INTRODUCTION

In the recent decision of Proposition de Sail Plein Air inc.,¹ the Québec Court of Appeal delivered a significant and clarifying decision on the interaction between insolvency law and income tax law. The Court confirmed that income tax liabilities arising from debt forgiveness following the full performance of a proposal under the Bankruptcy and Insolvency Act (“BIA”) do not constitute provable claims and therefore are not extinguished by the proposal.

For insolvency professionals, the decision is an important reminder: while proposals can compromise pre‑filing debts, they do not immunize debtors from the tax consequences of debt forgiveness.

BACKGROUND

Sail Plein Air inc. (“Sail”), a Québec‑based retailer, sought protection under the BIA in June 2020 to make a proposal to its creditors and reduce the amount of its debt. The proposal trustee accepted over $90.4 million of provable claims made by creditors, including over $3.7 million of claims by Revenu Quebec and Canada Revenue Agency (the “Tax Authorities”).

Sail’s proposal provided for the compromise of all ordinary claims above $5,000, each of which would be partially paid pro-rata from an amount set aside for that purpose. Ordinary² claims were defined in the proposal as including provable claims (within the meaning of the BIA):

• resulting from obligations contracted before the proposal date;
• tax obligations arising after the proposal date as a consequence of the proposal, its approval or its execution; and
• restructuring claims, which were to include all obligations of any kind resulting from the proposal itself after the date of the proposal.³

The proposal was approved by the Superior Court on December 2, 2020, along with a declaration that the proposal was valid and opposable to all persons. Sail performed its obligations thereunder by paying over $33 million by June 2021, from which the Tax Authorities received their share, resulting in the forgiveness of approximately $45.4 million of debt.

This debt forgiveness triggered tax consequences under section 80 of the Income Tax Act (“ITA”) and section 485 and following of Québec’s Taxation Act. After applying its available tax attributes, Sail reported substantial taxable income in its 2022 taxation year, but refused to pay the resulting federal and provincial income taxes, arguing that those tax liabilities were “ordinary” or “restructuring” claims that had been compromised and released by the terms of its proposal’s discharge clause.

The court proceedings raised a narrow but fundamental question: Can income tax liabilities arising from debt forgiveness achieved by the execution of an approved proposal be treated as provable claims that are compromised and extinguished by that proposal?

The answer of both the Superior Court and the Court of Appeal answer was unequivocal: no.

PROVABLE CLAIMS AND THE ABITIBIBOWATER FRAMEWORK

Section 121(1) of the BIA provides that “All debts and liabilities, present or future, to which the bankrupt is subject on the day on which the bankrupt becomes bankrupt or to which the bankrupt may become subject before the bankrupt’s discharge by reason of any obligation incurred before the day on which the bankrupt becomes bankrupt shall be deemed to be claims provable in proceedings under this Act”.

Section 62(1.1) of the BIA extends the analysis to proposals, stating that provable claims are assessed at the time of the filing of the notice of intention to make a proposal (“NOI”) or, if no NOI was filed, the time of the filing of the proposal.

The Court cited the test for provable claims set out by the Supreme Court of Canada in Newfoundland and Labrador v. AbitibiBowater Inc.⁴ as follows:

• There must be a debt, liability, or obligation owed to a creditor;
• The obligation must arise before the debtor becomes bankrupt (or in the case of a proposal, files an NOI or proposal); and
• The obligation must not be too remote or speculative, and must be capable of monetary valuation at that time.

WHY THE TAX CLAIMS FAILED THE TEST

Using the date of Sail’s NOI (June 2, 2020) as the relevant date to determine what constitutes a provable claim, the Court identified several decisive obstacles to Sail’s position.

The tax liability did not exist at the relevant time

The trial judge held that the tax liability arising from the proposal could not have arisen in time to be considered provable claims, considering the dates on which the payments were made and date on which the trustee certified the proposal to have been executed.

The Court observed that, under both federal and Québec tax legislation, the tax consequences arising from debt forgiveness are triggered only when the debt is definitively settled or extinguished. If Sail had failed to make the last proposal payment in 2022, the proposal could have been annulled and there would have been no forgiveness of debt, and no corresponding tax consequences. That was also why Sail could only declare the debt forgiveness in its fiscal year ending in 2022.

In determining that tax obligations arising from the forgiveness of debt achieved by a proposal do not constitute provable claims at the time of the NOI for that proposal, the Court of Appeal cited the decisions of:

• R. v. Beach,⁵ in which the British Columbia Court of Appeal refused to approve a proposal that provided for “claims provable under this Proposal by Her Majesty the Queen in Right of Canada and in Right of any Province shall include all taxes, interest and penalties that are payable: … (b)  in respect of debts forgiven as a result of acceptance and full performance of this Proposal”; and
• Delta 9 Cannabis Inc (Re),⁶ in which the Court of King’s Bench of Alberta required amendments to be made to a proposed “reverse vesting order”⁷ (“RVO”) to clarify that any tax liabilities caused by forgiveness of debt resulting from a restructuring under the Companies’ Creditors Arrangement Act⁸ would not form part of the liabilities transferred to the “ResidualCo”. The Court in Delta 9 stated:

…I interpret clause 4.3 of the SPA such that it was not objectively intended by the parties to the SPA to include a provision that would be illegal for the Court to approve.

Accordingly, and based on the specific wording used by the parties to the SPA, I do not interpret any inclusion of income based on the operation of section 80 of the ITA to be part of “Taxes related to debt forgiveness arising from or in connection with the consummation of the Transaction” which are transferred to and vest in ResidualCo, under clause 4.3. At this time, it is unknown exactly how or whether section 80 of the ITA may be engaged or, if it is engaged, whether it would necessarily lead to taxes payable in any event.

The proposed ARVO must be amended to include the language proposed by the Plan Sponsor in argument, as well as language that makes it clear that clause 4.3 does not apply to any future inclusion of income to Bio-Tech pursuant to section 80 of the ITA…⁹

The amount was unknowable and speculative

The trial judge held that it was impossible for the Tax Authorities to determine the amount of the tax liability arising from the proposal until they received more financial and tax-related information, following the performance of the proposal. The calculation of tax liability depended on numerous factors and the application of complex legislative provisions.

Contrary to the sales tax claims, which could be assessed prior to the NOI based on known transactional data, the income tax arising from the debt forgiveness could not realistically be determined or even reliably estimated at that time.

WORDING OF THE PROPOSAL

Sail relied heavily on expansive definitions of “ordinary claims” and “restructuring claims” in its proposal, which purported to include obligations of a fiscal nature arising from the consequences of the proposal.

Even assuming a proposal could be drafted broadly enough to purport to include such future tax liabilities, the trial judge found that:

• although debtors have broad leeway in conceiving proposals, they must respect public order;
• Tax Authorities cannot contract out of their statutory duty to assess tax in accordance with the law;
• courts cannot approve a proposal that exempts a debtor from s. 80 of the ITA;
• proposals cannot be interpreted in a manner that releases a debtor from future tax obligations that cannot be affected by the chosen insolvency process; and
• the proposal must be interpreted in a manner that is not illegal or unreasonable.

The Court therefore found that the claims of the Tax Authorities arising from the debt forgiveness did not constitute either ordinary claims or restructuring claims, within the meaning of the proposal and were not extinguished. The Court was also heavily influenced by the fact that the many discussions that had taken place between Sail and the Tax Authorities in the context of the proposal had not dealt with any tax consequences of the debt forgiveness.

PRACTICAL IMPLICATIONS FOR INSOLVENCY PROFESSIONALS

Model post‑proposal tax exposure early

A successful proposal may resolve liquidity and balance‑sheet problems while simultaneously creating substantial tax liabilities in a later year.

Significant debt forgiveness can raise section 80 ITA issues. These consequences should be identified and quantified (to the extent possible) as part of the restructuring analysis.

Proposal drafting has limits 

The Sail decision, upheld by the Court of Appeal, appears to confirm that creative proposal language, even if approved by creditors and the Court, cannot be used to compromise the debt-forgiveness-related tax obligations resulting therefrom. Attempts to do so can result in contestation or reinterpretation of the proposal.

RVO structures

The structure of an RVO raises interesting questions that do not appear to have been fully addressed by the courts. One of the interesting aspects of RVOs is that the debt that is not retained in the purchased entity is not compromised or extinguished; it is simply transferred to a ResidualCo. The Court in Delta 9 did not determine that section 80 of the ITA applied or resulted in taxes payable on the facts of that case, and it remains to be seen how Tax Authorities will treat RVO transactions in the future.

However, given that the Court in Delta 9 appears to have determined that transferring any such potential tax liability to the ResidualCo would have been illegal, this can inform the decisions of professionals structuring RVO transactions.

Economic viability of transaction

Considering the risk of potential tax consequences of debt forgiveness in restructuring files, professionals should assess whether there are sufficient tax losses available in the emerging entity to address any such consequences that may occur from the restructuring transaction, and whether the transaction would nevertheless be economically viable.

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¹ 2026 QCCA 163.

² Ordinary claims were defined in the proposal as “les réclamations prouvables au sens de la Loi, de quelque nature que ce soit, y compris toutes créances et tous engagements, présents ou futurs, qu’elles soient payables ou non à la Date de la Proposition, y compris les réclamations éventuelles et non liquidées (une fois qu’elles le seront conformément à la Loi) découlant de (1) toute obligation contractée par la Débitrice avant la Date de la Proposition, incluant sans limiter la généralité de ce qui précède, toutes subventions accordées avant la Date de la Proposition dont le remboursement pourrait être exigible dans le futur, les offres d’achats, promesses d’achat, baux mobiliers ou immobiliers, contrats d’acquisition, options et engagements financiers que la Débitrice ne s’est pas expressément engagée à respecter après la Date de la Proposition et (2) toute obligation à laquelle la Débitrice peut devenir assujettie après la Date de la Proposition, dont notamment une obligation de nature fiscale, en raison des conséquences de la Proposition, de son homologation par la Cour ou de son exécution. Les Réclamations ordinaires comprennent notamment les Réclamations de restructuration et les Réclamations pour le préjudice d’un Locateur, mais elles excluent les Réclamations garanties, les Réclamations de la Couronne, les engagements courants visés au paragraphe 6.1 de la Proposition, les Réclamations privilégiées des employés, les Réclamations privilégiées et les Honoraires et frais de la Proposition”.

³ Restructuring claims were defined in the proposal as “tout droit présent ou futur de toute Personne à l’encontre de la Débitrice relativement à tout endettement, obligation, responsabilité ou engagement de quelque nature que ce soit dû ou payable à cette personne et résultant de la présente Proposition, de la Réorganisation, de la répudiation ou de la résiliation de tout contrat, bail mobilier ou immobilier, contrat de travail ou de tout autre contrat, verbal ou écrit, après la Date de la Proposition, incluant tout droit de toute personne recevant de la Débitrice un avis de répudiation ou de résiliation autorisé aux termes de la Loi, sauf et excepté les Réclamations pour le préjudice d’un Locateur”.

⁴ 2012 SCC 67 at para. 26.

⁵ 2001 BCCA 7 at para. 9.

⁶ 2025 ABKB 52 [Delta 9]. That decision actually cites the Sail trial judgment, which had been rendered in 2024 and at the time not yet adjudicated on appeal.

⁷ A reverse vesting order is an exceptional order that maintains desired assets inside the debtor, but cleanses the debtor of unwanted liabilities by transferring them to a new entity, often referred to as “ResidualCo”, which typically does not have the financial means to satisfy those liabilities.

⁸ RSC 1985, c C-36.

⁹ 2025 ABKB 52 at paras. 98-100.