ExxonMobil Canada – Tax Court denies an attack under ss. 247(2), 214(3)(a) and 18(1)(a) of a prospective Cdn. pipeline sub (not its US parent) incurring costs of a pipeline feasibility study

The US parent of the taxpayer (“EM Corp.”), and two other oil and gas companies (“BP Alaska” and “Phillips Alaska”) entered into an agreement (the “Project Agreement”) to together undertake a feasibility study for a pipeline extending from the Alaskan north slope through Canada to the lower 48 states. The following year, EM Corp. assigned (pursuant to the “PACA Agreement”) 68% (being an approximation of the portion of the pipeline that might be in Canada) of its 1/3 interest in the Project Agreement to a Canadian subsidiary (the taxpayer).

CRA denied the deduction by the taxpayer of its $36 million share of the feasibility study costs. It viewed the feasibility study as being for the benefit of the three Alaskan producers (so that they could find a way to sell their “stranded” natural gas on the Alaskan North Slope), and it seemed questionable for the taxpayer to instead bear the risk of the applicable portion of the costs not leading to an income-generating pipeline since, even if the pipeline project proceeded, its return on the pipeline would be limited to a regulated rate of return.

Lafleur, J., predictably rejected the Crown's position that the taxpayer did not bear its feasibility study costs in connection with a source of income: it had the prospect of earning income from the Canadian portion of any pipeline - and it could sell information acquired from the feasibility study, as in fact occurred.

She also rejected the proposition that the deduction was denied by virtue of the income-producing purpose test under s. 18(1)(a), noting in this regard that such purpose need not be the “exclusive, primary, or dominant purpose” and could be a secondary purpose.

Turning to transfer pricing, the primary position of the Crown was that ss. 247(2)(b) and (d) should be applied on the basis that the PACA Agreement was entered into by the parties solely to save tax, namely to provide a deduction to the taxpayer for its share of the feasibility study expenses, and that parties dealing at arm's length instead would have entered into a fee-for-services agreement (if any transaction would have been entered into at all), thereby resulting in the feasibility study costs of the taxpayer being nil.

In rejecting this position, Lafleur J. first found that the primary tax-benefit test in s. 247(2)(b)(ii) was not satisfied, stating:

[T]he primary purposes of the PACA Agreement were of a business and investment nature, being to avoid subjecting EM Corp. to Canadian tax and civil jurisdiction, and to allow the Appellant to advance its entitlement to the Project (including entitlement to data and information from the Project), outweighing the tax purpose for entering into the PACA Agreement.

In also finding that the PACA Agreement should not be recharacterized in accordance with ss. 247(2)(b)(i) and (d) as a fee-for-services agreement, Lafleur J noted that no terms and conditions had been proposed for such a fee-for-services agreement and that it would be a speculative exercise to determine how any terms of such an agreement would adjust for the quantum or nature of any amount. Furthermore, a fee-for-services arrangement would have been incompatible with the fundamental objective of EM Corp. to not have a permanent establishment in Canada.

In further finding that ss. 247(2)(a) and (c) should not be applied in the alternative to effect a downward adjustment to the feasibility study costs to zero, Lafleur J accepted that a potential pipeline owner would indeed undertake these types of activities to advance a potential pipeline to the regulatory application stage, and that the terms and conduct of the feasibility study accorded with the norms for such projects.

The Crown took the position that an amount equal to the feasibility study costs borne by the taxpayer was deemed to be a dividend subject to Part XIII tax pursuant to ss. 56(2) and 214(3)(a) on the basis, inter alia, that (i) such costs were paid for the benefit of EM Corp and (ii) by virtue of s. 246(1)(b), the payment of such costs would have been included in EM Corp's income if EM Corp had received the feasibility study costs directly.

Lafleur J. found, regarding (i), that such costs were paid for the taxpayer's own benefit and not for the benefit of EM Corp. and, regarding (ii), that s. 246(1)(b) could not be used in this manner to “feed” the application of s. 56(2), stating:

[I]t is not appropriate to use a provision, namely subsection 246(1), which is designed to catch the value of benefits conferred on a taxpayer not otherwise included in the taxpayer’s income under Part I, to satisfy requirements of a provision found under Part I, namely subsection 56(2).

The absence of a benefit to EM Corp. also signified that s. 246(1) could not be applied on a standalone basis (as contrasted to feeding s. 56(2)) – and even if there were such a benefit, this would not have given rise to a deemed dividend under s. 214(3)(a) given that subsection 246(1) “is not referenced in paragraph 214(3)(a).”

Neal Armstrong. Summaries of ExxonMobil Canada Resources Company v. The King, 2026 TCC 42 under s. 3(a), s. 18(1)(a) – Incurring an expense, income-producing purpose, s. 152(9), s. 247(2)(b), s. 247(2)(a), s. 15(1), s. 56(2), s. 214(3)(a), s. 246(1)(b), s. 152(4)(b)(iii), General concepts – onus and evidence.