Collier, J.:—This appeal, and another one by the same plaintiff, from an assessment of income tax by the Minister of National Revenue for the years 1982 and 1983, were heard in conjunction with four other appeals. The other appeals were by related companies, Foothills Pipe Lines (South Yukon) Ltd., and Foothills Pipe Lines (North B.C.) Ltd. The issues are the same. These reasons for judgment will apply in the other two actions.
In 1968, there was a huge discovery of natural gas in the Prudhoe Bay area of - Alaska. Following the discovery, there were a number of groups in Canada who competed for rights to bring natural gas through Canada for ultimate distribution in the U.S.A. It is not necessary to go into that history in detail. I shall refer to the whole project as the Alaska Highway Gas Pipeline Project.
In 1976, the plaintiff company ("Yukon") was incorporated. The shares are held equally by Westcoast Transmission Company Ltd. ("Westcoast") and Nova, An Alberta Corporation, ("Nova"), two well known Canadian companies. The purpose was to propose an overall project to bring the Alaska gas through Canada to the states below the 49th parallel. Other companies were formed, to comprise what I shall refer to as the Foothills Group.
In 1977, Canada and the United States signed an agreement in respect of the overall project of transporting the Prudhoe Bay gas south. In 1978, Parliament passed the Northern Pipeline Act (S.C. 1977-78, c. 20). The Act provided for the construction of the proposed pipeline to be built on Canadian soil. The Northern Pipeline Agency was established to oversee the construction. Different segments of the pipeline would be owned and operated by different companies. Certificates of public convenience were declared to be issued to companies in the Foothills Group for the construction of the individual segments:
(a) Foothills Pipe Lines (South Yukon) Ltd. from Beaver Creek to Watson Lake in Yukon Territory. The shares of this company, are owned by Yukon. (b) Foothills Pipe Lines (North B.C.) Ltd. for the portion running through northern B.C. between Yukon and Alberta. The shares of this company are held by Yukon (51 per cent) and 49 per cent by Westcoast.
(c) Foothills Pipe Lines (Alta.) Ltd. for the three segments running through Alberta. This company is not involved in these appeals.
(d) Foothills Pipe Lines (South B.C.) Ltd. for the segment running from Coleman, Alberta to Kingsgate, British Columbia. This company is not involved in this tax assessment.
(e) Foothills Pipe Lines (Sask.) Ltd. for a portion running through Saskatchewan to the international border. Again, this company is not involved in the present appeals.
All these segments and routes are shown on Exhibit 30. The completed facilities are to be owned by the four companies named in paragraphs (a) to (e) above. It is not necessary to set out the shareholdings in the companies set out in paragraphs (c), (d) and (e). Yukon, the parent company of each, and its staff, carry out administrative functions of the subsidiaries. Yukon does not own, nor is it intended to own, any actual pipeline.
Construction of some portions of the proposed pipeline commenced in 1980 and were completed by 1982. These were as follows:
Caroline to Empress — the Alberta eastern leg
Caroline to Coleman — the Alberta western leg
Coleman to Kingsgate —— the South B.C. segment
Empress to Monchy — the Saskatchewan segment
None of the other portions of the line, including the portion in Alaska, have yet been built.
The southern portions were built first so that Alberta natural gas could be transported to the United States. If, and when, the whole project is completed, additional facilities will have to be added to the segments constructed, in order to carry the Alaska gas.
In these appeals, those portions of the project that have been built, and are operating gas transportation service, were referred to as "pre-build" and also as “Phase I” (interchangeably).
Phase II, or the “mainline”, is the portion still unbuilt.
The original objectives were that Phase II would be completed right after Phase I and go into service in 1985. But in 1982, Phase I was put on hold for various reasons. The demand for gas in the United States had diminished; interest rates were very high, inflation was a serious factor. The companies and sponsors involved, both in Canada and the United States, decided to delay completion of the line until 1989.
Expenses had been incurred by the Foothills companies in respect of the studies, submissions, planning and design of the whole pipeline project. Some of these expenses did not relate to the costs of the pre-build sections. They were not included in the rate base for those portions, as earlier recounted, and operated in Alberta and B.C.: Caroline to Coleman and Empress, and Coleman to Kingsgate.
The National Energy Board had approved all those costs. The Board also approved the rate base charges to shippers using those segments for transportation of the Alberta natural gas.
The expenses, which did not relate specifically to the Phase I or pre-build, amounted to approximately 192 million dollars. They had been approved by the Board. They were allocated to the various Foothills companies as follows:
|North B.C.||14,697 ,000|
Those costs were sometimes referred to as the “Mainline Preliminary Expenditures".
Because of these expenses, and the postponement of the completion of the main line, Yukon made an application to the National Energy Board. It was this application and the resulting order of the Board that gave rise to the tax issue before the Court. Bruce Simpson is an officer and director of the appellant companies. He was, at the relevant times, a vice-president of those companies. He summarized the purpose of the application as follows:
Q Why did Foothills make the application enumerated in paragraph 8K, which
A Well, basically, we had gone on and we had incurred this 200 million dollars of
Phase II preliminary expenditures, and the project was further delayed. And the position that we took was that without Foothills and its sponsors having made these expenditures, there would be no pre-build project. And we thought it was appropriate that our shippers on the pre-build project bear some share in the burden of having to carry these expenditures, and we were applying to have these amounts included in revenue.
Q You have said, used the word “unique”. How was this application unique? A It was unique in the sense that we didn't apply to have this rate, this amount
included in rate base. It was also unique in the sense that we didn't apply for what would be considered a normal cost of service recovery on the expenditures. And by that, in the normal cost of service type recovery, you are, you can incorporate the, an allowance for income taxes that would be paid in respect of the profit component or of the collection.
And the basis of the application was that we felt there would be a sharing of the burden and, as such, we did not apply for the gross up or the collection of income taxes in respect of these collections.
The key portion of the formal application to the Board was put in the following terms:
8(k) to approve for inclusion in the cost of service for Phase I commencing September 1982 of an amount for amortization of, and return on, expenditures which have previously been approved by the Board for inclusion in rate base being the pre-permit costs and allocated Zones 1 to 5 costs.
(1) to approve an amendment to the Applicant's Phase I Tariff to provide for the inclusion in its cost of service of the amounts referred to in subparagraph (k).
Zones 1 and 2 are the portions of the line to run from the Alaska-Yukon border to the Yukon-B.C. border, as earlier stated, to be owned by South Yukon. Zones 3 and 4 are the portions of the line running through B.C., to be owned by North B.C. Zone 5 is the portion of the line running from the B.C.- Alberta border to Caroline, Alta, to be owned by Alta.
On August 12, 1982, the Board issued Order No. TG-4-82, and accompanying reasons for decision. The Board authorized what was referred to throughout these proceedings as a Special Charge, which Yukon could include in the rates for transportation services provided to shippers making use of zones 6 to 9. Those were the pre-build or Phase I portions, earlier described, from Caroline to Kingsgate and Caroline to Monchy, Saskatchewan. The Board used the expression “Special Charge" in paragraph 3(1)(i) of its order.
The moneys received by the three companies before the Court are the amounts assessed by the Minister as income. The amounts involved are as follows:
|South Yukon||2,465 ,000||7,238,000|
The plaintiffs assert they are not income, or should not be included as income. There are alternative arguments by the plaintiffs.
The actual words used in the Board's order, and its reasons for decision, are important for determination of the tax issue. It is necessary, therefore, to set out, in full, the relevant portions. I quote, first, from the order:
8. Upon filing in a manner satisfactory to the Board, the items indicated in paragraph 3, subsections (g) and (j) to (1)(i) inclusive, Foothills (Yukon) may include in the prebuild cost of service for zones 6 through 9, amounts related to the amortization of and return on the mainline preliminary expenditures up to 31 December 1981. Such amounts are not to exceed four percent for amortization of the amount approved by the Board, plus 16.0 percent of the unamortized balance of the same amount. Furthermore, the provision for income taxes collected in the prebuild cost of service is not to increase as a result of inclusion of these amounts related to the mainline preliminary expenditures, regardless of the method of establishing the income tax provision (i.e., the normalized or flow-through method). Amortization of and return on the mainline preliminary expenditures is to cease on 1 November 1988, unless otherwise approved by the Board.
(g) In respect of amounts approved for recovery in the Cost of Service under the Phase I Tariff arising from the mainline preliminary expenditures, details specifying and illustrating how the amount to be amortized and the revenue generated therefrom will be accounted for on the books of Foothills (Yukon) and its subsidiaries:
I shall refer to that paragraph later:
3(k) A letter of commitment to the Canadian Government indicating that a repayment of amounts received under the Phase I Tariff in respect of the mainline preliminary expenditures will be refunded to the Alberta producers when Alaskan gas flows through the Foothills (Yukon) system;
I now quote from the reasons for decision (Exhibit 5) at page 27:
Having considered the evidence and arguments, the Board concludes that the prebuild tariff should include some charges with respect to the preliminary expenditures. This conclusion recognizes that, although a part of the burden associated with these expenditures will be borne by the Alberta producers in the short run, there is the expectation that they will be reimbursed in the long run once the mainline proceeds.
and from page 30:
The Board requires that all references to the charge in the Tariff shall be designated the “Special Charge — Phase II Preliminary Expenditures". In respect of the method of allocating this “Special Charge" (the amortization and return on preliminary expenditures) to zones, the Board accepts the Company's proposal of allocating the costs on the basis of volume/distance.
In approving these charges for inclusion in the prebuild cost of service at this time, the Board requires provision to be made that when the mainline commences operation the Alberta producers of natural gas will be compensated with interest for having been required to absorb these charges. To this end, the Board plans to amend the special regulations in respect of depreciation charges in excess of four percent, which are currently in preparation, to provide for such compensation. However, in the meantime, the Board believes that before any amounts related to the mainline preliminary expenditures are included in the prebuild tariff, a commitment from the Company undertaking to effect the repayment to the producers should be provided to the Government of Canada. Accordingly, the Board will only approve the subject tariff revision upon being satisfied that the appropriate written commitment and the appropriate tariff amendments have been made. In addition, the Company is required to file with the Board for its approval, details specifying and illustrating how the amount to be amortized and the revenue generated therefrom will be accounted for on the books of Foothills (Yukon) and its subsidiaries.
Yukon gave the undertaking to repay the Special Charges (Exhibit 33) and filed documents on how the charge would be accounted for in its books and those of the subsidiaries. In respect of the accounting details, Yukon initially proposed to show the Special Charge funds as revenue. But, subsequently, Yukon reconsidered the matter. On accounting advice, the charge was shown as a deferred liability. The Board gave approval to that method (see Exhibits 6A, 6B, 7 and 9).
I shall now set out subsection 9(1) of the Income Tax Act:
9. (1) Subject to this Part, a taxpayer's income for a taxation year from a business or property is his profit therefrom for the year.
In support of its contention that the Special Charge ought not to be included in “profit” (income), the plaintiff called two expert witnesses.
The first was Mr. Henry Laurie, an experienced chartered accountant, with the well-known firm of Price Waterhouse. He expressed the opinion the Special Charge was not revenue and would not be so treated under generally accepted accounting principles (“GAAP”). He said the Special Charge could not be revenue, because the amounts are to be repaid when the mainline commences operation; this is a liability, not revenue; nor is it a contingent liability; further, on the facts here, "no services were rendered, nor goods sold which is required for a receipt to be revenue".
The second expert witness was Mr. Keith Boocock, a senior partner of the well-known firm of Touche Ross. He expressed views similar to those of Mr. Laurie. He said the N.E.B. had required repayment of the Special Charge; this clearly established a liability on the companies; there appeared to have been no services rendered for the receipt of the Special Charge. He further testified it would not, in accordance with GAAP, be included in income. Nor could it, in his opinion, be said to be a contingent liability.
The defendant called an expert witness, Denham J. Kelsey, also a chartered accountant. At the time of his retirement in 1982, he was the senior partner in the British Columbia firm of Thorne Riddell, a predecessor firm of Thorne, Ernst & Whinney. Again, those are well-known firms.
He summarized his opinion as follows:
I believe setting up the special charges as long-term liabilities on the balance sheets of Foothills in 1982 and 1983 is in accordance with generally accepted accounting principles.
It is my opinion that it would also be in accordance with generally accepted accounting principles to take the special charges into revenue, describing the surrounding circumstances in a note to the financial statements.
I believe that the alternative of taking the special charges into revenue is preferable.
He then went on to give reasons.
I turn now to the plaintiff's submissions.
The plaintiff says the order and reasons for decision of the National Energy Board, in authorizing the Special Charge, imposed three conditions on the companies:
(a) a commitment to the government of Canada to repay the amounts collected, with interest, when the mainline is completed.
(b) filing with the Board details as to how the Special Charge will be accounted for.
(c) revising the tariffs to incorporate a provision for recovery of the Special Charge.
The plaintiff submits the conditions have been met. I agree. The uncontradicted evidence supports that conclusion.
The plaintiff summarized its case as follows:
In summary the Plaintiff's case is this. The Board decreed that the Special Charge be repaid when the mainline is completed. That Order of the Board creates an obligation. If the mainline is completed repayment will be made. If the mainline does not proceed, before the Plaintiff can retain the Special Charge the Board must permit it to do so. It is speculation what the Board would decide in that event. However, until the Board decides differently the Special Charge is a debt and not income.
The defendant's position is based on the evidence of Mr. Kelsey and on what is submitted to be a proper interpretation of the Board's order and reasons. I shall endeavour to summarize it briefly as follows: The companies have unrestricted use of the Special Charge revenue as it is received; until the Board otherwise orders repayment, or until the mainline (Phase II) commences operation, the funds are not repayable; those matters are uncertain, and may never occur. Counsel submitted there is no presently existing liability to repay in the taxation years in issue; the liability only arises when the mainline commences operation.
I do not agree with the defendant's submissions. I accept the plaintiff's submissions.
In so doing, I subscribe to the opinions of Mr. Laurie and Mr. Boocock. I do not accept Mr. Kelsey's proposition that the Special Charge should be included in income. All three experts agree the plaintiff's treatment (not to include it in income) is in accordance with GAAP. Mr. Laurie and Mr. Boocock both say the liability is an existing one, not one which may, or may not, arise in the future. I do not accept Mr. Kelsey's view, based on his interpretation of the order and reasons and what may, or may not, actually happen in the future, that the liability is only a contingent one. I found Mr. Kelsey, in cross-examination, to be somewhat of an advocate, rather than dispassionate.
To my mind, the order and reasons of the Board are quite clear. The Special Charge, in the plain meaning of the language used, must be repaid. The Board has also laid down the time for repayment. The words used are:
II . . when Alaskan gas flows . . .” (para 3(k) of the Decision)
II . . once the mainline proceeds . . .” (Reasons for Decision p. 27)
. . when the mainline commences operation . . .” (Reasons for Decision, p.30)
The defendant's interpretation was that the repayment provision will only come into play if the mainline project proceeds. It is not, in my view, correct to say that what is contemplated here is that the liability is a latent one, which may never arise, if say, the mainline project never proceeds. Mr. Kelsey felt it crucial to keep in mind the mainline [may] never go ahead. That possibility, as I see it, is neither relevant nor proper, in determining whether the Special Charge is income. I do not accept Mr. Kelsey's view, nor the submissions, on behalf of the defendant.
I agree with the plaintiff's contention: if, for some reason, the remaining project does not go ahead, the plaintiff is not automatically entitled to keep the Special Charge; that will be a matter for the Board to deal with.
I conclude the proper treatment of the Special Charge, is not to include it in income (subsection 9(1)) of the Income Tax Act. In coming to this conclusion, I have not found it necessary to refer to the decisions cited by both parties. That does not mean I have not considered them.
Counsel for the defendant also relied on paragraphs 12(1)(a) and (b) and subsection 12(2) of the Income Tax Act. Those paragraphs and the subsection are as follows:
12. (1) There shall be included in computing the income of a taxpayer for a taxation year as income from a business or property such of the following amounts as are applicable:
(a) any amount received by the taxpayer in the year in the course of a business
(i) that is on account of services not rendered or goods not delivered before the end of the year or that, for any other reason, may be regarded as not having been earned in the year or a previous year, or
(ii) under an arrangement or understanding that it is repayable in whole or in part on the return or resale to the taxpayer of articles in or by means of which goods were delivered to a customer;
(b) any amount receivable by the taxpayer in respect of property sold or services rendered in the course of a business in the year, notwithstanding that the amount or any part thereof is not due until a subsequent year, unless the method adopted by the taxpayer for computing income from the business and accepted for the purpose of this Part does not require him to include any amount receivable in computing his income for a taxation year unless it has been received in the year, and for the purposes of this paragraph, an amount shall be deemed to have become receivable in respect of services rendered in the course of a business on the day that is the earlier of
(i) the day upon which the account in respect of the services was rendered, and
(ii) the day upon which the account in respect of those services would have been rendered had there been no undue delay in rendering the account in respect of the services;
12. (2) Paragraphs (1)(a) and (b) are enacted for greater certainty and shall not be construed as implying that any amount not referred to therein is not to be included in computing income from a business for a taxation year whether it is received or receivable in the year or not.
The statutory provisions relied upon have, in my opinion, no relevance on the facts here. These three companies did not receive these amounts as part of their earning process. None of them, on the evidence here, were, or are now, rendering any service to the Alberta shippers or producers who have shipped Alberta gas.
The plaintiff's action succeeds. The re-assessments of the Minister, in respect of all three companies, are referred back to the Minister for re- assessment on the basis the Special Charge amounts are to be excluded from income. The plaintiff is entitled to its costs of their action.
As I indicated at the outset, these reasons will apply in the other actions: T-1154-87 through T-1158-87. There were separate actions by each company for the 1982 taxation year, and the 1983 taxation year.
In respect of costs in the other actions, the plaintiffs are entitled to costs up to examination for discovery. After that, there will only be one set of costs, taxable and payable in this action.
I shall prepare draft judgments and send them to counsel for their comments.