Baggs v. MNR, 90 DTC 1296, [1990] 1 CTC 2391 (TCC)

Christie, A.CJ.T.C.: —In computing his income for 1984 the appellant deducted amounts expended by him as being current expenses, particulars of which will be given later. In reassessing the respondent treated those amounts as Capital outlays.

In 1982 the appellant purchased land in Burgeo, Newfoundland, on which there was a garage, which he converted into two apartments. He said they were ready to be rented in 1983, but they were not in fact leased at that time. When the land was purchased and the two apartments constructed the appellant had a partner. The appellant wanted to upgrade these apartments, but his partner was against this so the appellant bought him out in May or June of 1983. In August of that year the appellant commenced to expand the size of the structure from two to fourteen apartments. By November of 1983 four apartments located on the ground floor, that included the two already mentioned which had been upgraded, were ready to be rented, subject to being equipped with stoves and refrigerators, and three more were nearly ready. He added that his experience was that in order to rent the apartments stoves and refrigerators had to be preinstalled. At this time relatively little work beyond electrical wiring and plumbing had been done regarding seven apartments on the second floor. An asphalt finished roof was in place.

On December 8, 1983 the asphalt layer on the roof was blown away in a storm. At that time the appellant, who was employed as a marine captain, was at sea. He was informed of the damage at the time it occurred and was under the impression that the contractor who installed the roof was repairing it. It was under a five-year guarantee. This did not happen, however, and in the result the remainder of the building was exposed to the elements for a considerable period of time and more damage by leakage was sustained than would otherwise have been the case. Consequently at the end of 1983 no apartment was in a fit condition to be rented. All of the apartments were repaired, completed and rented by September 1984.

The amount in dispute is $20,199.15. This consists of $10,734.48 in direct cost to replace the asphalt on the roof; $6,083.46 in consequential damage to other parts of the building and materials stored there plus $3,381.21 in motor vehicle expenses incurred in transporting gyprock, lumber, nails, etc. on a poor road from Stephenville to Burgeo, a distance of some 150 miles.

There is no doubt, as indicated at the commencement of these reasons, that in reassessing the respondent expressly relied on paragraph 18(1)(b) of the Income Tax Act! [1] ("the Act”). The respondent's confirmation of the reassessment states that the expenditures claimed as deductions "were outlays or payments on account of capital within the meaning of paragraph 18(1)(b) of the Act and were determined to be property of Class 3, Schedule 2 of the Income Tax Regulations.” The reply to the notice of appeal is consistent with this. In the course of cross-examination counsel for the respondent concentrated on the period when the work on the apartment was being done. The reason for this became clear when he made his argument. It was focused on something of which there had been no prior mention, namely, certain provisions of the Act (subsections 18(3.1) and (3.3)) pertaining to the capitalization of soft costs. Had I known of this changeover at the commencement of the trial I would have ruled that the burden of proof had shifted to the respondent. It is settled that if on an appeal to this Court by a taxpayer the Minister of National Revenue seeks to establish the correctness of his assessment or reassessment on a ground or grounds different from that on which it was based the burden of proof shifts from the appellant to him: M.N.R. v. Pillsbury Holdings Limited, [1965] 1 Ex. C.R. 676; [1964] C.T.C. 294; 64 D.T.C. 5184 at 302 (D.T.C. 5188) (Ex.Ct.); Smythe et al. v. M.N.R., [1968] 2 Ex. C.R. 23; [1967] C.T.C. 498; 67 D.T.C. 5334 at 510 (D.T.C. 5340-41) (Ex.Ct.); Craddock and another v. M.N.R., [1968] C.T.C. 379; 68 D.T.C. 5254 at 387 (D.T.C. 5259) (Ex.Ct.); Brewster v. The Queen, [1976] C.T.C. 107; 76 D.T.C. 6046 at 111 (D.T.C. 6049) (F.C.T.D.); del Valle v. M.N.R., [1986] 1 C.T.C. 2288; 86 D.T.C. 1235 at 2290 (D.T.C. 1237) (T.C.C.); Wise et al. v. The Queen, [1986] 1 C.T.C. 169; 86 D.T.C. 6023 at 170 (D.T.C. 6024) (F.C.A.); Sani Sport Inc. v. The Queen, [1987] 1 C.T.C. 411; 87 D.T.C. 5253 at 415 (D.T.C. 5256) (F.C.T.D.); and Gross v. M.N.R., [1990] 1 C.T.C. 2005; 89 D.T.C. 660 at 2009 (D.T.C. 662-3) (T.C.C.). [2]

The reason for the changeover is perhaps understandable because I regard it as obvious that on the evidence the expenditures in issue were to repair the damage inflicted by the storm, i.e. to restore the roof and other property to their condition prior to the storm. It is well recognized among those concerned with these matters that expenditures of that kind that do not involve the upgrading of capital assets are deductible as being on current account.

What is relevant to the respondent's argument on this appeal in subsections 18(3.1) and (3.3) provide:

18(3.1) Notwithstanding any other provision of this Act, in computing a taxpayer's

income for a taxation year, no deduction shall be made in respect of any outlay or expense made or incurred by the taxpayer that may reasonably be regarded as a cost incurred during the period of the construction, renovation or alteration of a building and that relates thereto and was made or incurred before the completion of the construction, renovation or alteration of the building; and the amount of such outlay or expense shall be included in computing the cost or the capital cost to the taxpayer of the building.

18(3.3 For the purposes of subsection (3.1), the construction, renovation or alteration

of a building is completed at the earlier of the day on which the construction, renovation or alteration is actually completed and the day on which all or substantially all of the building is used for the purpose for which it was constructed, renovated or altered.

These subsections must be read together and they create "a relationship between expenses incurred and a period of construction, renovation or alteration of a building which, where it exists, requires a taxpayer to treat those expenses as capital outlays in computing his income. Here the appellant commenced the construction of a 14 unit apartment building in August 1983 and on December 8 of that year a storm caused serious damage by tearing away the asphalt layer on the roof and there was additional sequential damage to other property by the leakage of water. This occasioned a period of repair that either interrupted construction of the apartment for its duration or that ran wholly or in part concurrently with it. It is to the period of repair to the apartment building that the expenses in dispute relate and not to the period of its construction. On this analysis subsections 18(3.1) and (3.3) have no application to the reassessment under appeal.

The appeal is allowed with costs.

Appeal allowed.