tax insurance companies resident in their treaty partners, and given that both Canada and the United States are members of the OECD, it is fair and reasonable to assume that each country accept the nontaxation of insurance companies resident in the other country on profits derived from insurance business conducted in the country because that nontaxation would operate on a reciprocal basis. In other words, the United States accepted that Canadian-resident insurance companies could conduct extensive business activities in the United States without the imposition of any US tax because US-resident insurance companies could conduct similar activities in Canada without any Canadian tax. This reciprocity is a fundamental principle of tax treaties and should not be undermined by one party to the treaty bargain adopting a strained and unnatural interpretation of Article 5(5) concerning dependent agents in order to subject an insurance company resident in the other country to tax.
Professor Arnold goes on to conclude:
The inclusion of specific provisions dealing with insurance in several Canadian and a few US tax treaties reinforces the conclusion arrived at in the preceding paragraphs on the basis of the Commentary on Article 5 of the OECD Model and Article 5(6) of the UN Model, namely, that the intention of the parties to the Canada-United States Tax Convention was not to tax insurance companies resident in one country doing substantial business in the other country in certain circumstances.
[46] Professor Vann confirmed the OECD specifically decided against the insurance clause,
“even though this meant that a substantial insurance business could be conducted in a country without producing a permanent establishment and taxing rights there”.
He explained the insurance provision is more favoured in Treaties with developing countries, though is by no means exclusive to them. Both Canada and Australia have inserted this provision in many of their Treaties.
Analysis
[47] The Government of Canada assessed the Knights of Columbus principally on the basis that it had a deemed permanent establishment in Canada arising from the application of Articles V(5) and (7) (the “dependent agent permanent establishment”), and secondly, on the basis it had a fixed place of business permanent establishment in accordance with Article V(1) (the “fixed place of business permanent establishment”).
[48] The Treaty provisions are attached as Schedule “A”. Before addressing the specific issues of a dependent agent permanent establishment and fixed place of business permanent establishment I will provide a brief roadmap as to the application of the Canada-U.S. Treaty. Pursuant to paragraph 2(3)(b) of the Income Tax Act, a non-resident is taxed on business profits earned in Canada, if the non-resident carries on business in Canada. However, Article VII of the Canada‑U.S. Treaty stipulates the business profits are only taxable in Canada if the non-resident carries on business through a permanent establishment. Thus we get to Article V with its two types of permanent establishment. It is important to note that the Canada-U.S. Treaty is modelled after the OECD Model, and commentary with respect to that model is useful in interpreting the Canada-U.S. Treaty. As mentioned earlier, the Supreme Court of Canada was clear in the case of Crown Forest that it is appropriate for the Courts to interpret Treaties liberally, relying upon extrinsic materials such as commentaries to do so.
Dependent Agent Permanent Establishment
[49] As the dependent agent permanent establishment is the Respondent’s major assessing position I will address it first. Paragraphs 5, 6 and 7 of Article V of the Canada-U.S. Treaty operate together as follows:
(i) There must be a person who habitually exercises an authority to conclude contracts in the name of the Knights of Columbus.
(ii) That person cannot be an agent of an independent status acting in the ordinary course of his business.
(iii) There will be no dependent agent permanent establishment if the person in Canada engaged solely in certain activities including “advertising, the supply of information, scientific research or similar activities which have a preparatory or auxiliary character”.
The OECD Commentary adds some clarification to these provisions by suggesting that:
(4) The authority to conclude contracts must cover contracts relating to operations which constitute the business proper of the Knights of Columbus. (see paragraph 33 of the OECD Commentary)
[50] I am not going to delve into the considerable arguments concerning the dependence or independence of the Field Agents. I have concluded that neither the Chief Agent nor the General Agents are legally or economically dependent on the Knights of Columbus, and are indeed agents of an independent status acting in the ordinary course of their own business. The Field Agents are another matter. They are not, I find, as independent as the agents in American Income Life Insurance Company. However, for purposes of determining whether the Knights of Columbus has a dependent agent permanent establishment, I need not reach a final conclusion of their status. The issue of dependent agent permanent establishment is determined by an examination of the habitual exercise of an authority to conclude contracts. I find none of the Chief Agent, General Agents or Field Agents, even if any of them were dependent, exercise such authority.
[51] There are three contracts which the Respondent suggests might meet the Treaty criteria of being habitually exercised by Agents:
(i) the permanent insurance contract itself;
(ii) the Temporary Insurance Agreement; and
(iii) the contracts whereby the General Agents retain the Field Agents.
Retention of Field Agents
[52] I will deal with the last contract first, as it can be readily discounted. The contract pursuant to which Field Agents are hired are not contracts constituting the business proper of the Knights of Columbus. The contracts constituting the business proper are contracts for the sale of insurance. In paragraph 33 of the OECD Commentary, this type of authority to contract is specifically mentioned:
It will be irrelevant, for instance, if the person had authority to engage employees for the enterprise to assist that person’s activity for the enterprise…
[53] Further, I find the hiring of the Field Agents is not concluded by the General Agents in any event. The evidence was that every Field Agent had to be screened by the Knights of Columbus, and, notwithstanding Mr. Gall’s 100% track record of having all his prospective agents approved, there remained a procedure that specifically deprived the General Agents of concluding these contracts: the contracts were concluded in New Haven.
Permanent Insurance Contracts
[54] The Respondent’s position is that the permanent insurance contracts are concluded in Canada by the Field Agents, on the basis that the agents solicited and received applications which were routinely approved. The Respondent draws support for this proposit