Prince Rupert Hotel (1957) Ltd. v. The Queen, 95 DTC 5227, [1995] 2 CTC 212 (FCA)

Strayer J.A.:—

Relief sought

This is an appeal from a judgment of the Trial Division of May 5, 1993 which dismissed an appeal by the appellant of reassessments by the Minister of National Revenue in respect of its 1984, 1985, and 1986 taxation years.

Facts

A portion of the learned trial judge’s findings of fact, which I adopt, is as follows: [1]

—the plaintiff is a company incorporated under the laws of the province of British Columbia, having a year end for taxation purposes of August 31 ;

-at all material times the plaintiff was a member of the Blackcomb Lodge Joint

Venture and the Mountainside Lodge Joint Venture which had been formed to develop and operate the Blackcomb Lodge and the Mountainside Lodge at Whistler, British Columbia;

-at all material times, the plaintiff was also one of four general partners of the

Blackcomb Lodge Limited Partnership which was created to carry on the business of operating the Blackcomb Lodge as a hotel on behalf of the limited partners;

-at all material times, the plaintiff was also one of six general partners of the

Mountainside Lodge Limited Partnership which was created to carry on the business of operating the Mountainside Lodge as a hotel on behalf of the limited partners;

-it was agreed by the partners that the general partners would receive management

fees allocated to them from the income of the limited partnerships in consideration for their management services in respect of the Blackcomb Lodge and the Mountainside Lodge, which fees, when earned, were reported by the joint ventures as income;

-the plaintiff, together with the other general partners of each limited partnership,

retained solicitors to prepare the limited partnership agreements, and instructed their solicitors to do the legal work necessary to form each limited partnership;

Due to their solicitors’ errors in drafting the agreement, the appellant and other general partners were not entitled, under the written agreement as drafted and signed, to as large a share of the revenues from rental of sleeping room space as they had understood during the negotiations they would receive. The agreement as signed gave a larger share to the limited partners than was intended by the general partners. However, the contract as drafted and signed by all the partners was apparently considered to be binding and definitive of the respective legal rights of the general and limited partners: there is no suggestion that the general partners had any right of action against the limited partners for rescission or rectification of the contract due to misrepresentation or mistake. Instead the general partners sued their solicitors for breach of contract or negligence because of their failure "to properly carry out the specific instructions of the plaintiffs” in the preparation of the agreements and related documents, resulting in the plaintiffs receiving a lower share of revenues. As the trial judge found:

-an out-of-court settlement was reached whereby the solicitors agreed to compensate the general partners of both limited partnerships in accordance with a settlement agreement which provided for payment on or before February 25, 1985, of an amount of $1,250,000 by the solicitors to the general partners;

-of the $1,250,000 settlement amount, $625,000 was referable to the

Blackcomb Lodge Limited Partnership, and the plaintiff was allotted $187,500 as its share in its 1985 taxation year from the Blackcomb Lodge Joint Venture’s year end of July 31 ending in the plaintiffs 1985 taxation year;

-the remaining $625,274 of the settlement amount was referable to the

Mountainside Lodge Limited Partnership and the plaintiff was allotted $93,791 as its share in its 1986 taxation year from the Mountainside Joint Venture’s year end of December 31 ending in the plaintiffs 1986 taxation year;

—the plaintiff, in filing its returns of income for its 1985 and 1986 taxation years, did not include in income any amounts with respect to the $187,500 and $93,791 amounts allotted to the plaintiff as a result of the settlement of the actions of the general partners against their solicitors;

-by reassessments made August 30, 1988 the Minister of National Revenue

included the sums of $187,500 and $93,791 in the plaintiffs income for its taxation years ending August 31, 1985 and 1986, respectively;

-the Blackcomb Lodge Limited Partnership Agreement and the Mountainside

Lodge Limited Partnership Agreement were not amended as a consequence of the settlement of the actions and still apply as they existed before the actions were commenced to generally the same general partners, including the plaintiff, who, at the present time, continue to operate the Blackcomb Lodge and the Mountainside Lodge on behalf of the limited partners.

In addition to these facts, the defendant admits for the purpose of this appeal that the general partnership interest owned by the plaintiff in the Blackcomb Lodge Limited Partnership and in the Mountainside Lodge Limited Partnership constitutes capital property within the meaning of the Income Tax Act.

Issue

The essential issue on this appeal is as to whether the amounts received by the appellant in 1985 from this settlement with its solicitors should be regarded as capital or income. The appellant contends, of course, that they are capital but the trial judge held them to be

...compensation paid in respect of management fee income lost to the general partners as a result of the solicitors’ errors and represented income to the plaintiff from business in the 1985 and 1986 taxation years. [2]

Analysis

Counsel for the appellant argued that, as both parties agree that the general partnership interests owned by the appellant in the Blackcomb Lodge and Mountainside Lodge limited partnerships were capital properties the proceeds from disposition of which would give rise to a capital gain or a capital loss, the Court must necessarily treat the amounts in question here as of a capital nature. I understand the argument to be that because, due to the negligence of its solicitors, the appellant did not obtain agreements which would yield as many benefits from those interests as it had expected to receive, and as a settlement was made to compensate it for that loss, amounts received pursuant to the settlement must be treated as capital. This was seemingly presented as a rule of law which of necessity should have led the trial judge to find in favour of the appellant.

I find two difficulties with this analysis. Firstly, I do not agree with this implication so attributed to the respondent’s admission that the general partnership interests were capital property. While it is true the respondent admitted, as noted by the learned trial judge, that the general partnership interests owned by the appellant constitute capital properties, counsel for the appellant described the meaning of this admission to be that

...if either of the interests had been sold there would have been a capital gain or a capital loss. It follows as a consequence.

[Emphasis added.]

In response to this, counsel for the respondent confirmed (at transcript page 4) "[t]hat is correct. We discussed this previously, My Lord". But the parties equally agreed that the money in question was not the proceeds of disposition of these capital properties. [3] As the interests were thus not sold or otherwise disposed of in return for the money, the admission that they were capital property is in my view irrelevant to what we have to decide and provides no factual basis for the application of the legal rule advanced by the appellant. The trial judge noted the agreement that there had been no disposition and obviously was of the same view.

Secondly, these general partnership interests as legally established by the signed agreements did not, by definition, include the advantages whose value was compensated for by the settlement with the appellant’s solicitors. The gravamen of the appellant’s complaint against its solicitors was that it had never legally obtained the interest in the form it had anticipated in its instructions to counsel. If it had a legal right to revenues from the limited partners at the rate it apparently anticipated, then it could have so claimed in an action in contract against the limited partners. But it did not. How then can it be said that the compensation represented the loss or destruction of something which never legally existed?

In spite of the attractive neatness and simplicity of the appellant’s analysis, I am for these reasons unable to apply it to these facts. Instead I believe the trial judge was obliged, as he did, to have regard to the conventional jurisprudence which has developed to help characterize, as either capital or income, payments received in lieu of business advantages that the taxpayer has somehow lost or failed to gain. That jurisprudence is well established and is referred to in the reasons of Hugessen J.A. It has been frequently approved in this Court directly or by implication. [4] As I understand it, it requires that the trial judge determine as best he can from the evidence for what the compensation was paid. If it was paid in lieu of money which the recipient would otherwise have received were it not for the loss of the business advantage, then it must be determined whether that money if received as originally contemplated would have been an income receipt or a capital receipt. One of the indicia that may be relevant in making this determination is the impact which the loss of the advantage will have on the profit-making structure of the taxpayer’s business. That is, has the profit-making structure been sterilized or very seriously impaired so that the payment must be regarded as compensation for loss of a capital asset? It appears to me that the trial judge based his decision on the principles so enunciated in these cases.

This jurisprudence demonstrates, in my view, that the duty of the trial judge is to determine as a matter of fact what the compensation is to replace: income or capital. This is essentially a question of fact and not of law as is implicit in the way this Court disposed of the appeal in Schofield

Oil Ltd, supra, at page 8 (D.T.C. 6022-23) where it stated:

We have not been shown that [the trial judge] committed any reviewable error when he found as a fact that the payment of $1,370,000 received by the appellant from Imperial Oil in return for releasing the latter from its obligations for the remaining 20 months of a contract for the supply of waste oil was made for the purpose of replacing lost income and as compensation for the future profits surrendered. While the evidence might have permitted the judge to reach a different conclusion, which we doubt, we certainly cannot say that he overlooked or misapprehended any part of it or drew any inferences which were manifestly and palpably wrong or otherwise not open to him. That being the case, the judge’s conclusion that the payment should be characterized and assessed as income in the appellant’s hands is beyond reproach. [5]

We must therefore ask the same question in this case as to whether the trial judge

...overlooked or misapprehended any part of [the evidence] or drew any inferences which were manifestly and palpably wrong or otherwise not open to him.

It was certainly open to the trial judge here to conclude that the compensation did not represent payment for a capital asset (the right to a certain stream of income) which had been destroyed. As I have indicated earlier, a legally recognized capital asset in this form never existed. Further, there was ample evidence upon which the learned trial judge could conclude, as he did, that the unexpected abridgement of management fees did not destroy, sterilize or materially cripple the whole of the appellant’s profit-making structure. There is nothing in the evidence to suggest that that profit-making structure was altered in any way, that the appellant’s activities were curtailed, that major staff cuts were necessary, etc. The evidence instead shows that the operation continued exactly as contemplated except that the appellant was receiving less revenue than it had thought it would receive for doing exactly the same thing.

On the other hand there was ample evidence to support the trial judge’s view that the compensation paid was in respect of lost management fees. I understood counsel for the appellant to argue that these "management fees" in part represented payment for the use of the general partners’ property as well as payment for their services. Even if this is so it is difficult to characterize money paid in lieu of such revenues as being other than income, whether it be income from property or from services. It has not been demonstrated that, had the contract turned out to have the terms which the parties thought it would have, the amounts received in management fees would not be gross income. This view of the evidence is reinforced by the fact that the appellant sought in its statement of claim, in the action whose settlement yielded the compensation in question, damages for "loss of revenue to the plaintiffs by reason of the improperly drawn agreement”. [6]

Further, the compensation actually paid was largely based on calculations made on behalf of the appellant and its partners with respect to lost income over the subsequent 30 years. [7] While it is trite law that the method of calculation of compensation is not determinative of the matter, in these circumstances it cannot be viewed as wholly irrelevant and it was open to the trial judge to take it into account as he did.

Conclusions

For these reasons I can find no basis upon which this Court should interfere with the determination below and I would therefore dismiss the appeal with costs.

Desjardins J.A.:-I agree with Strayer J.A. that counsel’s admission, pursuant to which the appellant’s general partnership interest was capital property, is of no relevance to the case at bar in view of the context in which it was made.

But, even if it were relevant, I am not ready to draw from it the same conclusion that Hugessen J.A. has arrived at. The issue remains one of characterization, in terms of capital or revenue, of the compensation received by the appellant from its solicitors for errors committed in the drafting of the "management fee" of the agreements.

The error profited the limited partners. The money received by the appellant from its solicitors was new money so far as the structure of the operation is concerned. It does not necessarily follow, however, that such money represents the appellant’s "missing part" of its capital interest. What was affected was the yield not the interest. The limited partners got more than what they had bargained for. The appellant got less than what it had bargained for. The compensation money came to the appellant in lieu of the income it would have received from the operation had no error been made.

This determination was certainly open to the trial judge on the evidence before him.

I would dispose of the matter as suggested by Strayer J.A.

Hugessen J.A.:-This is an appeal from a judgment of the Trial Division dismissing the appellant’s appeals in respect of its 1984, 1985 and 1986 taxation years.

The issue is the correct characterization of sums of money received by the appellant as damages from its former solicitors for the improper preparation of two agreements.

The appellant, along with others, was a general partner in two limited partnerships formed for the purpose of developing and exploiting two hotels, known respectively as Blackcomb Lodge and Mountainside Lodge, at Whistler, B.C. The plan, as developed by the appellant and the other general partners, was broadly that the financing of the hotels should be largely carried out by the sale of what were, in effect, condominium units to individuals who would become limited partners. Each limited partner would own one or more such units and all or most of the units would then be pooled and made available to the hotels as sleeping room space. The general partners were responsible for the common areas, and the food and beverage (FB) services were dealt with separately. The intention was that the general partners would contribute their labour and skill to the management of the operation and that their interest in the partnership would be wholly reflected in their right to receive 25 per cent of the gross room revenues.

The solicitors who were retained by the general partners to prepare the documents made an error. The partnership agreement provided as follows:

"Management fee" shall be paid by way of an allocation of profit and will be 25 per cent of partnership operating income.

[Emphasis added.]

(Appeal Book, Vol. II, page 325)

Partnership operating income was defined as follows:

For each fiscal year, partnership operating income (which may be negative) will be calculated in accordance with generally accepted accounting principles as follows:

(a) 100 per cent of sleeping room revenues for the hotel less 100 per cent of direct expenses of sleeping rooms;

(b) plus 100 per cent of other receipts less 100 per cent of direct expenses of other receipts;

(c) plus 5 per cent of FB division operating profit.

[Emphasis added.]

(Appeal Book, Vol. II, page 339)

After payment of the management fee and the separate treatment of the food and beverage operations, all remaining operating profit was to be allocated to the limited partners:

The net income or loss of the partnership will be allocated to the partners at the end of each fiscal year as follows:

(a) all losses as a result of moneys paid pursuant to the Limited Partnership Services Agreement incurred by the partnership will be allocated to the limited partners, other than the general partner, pro-rata on the basis of a limited partner’s profit share ratio but not to exceed for any one limited partner the balance in his capital account plus the amount agreed to be contributed by such limited partner.

(b) the general partner will be allocated income to the extent of any losses which have previously been allocated to the general partner by virtue of paragraph 4(1 l)(f) and for which income has not been allocated to the general partner in a previous year.

(c) the general partner will be allocated the management fee in the proportion set out in subsection 5(5).

(d)(i) 95 per cent of the FB division operating profits will be allocated to the FB unit.

(ii) 100 per cent of FB division operating losses will be allocated to the FB unit;

(iii) any gain or loss resulting from the sale of the FB division will be allocated to the FB unit.

(e) Any remaining partnership operating profit after allocations under paragraphs (b), (c) and (d) hereof will be allocated to the limited partners pro-rata....

[Emphasis added. I

(Appeal Book, Vol. II, page 340)

The partnership agreements were signed in this form and it was not until later that it was realized that there was an error in the manner in which the management fee of the general partners was stated to be calculated. In the case of the Blackcomb Lodge partnership, matters were too far advanced and no attempt was made to correct the error. In the case of the Mountainside Lodge partnership, an amendment to the clause relating to the management fee was prepared but it was not possible to obtain all the required signatures. That amendment (after a false start) read:

’’Management fee" shall be paid by way of an allocation of profit and will be 25 per cent of sleeping room revenues.

[Emphasis added.]

(Appeal Book, Vol. II, page 370)

Clearly a management fee consisting of 25 per cent of gross room revenue is greater than one based on 25 per cent of operating income which is defined as being net of expenses.

The general partners took action against their former solicitors. The key allegations of the statement of claim read as follows:

11. The plaintiffs instructed the defendants and each of them to prepare the Limited Partnership Agreement and all financial statements and other documentation to reflect the fact that the management fee charged by the plaintiffs for their services was to be 25 per cent of gross room revenue. Further the plaintiffs provided the defendants and each of them with initial pro forma financial statements and calculations of profitability and return to limited partners based on the management fee at 25 per cent of gross room revenue.

12. The defendants and each of them were in breach of their respective contractual obligations to the plaintiffs, or, in the alternative, were negligent in providing services to the plaintiffs as follows:

(1) failure to follow the specific instructions of the plaintiffs regarding the definition of the calculation of the management fee, as set out in paragraph 11 herein, when drafting the Limited Partnership Agreement and supporting documents. The final form of the agreement defined management fee as 25 per cent of ’’partnership operating income” rather than as 25 per cent of gross room revenue;

(Appeal Book, Vol. II, pages 471-72)

The claim for damages reads as follows:

17.By reason of the breaches of contract or negligence of the defendants and each of them to properly carry out the specific instructions of the plaintiffs, the plaintiffs have suffered considerable loss and damage, including:

(a) substantial additional costs which would not have been incurred by the plaintiffs had the documentation been properly drawn and reviewed;

(b) substantial additional costs which would not have been incurred by the plaintiffs had the agreement been properly amended;

(c) a loss to date of revenue as a result of the reduced management fee by reason of the improperly drawn agreement; and

(d) future costs and loss of revenue to the plaintiffs by reason of the improperly drawn agreement.

(Appeal Book, Vol. Ill, pages 473-74)

The action against the former solicitors was settled out of court and it is the appellant’s share of the sums received in the settlement that is in issue here. In the appellant’s view, these sums represent a capital receipt since they were paid to it as compensation for the permanent impairment or non-receipt of capital property. In the Minister’s view, on the other hand, the settlement moneys simply represent compensation for loss of revenue, being the difference between the management fee actually to be received by the appellant under the improperly drawn agreement and what it should have received under the deal as originally conceived.

At the trial of the action, an important admission was made by the Crown as to the nature of the appellant’s interest in the general partnerships. That admission was made during the opening by appellant’s counsel and is in these terms (Transcript, page 3):

Mr. Pitfield: The third item, My Lord, is this. The Crown has advised that it is prepared to admit that the general partnership interest, which was owned by the plaintiff in the Blackcomb Lodge Ltd. partnership and the Mountainside Lodge Ltd. partnership, was a capital property.

The Court: Is that admission in writing? This is not an exhibit.

Mr. Pitfield: My friend and I have agreed that we can do it in this way. I am Stating the admission and he’ll confirm that it’s-

Mr. Mah: Yes, for the purposes of this appeal we are making that concession.

[Emphasis added.]

In my view, the appellant properly places great emphasis on this admission. It will be recalled that the appellant’s interest as general partner was wholly represented by its right to receive a management fee calculated on the basis of 25 per cent of gross room revenue. The general partners had no other participation in profits or in the break-up value of the property in the event of liquidation. Where a partner’s interest is stated as being solely a share in the revenue of a business it is by no means self-evident that such an interest is of a capital nature. That question is, however, settled for the purposes of the present case by the above quoted admission.

It would appear to me to be almost self-evident that the loss or destruction of a capital property is a capital loss and that an amount paid in compensation therefor is accordingly a capital receipt. The trial judge, however, held otherwise. He said (Reasons for Judgment, Appeal Book, Vol. Ill, page 569):

In the present case, the measure of the damages paid to the plaintiff has been determined by reference to the present value of the amount of the income lost as a result of the reduced management fee by reason of the improperly drawn Limited Partnership Agreements. Furthermore, the plaintiff, together with the same general partners, still continues to provide management services in respect of the Blackcomb Lodge and the Mountainside Lodge under the improperly drawn Limited Partnership Agreements. Under such circumstances, I cannot find that the solicitors errors did destroy, sterilize or materially cripple the whole of the profit- making structure of the business operations of the general partners with respect to the Blackcomb Lodge or the Mountainside Lodge Limited Partnerships. Such general partnership interest was simply impaired, albeit permanently. The general partners did not lose their capital asset.

[Emphasis added.]

With great respect, it seems to me that the trial judge has here fallen into error and has applied to the particular facts of this case rules which have been developed by the courts over the years for another purpose. In particular, where damages are paid for the loss or cancellation of a trading agreement, it is sometimes claimed that such agreement is to be viewed as an item of capital property, the compensation for the loss of which is also of a capital nature. Clearly, such a claim needs to be regarded with some care for a trading agreement, by its nature, is not normally a capital item. In exceptional cases, however, an agreement may be of such importance to a business that it may properly be regarded in almost the same light as a fixed asset. The jurisprudence has developed criteria for this purpose.

A frequently quoted United Kingdom case is C.ZR. v. Fleming Co. (Machinery) Ltd. (1951), 33 T.C. 573. The following passage (at page 63) from the judgment of Lord Russell is often cited:

The sum received by a commercial firm as compensation for the loss sustained by the cancellation of a trading contract or the premature termination of an agency agreement may in the recipient’s hands be regarded either as a capital receipt or as a trading receipt forming part of the trading profit. It may be difficult to formulate a general principle by reference to which in all cases the correct decision will be arrived at since in each case the question comes to be one of circumstance and degree. When the rights and advantages surrendered on cancellation are such as to destroy or materially to cripple the whole structure of the recipient’s profit-making apparatus, involving the serious dislocation of the normal commercial organisation and resulting perhaps in the cutting down of the staff previously required, the recipient of the compensation may properly affirm that the compensation represents the price paid for the loss or sterilization of a capital asset and is therefore a capital and not a revenue receipt. On the other hand when the benefit surrendered on cancellation does not represent the loss of an enduring asset in circumstances such as those above mentioned-where for example the structure of the recipient’s business is so fashioned as to absorb the shock as one of the normal incidents to be looked for and where it appears that the compensation received is no more than a sur- rogatum for the future profits surrendered-the compensation received is in use to be treated as a revenue receipt and not a capital receipt.

[Emphasis added. I

In this country, the cases were gathered and summarized by Strayer J., as he then was, in Canadian National Railway v. The Queen, [1988] 2 C.T.C. 111, 88 D.T.C. 6340, at pages 114-15 (D.T.C. 6342-43):

There is much jurisprudence on the question of whether compensation paid on the occasion of the termination of some business arrangement is capital or income. To a large extent each case turns on its own facts. It appears to me that there are two aspects which a court must consider in examining such a situation retrospectively: was the purpose of the payment to replace capital or income; and, whether or not the purpose can be reliably determined, was the effect of the payment to replace capital or income? It appears to me to be a dual test because the purpose may not be discernible, or it may not be reliably discernible in the sense that parties to settlements should not, by misstating the real purpose, determine the tax consequences of the receipt of such compensation. It is therefore necessary to look at both purpose and effect.

With respect to purpose, the essential question is to determine what the compensation-whether paid pursuant to a contract, a court award of damages, or otherwise-is intended to replace. In some cases the contract providing for compensation may be clear. The measure employed for calculating compensation is not always determinative: potential lost income may be taken into account in calculating a capital sum to be paid. Nor on the other hand does the fact that an amount is paid as damages for breach of a contract necessarily make it a capital sum and not income. On the contrary it appears to me that whatever the source of the legal right to the compensation, be it the contract or the law of damages, the substantive issue is what is this amount intended to replace?

With respect to the effect of the termination of the business arrangement and the role of compensation in respect thereto, I believe the two possibilities are well expressed in the judgment of Lord Russell in the Fleming case.

When the rights and advantages surrendered on cancellation are such as to destroy or materially to cripple the whole structure of the recipient’s profit-making apparatus, involving the serious dislocation of the normal commercial organization and resulting perhaps in the cutting down of the staff previously required, the recipient of the compensation may properly affirm that the compensation represents the price paid for the loss or sterilization of a capital asset and is therefore a capital and not a revenue receipt.... On the other hand when the benefit surrendered on cancellation does not represent the loss of an enduring asset in circumstances such as those above mentioned-where for example the structure of the recipient’s business is so fashioned as to absorb the shock as one of the normal incidents to be looked for and where it appears that the compensation received is no more than a surrogatum for the future profits surrendered the compensation received is in use to be treated as a revenue receipt and not a Capital receipt.

It will be noted that to apply such criteria it is necessary to make value judgments as to the severity of the impact on the taxpayer of the termination of certain business activities in respect of which compensation has been paid.

[Emphasis added.]

More recently still, Reed J. put the matter thus in Westfair Foods Ltd. v. The Queen, [1991] 1 C.T.C. 146, 91 D.T.C. 5073 (F.C.T.D.) [aff d [1991] 2 C.T.C. 243, 91 D.T.C. 5625 (F.C.A.)], at page 149 (D.T.C. 5075):

These cases indicate that a payment made as a result of the early termination of an agency or trading contract may be characterized as either an income receipt or a capital receipt. Which characterization is appropriate will depend on the particular circumstances of the case. The question to be answered is whether the amount is being paid as a replacement for the loss of a capital asset or as a replacement for income. The degree of dislocation caused to the income earning structure of the taxpayer is one factor which is relevant to the consideration. If the cancellation of the contract results in a significant degree of dislocation to that structure, then, it is more likely to be classified as a capital receipt than as an income receipt.

[Emphasis added.]

These passages, in my view, indicate clearly that the courts were, in each of the cases cited, dealing with the problem of whether the thing whose loss or damage was being compensated was a capital asset or simply an incident of the generation of trading revenue. That is simply not an issue in the present case where the capital nature of the appellant’s partnership interest is admitted.

In my view, and with great respect, none of the criteria used by the trial judge in the passage of his reasons quoted above are relevant to the problem before him. To measure damages as being the present value of future income is a classic method of calculating a capital loss (as for example in the case of personal injuries) and cannot have the effect of turning such damages, as opposed to the gains they may produce, into an item of income. Nor is the fact that the general partners were able to continue in business and that their undertaking was not destroyed, sterilized or crippled by the improperly drawn partnership agreement of critical significance. In the light of the admission that the appellant’s interest in the partnership was capital property, moneys paid to compensate even a very small loss of such capital property are a capital receipt. The amount of the payment cannot change its nature: [2] the expropriation of a small strip of land for road widening adjacent to a commercial enterprise may do nothing to destroy, sterilize or cripple the business (it may indeed improve it) but the compensation received is manifestly capital. The fact that the capital property here in issue was incorporeal rather than a physical thing is equally irrelevant. What is important is that the plaintiffs capital property was, as the trial judge rightly found, permanently impaired.

The trial judge cited and relied on the judgment of Diplock L.J., as he then was, in London & Thames Haven Oil Wharves Ltd. v. Attwool (1966),

43 T.C. 491, at page 515:

The question whether a sum of money received by a trader ought to be taken into account in computing the profits of gains arising in any year from his trade is one which ought to be susceptible of solution by applying rational criteria. And so I think it is. I see nothing in experience, as embalmed in the authorities, to convince me that this question of law, even though it is fiscal law, cannot be solved by logic, and that, with some temerity, is what I propose to try to do.

I start by formulating what I believe to be the relevant rule. Where, pursuant to a legal right, a trader receives from another person compensation for the trader’s failure to receive a sum of money which, if it had been received, would have been credited to the amount of profits (if any) arising in any year from the trade carried on by him at the time when the compensation is so received, the compensation is to be treated for income tax purposes in the same way as that sum of money would have been treated if it had been received instead of the compensation. The rule is applicable whatever the source of the legal right of the trader to recover the compensation. It may arise from a primary obligation under a contract, such as a contract of insurance, from a secondary obligation arising out of non-performance of a contract, such as a right to damages, either liquidated, as under the demurrage clause in a charter-party, or unliquidated, from an obligation to pay damages for tort, as in the present case, from a statutory obligation. or in any other way in which legal obligations arise. But the source of a legal right is relevant to the first problem involved in the application of the rule to the particular case, namely, to identify what the compensation was paid for. If the solution to the first problem is that the compensation was paid for the failure of the trader to receive a sum of money, the second problem involved is to decide whether, if that sum of money had been received by the trader, it would have been credited to the amount of profits (if any) arising in any year from the trade carried on by him at the date of receipt, that is, would have been what I shall call for brevity an income receipt of that trade. The source of the legal right to the compensation is irrelevant to the second problem. The method by which the compensation has been assessed in the particular case does not identify what it was paid for; it is no more than a factor which may assist in the solution of the problem of identification.

[Emphasis added.]

I agree that the proper test is to ask what the compensation was paid for. In the present case, a proper analysis of the damages received by the appellant leads to the conclusion that, notwithstanding the method of their calculation, they do not represent damages for lost income from the business. It must be recalled that the appellant’s undertaking was the operation of hotels. No part of the income from those operations was lessened or "lost" as a result of the improperly drawn agreement; all that was changed was the manner in which the income stream from the hotels was divided between the general partners and the limited partners. The stream itself was unchanged. The damages represented new money beyond and unconnected with any income from the business; they were compensation for the loss, or non-receipt, of the appellant’s share which was itself a capital property. Such damages are of a capital nature.

I would allow the appeal with costs, set aside the judgment of the Trial Division, allow the action with costs and vacate the reassessments for the years 1984, 1985 and 1986.

Appeal dismissed.