Miller v. The Queen, 85 DTC 5354, [1985] 2 CTC 139 (FCTD)

Reed, J:—This is an appeal from a decision of the Tax Court of Canada finding that the plaintiff was not entitled to deduct $62.51 from her taxable income for the 1980 taxation year. As can be surmised, the amount of $62.51 is not the motivating factor behind this appeal. This is a test case putting in issue the correct characterization of certain moneys received pursuant to a retroactive payment of wages under a collective bargaining agreement.

The collective bargaining agreement covering the plaintiff’s employment as a public school teacher in Manitoba expired December 31, 1979 and agreement on a new one could not be reached. The matter went to binding arbitration in October 1980.* [1] An arbitration award was made in December 1980. It determined that for the 1980 taxation year the plaintiff should receive a 10.5 per cent increase over the salary she had received in 1979 and article 24 of that award provided:

The Board of Arbitration determines that interest on retroactive pay for the 1980 agreement should be paid to members of the Association calculated from the date the salary was payable. The interest shall be computed on the net pay of the member (that is, the gross pay after deducting therefrom personal income tax, unemployment insurance and Canada Pension Plan deductions) and shall be computed at the lesser of eight per cent per annum or the average rate at which the Division borrowed funds during the twelve-month period from January 1, 1979 to December 31, 1979.

A collective bargaining agreement incorporating the arbitration award was executed on February 11, 1981, its operation being made retroactive to January 1, 1980. Article 17 of that agreement provided that the employer would pay:

. interest on the net amount of any retroactive pay which may be paid to such members (that is, the gross pay after deducting therefrom personal income tax, unemployment insurance and Canada Pension Plan deductions), the interest to be calculated from the dates on which the monies would have been due, to the date of actual payment.

The interest shall be computed at the lesser of 8% per annum or the average rate at which the Division [the employer] borrowed funds during the twelvemonth period from January 1, 1979, to December 31, 1979.

The plaintiff included; as interest income, the $62.51 received pursuant to this article when calculating her income for the 1980 taxation year. She then claimed a deduction under subsection 110.1(1) of the Income Tax Act in the same amount. Subsection 110.1(1) allows a deduction of interest in the computation of taxable income up to a maximum amount of $1,000, subject to certain conditions, none of which are relevant to this case.

The plaintiff contends that the $62.51 is interest and properly deductible. The defendant contends that the $62.51 is not interest, and not deductible.

There is no dispute that the amount, if interest, retains that character even though it arises in connection with employment. Counsel for the plaintiff argued that if the sum was determined to be interest and therefore fell within paragraph 12(1 )(c) it could not be classified as a benefit derived from employment and thereby fall into paragraph 6(1)(a). This contention was based on the rule of statutory construction which requires that provisions of general scope must be read subject to provisions of a more specific nature. It was pointed out that paragraph 12(1)(c), with its specific mention of interest, was of a more particular nature than the more general concept, benefit derived from employment, found in paragraph 6(1)(a). The defendant takes no issue with this interpretation; it is agreed that if the sum in question is properly interest then it is interest income and deductible.

It is common ground that the Income Tax Act does not define interest and that the various sections dealing with interest therein (12(1)(c); 110.1(1); 110.1(2); 110.1 (3)ff), either deeming, or excluding certain amounts for certain purposes as interest are of little assistance. One must look to the general principles of interpretation, dictionary definitions and the jurisprudence. In this regard the meaning of the word “interest” in ordinary parlance is significant.

The defendant's argument is that to have a sum characterized as interest three criteria must be satisfied: (1) it must be calculated on a (day by day) accrual basis;* [2] (2) it must be calculated on a principal sum or a right to a principal sum; and (3) it must be compensation for the use of the principal sum or the right to the principal sum.

There is really no dispute respecting the need for these criteria or the existence of the first and the third in the present case. The sum paid was clearly calculated on a day-to-day accrual basis. Both parties agree that the payment had the character of compensation for the use of money withheld, although counsel for the defendant argues that if I should find that the second criteria was in fact met, then the third would thereby become unfulfilled.

It is argued that the second criteria is not met because at the time to which the interest refers there was no principal sum owing to the plaintiff, either ascertained or ascertainable. Until December 1980, the plaintiff did not have the right to any salary increase to which interest might be referable (the arbitration board could have awarded the employees a lower wage rate than the 1979 level interim wages they were receiving).* [3]

The defendant relies on Mr Justice Rand's definition of interest in Reference re Validity of Section 6 of the Farm Security Act, 1944, of the Province of Saskatchewan, [1947] SCR 394 at 411-12 for this contention:

Interest is, in general terms, the return or consideration or compensation for the use or retention by one person of a sum of money, belonging to, in a colloquial sense, or owed to, another. There may be other essential characteristics but they are not material here. The relation of the obligation to pay interest to that of the principal sum has been dealt with in a number of cases . . . from which it is clear that the former, depending on its terms, may be independent of the latter, or that both may be integral parts of a single obligation or that interest may be merely accessory to principal.

But the definition, as well as the obligation, assumes that interest is referable to a principal in money or an obligation to pay money. Without that relational structure in fact and whatever the basis of calculating or determining the amount, no obligation to pay money or property can be deemed an obligation to pay interest. [Emphasis added.]

I do not find Mr Justice Rand's comments go so far as the defendant contends. Those comments to me merely say that in determining whether a certain amount is interest it is crucial to consider to what it relates. If it is paid in reference to “a principal in money or an obligation to pay money” then a relational structure exists which indicates that the sum is interest. In the present case the sum was paid in reference to a principal sum — that part of the plaintiff's salary to which she had become entitled during the 1980 year but which had not been paid to her during that time. In my view Mr Justice Rand's decision does not address the issue raised by the defendant.

The defendant's position is also founded on an analysis of two decisions relating to interest under the Income Tax Act: that of the Exchequer Court in Huston, Whitehead and Whitehead v MNR, [1961] CTC 414; 61 DTC 1233; and that of the Federal Court of Appeal in Perini Estate v The Queen, [1982] CTC 74; 82 DTC 6080. This is a more difficult contention to assess. In the Huston case the taxpayers had been awarded compensation by the Canadian government, from a War Claims Fund, for property (a factory located in Czechoslovakia) which had been owned by them in 1939, confiscated by the Germans, and partially destroyed in 1945. One of the regulations gov- erning the amount of compensation to be awarded provided for three per cent interest on the property loss from January 1, 1946 until the date Treasury Board approved the claim for compensation (in that case October 10, 1958). The Minister of National Revenue sought to tax this three per cent payment as interest income. The taxpayer contended it was a capital payment. Mr Justice Thurlow agreed and said, at 419 (DTC 1236):

As I see it, the sums in question are not income from property because, notwithstanding the exceedingly broad scope of the statutory definition, the appellants during the period from January 1, 1946 to October 10, 1958 in respect of which the alleged “interest” was computed, in my opinion, had no property or legal or equitable right of any kind in the amount on which the alleged “interest” was computed .. .

And at 412 (DTC 1237), quoting from Simpson v Executors of Bonner Maurice, 14 TC 580 at 593:

... I think this sum first came into existence by the award, and no previous history or anterior character can be attributed to it . . .

And at 422 (DTC 1238):

... No principal sum was payable in the meantime, [from January 1, 1946 to October 10, 1958] nor was interest accruing on any principal sum, nor were the appellants being kept out of any sum to which they were entitled. In truth, during the whole of the intervening period they had no right to compensation for their

loss, and there was neither interest accruing to them nor loss of revenue being sustained in respect to which they would be entitled to interest by way of damages or compensation.

. . . No case of which I am aware goes so far as to hold such an amount, call it interest or damages or compensation or any other name, to be interest or income when there was neither interest accruing in fact on the “principal” amount during the material period nor any right to the “principal” amount vested in the taxpayer during that period. [Emphasis added].

In the Perini case the taxpayer sold all his shares in a business, the price consisted of an initial payment plus possible further payments in the three subsequent years, if the business made an after-tax profit in those years. If such payments became due the purchase agreement also provided that the purchaser would pay seven per cent interest on the amounts payable, calculated from the date of the closing of the sale to the date of payment. The Minister assessed the seven per cent payments as interest income. The taxpayer argued, on the basis of the Huston case that the sums were not interest but payments of a capital nature. The Federal Court of Appeal described the taxpayer's argument, at 76 (DTC 6082):

. .. The contention is that while they are called interest, are calculated like interest, and serve the purpose of interest, they lack an essential characteristic of interest in that they did not accrue from day to day on an existing principal amount. The principal amount on which the sum referred to as “interest” was based did not come into existence until it had been determined by an audited financial statement following the close of the fiscal year. Until then there was no principal amount on which interest could accrue. [Emphasis added].

The Court held the amounts to be interest stating, at 78 (DTC 6084):

In the present case there was in existence on the closing date an obligation to pay a price to be determined according to the formula set out in paragraph 1.3 of the agreement, but the precise amounts of the additional payments, if any, to be made pursuant to clauses (ii), (iii) and (iv) were not determined as of that date. The obligation to pay additional sums on account of the purchase price under these provisions was a conditional one or a contingent liability. It depended on two conditions which might or might not be fulfilled. There had to be post-tax net profits determined by audited financial statements and the seller had to be living. Neither was a certainty. That was sufficient to make the liability for additional payments a contingent one . . .

And at 79 (DTC 6085):

. . . Because of the basis on which the balance of price, if any, was to be determined, the seller was obliged to wait for payment of the balance. Interest was the appropriate compensation for that delay. I think it is the existence on the closing date of a conditional obligation or contingent liability to pay the balance of price which the parties were entitled to treat as having become absolute with retroactive effect, for purposes of interest, that distinguishes the present case from Huston. [Emphasis added].

The defendant extracts from these decisions the principle that in order to have interest one must have at least a contingent right to a principal sum in existence at the time to which the interest relates. A contingent right to a principal sum does not exist, it is argued, unless there is a formula in existence at the beginning of the time period to which the interest relates so that any amount which might ultimately be paid as principal sum is ascertainable although obviously not capable of being ascertained, at that time. Thus in the present case, the fact that the plaintiff had a right to have her 1980 salary ultimately determined does not, it is argued, constitute a contingent right to a principal sum. Had there been a formula in existence prior to the start of negotiations by which her 1980 salary could have been determined, even though that salary might ultimately have been calculated at less than that paid in 1979, the defendant would have no trouble in agreeing that a right to a principal sum existed.

Alternatively, if I understand the defendant's argument correctly, had an interest clause been agreed upon prior to the start of the 1980 negotiations, the defendant would agree that the payment was interest. Had a formula been in existence at the beginning of the period so that interest might be calculated by reference to it should any principal sum ultimately become due, then the defendant concedes that the payments would properly be characterized as interest. If I understand the Defendant's argument correctly this would be so even though in this case the principal sum would not be ascertainable at the beginning of the period for which it was due.

I have difficulty finding either of these elements to be requirements of the concept of interest. I do not see them as articulated in the common law concept of that term nor as a necessary requirement for the purposes of subsection 110.1(1) of the Income Tax Act. I do not see them as necessary requirements arising out of the decisions in the Huston and Perini cases.

The plaintiff’s right to have her salary ultimately decided is similar to the taxpayer's right in Perini to have payments made if after-tax profits are earned. In either case no additional amounts might ever be paid. The only difference is that in the one case the sum is ascertainable in accordance with a formula agreed upon prior to the period during which the money was owing but not paid; in the other it was the subject of negotiation during almost the whole period. I cannot see that this affects the character of the ultimate amount awarded as interest. In both cases it is compensation for the retention of money owed to the plaintiff; it is paid in relation to a principal sum; and it is calculated on an accrual basis.

While the Federal Court of Appeal seems to distinguish the Perini decision from that in Huston on the ground that an ascertainable principal sum was owed at the commencement of the period to which the interest payment related, I do not think the Court meant to set so fine a distinction down as an absolute requirement for interest. The gist of the Huston deci- sion was Clearly that the payments in question there, were grants, including the supposed interest component thereof. There was no obligation on the government to award any compensation at all to the taxpayer in that case. In both the Perini case and the present case a principal amount was owed pursuant to a commercial relationship between the parties. In both cases there was an obligation to pay the taxpayer, a yet to be determined amount, pursuant to that contractual relationship. The amounts payable do not have the character of a grant. In the present case the principal amount owed was a sum owed for work performed during a defined time period.

Equally, I cannot find in the Perini and Huston cases a requirement that in order to constitute an interest payment the formula for such payment must be decided upon prior to the commencement of the time period to which the interest relates. It is open to the parties to govern their relationship by retroactive agreements: Trollope & Colls et al v Atomic Power Constructions, Ltd, [1962] 3 All ER 1035. And it is open to them, when they do so, to provide for interest to be payable on the outstanding sum left due over the relevant period of time. In my view the taxpayer's situation in this case is similar to that of the taxpayer in Perini.

An analogy can be found to the case of awards of pre-judgment interest given with respect to damage claims (especially those in tort). These are not dissimilar to the interest award made by the arbitration board in this case. There is an unascertainable amount owing to the plaintiff from the date that the tort or breach of contract arises. The formula for determining the interest, or indeed whether there will be any at all awarded, is not known at the beginning of the period to which the interest relates. This is a matter within the discretion of the court. Yet there is no doubt that such payments are treated by Revenue Canada as interest, and taxed as such: Interpretation Bulletin IT-396R, paragraph 12 (dated May 29, 1984). (Interpretation Bulletins are of course not authoritative, but merely one factor for consideration.)

In my view the $62.51 was genuinely a payment of interest. The parties agreed that their relationship would be governed on the basis of the retroactive agreement. This involved the retention of moneys owing to the plaintiff for which compensation was ultimately paid. The compensation paid was described by the parties and the arbitration board as interest. It was calculated on an accrual basis by reference to a normal rate of interest then current or with respect to the employer's cost of borrowing. I can see no reason why this does not fall within the meaning of the word “interest" as it is used in section 110.1 of the Income Tax Act.

Accordingly, the appeal will be allowed.

Appeal allowed.