Citation: 2005TCC768
Date: 20060105
Docket: 2002-34(IT)G
BETWEEN:
A & D HOLDINGS INC.,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
REASONS FOR JUDGMENT
Paris, J.
[1] In computing its
income from business for its 1997 and 1998 taxation years, the Appellant
deducted capital cost allowance (“CCA”) in respect of certain buildings and
equipment which it had acquired in 1994. The Minister of National Revenue
reassessed the Appellant to disallow the CCA deductions and the Appellant is
appealing from those reassessments.
[2] At issue is the
Appellant’s cost of the buildings and equipment, which determines the amount of
CCA that may be deducted in any given taxation year. The Appellant claims that its
cost of the buildings was $1,600,000 and its cost of the equipment was
$1,055,000. The Minister reassessed on the basis that the Appellant’s cost was
$12,750 for the buildings and $8,250 for the equipment. The amount of CCA in
issue is $179,339 in 1997 and $152,720 in 1998.
[3] At the hearing of the
appeal the parties submitted a joint book of documents, and Mr. Alexander
Menzies, the Appellant’s accountant, testified on behalf of the Appellant.
[4] The evidence showed
that the property acquired by the Appellant in 1994 consisted of 11.2 acres of
land, two industrial buildings totalling approximately 160,000 square feet and
a rail bay and heavy equipment. The property had been used for many years by
the vendor, WCA Canada Inc., in its business of manufacturing and plating
automobile bumpers, and as a result the land was contaminated with nickel and
chromium.
[5] The contamination
problem first became apparent in 1987 when the City of Windsor advised WCA that water entering
the city storm sewer from the property contained chromium. WCA hired Golder
Associates Ltd., a firm of environmental engineers, to investigate and to carry
out remedial work in 1988. WCA ceased operation of the bumper plant in 1990
but chromium was still found in water flowing into the storm sewer. Golder Associates
made a further series of recommendations for additional cleanup in a report
dated April, 1992. According to Mr. Menzies, some of the recommended work was
done by WCA and the problem with contamination of the runoff water had been
resolved to the satisfaction of the City before the property was sold to the
Appellant.
[6] Two Windsor businessmen, Kenneth
Arnold and William Docherty, became interested in acquiring the vacant WCA site
at some point in 1993. They intended to use the site in a soil bio-remediation
business. Contaminated soil from other sites would be trucked to the site and
cleaned using a process for which they had recently acquired a patent. In order
to facilitate the sale, WCA sought and obtained a re-zoning of the property in
November, 1993 to permit soil bioremediation.
[7] Mr. Arnold and Mr.
Docherty incorporated the Appellant on January 21, 1994 with the shares held
equally by their companies, K.M. Arnold and Associates Ltd. and R.C. Pruefer
Co. Ltd.
[8] WCA sold the property
to the Appellant pursuant to an Agreement of Purchase and Sale dated January 28, 1994
(the “Agreement”). The Agreement provided that the purchase price was made up
of two components: a cash payment of $25,000 and an assumption of liabilities.
The assumed liabilities consisted essentially of any obligation that WCA was
under to clean up the property. Article 1.1(a) of the Agreement defined the
"assumed liabilities" as:
(i) all obligations
and liabilities arising at any time (whether prior to the Time of Closing or at
any time at or thereafter) whether known or unknown, foreseen or unforeseen or
ordinary or extraordinary, relating to, or arising from, the environmental,
physical or other status of the Property or any part thereof by reason or
events, acts or omissions occurring prior to the Time of Closing or at any time
at or thereafter, including, without limitation, any and all costs for
investigation, study, clean-up or remedial action, fines, damage awards to
third parties (both public and private), consultants' fees and expenses and
attorneys' fees and expenses;
(ii) all of the Vendor's
obligations and liabilities under, pursuant to or relating to an agreement
dated November 8, 1993 between The Corporation of the City of Windsor and the Vendor in respect of the Property;
(iii) all of the
obligations and liabilities of Vendor and its divisions, subsidiaries, parents,
or affiliated corporations or companies, or corporations as companies
associated through ownership, operation or management, and each of their
respective officers, directors, employees, predecessors, successors and assigns,
referred to in, arising from or relating to a letter dated July 7, 1993 from
Teresa Gilbert of the Ontario Ministry of the Environment and Energy to James
M. Boggs adopting the conclusions and recommendations outlined in the April
1992 report of Golder Associates Ltd. entitled "Environmental
Investigation – The Windsor Bumper Division of WCA Canada Ltd. – Windsor,
Ontario" and stating that such work should proceed as soon as possible;
and
(iv) all of the
obligations and liabilities of Vendor and its divisions, subsidiaries, parents,
or affiliated corporations or companies, or corporations as companies
associated through ownership, operation or management, and each of their
respective officers, directors, employees, predecessors, successors and assigns,
referred to in, arising from or relating to a letter dated August 6, 1993 from
James M. Boggs to Teresa Gilbert of the Ontario Ministry of the Environment and
Energy incorporating a letter dated August 4, 1993 from Golder Associates Ltd.
outlining a tentative work plan and schedule for the proposed implementation of
the recommended remediation measures at the Property.
[9] Under the Agreement, Mr.
Docherty and Mr. Arnold were required to provide personal guarantees of the
obligations of the Appellant to WCA, and to provide statements showing their
net worth, and Prueffer was required to furnish its financial statements for
the proceeding three years. The Appellant also agreed to purchase insurance
against any environmental damage its bioremediation operation might cause at
the site.
[10] In order to prepare the
Appellant’s financial statements and tax return for 1994, Mr. Menzies needed to
determine the Appellant’s cost for the land, buildings and equipment. He came
up with a figure of $3,155,000, made up the $25,000 in cash paid by the
Appellant and $3,130,000, which Mr. Menzies estimated to be the amount of the
liabilities assumed by the Appellant for the clean up of the property.
[11] He based his estimate
of the cost of the liabilities on a valuation report for the property which had
been provided to him with the copy of the contract of the purchase and sale and
other closing documents. The valuation report was prepared using the assumption
that the property was not contaminated. It put the fair market value of the
property at $3,155,000.
Mr. Menzies reasoned that the difference between the fair market value of the
property if it were uncontaminated and the amount of cash that the Appellant
paid to the vendor should equal the cost of cleaning up the property.
[12] Mr. Menzies allocated the
estimated cost of the property between land, buildings and equipment as follows:
Land $500,000
Buildings $1,600,000
Equipment $1,055,000
[13] In the Appellant's tax
returns for its 1994 and subsequent taxation years the buildings were treated as
Class 1 property under Schedule II of the Income Tax Regulations and
capital cost allowance was taken on them at a rate of 4% per annum. The
equipment was treated as class 8 assets and CCA was taken at a rate of 20% per
annum. In its 1997 and 1998 taxation years the Appellant claimed capital cost
allowance as follows:
1997 1998
Class 1 (buildings) $57,803
$55,491
Class 8 (equipment)
$121,536 $97,229
Up to and including the year 2000
the Appellant deducted more than $1,000,000 of capital cost allowance for the
buildings and equipment from its income.
[14] The evidence shows that
the Appellant and a related company entered into a partnership (referred to as
“Waste Recovery Systems”) in February, 1994 to carry on the soil remediation
project. At some later point it was decided that the business would be run by a
different partnership called Waste Recovery Systems of Windsor, in which Mr.
Arnold and Mr. Docherty were the partners. It appears that some preliminary work
on the project was done, but that it stopped when Mr. Arnold died in about 1997
or 1998. Mr. Menzies said that partnership did carry out some clean-up of the
property but did not say what, in particular, was done, or when. He said, though,
that the cost of that work was deducted by the individual partners and not by
the Appellant. The Appellant earned rental income from the partnership in
certain years but did not incur any clean-up expenses and did not carry out any
clean up of the property. Mr. Menzies also said that he was not aware of any
order or demand having been made by any authority to clean up the property.
Appellant’s Position
[15] Counsel for the
Appellant submitted that the Minister erred in failing to include the amount of
the assumed clean up liabilities described in the Agreement of Purchase and
Sale in the Appellant's cost of the property for the purposes of taking capital
cost allowance under the Income Tax Act
(the "Act").
[16] Counsel stated that since
“cost” is not defined in the Act, it must be determined in accordance
with accepted business principles. According to those principles, cost includes
any legal obligations of the seller that are assumed by the purchaser as
consideration for the purchase price.
[17] In support of this
proposition, counsel relied on the decision of the Supreme Court of Canada in Time
Motors Ltd. v. Canada (Minister of National Revenue ‑M.N.R.) where it was held
that the credit notes given in partial payment for used cars acquired by the
taxpayer for re-sale formed part of its cost of those cars. In that case, the
Court said, at page 504:
... The credit note should not be
considered apart from the transaction out of which it arises. It is part of the
consideration for an executed contract, the purchase of a used car. Under that
contract, appellant became obliged to pay a stated sum of money, a part only of
that sum was paid in cash, the balance remaining due was stipulated payable in
merchandise of a stated kind. While the contract is spelled out in two separate
documents, the bill of sale and the credit note, the latter cannot be
considered otherwise than as evidence of the conditions of the obligation to
pay the balance of the purchase price. That obligation must be considered as
subsisting until satisfied or expired. ...
[18] Counsel also submitted
that the method used by Mr. Menzies for estimating the amount of the liability
was in accordance with generally accepted business principles.
[19] Counsel asked the Court
to find that the Appellant incurred a cost by assuming WCA’s clean-up
obligations with regard to the property. He stressed that those obligations
were very real; WCA had already committed itself to doing the work recommended
by Golder Associates. The commitment to do the work was spelled out in the two
letters referred to in Article 1.1(a)(iii) and (iv) of the Agreement: the
first, from Teresa Gilbert of the Ontario Ministry of the Environment and
Energy to James M. Boggs dated July 7, 1993, and the second, from Boggs to
Gilbert dated August 6, 1993 which made it clear that WCA had become legally
obligated to proceed with the work as soon as possible. This legal obligation
was then assumed by the Appellant as part of the purchase of the property.
[20] Counsel said that the
guarantees provided by Mr. Docherty and Mr. Arnold and the requirement that to provide
financial information showed that the parties considered that the Appellant was
assuming onerous clean up obligations.
[21] Counsel submitted that the
obligation assumed by the Appellant was to proceed with the remediation work as
soon as possible, and that the obligation was not made dependent on any future
event.
[22] Counsel also said that
the fact that no money had been spent by the Appellant to date on clean up did
not mean that the obligation did not exist; it is a liability which will still
have to be met. He relied on the decision of the Federal Court of Appeal in Wawang Forest Products Ltd. v. Canada, where the Court said:
... Generally, a taxpayer incurs an
expense when it has a legal obligation to pay a sum of money. In most
situations, the legal obligation exists upon the fulfilment of the contractual
obligations to which the payment relates. Whether the payment of the obligation
is required at that moment or in a subsequent year is irrelevant. ...
[23] Furthermore, counsel
said that the obligation to clean up the property here was not made dependant
on the occurrence of any other event and there was no evidence to show that the
obligation had expired.
Respondent's Position
[24] Counsel for the
Respondent did not dispute that the cost of property under the Act
includes the cost of any legal obligations assumed as part of the consideration
given for the property. However, she submitted that the Appellant in this case
has not shown that it ever assumed any legal obligation to clean up the
property and therefore that it ever incurred an expense in respect of the clean‑up.
In the absence of a legal obligation to pay an amount, no deduction may be
taken in calculating income from business for the year. In the case of capital expenditures,
capital cost allowance is only available in respect of capital expenditures
that have been incurred. Contingent obligations and estimates of expenses are
not deductible.
[25] Further authority for
the proposition an amount must be expended or incurred in a year in order to be
deductible is found in paragraph 18(1)(e) of the Act which
prohibits the deduction of an amount as or on account of a reserve contingent
liability or amount or a sinking fund expressly permitted by the Act.
[26] Counsel for the
Respondent said that the only amount paid by the Appellant for the property was
the $25,000 cash, and that the amount set up by the Appellant as its capital
cost was simply an estimate of a potential expenditure, uncertain both in time
and amount.
[27] Finally, counsel said
that the purpose of CCA was to allow a taxpayer to deduct, on an annual basis,
a portion of the cost of capital that was consumed during that taxation year in
the business. It is directed to the recovery, over a period of time, of a cost
expended or an outlay made. In this case, however, in the ten years since the Appellant
has owned the property it has not expended anything on cleaning it up. If the
Appellant were allowed to deduct CCA as claimed it would be recovering a cost
that it has not paid.
Analysis
[28] In this case, as already
noted, the dispute between the parties concerns the determination of the
capital cost of the land and buildings to the Appellant.
[29] For the reasons that
follow, I conclude that the Appellant has not shown that the Minister’s
calculation of the capital cost of the land and buildings is incorrect.
[30] The statutory basis for
the deduction of capital cost allowance is found in paragraph 20(1)(a)
of the Act, which provides that in calculating a taxpayer’s income from
business or property a deduction may be taken for “such part of the capital
cost to the taxpayer of property, … as is allowed by regulation; ...”
[31] Although the term “capital
cost” is not defined in the Act, according to the jurisprudence, it "refers
to the actual, factual or historical cost to the taxpayer of the depreciable
property when acquired, ...". “Cost”
in turn has been held to mean:
... the money or money’s worth which is
given up by somebody to get something. It is generally viewed as an objectively
determinable historical fact, the answer to the question "how much was
paid?" ... To put the matter at its simplest, cost is what you have paid
for something, value is what another will give you for it; the two are not
synonymous. [T]he cost of an asset to a taxpayer is what he has given up to
acquire it.
[32] Also, in the recent
decision of the Supreme Court of Canada in The Queen v. Canada Trustco Mortgage
Company,
it was noted that:
[t]extually, the CCA provisions use
“cost” in the well-established sense of the amount paid to acquire assets.
[33] In the case before me,
the Appellant claims that it gave money’s worth to WCA by agreeing to take over
its obligation to clean up the property. The evidence does not support this
claim. All that has been shown is that, as part of the purchase of the property,
the Appellant assumed whatever liability WCA might have had to clean up the
property. It has not been shown that at the time of the purchase WCA did in
fact have any such liability.
[34] It is not possible to
say whether the correspondence between the Ontario Ministry of the Environment
and Energy and Mr. James Boggs (referred to in the definition of the
"assumed liabilities" in the Agreement of Purchase and Sale) created a legally enforceable
obligation on WCA to carry out specific clean‑up work. Neither of the
letters was put into evidence and no one with any knowledge of the dealings
between the Ministry of the Environment and Energy and WCA was called as a
witness.
[35] From the language used
in the Agreement of Purchase and Sale it seems likely that some agreement was reached between Gilbert
and Boggs regarding remediation work on the property but there is no evidence
to show that the agreement was binding on either party to it. In the absence
of any corroborating evidence, I am left to speculate on key aspects of the
agreement, such as whether any consideration was given or whether Gilbert, on
behalf of the Ministry of the Environment and Energy, was invoking some
statutory authority to compel an undertaking to clean up the property. I am
also left to speculate whether the agreement was contingent on the occurrence
of any future event.
[36] The fact that the
clean-up work described in the Golder report has not been done to date would
tend to support the Respondent’s position that no legal obligation to clean up
the property was ever created. Otherwise, one would expect that the Ministry of
the Environment and Energy would have taken some steps to enforce the clean-up.
[37] While the Appellant's
counsel suggested that it was up to the Respondent to bring evidence to show
that the obligation to carry out the clean-up had expired, such evidence would
only have been necessary if the Appellant had first succeeded in making out a
case that the obligation had come into existence.
[38] The Appellant's counsel
submitted that the guarantees given by Messieurs Docherty and Arnold and the insurance taken
out by the Appellant would prove that the Appellant was assuming a legal
obligation to clean up the property. If the Appellant was not assuming the
obligation, he said, there would have been no need for the vendor, WCA, to
obtain the guarantees.
[39] I do not find that the
requirement on Docherty and Arnold to give guarantees or on the Appellant to
obtain insurance coverage is sufficient in itself to show that there was an
underlying legal obligation to clean up the property assumed by the Appellant.
Those requirements are equally consistent with WCA wanting to insulate itself
from any possible liability related to the contamination of the property
without it being aware of any specific or existing liability at the point of
sale. Furthermore, the fact that a person believes him or herself to be under a
legal obligation is not proof of the obligation. Ultimately, the existence of
the obligation is a question of law.
[40] The Appellant has not
met the onus upon it to show that it was under a legal obligation to expend any
amount to clean up the property. As was stated by the Federal Court of Appeal
in Newfoundland Light and Power Co. Ltd. v. The Queen “… there is no cost of property to a
taxpayer as long as the obligation to pay that cost has not come into existence”.
It follows that the Appellant in this case cannot deduct capital cost allowance
in respect of a cost which it has not shown that it has incurred.
[41] Even if I had found
that the Appellant assumed a legal obligation to clean up the property, the
Appellant would still have had the onus to prove the cost of that obligation. The
figure used by Mr. Menzies was, by his own admission, an estimate based on a
valuation report that was not put into evidence. No weight could be attached to
the estimate. No other evidence of the alleged cost was presented, and as such,
the Minister’s assumptions regarding the cost of the buildings and equipment
would, in any event, not have been demolished.
[42] For all these reasons
the appeal is dismissed with costs.
Signed at Ottawa, Canada, this 5th
day of January 2006.
"B. Paris"
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