Citation: 2011 TCC 352
Date: 20110715
Docket: 2008-3562(IT)G
BETWEEN:
LES ATELIERS FERROVIAIRES DE MONT-JOLI INC.,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
[OFFICIAL ENGLISH
TRANSLATION]
REASONS FOR JUDGMENT
Jorré J.
[1]
The appellant, Les
Ateliers Ferroviaires de Mont-Joli inc. (AFM),
is appealing reassessments for the 2004 and 2005 taxation years.
[2]
Either in 2004 or 2005,
AFM acquired five pieces of equipment: a robotic drill, a band saw, an overhead
travelling crane, a bolt rack and a press (the equipment).
[3]
In filing its income
tax returns for 2004 and 2005, AFM claimed an investment tax credit under
subsection 127(5) of the Income Tax Act (ITA) with respect to the
equipment. AFM also claimed capital cost allowance with respect to the
equipment on the basis that it was class 43 property.
[4]
The Minister of
National Revenue (Minister) issued reassessments; he disallowed the investment
tax credit and classified the equipment as class 8 property.
[5]
The parties agree that
if AFM is correct on the investment tax credit issue, the equipment falls
within class 43.
Accordingly, I need only decide whether AFM is entitled to claim the investment
tax credit.
[6]
The issue is whether
the equipment is "qualified property" as defined in subsection 127(9)
of the ITA. The parties agree that all the conditions in the definition of
"qualified property" are met, except one.
[7]
The parties agree, for
example, that the equipment was used for "manufacturing or processing
goods". They disagree on whether this primarily involved manufacturing or
processing goods "for sale or lease" as required by
subparagraph (c)(i) of the definition of "qualified
property" in subsection 127(9) of the ITA:
"qualified property" of a taxpayer means property . . .
that is
(a) a prescribed building . . .
(b) prescribed machinery and equipment acquired by the
taxpayer after June 23, 1975,
that has not been used, or acquired for use or lease, for any
purpose whatever before it was acquired by the taxpayer and that is
(c) to be used by the taxpayer in Canada primarily for the purpose of
(i) manufacturing or processing goods for sale or lease,
. . .
[8]
While AFM contends that
the goods were primarily for sale within the meaning of article 1708 of
the Civil Code of Québec (CCQ), the respondent submits that essentially
the goods were not sold but were used in the course of contracts of enterprise
or for services within the meaning of article 2098 of the CCQ.
[9]
Articles 1708 and
2098 and the third paragraph of article 2103 of the CCQ provide as follows:
1708. Sale is a contract by which a person, the seller,
transfers ownership of property to another person, the buyer, for a price in
money which the latter obligates himself to pay.
A dismemberment of the right of ownership, or
any other right held by the person, may also be transferred by sale.
. . .
2098. A contract of
enterprise or for services is a contract by which a person, the contractor or
the provider of services, as the case may be, undertakes to carry out physical
or intellectual work for another person, the client or to provide a service,
for a price which the client binds himself to pay.
. . .
2103. . . . A
contract is a contract of sale, and not a contract of enterprise or for
services, where the work or service is merely accessory to the value of the
property supplied.
[10]
The facts are not in
dispute.
[11]
Rock Morel, the
owner of AFM, has worked in the railway industry for over 30 years and is a
former employee of the Canadian National Railway Company (CN).
[12]
In 1996, he left CN to establish
AFM, a firm of consultants on bridges and structures that offered its services
to railways. The Société des
chemins de fer du Québec was its primary client.
[13]
In 1996 and 1997, the
services AFM offered were consultation, inspection and maintenance program
set-up. It also created structure management systems for railways. These
structure management systems defined the work to be done for each bridge and culvert
and assisted railway companies in complying with the requirements of Transport Canada or Transport Québec, as the case may be.
[14]
In 1998, the president
of the Société des chemins de fer du Québec asked AFM to provide a railway
structures repair or improvement service. Accordingly, Mr. Morel launched
Groupe Séma structures ferroviaires inc. (Séma) to provide a turnkey service to
railways. Mr. Morel is the owner of Séma.
[15]
The turnkey service had
two aspects. First, there was an inspection of all structures in order to meet
industry standards. The service ensured that annual inspections were carried
out, that the condition of structures was known, that a work program was
established with respect to the improvements to be done, and that these
improvements were in fact done.
[16]
The service also included
the requisite construction and repairs.
[17]
To provide this type of
turnkey service, Séma recruited engineers, technicians, foremen and bridge
workers, trained its employees and purchased the required equipment.
[18]
Séma had a general
contractor’s licence and, aside from the turnkey service, was invited to bid on
repair, reinforcement and construction work, primarily on railway structures.
[19]
Prior to the commencement
of repairs or construction, a qualified engineer would prepare designs. Often
the work required steel pieces, and the engineers produced specifications for
those pieces, for example, bridge framework, bridge pieces, reinforcement
plates, angle irons and metal beams.
[20]
These pieces had to be fabricated
with steel that met railway industry standards; they had to correspond to the specifications
with respect to form, dimensions and, if necessary, hole placement, galvanization
or metallization, etc. This required a good quality control system; the fabricator
had to be accredited by the Canadian Welding Bureau.
[21]
Until 2003, Séma purchased
the steel pieces it needed for structural repairs from companies that were not related
to Séma. These companies fabricated the pieces in accordance with the specifications
sent by Séma.
[22]
After the
subcontractors had fabricated the steel pieces and sent them to Séma, Séma installed
them in the course of the repair or reconstruction work.
[23]
In 2003, Séma experienced
a certain amount of growth and had problems obtaining steel pieces that met the
requisite standards. Mr. Morel decided it would be preferable to fabricate
his own pieces instead of acquiring them from subcontractors.
[24]
When he wanted to begin
fabricating steel pieces, Ms. Guérette, his financial advisor, recommended
that he split the company.
[25]
Accordingly, Mr. Morel
created AFM and purchased a building to be used for the processing and fabricating
of steel pieces. He also took steps to get accredited by the Canadian Welding
Bureau and to implement a quality control system so as to comply with the
railway industry’s requirements.
[26]
AFM’s workshop employed
12 to 15 people who worked exclusively for AFM. The accounting system and the
pay system for AFM employees were separate from the Séma systems.
[27]
After AFM was created,
Séma operated the same way that it had operated before, except that it no
longer dealt with subcontractors to obtain steel pieces, but with AFM.
[28]
Séma ordered metal
pieces from AFM, which then fabricated them.
[29]
The fabrication process
was as follows: first, the supervisor, using the specifications, calculated the
material required; then, the supervisor purchased the steel from suppliers, and
the steel was cut, drilled, ground, welded, sanded, etc.; once assembled, the
steel was delivered to Séma, which used the pieces in the course of its work.
[30]
The equipment at the
heart of this dispute, i.e., the robotic drill, the band saw, the overhead travelling
crane, the bolt rack and the press, was used in fabricating the steel pieces.
[31]
I note that Séma did
not provide material to AFM for the fabrication of the steel pieces.
[32]
Once AFM began
fabricating steel pieces, CN started to order pieces from AFM. Thus, during the
years 2003, 2004 and 2005, AFM fabricated steel pieces for CN and for the Illinois
Central Railroad.
[33]
AFM had other unrelated
clients for which it did small jobs, generally supplying or cutting.
[34]
During the period at
issue, the unrelated clients that purchased steel pieces represented a small
part of the sales of pieces. Séma purchased the great majority of the
fabricated steel pieces.
[35]
In addition to producing
steel, AFM carried on other activities.
[36]
The premises that Séma
used were leased to it by AFM. AFM provided administrative services to Séma. The
equipment at issue has no connection with those two activities.
[37]
AFM owned a fleet of
road vehicles that it leased to Séma.
[38]
In addition, AFM fabricated,
installed and maintained "hi‑rail" equipment. This is equipment
added to road vehicles that allows them to run on rails.
[39]
These services with
respect to the "hi‑rail" equipment were provided to unrelated
clients. They were also provided to Séma (insofar as the vehicles that AFM
leased to Séma had "hi‑rail" equipment).
[40]
The equipment at the
heart of this dispute was used in fabricating and installing "hi‑rail"
equipment.
[41]
AFM's revenues break
down as follows:
|
Revenues
|
2004
|
2005
|
|
|
|
|
|
Rent
|
$149,792
|
$197,931
|
|
Leasing of vehicles
|
139,761
|
497,433
|
|
Administration
|
189,412
|
242,989
|
|
Repair of vehicles*
|
54,967
|
63,622
|
|
"Sale" of steel to Séma
|
312,323
|
312,380
|
|
Service
|
610
|
2,185
|
|
|
|
|
|
Total
|
$846,865
|
$1,316,5[40]
|
*This revenue is the revenue that corresponds
to the activity related to the "hi‑rail" equipment supplied to clients.
[42]
The revenues from the rent
and administrative services are not relevant to the appeal because the
equipment at issue was not used for those activities.
[43]
With respect to the
revenue from the leasing of vehicles, the evidence showed that part of these
revenues was simply from the leasing and that another part was from the changes
for repairing those leased vehicles.
[44]
For example, for the
2005 taxation year, the breakdown of the revenue from the leasing of vehicles
was $384,600 for the simple leasing and $112,832.50 for repairing the leased
vehicles.
Analysis
[45]
Was the equipment at
issue used "primarily" for "manufacturing or processing goods
for sale or lease"?
[46]
The respondent did not
make the following argument at the hearing, but it can be found among the
reasons justifying the confirmation in the report on objection:
[translation]
The only revenue that qualifies as being with respect to goods for
sale . . . is from the sale of steel to Séma, a related corporation. This
revenue represented 24% to 37%, i.e., less than 50% [of the appellant's
revenues].
[47]
This calculation was done
by comparing the revenues from sales to Séma in 2004 and 2005 with the total
amount of the appellant's revenues.
[48]
The respondent was quite
right not to argue this ground at the hearing because the question to be asked is:
was the equipment used primarily for manufacturing or processing goods for sale
or lease? The question is not: was the appellant's primary activity the manufacturing
or processing of goods for sale or lease?
[49]
Consequently, the revenues
from rent, the simple leasing of vehicles and administrative services are
irrelevant since the equipment at issue was not used for those activities.
[50]
The table below shows
the revenues from the activities in which the equipment at issue was used:
|
Revenues
|
2004
|
2005
|
|
|
|
|
|
Repair of leased vehicles*
|
(less than)
$139,761
|
$112,832
|
|
Repair of vehicles
|
54,967
|
63,622
|
|
"Sale" of steel to Séma
|
312,323
|
312,380
|
|
Service**
|
610
|
2,185
|
|
|
|
|
|
Total
|
(less than) $507,661
|
$491,019
|
*For 2004, the breakdown of revenues from the leasing of
vehicles between simple leasing and the revenues from repairing those vehicles
is not in evidence.
**The nature of revenues in the "service"
category is unclear, but the amounts are too small to have any impact whatsoever
on the result.
[51]
It can be seen that in
2004 and 2005 more than half of the revenues were derived from the "sale"
of steel to Séma. If the transactions whereby steel pieces were supplied to
Séma are legally sales, it is clear that the equipment at issue was used
"primarily" for manufacturing goods for sale.
[52]
At first glance, the
transactions between AFM and Séma appear to be contracts of sale. Séma ordered
a steel piece and provided very precise specifications for the piece. AFM obtained
the requisite materials, made the piece to order and transferred the ownership
of the piece to Séma. All the essential elements of article 1708 of the
CCQ are present.
[53]
Three arguments in
support of the reassessments were raised, either directly or by implication:
(a) Because
AFM and Séma are related and because Séma provided services, the contract is a
contract of enterprise or for services under article 2098 of the CCQ and
not a contract of sale.
(b) For a contract of sale
to exist, the goods must be property that could be sold to other persons, not
just the person who ordered the custom-made goods.
(c) The contract is a
contract of enterprise because the value of the work done by AFM exceeds the
value of the materials used by AFM.
[54]
With respect to the
first argument, the initial problem with that approach is that one must ignore
the fact that AFM and Séma are, legally, two distinct corporations. I do not
see which provision of the ITA or which legal principle would permit me to
disregard the existence of two distinct legal entities.
[55]
Therefore, I cannot
agree with such an approach.
[56]
As for the second
argument, counsel did not cite any case law that stands for the proposition
that there cannot be a sale of goods simply because the goods are unique goods manufactured
for one client.
[57]
More and more goods are
being made to order for the client. The "high end" in manufacturing
is the manufacturer who can quickly fill an order for goods intended to satisfy
a client's specific needs. It would be surprising to discover that such a manufacturer
that makes unique goods to order to meet a client's needs does not sell those
goods to that client.
[58]
The first paragraph of article 1708
of the CCQ reads as follows:
1708. Sale is a contract by which a person, the seller,
transfers ownership of property to another person, the buyer, for a price in
money which the latter obligates himself to pay.
. . .
[59]
As I wrote above, in the
present case, every time Séma ordered a piece, AFM created the piece. In
creating the piece, AFM became the owner of the piece, which it sold to Séma to
complete the contract.
[60]
All the elements of a
contract of sale are present. There is property and a transfer of the ownership
of the property from AFM to Séma. Consequently, I do not see how I could find
that the contract is not a contract of sale because of the respondent’s second
argument.
[61]
Finally, the third
argument attaches a great deal of importance to the third paragraph of article 2103
of the CCQ, which reads as follows:
2103. . . . A
contract is a contract of sale, and not a contract of enterprise or for
services, where the work or service is merely accessory to the value of the
property supplied.
Moreover, the respondent contends that, conceptually,
this situation is similar to the one in Albert v. The Queen.
[62]
In Albert, what
the dentist did was a complete process of repairing or improving a tooth:
examining the tooth, preparing the tooth, taking the necessary steps to make a
crown, making the crown, and finally installing the crown.
[63]
I agree with the Albert
decision, but the situation here is different. In Albert, the dentist
himself made the crown. To have the same situation here would require that AFM
not be a distinct legal entity from Séma.
[64]
Furthermore, one must
be very mindful of the context before applying the third paragraph of article 2103
of the CCQ.
[65]
In Albert, Justice Bédard
said:
17 Because I am of the opinion that the Appellant and his
patients had only one contract, it must now be determined whether it was a
contract of sale or a contract for services. According to Will-Kare Paving
& Contracting Ltd. v. Canada, [2000] S.C.R. 915,
2000 S.C.C. 36, it must be assumed that Parliament, in speaking of
the concept of sale in paragraph 12(9)(c) of the Act, wanted it to be
interpreted by reference to the general law of sale. In my opinion, the concept
of "sale" must be analyzed with respect to Quebec civil law when the
applicable law is Quebec’s. In
this regard, it is sufficient to consult the Federal Court of Appeal decision
in St‑Hilaire v. Canada, [2004] 4 F.C. 289 (F.C.A.) and section 8.1 of
the Interpretation Act (R.S.C. 1985, c. I-21). The relevant
provisions of the CCQ show us that in essence, we are in the presence of a
contract of sale when the work is merely accessory to the value of the
materials. In his work, author Pierre Gabriel Jobin writes the
following: [TRANSLATION] "For a sale to exist, there must be evidence that
the difference between the respective value of the labour and the materials is
so considerable that the labour is . . . perceived as [merely] an accessory".
The evidence revealed in this case that the value of the labour was always
higher than that of the materials, so it must be concluded the parties had a
contract for services, as the property was not used by the Appellant primarily
for the purpose of manufacturing or processing goods for sale or lease. As a
result, we must conclude that the property was not "qualified property"
for the purposes of the Appellant’s claim for credits for the year concerned.
[Emphasis added.]
[66]
It must be noted that
the third paragraph of article 2103 of the CCQ is found in Section II (Rights
and obligations of the parties) of Chapter VIII (Contract of enterprise or for
services) of Title Two (Nominate contracts) of Book Five (Obligations) of the
CCQ. Chapter I (Sale) of the same Title and Book has no
equivalent provision.
[67]
Justice Bédard
cites Professor Pierre‑Gabriel Jobin, who says in his book La vente at pages 6
and 7:
[translation]
4—Distinguishing from the contract of enterprise—The distinction between the sale of future property and the contract
of enterprise in which the contractor or seller provides the material and must
deliver the property once it is finished gave rise to some hesitation in the
former jurisprudence. In reforming the Civil Code, the legislature put
an end to this uncertainty. A new provision, taking up a judge's opinion
in an old case and the Vienna Convention solution (article 3), sets as
the distinguishing criterion the relative value of the work and the materials:
such contracts are now a priori considered contracts of enterprise; they
involve a sale when the work is "merely accessory" to the value of
the materials. For a sale to exist, there must therefore be evidence that the difference
between the respective value of the labour and the materials is so considerable
that the labour is perceived merely as an accessory. This solution has the merit
of clarity but completely ignores the qualitative aspect and is sometimes
unsatisfactory.
[Emphasis added. Footnotes omitted.]
[68]
This passage could be
read as supporting the proposition that there cannot be a sale if the value of the
manufacturer's work is markedly greater than the value of the materials used. I
do not believe that this is the proper way to read the passage.
[69]
Let us imagine an integrated
manufacturer that buys only low‑value raw materials and does almost all
the work to create an item of property. The value of the work in that case
greatly exceeds the value of the materials.
If the distinction between a contract of sale and a contract of enterprise or for
services is a function only of relative value, that would mean that, in such a case,
the factory is not selling property but a service.
[70]
The distinction between
a contract of sale and a contract of enterprise or for services does not simply
depend on the relative value of the materials and of the work done by the manufacturer.
[71]
I reach this conclusion
for the reasons stated below.
[72]
First, the third
paragraph of article 2103 of the CCQ is not drafted in terms of
percentages: it states that there is no contract of enterprise or for services
where the work or service is merely accessory to the value of the property
supplied. In other words, there is no contract of enterprise where there is, in
essence, a sale with accessory services.
[73]
Second, Professor Jobin
states that the legislature took up the solution from article 3 of the Vienna
Convention,
which provides as follows:
Article 3
(1) Contracts for
the supply of goods to be manufactured or produced
are to be considered sales unless the
party who orders the goods undertakes
to supply a substantial part of the
materials necessary for such manufacture
or production.
(2) This
Convention does not apply to contracts in which the
preponderant part of the obligations of
the party who furnishes the goods
consists in the supply of labour or other
services.
[74]
Paragraph 1 of article 3
indicates that a contract for the supply of goods to be manufactured is to be considered
a sale unless the client supplies a substantial part of the materials. Paragraph 2
of article 3 excludes contracts in which the preponderant part of the
obligations is to supply labour or other services.
[75]
It is clear from a
reading of paragraph 2 of article 3 that the labour and other services referred
to are not the labour or services required to create the property supplied. For
example, if the contract is a contract for the construction and installation of
a turbine, it is a contract of sale if the essential part is constructing the
turbine and the installation demands little effort. The work of constructing
the turbine is not taken into account, and the work of installing it is merely accessory.
On the other hand, if the supplier must deliver a "turnkey" hydro‑electric
dam, it would not be a contract of sale.
[76]
It is from this perspective
that the third paragraph of article 2103 of the CCQ and the distinction
between a sale and a contract of enterprise or for services must be understood.
[77]
If the essence of the
contract is manufacturing property and transferring the ownership of that property
to the client, it is a contract of sale. The work or the service referred to in
the third paragraph of article 2103 does not include a manufacturer's work
to create property that it supplies to its client.
[78]
As a result, I cannot
agree with the respondent’s third argument.
[79]
AFM sold the steel pieces
to Séma.
[80]
The appeal will be
allowed with costs, and the matter will be referred back to the Minister for
reconsideration and reassessment on the basis that
(a) the five pieces of
equipment at issue are "qualified property" and that AFM is entitled
to claim the investment tax credit for this equipment;
(b) the aforesaid
equipment falls within class 43.
Signed at Ottawa, Ontario, this
15th day of July 2011.
"Gaston Jorré"
Translation certified true
on this 26th day of October 2011.
Erich Klein, Revisor
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