MHL Holdings Ltd. v. The Queen, 88 DTC 6292, [1988] 2 CTC 42 (FCTD)

Joyal, J.: —This is an appeal from a reassessment of income of the plaintiff dated September 15, 1985, in respect of its 1980 taxation year.

The Facts

The facts are not in dispute and I am grateful to counsel for the parties as well as to their witnesses for their clear elucidation of the facts and of the issue facing the Court.

The plaintiff is a Canadian corporation which, during the year in question, carried on the business of acquiring and developing industrial and commercial properties in and around the City of Calgary, Alberta.

In January 1980, a deal was completed for the acquisition of a building site at the corner of 7th Street and 7th Avenue S.W. in Calgary. The plaintiff planned to build an 18-storey building on the site. In order to obtain a development permit and pursuant to a development agreement with the municipal authorities, the plaintiff made a payment to the City of Calgary in the amount of $826,000.

This payment was made up of two components; firstly an amount of $712,000 “in lieu of” the construction of 89 parking stalls which were not provided in the building's plans but which would have been otherwise required by city by-law; and secondly an amount of $114,000 in satisfaction of the plaintiff's obligation to pay the costs of future bridge or skywalk connections linking the new building with nearby ones.

For its 1980 taxation year, the plaintiff included in its tax return the said amount of $826,000 as a current expense. The Minister of National Revenue disagreed. The Minister contended that the amounts of $712,000 and $114,000 represented outlays or payments on account of capital.

Calgary Land Use By-Law

The parties provided the Court with copy of the Calgary Land Use By-law No. 2P80. A quick reading of this document indicates the high degree of control of urban development exercisable by the municipality and the various sophisticated approaches taken to carry out its planning policies.

Under By-law No. 2P80, the municipality could impose any number of conditions before a development permit could issue. Such a development permit, pursuant to subsection 8(1), had to be approved before development could commence or continue.

Of particular interest to the dispute before me were the requirements relating to density, to parking spaces and to pedestrian bridges.

With respect to density, considerations as to design and specific use came into play to award the developer bonus points permitting him to increase floor space in the proposed building. Adherence to these conditions could increase density, as in the case here, from eight storeys to eighteen storeys.

The requirements for parking spaces with respect to both offices and retail establishments were on the basis of one space for each 46 square metres of net floor area. The density of the proposed building would have required 129 parking spaces. The proposed building would have provided only 92 parking spaces. According to the By-law, however, the general limitation in that area of the City of Calgary was 50 parking spaces with the rest of the required parking being provided at a site approved by the Planning Commission. The By-law provided, however, that the municipality could accept a payment in lieu of the on-site or off-site parking requirements based on the amount of moneys required to construct the required number of parking stalls in a parking structure at the time of approval. In essence, if a developer wished to parlay a given building site into one of maximum density and for this purpose, seek exemption from normal or ancillary controls, he was in a catch-22 position from which he could not escape except by buying his way out.

The third area of interest is what was termed in the By-law as Plus 15 or +15, which refers to a public circulation system or ped-way linking various buildings together. Provision in the building’s plans for this system, or a cash payment in lieu thereof would also allow the developer to earn bonus points and increase the density or size of the proposed building.

Based on the formula respecting parking spaces and the Plus 15 ped-way system, and in consideration of the release of a development permit, the plaintiff paid the municipality the sum of $712,000 with respect to parking spaces and $114,000 with respect to the Plus 15 formula.

The Issue

The issue may be briefly stated: were these payments current expenses to be written off in the year they were incurred or were they capital outlays under paragraph 18(1)(b) of the Income Tax Act to be added to the capital cost of the building and deducted pursuant to paragraph 20(1)(a) of the Act? As will be readily observed, it is not an easy issue to resolve.

The Law

In the process of resolving this kind of abstruse question, there is no dearth of jurisprudential scrutiny, analysis, examination and commentary. A quick review of what is the difference between current and capital expense indicates many attempts to trace a clear-cut demarcation line between the two. These forays might enjoy the quality of rationalization in deciding any given factual situation, but not many of them provide a ready answer to other situations.

The statutory framework for these purposes is itself very clear. Under paragraph 18(1)(a), no deduction may be made of an outlay or expense except to the extent that it is made or incurred by the taxpayer for the purpose of gaining or producing income from a business or property. Any other outlay or expense is a capital expense.

In attempting to clothe the stark skeleton of the statute with some form of respectability, courts have designed many manners of dress and have added any number of fashionable accessories to make the picture more attractive to the logical mind.

First of all, it has been stated that an expense must be deductible under the ordinary principles of commercial trading. See Royal Trust Co. v. M.N.R., [1957] C.T.C. 32; 57 D.T.C. 1055.

The decision of the Supreme Court of Canada in B.C. Electric Ry. v. M.N.R., [1958] C.T.C. 21; 58 D.T.C. 1022, states that a deductible expense must be one incurred for the purpose of producing income from a property.

It has also been said that an expenditure which benefits more than one accounting period is considered a capital outlay. In the case of British Insulated & Helsby Cables v. Atherton, [1926] A.C. 205; 10 T.C. 188, the test applied was that expenditures made not only once and for all but with a view to bringing into existence an asset or advantage for the enduring benefit of a trade constituted a capital outlay.

Conversely, however, as is noted in Vern Krishna, The Fundamentals of Canadian Income Tax, (2nd ed. Toronto: Carswell Legal Publications, 1986), at page X.10, paragraph 23, ”. . . a once-and-for-all expenditure may be a current expense if the entire benefit derived from the expenditure is consumed in one fiscal period.”

The case of Anglo-Persian Oil Ltd. v. Dale (1931), 16 T.C. 253 at 262 (C.A.), perceived that the test of "enduring benefit" connotes both a positive and a negative element reflected either in the acquisition of a capital asset or the discharging of a capital liablity.

Courts have also applied the ultimate purpose test in deciding that a lump sum payment to a service station operator was for the supplier to maintain or increase its gallonage, and therefore, a current expense. See

B. P. Australia Ltd. v. Commr. of Taxation of Commonwealth of Australia, [1966] A.C. 224; [1965] 3 All E.R. 209 (P.C.).

In Golden Horse Shoe (New) Ltd. v. Thurgood, [1934] 1 K.B. 548, it was held that the character of the expenditure or the nature of the asset is an irrelevant consideration. Said the Court of Appeal, at page 563: ”. . . The determining factor must be the nature of the trade in which the asset is employed.”

The problem with any of the foregoing principles or test was aptly put by Fauteux, J., as he then was in M.N.R. v. Algoma Central Railway, [1968] S.C.R. 447; [1968] C.T.C. 161, when he said at page 449 (C.T.C. 162):

Parliament did not define the expressions "outlay . . . of capital” or "payment on account of capital”. There being no statutory criterion, the application or nonapplication of these expressions to any particular expenditures must depend upon the facts of the particular case. We do not think that any single test applies in making that determination.. . .

In Tucker v. Granada Motorway Services Ltd., [1979] 2 All E.R. 801, Lord Wilberforce expressed substantially the same sentiments at page 804:

It is common in cases which raise the question whether a payment is to be treated as a revenue or as a Capital payment for indicia to point different ways. In the end the courts can do little better than form an opinion which way the balance lies. There are a number of tests which have been stated in reported cases which it is useful to apply, but we have been warned more than once not to seek automatically to apply to one case words or formulae which have been found useful in another. . . Never-the-less reported cases are the best tools that we have, even if they may sometimes be blunt instruments.

The foregoing is again substantially the view previously expressed in the High Court of Australia decision in Sun Newspapers Ltd. v. Federal Commissioner of Taxation (1938), 61 C.L.R. 337, and quoted by Estey, J. of the Supreme Court of Canada in Johns-Manville Canada Inc. v. The Queen, [1985] 2 S.C.R. 46; [1985] 2 C.T.C. 111. It is in this latter case that throughout Estey, J.'s reasoning, there permeates the common sense rule applicable to many cases which might otherwise be borderline but which, on the basis of evidence thoroughly analyzed and dissected, invite the Court to side decisively one way instead of the other.

Findings

It is clear on the evidence that the plaintiff's intention was to build an 18- storey highrise containing both commercial and office space.

The purpose was obviously to gain an asset of a lasting nature and to provide the plaintiff with an enduring benefit through rents and concessions. I find also that an ancillary intention of the plaintiff in the development proposed to the City of Calgary was to maximize the building's density in relation to the building site available for it.

There could be, in my view, no better way to increase the economic benefits from this site than through a plan which would yield the highest number of net available rental space, given the size of the building site.

The plaintiff, however, faced normal building restrictions imposed by Bylaw No. 2P80, restrictions which could only be relaxed by incorporating certain design features and ultimate uses under which generous bonus points were calculated to increase the ratio between the gross floor area and the site area.

On the subject of parking stalls, the plaintiff faced what might be called municipal clout. To have a development permit issued to him in accordance with its proposed plan and design, the plaintiff had to comply with the conditions imposed by the municipality. The plaintiff exercised its own judgment in deciding to comply. It decided that the price of $712,000 was worth it. This was the plaintiff's decision to make and the plaintiff made it.

The same dynamic forces applied with respect to provisions for a public circulating system. Again the plaintiff, in the exercise of its business judgment and in order to enjoy the bonus points associated with the formula, consented to paying the City of Calgary an in-lieu payment of $114,000.

It is fair to conclude that by incurring an extra cost of $826,000, the plaintiff, by its own action, was providing for itself an asset of lasting benefit and value. It was a condition of getting development permit issued to it. Without the permit, the project would have otherwise been delayed in procedural wranglings or the project's density restricted. And furthermore, as the evidence discloses, the plaintiff was bound by ancillary undertakings to meet firm target dates for the project, a breach of which would have resulted in financial prejudice.

I should also find that the expenditure met the once-and-for-all test. It was not of a recurring nature attributable from time to time to the gaining of revenue from rental or leasing operations.

It is also my interpretation of the facts as to the point-counterpoint or carrot-and-stick approach taken by the municipal By-law, that the parking stall element, necessary to secure compliance with control exigencies, was but a product of the total development plan which, in furtherance of the plaintiff's own economic interests, it decided to resolve. I am of course mindful that in the course of the trial, evidence was furnished that the parking regulations were later relaxed but that has no bearing on the issue before me.

It was also argued by able counsel for the plaintiff that the payout to the City of Calgary added no value to the building and that no benefit was derived from it. I should concede that in the numbers-crunching game of adding excavation to concrete slabs, slabs to bricks and bricks to mortar, the building value would not have been enhanced. Yet, in my view, it was a cost essential to and inherently applied to perfecting the project itself. Without it, the pregnancy of the asset for its ultimate income-bearing potential would have been aborted.

Counsel for the plaintiff also argued that the sum of $826,000 constituted a forced payment. I should be loath to advance that proposition too far for fear that it might constitute the type of expense facing the taxpayer in the case of Johns-Manville Canada Inc., supra, where even the stretched-out depreciation relief would not otherwise have been available. In the case before me, the Crown conceded that the pay-out, if it were decided that it was of a capital nature, is properly incorporated into the total capital cost of the building against which capital cost allowance may be claimed.

I should finally refer to the treatment accorded to any building project expense under generally-accepted accounting principles.

It was decided in the case of the The Queen v. Metropolitan Properties Co. Limited, [1985] 1 C.T.C. 169; 85 D.T.C. 5128, that such generally-accepted accounting principles should normally be applied in tax cases unless of course there is a clear departure from them under income tax rules.

The ground rule, for accounting purposes, as I interpret expert evidence in this respect, is to capitalize all costs incurred prior to substantial completion of the project. I would think that substantial completion would be interpreted as of that period, when the building, though not fully completed, is capable of receiving its early-bird tenants or when accruing revenue can begin to match current expenses. I would concede that, with respect to any particular expenditure incurred when the building is one tick down or one tick up from substantial completion, accountants, as well as tax assessors, have to make individual judgment calls in classifying them as current or capital expense.

Indeed, there is evidence before me that although all costs of the project were capitalized for accounting purposes, some costs, or a proportion of such costs were expensed in the plaintiff's tax returns for the taxation year 1980 and were allowed in the defendant's assessment. However, the treatment of such individual expenses by the defendant is not determinative of the issue before me. It cannot, in my view, be cited as a binding precedent of a nature to make redundant any judicial inquiry into the legitimacy of any such individual expenses or of the more particular expenses incurred by the plaintiff in securing municipal approval.

Conclusions

I should repeat here the dictum of Lord Wilberforce in Tucker v. Granada Motorway Services Ltd., supra, where, after stressing the difficulty in coming to terms with the issue of capital as against current expenses in respect of any particular case, he suggested that ”. . . reported cases are the best tools we have, even if they may sometimes be blunt instruments".

The case of Edmonton Plaza Hotel (1980) Limited v. The Queen, [1987] 2 C.T.C. 153; 87 D.T.C. 5371, might very well be regarded as a blunt instrument, but its lack of finesse might only be a reflection of the blunt approach taken by municipal authorities in making sure that planning policies and development procedures are enforced without killing the goose which provides additional municipal tax revenue.

In the Edmonton Plaza case, a decision of this Court delivered on September 1, 1987, the Associate Chief Justice faced a factual situation which, in my view, is indicative of the vigour with which planning exigencies will be pursued or quid pro quos imposed, a situation analogous to the case before me.

The Edmonton Plaza Hotel had made plans in 1978 to add some 72 hotel rooms on its building site. Municipal authorities decided that some 27 additional parking spaces be provided. After long negotiations, an agreement was struck whereby the hotel would pay the City of Edmonton an amount of $216,000 in lieu of the additional parking spaces.

In its financial statement for the year 1980, the hotel treated that payment as part of the capital costs of the building addition. In its tax returns, however, the hotel treated it as “capitalization of expense items into building construction costs in 1980” and deducted it from both income and the cost of the addition.

After an extensive review of jurisprudence, the Associate Chief Justice said at page 158 (D.T.C. 5374):

. . . I cannot conclude that this is a business expense. In the final analysis, it has nothing to with the operation of the hotel business as it was before the extension was planned. The most favourable construction that can be put on this expense is that it was a disguised tax or levy, or a cost of acquiring the building permit. But neither of those characterizations would change the fundamental fact that this payment arose only as a consequence of the decision to expand. The expense was incurred for the purpose of producing an income-earning facility — the 72-room addition . . .

And the Associate Chief Justice added :

. . . From a practical, business point of view, this payment was calculated to effect a goal of a purely capital nature . . .

The facts of the case before the Associate Chief Justice appear to me to be substantially similar to those before me, at least to the extent that both sources of the obligation to incur the expense are the same, that both were payments "voluntarily" incurred for a capital purpose and that in both cases, the purposes intended were achieved.

If market forces appear to be the rule whether dealing with municipalities or with a fractious or intractable neighbour from whom an easement is required, any developer, in my respectful view, must make a decision as to whether the squeeze is worth the candle. I venture to suggest, however, that it does not change the basic nature or character of the expense in relation to the particular trade or operation in which he is engaged.

I must find that for purposes of the Income Tax Act, the payment of $826,000 by the plaintiff to the City of Calgary constitutes a capital expense. I must therefore dismiss the plaintiff's appeal and confirm the defendant's reassessment for the 1980 taxation year.

The whole with costs to the defendant.

Appeal dismissed.