Ex-Blue Jays win battle against CRA in battle over millions in income

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OTTAWA — Former Toronto Blue Jays all-stars Josh Donaldson and Russell Martin scored a major win against the Canada Revenue Agency (CRA) as a Tax Court judge cried foul over the agency’s attempt to tax millions of dollars in additional income.

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In an extensive ruling published Wednesday, Tax Court of Canada judge Jean-Marc Gagnon found that the CRA’s calculation of Donaldson and Martin’s taxable income during some of the years they played in Canada was “faulty.”

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The precedent-setting decision found that the star players’ taxable income in the years audited by CRA was millions of dollars less than what the agency claimed.

In total, Martin’s total taxable income in Canada dropped by roughly $4 million for 2015 to 2017, whereas Donaldson’s was reduced by a total of roughly $2.6 million for 2016 and 2017.

Veteran tax lawyer and partner at KPMG Mark Feigenbaum said the ruling will bring a sigh of relief to Canadian professional sports teams and organizations that tend to hire foreigners for high-paid positions.

“This was a really big deal,” said Feigenbaum, who often represents clients in sports and entertainment. He was not involved in these cases.

As first reported by National Post last year, Donaldson and Martin’s cases raised a common issue that tax experts argued could have a chilling effect on Canadian sports teams’ ability to attract top international athletes: namely, how non-resident top earners can protect their income and mitigate Canada’s higher income-tax rates.

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Specifically, the tax agency challenged how much income the players could deduct from their taxes using contributions to a form of pension plan called a Retirement Compensation Agreement (RCA).

RCAs are commonly used by high-earning athletes and top executives recruited by Canadian organizations. It defers income and tax payments, and isn’t subject to strict contribution limits like an RRSP.

The taxpayer is allowed to contribute a “reasonable” amount to their retirement every year, but the CRA withholds half of it in a fund that cannot be invested.

When an RCA holder retires or loses their job, the pension account will begin paying out, at which point the money will be taxed, presumably when they are in a lower tax bracket. The CRA will then also refund the 50-per-cent portion of all contributions that it withheld.

The crux of the battle between CRA and the two former Blue Jays stars was a disagreement on how the players’ contributions should be deducted from their income tax while they played for Toronto.

At issue was that Russell and Donaldson spent 60 per cent of their time in the United States and only 40 per cent in Canada, with taxes payable split accordingly. The time spent in Canada was called “duty days.”

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CRA argued that the retirement contributions should be deducted before the 60/40 American-Canadian split was calculated, meaning the players would end up paying more taxes on the Canadian portion.

The two baseball stars, represented by lawyer Marie-France Dompierre, argued the opposite: that the contributions should only be deducted from the Canadian portion after the split.

Ultimately, the Tax Court sided with the players, noting that CRA’s interpretation was “faulty” in many ways.

“The RCA regime is meant to be applied solely to Canadian-source income of non-residents. A non-resident’s foreign-source income is not subject to Canadian RCA rules, as it does not fall within the jurisdiction of Canada,” Gagnon wrote.

The CRA’s interpretation, the judge continued, “could not have been what Parliament intended when it created the RCA regime.”

The difference in interpretation — in the case of players who were paid US$28.65 million (Donaldson) and US$42 million (Martin) during the years audited by CRA — was worth potentially millions of dollars in unpaid income tax.

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For example, the taxable portion in Canada of Martin’s US$20 million salary in 2017 was US$7 million in CRA’s view, but US$5.5 million in the players’ view.

“An athlete has difficulty with the tax rate here and compared to where they could be playing or could be based. So this mitigates a little bit of the of the differential,” Feigenbaum said.

“If the government takes that away… that makes in really less competitive for someone to want to temporarily be in Canada,” he added.

According to the ruling, one reason CRA’s decision was “faulty” was that the Income Tax Act is “very clear that income earned in two places, whether that income is earned by a resident or a non-resident without distinction, must be calculated as two distinct sources,” Gagnon wrote.

He also noted that “Canada does not have jurisdiction over a non-resident foreign-source income and therefore cannot include, exclude, or deduct amounts under the Act to such foreign-source income.”

In other words, the government can only calculate Canadian deductions from income earned in Canada.

CRA declined to comment on the case, citing its policy of not commenting on court cases.

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“The courts provide Canadians with an independent review of disputed issues, and court decisions serve to clarify the law or resolve disputes between the Canada Revenue Agency (CRA) and taxpayers,” CRA spokesperson Étienne Biram said in a statement.

National Post
cnardi@postmedia.com

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