Citation: 2009 TCC 239
Date: 20090515
Docket: 2003-3783(IT)G
BETWEEN:
WABUSH IRON COMPANY LIMITED,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
REASONS FOR JUDGMENT
Paris, J.
[1]
This is an appeal from
reassessments of the Appellant's 1993 to 1998 taxation years.
[2]
The Appellant is a member of a
joint venture known as Wabush Mines, which operates an iron ore mine and
concentrator in Wabush, Labrador and a processing facility in Pointe Noire, Québec
where the iron ore concentrate is made into iron pellets.
[3]
Under the Joint Venture Agreement,
the Appellant received its proportionate share of the iron pellets that were
produced. In turn, the Appellant sold those pellets to its own shareholders.
Issues
[4]
The first issue in this appeal is the price the
shareholders paid the Appellant for the pellets. This turns on the
interpretation of an Agreement entered into between the Appellant and its
shareholders entitled the “Pellet Sales Agreement”. According to that Agreement,
the price of the pellets was set at the greater of fair market value or the
cost of producing the pellets.
[5]
From 1991 to 1994, the cost of
production of the pellets exceeded their fair market value, and the
shareholders therefore paid amounts to the Appellant in excess of the fair
market value of the pellets. In filing its tax returns for 1991 to 1994, the
Appellant reported its income on the basis that the price it received from its
shareholders for the pellets was the fair market value of the pellets, and that
the amounts paid by the shareholders in excess of the fair market value were
contributions of capital that were not required to be included in its income. The Appellant says that the excess was a
contribution of capital by the shareholders to the Appellant to cover the
Appellant’s share of the operating costs of the joint venture.
[6]
The Minister reassessed the
Appellant on the basis that all of the amounts paid by the shareholders under
the Pellet Sales Agreement were consideration for the pellets and were required
to be included in its income. The Minister therefore reassessed the Appellant
to increase its income from business by the following amounts:
1991 - $12,449,256
1992 - $10,307,919
1993 - $3,768,693
1994 - $1,549,296
[7]
The Appellant is appealing the
reassessments of its 1993 and 1994 taxation years on the basis that the excess
of the payments from its shareholders over the fair market value of the pellets
was not income.
[8]
The second issue arises because
the reassessments of the Appellant’s 1991 and 1992 taxation years were nil
assessments. At the time the reassessments were issued, the Appellant
requested, and the Minister allowed, additional capital cost allowance (CCA)
deductions in 1991 and 1992 in order to offset the increase in business
income. The increased CCA deductions resulted in no tax being payable by the
Appellant for those years.
[9]
The Appellant now takes the
position that it correctly reported its revenue from pellet sales on its
original returns and, although it cannot appeal the reassessments of its 1991
and 1992 taxation years, it is seeking to dispute the inclusion of the
additional pellet sales revenue in its income in those years by appealing
reassessments of its 1996 and 1997 taxation years. It says that the deductions
of CCA it claimed in 1991 and 1992 to offset the increase to the pellet sales
revenue should be reversed, resulting in an increase of $22,757,175 to its
opening cumulative undepreciated capital cost balance for 1996 and 1997.
[10]
At the hearing, the Court was
advised that an unrelated issue pertaining to the 1994 taxation year had been
settled and that the Respondent was consenting to a reduction of $6,279,378 to
the Appellant’s income for that year. The Appellant’s counsel also withdrew the
issues it had raised in respect of the 1995 and 1998 taxations years, with the
result that only the reassessments for the 1993, 1994, 1996 and 1997 taxation
years remain in dispute.
Facts
[11]
The background to the development
of Wabush Mines was related to the Court by Mr. Leo Kipfstuhl, a retired
executive of Cleveland-Cliff Inc., the parent company of Cliff Mining. Cliff
Mining is a shareholder of the Appellant, and is the managing agent of Wabush
Mines.
[12]
The original shareholders of the
Appellant were Pickands Mather and Company, the original managing agent of the
joint venture, and five large integrated steel companies: Acme Steel Company,
Inland Steel Company, LTV Steel Company, Pittsburgh Wheeling Steel Company and Societa
Finanziaria Siderurgica Finsider per Azioni. Pickands Mather was purchased by
Cleveland‑Cliff in 1987 and renamed Cliff Mining.
[13]
Wabush Mines is an unincorporated
joint venture between the Appellant, The Steel Company of Canada Ltd.
(“Stelco”) and Dominion Foundries and Steel Ltd. (“Dofasco”). The
joint venture was started in the early 1960s to develop large iron ore deposits
in the Wabush Lake area of Labrador. Along with Stelco and Dofasco, the shareholders of
the Appellant were interested in securing long-term supplies of iron at a
reasonable cost. Large amounts of capital were needed to build the mine,
concentrator, pelletizing facility and related infrastructure, and the parties
chose to carry on the operation as a joint venture in order to spread the risk
related to the project.
[14]
The most recent Wabush Mines Joint
Venture Agreement, and the one which is relevant to these proceedings, was
entered into on January 1, 1967.
[15]
A number of other agreements were
entered into concurrently with the Joint Venture Agreement, including: the
Wabush Mines Participants Agreement, the Wabush Mines Pellet Sales Agreement,
the Wabush Mines General Provisions Agreement, and a First Mortgage and
Collateral Trust Deed.
[16]
Pursuant to the Joint Venture
Agreement, Wabush Mines was to be operated on behalf of the joint venturers by
the managing agent. The joint venturers were each required to pay their share
of the expenses and were each entitled to a proportionate share of the pellets
that were produced and to any income derived from the operation.
[17]
The joint venturers were liable
for the expenses of constructing, developing and operating Wabush Mines as well
as investments in subsidiaries connected with it. These expenses are detailed
in Articles IV and V of the Joint Venture Agreement. The operating expenses
included all costs associated with the Wabush Mines, including any
incidental costs, such as royalties to third parties, taxes, rent, and
insurance. The construction and investment disbursements included all costs
associated with the acquisition, development and construction of the Wabush
Mines, the cost of all replacement property acquired in connection with the
Wabush Mines and certain advance minimum royalty payments, as well as required
investments in project subsidiaries or parties connected with the Wabush Mines.
[18]
In order to finance its interest
in the joint venture, the Appellant issued $138 million of bonds to
institutional investors. It sold $112 million of Series A bonds in 1962 and
$26 million of Series B bonds in 1964. The Royal Trust Company acted as trustee
for the bondholders. Both series of bonds matured in 1991.
[19]
To secure the payment of the
principal and interest on the bonds, the Appellant granted Royal Trust, in its capacity as trustee for the
bondholders, a mortgage and floating
charge over all of its property
including its 58% undivided interest in the joint venture assets. This Agreement was entitled “First Mortgage
and Collateral Trust Deed and Trust Deed of Hypothec, Mortgage and Pledge”.
[20]
Royal Trust was also made a party
to the Joint Venture Agreement in order to protect its security interest in the
Appellant’s interest in the Joint Venture. The rights and powers of the
Trustee under the Joint Venture Agreement were to terminate when the bonds were
repaid.
[21]
Pursuant to the Pellet Sales
Agreement, the Appellant sold its share of the pellets produced by the Wabush
Mines to its shareholders, in proportion to their shareholding in the
Appellant. The Pellet Sales Agreement set out, among other things, the Appellant's
obligation to sell to the shareholders, and the shareholders’ obligation to
purchase, their share of the pellets produced by the joint venture, and the
means of calculating the purchase price of the pellets.
[22]
Section 3 of the Pellet Sales
Agreement, required that each shareholder pay the Appellant each year, as the
purchase price of pellets sold to it, an amount equal to the greater of i) the
fair market value of pellets sold to the shareholder in the year, or ii) its
share of the “Wabush Iron Costs” for the year. The relevant portion of section
3 reads as follows:
3. Purchase
Price of Pellets and Payments Thereof by Wabush Iron Stockholders. Each
Wabush Iron Stockholder hereby agrees, severally and not jointly or jointly and
severally, to pay in each year as the purchase price of Pellets sold to it
hereunder an amount equal to the greater in such year of (i) the Fair Market
Value of Pellets sold to such Wabush Iron Stockholder in such year (which Fair
Market Value shall be determined at the time of the sale thereof except that if
the Fair Market Value of Pellets shall change during any year, the amounts
thereafter payable under this clause (i) shall be adjusted so that the amounts
payable under this clause (i) during such year by each Wabush Iron Stockholder shall
be the average Fair Market Value during such year weighted according to the
deliveries of Pellets by Wabush Iron to all Wabush Iron Stockholders during
each period during which a different Fair Market Value shall prevail) and (ii)
such Wabush Iron Stockholder’s Basic Proportion of the Wabush Iron Costs for
such year (the obligation of such Wabush Iron Stockholder to pay the amounts
payable under this clause (ii) being, subject to the third paragraph of this
Section 3, unaffected by any failure to produce or deliver Pellets during such
year);
[23]
The Wabush Iron Costs were all of
the costs that the Appellant incurred in relation to the joint venture,
calculated in accordance with generally accepted accounting principles and
excluding any amounts chargeable to capital accounts, except for interest on
the bonds.
[24]
Wabush Iron Costs were defined at
page 42 of the General Provisions Agreement to include:
-all amounts
payable by the Appellant pursuant to the joint venture agreement for operating
expenses
-all costs of
the Appellant for construction disbursements under the joint venture agreement
-provision for
depreciation and depletion in each month equal to the aggregate of 1/12 of the annual sinking fund payment in respect of the
Series A and Series B bonds
-all interest,
commitment fees and finance charges including interest and fees in respect of
the bonds, and
-all other
costs, expenses, liabilities and charges of the Appellant in respect of the
joint venture.
[25]
Section 3 of the Pellet Sales Agreement
also provided that, in the event that the Appellant failed to produce or
deliver pellets during the year to the shareholders, the shareholders were
still obliged to pay their proportionate share of the Wabush Iron Costs for the
year. Mr. Kipfstuhl said that there was never any year in which the joint
venture did not produce any pellets.
[26]
Under section 4 of the Pellet
Sales Agreement, shareholders were liable to make payments of principal and
interest on the bonds if the Appellant failed to do so at any time. Any
payments made by the shareholders under section 4 could be deducted from
payments they were required to make to the Appellant under section 3. According
to the evidence, the shareholders were never required to make any payments
under section 4.
[27]
Section 15 of the Pellet Sales
Agreement provided that the Agreement would terminate only upon the repayment
of all of the indebtedness represented by the bonds.
[28]
Mr. Kipfstuhl said that the
Pellet Sales Agreement ensured that the Appellant would have enough funding
from its shareholders to meet its obligations under the Joint Venture Agreement
and was designed to protect the other joint venturers, Stelco and Dofasco, as
well as Royal Trust. He said that the bondholders looked to the Pellet Sales
Agreement to provide security for the repayment of the bonds.
[29]
The Participants Agreement was
entered into by the shareholders of the Appellant along with Stelco and
Dofasco. Among other things, in Article V of the Agreement, the Appellant’s
shareholders agreed to purchase their respective proportionate shares of the
Appellant’s share of the pellets produced by the joint venture, and at a price
equal to the greater of fair market value and the shareholders’ respective share
of the Wabush Iron Costs. Mr. Kipfstuhl said that this term was included in the
Participants Agreement as a means of obligating the Appellant’s shareholders to
Stelco and Dofasco to provide the Appellant with enough money to pay its share
of the operating expenses.
[30]
The General Provisions
Agreement set out the definitions of terms found in the Joint Venture Agreement,
the Participants Agreement, the Pellet Sales Agreement and other related
documents, provided for the arbitration of disputes under the agreements,
placed restrictions on the transfer and encumbering of interests in the Joint
Venture, and dealt with the rights and powers of the trustee, Royal Trust.
[31]
For each of the years from 1991 to
1994, the Wabush Iron Costs incurred by the Appellant were greater than the
fair market value of the pellets that it sold to its shareholders and, pursuant
to the Pellet Sales Agreement, the Appellant’s shareholders paid the Appellant
aggregate amounts equal to the Wabush Iron Costs.
[32]
In its financial statements
prepared for the years ending December 31, 1991 to 1994 inclusive, the
Appellant recorded all of the amounts received from its shareholders under the
Pellet Sales Agreement as revenue from the sale of pellets. For tax purposes,
the Appellant reduced its income shown in its financial statements on the basis
that the price it received for the pellets was the fair market value of the
pellets, rather than the amounts it received under the Pellet Sales Agreement.
This adjustment was done each year on Schedule T2 S1 filed with its returns,
and reduced sales revenue and income by the following amounts:
1991 -
$12,449,256
1992 -
$10,307,919
1993 -
$3,768,693
1994 -
$1,549,296
[33]
Mr. Kipfstuhl said that recording
the amounts received by the Appellant under the Pellet Sales Agreement as
revenue on the financial statements rather than as advances from the
shareholders did not affect the bottom line of the financial statements. If the
amounts had been shown as advances from the shareholders rather than revenue,
the closing balance for the Appellant’s liabilities and equity on the balance
sheet would not have changed. He said that the method of reporting had been
used for many years by the Appellant and was appropriate, given that the only
parties who relied on the financial statements were the shareholders and
bondholders. Mr. Kipfstuhl also pointed out that the auditor’s cover letter to
the financial statements for 1991 to 1994 included the caution that, since 100%
of the Appellant’s share of the production from Wabush Mines was sold to its
shareholders, “it is possible that the terms of these sales transactions are
not the same as those which would result from transactions among wholly
unrelated parties.”
[34]
In Mr. Kipfstuhl’s
view, the amounts received by the Appellant from its shareholders under the
Pellet Sales Agreement were in part consideration for the pellets and in part a
contribution of capital by the shareholders to the Appellant to cover the
Appellant’s share of the operating costs of the joint venture. Mr. Kipfstuhl said that in addition to dealing with
the sale of pellets to the shareholders, the Pellet Sales Agreement was
intended to provide additional security to the bondholders because of the
special nature and remote location of the Appellant’s assets. He said that the
Pellet Sales Agreement protected the bondholders and the other Wabush Mines
joint venturers by ensuring that Appellant would always have enough money to
meet its obligations under the Joint Venture Agreement and in respect of the
bonds. He said that the fact that Royal Trust was made a party to the Pellet
Sales Agreement was evidence that it was intended as security for the
bondholders.
[35]
Mr. Kipfsthul also made reference
to the bankruptcy of two of the Appellant’s shareholders and the effects that
had on the operation of the joint venture. LTV and Wheeling Pittsburg went
bankrupt in 1985 and 1986, and stopped making payments to the Appellant. The
joint venturers agreed to continue the operations of Wabush Mines, Stelco and
Dofasco and the Appellant’s shareholders took over the bankrupts’ share of
production and operating costs, exclusive of the bankrupts’ share of the bond
costs.
[36]
The relative interests of the
Appellant, Stelco and Dofasco in the joint venture were adjusted in consequence
of the bankruptcies, and the shareholdings of LTV and Wheeling Pittsburgh in
the Appellant were transferred to the other shareholders in 1994. Proceeds
received by the Appellant from the settlement of the bankruptcies were used to
retire, in part, the bonds. Also, apparently as a result of the restructuring
due to the bankruptcies, the bonds were not fully repaid until 2000.
[37]
The evidence also showed that in
2000, 2001 and 2002, the shareholders of the Appellant paid the Appellant
amounts in excess of the fair market value of the pellets they acquired from
the Appellant. On its financial statements, the Appellant included the full
amount in its income, while for tax purposes the Appellant reported the sales
of the pellets at fair market value.
Appellant’s position
[38]
The Appellant takes the position
that upon a proper construction of the Pellet Sales Agreement, the price paid
by the shareholders for the pellets was the fair market value of the pellets,
and the amounts that they paid in excess of the fair market value in 1991,
1992, 1993 and 1994 were advances of capital to finance the Appellant’s share
of the joint venture operations.
[39]
In the Appellant’s view, the
objective of the Pellet Sales Agreement was to provide the Appellant with a
secure stream of income from the shareholders for the payment of its share of
the costs of the joint venture and for the payment of its obligations
respecting the bonds and that this Agreement was required by the Lenders.
[40]
Although the payments were
referred to in the Pellet Sales Agreement as being on account of the purchase
price of the pellets, counsel said that this wording did not reflect the true
legal nature of the payments. In such a case, the terms used by the parties to
describe the payments cannot override the legal character and effect of the
payments. In support of this position, counsel referred to the case of Dominion
Taxicab Assn. v. M.N.R., 54 DTC 1020 (S.C.C.).
[41]
Counsel submitted that the
parties’ intention regarding the payments made by the shareholders to the
Appellant must be considered in the context of all of the agreements relating
to the joint venture entered into by all of the parties, including the
Trustee. Their intention was to ensure funding for the joint venture and to
ensure that the Appellant had the ability to pay the obligations in respect of
the bonds issued to the institutional investors. This was done by including the
Appellant’s obligations with respect to the bonds in the Wabush Iron Costs for
which the shareholders were liable under the Pellet Sales Agreement. This
indicates an intention to make advances of capital to the Appellant to the
extent that the Wabush Iron Costs exceeded the fair market value of the
pellets.
[42]
In addition it was submitted that
the requirement in the Pellet Sales Agreement that the shareholders pay their
respective share of the Wabush Iron Costs even if no pellets were produced
conflicts with the notion that the Agreement was a contract for the sale of the
pellets. Counsel said that the drafters of the Agreement could not have intended
the payment provision in the Agreement to simply set a purchase price for the
pellets since the obligation to make payments to the Appellant existed even in
the event that no pellets were produced. He said that the primary purpose of
the Pellet Sales Agreement was to provide for the funding of the Appellant’s
interest in the joint venture.
[43]
Furthermore, he argued that the
rights given the Trustee under the Pellet Sales Agreement are inconsistent with
the characterization of the agreement contract for the sale of pellets. Section 7
of the Agreement provides that the obligations in the Agreement were entered
into in order to induce the bondholders to purchase the bonds and that every
obligation of the shareholders and the Appellant under the Agreement were also
obligations to the Trustee. The Agreement could not be terminated until the
bonds were fully repaid. Therefore the parties intended the Agreement to be a
means of financing the Appellant and its share of the joint venture operations
rather than as a contract for the sale of pellets. The Agreement guaranteed
that the shareholders would be responsible for meeting the Appellant’s costs
regardless of the fair market value of the pellets or even whether any pellets
were produced.
[44]
The Appellant says the fact that
when the two shareholders of the Appellant went bankrupt, the solvent
shareholders assumed the bankrupts’ share of the Appellant’s Wabush Iron Costs
is consistent with its interpretation of the Pellet Sales Agreement. This
conduct shows that the Appellant and its shareholders were acting in concert to
ensure that the Appellant had sufficient funds to pay its share of the
operating costs of the joint venture.
[45]
Counsel also pointed out that the
purchase price of the pellets would be reduced if shareholders paid any
principal or interest on the bonds directly to the bondholders under
section 4 of the Agreement.
[46]
Counsel said that the treatment of
the receipts as revenue in its financial statements was not determinative
because the legal character of the payments was a question of law. In
any event, the amounts were recorded in the advance accounts of the
shareholders and did not affect the bottom line of the financial statements.
[47]
With respect to the issue of
whether the Appellant could challenge the 1991 and 1992 reassessments, counsel
said it was open to the Appellant to seek relief from those reassessments in
years in which the adjustments made for 1991 and 1992 had an impact on the
Appellant’s taxable income, in order to correct what he called “overclaims” of
CCA. He said that the Court had the power to order the Minister to revise the
opening UCC balance in years that were not statute barred. Counsel relied on
the decisions of the Federal Court of Appeal in Clibetre Exploration Ltd. v.
The Queen, 2003 FCA 16 and the decision of this Court in Aallcann
Wood Suppliers Inc. v. The Queen,
94 DTC 1475. He also referred to the administrative policy of the
CRA set out in Information Circular IC84-1 dealing with revision of CCA claims.
Paragraph 10 of the Circular states:
Revisions
requested in non-taxable years
10. Where a taxpayer requests a revision of capital cost allowance
claimed in a taxation year for which a notification that no tax is payable had
been issued. . ., such request will be allowed provided there is no change in
the tax payable for the year or any other year filed, including one that is
statute barred, for which the time has expired for filing a notice of
objection. . .
Respondent’s position
[48]
The Respondent contends that the
amount received by the Appellant each year from its shareholders under
section 3 of the Pellet Sales Agreement was the price of the pellets, and
that the Appellant transferred the pellets to the shareholders in consideration
for the payments. Therefore, the payments from the shareholders were income to
the Appellant.
[49]
Counsel for the Respondent
asserted that all of the amounts paid by the shareholders could only be
payments for the pellets because the shareholders had no other obligation to
make any payments to the Appellant.
[50]
Counsel argued that, even though
the price for the pellets was determined in part by reference to the
Appellant’s share of the operating costs of the joint venture, this alone does
not result in the payments being payments or advances of capital by the
shareholders. He also submitted that the Appellant is in effect asking the Court
to recharacterize the transaction based on its economic substance.
[51]
Counsel also submitted that the
consistent treatment of the amounts as revenue in the Appellant’s financial
statements showed that the Appellant itself recognized that the payments were
consideration for the pellets. The financial statements also contradicted the
Appellant’s assertion that the amounts paid by the shareholders in excess of
the fair market value were capital contributions because the amounts were not
shown on them as capital contributions. Furthermore, there was no indication
that the Appellant was liable to repay the amounts to its shareholders. From
the materials related to the bankruptcy of LTV and Wheeling Pittsburgh, it does
not appear that any of the amounts of excess they paid for the pellets over the
fair market value was claimed by them from the Appellant.
[52]
Counsel also said that the
Appellant has not shown that the payments in excess of fair market value for
the pellets were intended primarily to ensure repayment of the Appellant’s bond
obligations. Counsel said that the evidence showed that even after the bond
debt was completely paid off, the shareholders and the Appellant continued to
adhere to the terms of the Pellet Sales Agreement regarding the price for
pellets, and in 2001 and 2002, the shareholders paid the Appellant their
proportionate share of the Wabush Iron Costs which were in excess of the fair
market value of the pellets. This showed that the purpose of section 3 of
the Pellet Sales Agreement was to fix the sale price of the pellets and not to
protect the bondholders or require a capital contribution from the
shareholders.
[53]
In addition, the obligation of the
shareholders to pay the greater of cost or fair market value for the pellets
was also found in the Participants Agreement, to which the Trustee was not a
party. This was confirmation that the obligation to pay more than fair market
value where this was less than the cost of production was not intended solely
for the protection of the bondholders.
[54]
Respondent’s counsel says that even if the amounts paid
by the shareholders in excess of fair market value for the pellets was not
intended to be part of the purchase price of the pellets, this would not change
the assessment of the Appellant’s income from business. The receipts would be
either revenue or reimbursements of its operating costs, which would lead to
the conclusion that the amounts were received on revenue account rather than on
capital account. (Ikea Ltd. v. The Queen, [1998]
1 S.C.R. 196, Johnson and Sons (Arborg) Ltd., v. M.N.R.,
82 DTC 1041, Radio Engineering Products Limited v. Minister of
National Revenue, 73 DTC 5071 and No. 734 v. M.N.R., 61 DTC 418.)
[55]
On the second issue, the
Respondent takes the position that the Appellant is not entitled to have its
opening UCC balance for its 1996 and 1997 taxation years revised to reverse the
CCA claimed in its 1991 and 1992 taxation years, even if it is successful on
the first issue. Counsel said that the Minister must determine the opening UCC
balance for each class of depreciable property in accordance with the Act.
The definition of “undepreciated capital cost” in subsection 13(21) of the Act
requires that the UCC must be reduced by all CCA allowed to the taxpayer for
the class before that time. In this case, the Appellant claimed and was allowed
CCA for 1991 and 1992 and those amounts must be taken into account in
calculating the opening UCC for all subsequent years. If the amounts were
excluded from the calculation of UCC, the Appellant would receive the benefit
of the CCA deductions a second time.
[56]
Counsel said that a revision of
UCC balances is different from revisions which have been allowed by the Courts
to other tax balances carried forward from statute-barred years. In Papiers
Cascades Cabano Inc. v The Queen, 2005 TCC 396, for
example, the Court allowed the Minister to revise the balance of investment tax
credits carried forward from statute barred years, but this was because the
Court found that there had been an error in the calculation of the investment
tax credits in the statute barred years. In this case counsel said that the
Appellant has not shown that there was an error in the CCA claim made in 1991
and 1992, and therefore there is no basis upon which to revise the UCC balance
in 1996 and 1997. The Appellant claimed the CCA and it was properly allowed to
reduce taxable income in 1991 and 1992. The Appellant did not dispute the
inclusion of the additional revenue from pellet sales in those years.
Analysis
[57]
The first issue before the Court
is the interpretation of the Pellet Sales Agreement and, in particular,
section 3 of the Agreement.
[58]
Although the Agreement states in
section 19 that it is to be governed by and construed in accordance with
the laws of the State of New York, there was no evidence of New York law
relating to the construction of contracts. In such a case, the law of that
jurisdiction is presumed to be the same as in the jurisdiction in which this appeal
arose. In Backman v. The Queen, [2000] 1 F.C. 555, the Federal Court of
Appeal said, at paragraph 38:
Where
foreign law is relevant to a case, it is a question of fact which must be
specifically pleaded and proved to the satisfaction of the Court. Professor
J.-G. Castel has summarized the effect of the failure of a party to establish foreign
law as a fact before the Court:
If foreign law is not pleaded and proved or is
insufficiently proved, it is assumed to be the same as the lex fori.
This seems to include statutes as well as the law established by judicial
decision.
[59]
This appeal was heard in the province of Quebec, and so it must be interpreted in accordance with the general requirements of arts. 1425
to 1432 of the Civil Code of Québec, S.Q. 1991, c. 64 (“C.C.Q.”).
The following articles are relevant to this case:
1425. The common
intention of the parties rather than adherence to the literal meaning of the
words shall be sought in interpreting a contract.
1426. In
interpreting a contract, the nature of the contract, the circumstances in which
it was formed, the interpretation which has already been given to it by the
parties or which it may have received, and usage, are all taken into account.
[60]
According to Pineau and Gaudet, in
Theorie des Obligations, 4th ed. at page 400, the principle set out
in article 1425 does not raise any difficulty when the terms used by the
parties are ambiguous or manifestly do not reflect their common intention. However,
the authors go on to say that :
where the terms of the contract are not ambiguous, we
must clearly presume that they accurately reflect the actual intentions of the
parties. Also, where the terms used by the parties do not raise any
interpretive difficulties, the judge must apply the terms without seeking
exceptions under the pretext of interpretation, unless evidence is successfully
adduced to support the belief that, despite the absence of ambiguity in the
terms used, these terms betray—more they do not clearly communicate—the actual
intentions of the parties.
[translation]
[61]
The Appellant maintains that
despite the clear language of section 3, the parties intended the payment
of any excess amount over the fair market value of the pellets to be a
contribution or advance of capital rather than payment for the pellets. It says
that the label used to describe the payments was incorrect in law and therefore
not determinative. Counsel says that the parties’ true intention respecting the
payments can be seen from the nature of the contract and circumstances in which
it was formed, and that intention determines the legal character of the
payments in issue.
[62]
In my view, the language of
section 3 of the Pellet Sales Agreement, while convoluted, is unambiguous in
setting a purchase price for the pellets. The provision states that each
Wabush Iron shareholder agrees “to pay in each year as the purchase price of
Pellets sold to it hereunder” the greater of two amounts: the fair market value
of the pellets or the shareholder’s proportionate share of the Wabush Iron
Costs. The apparent intention of the parties was that their relationship, for
the purposes of the transfer of the pellets, be that of vendor and purchasers
and that the purchase price be the entire amount specified by them. This
intention was carried out by the transfer of the pellets to the shareholders
and the payment of the amounts calculated in accordance with section 3.
[63]
The evidence presented by the
Appellant regarding the context in which the Pellet Sales Agreement arose and the
other agreements entered into by the parties at the same time does not show
that the parties’ intention was other than that which I have found to have been
clearly expressed in section 3.
[64]
I accept that one of the
motivating factors behind the Pellet Sales Agreement was to provide financing
for the Appellant’s operations in order to protect the bondholders. However, the
means chosen by the parties to achieve this purpose was a guaranteed purchase
price for the pellets. According to the terms of section 3, the parties ensured
that the Appellant would be able to fund its share of the joint venture by
setting a purchase price for the pellets at least equal to the Appellant’s share
of the joint venture operating costs including debt service charges. It is true
that if the shareholders had not agreed to these terms for the purchase of the
pellets, the Appellant would have been required to obtain additional operating
capital in the years in which its share of the operating costs of the joint
venture exceeded its revenues and any retained earnings, but that does not lead
to the conclusion that the payments in excess of fair market value by the
shareholders were capital contributions. The economic effect of the payments is
not determinative of their legal character, and cannot be used to
recharacterize a taxpayer’s bona fide legal relationships (Shell Canada Ltd.
v. Canada [1999] 3 S.C.R.
622, at paragraph 39)
[65]
The parties were free to structure
their affairs as they wished and their choice with respect to the nature of
their relationship insofar as the transfer of the pellets is concerned must
determine the tax consequences of those transactions to each party. (Friedberg
v. Canada [1991] F.C.J. No. 1255)
[66]
It is true that, as the Appellant
points out, the shareholders would have been required to pay their respective
share of the Wabush Iron Costs even if they did not receive any pellets from
the Appellant. The Appellant says that the provision for payment even if no
pellets were transferred to the shareholders is evidence that section 3 of
the Agreement was intended to do something in addition to setting a purchase
price for the pellets.
[67]
I agree that any amounts that
might become payable in a year where no pellets were produced might not be
characterized as the being for the purchase of pellets, but I do not believe
that it follows that the payments would be inconsistent with a relationship of
vendor and purchaser or that any such payments could only be a contribution of
capital by the shareholders in their capacity as shareholders.
[68]
In order to appreciate the nature
of this obligation, it is important to recall that when the Agreement was first
entered into, the shareholders wished to obtain a long-term supply of pellets
from the Appellant. In those circumstances it would not have been unreasonable
for them, as purchasers dependent on this supply, to want to ensure the
long-term viability of the Appellant’s operations, and it was not inconsistent
with their interests as purchasers therefore to agree to defray the Appellant’s
costs if production was interrupted. That obligation is not incompatible with a
vendor-purchaser relationship and, for this reason, I do not find that this
term of the Pellet Sales Agreement shows that the shareholders were intending
to deal with the Appellant in their capacity of shareholders rather than
purchasers.
[69]
On the evidence, I am unable to
conclude that the intention of the parties was that the excess paid by the
shareholders over fair market value for the pellets was payable by the
shareholders, qua shareholders, as a contribution of capital. The Appellant has
not shown that the source of the obligation to make the payments was other than
section 3 of the Pellet Sales Agreement. On the proper construction of that
provision the payments in issue were part of the sale price of the pellets.
[70]
I would also add that, having found
that the payments that flowed from the shareholders to the Appellant as a
consequence of the vendor-purchaser relationship between them, the payments
would be income to the Appellant rather than receipts of capital even if they
were intended as a reimbursement to the Appellant for any shortfall between its
revenue and its share of the operating expenses of the joint venture. The
amounts were received by the Appellant as part of its ordinary business
operations and were paid by the shareholders as customers of the Appellant. In
such circumstances, the payments would be income to the Appellant. In this
regard I would refer to the decision of this Court in Hall v. The Minister
of National Revenue, 90 DTC 1431 where the issue was whether a government
subsidy received by the taxpayer to assist in developing a blueberry farm was a
receipt on capital or income account. While Rip J. (as he then was) held that
the receipt was on capital account, he said at page 1435:
The most
significant factor in determining whether the subsidy was received on capital
or revenue account is the purpose of the subsidy. A subsidy whose purpose is to
assist the business operations is received on revenue account; a subsidy whose
purpose is to create or extend a business structure is on capital account.
[71]
This is consistent with the
Supreme Court of Canada’s decision in Ikea Limited v. The Queen (supra)
where a tenant inducement payment was found to be an income receipt to the
taxpayer because it was received as part of its ordinary business operations.
At paragraph 33 the Court said:
In my view,
Bowman J. was entirely correct in finding that the TIP received by Ikea was on
revenue account and should have been included in income for tax purposes.
The payment was clearly received as part of ordinary business operations and
was, in fact, inextricably linked to such operations. On the evidence, no
question of linkage to a capital purpose can seriously be entertained.
Had Ikea wished, it could have requested that the TIP be advanced expressly for
the specific purpose of fixturing, or to defray some other capital cost.
It did not do so, however, and the payment was in fact made free of any
conditions for or stipulations as to its use. Therefore, whether the TIP
represented a reduction in rent or a payment in consideration of Ikea’s
assumption of its various obligations under the lease, it clearly cannot be
treated as a capital receipt and should have been included in Ikea’s
income. The question that remains, however, is in which taxation year
should this inclusion have taken place.
[72]
In this case the payments were
made by the shareholders to assist the business operations of the Appellant and
are revenue receipts.
[73]
For the above reasons, I conclude
that the amounts in issue were correctly included in the Appellant’s income.
[74]
Given my decision on the first
issue, it is not necessary for me to address the matter of the redetermination
of the UCC opening balances for the 1996 and 1997 taxation years of the
Appellant.
[75]
The appeal will be allowed in
part, on the basis of the concession made by the Respondent outlined at paragraph 10
of these Reasons, with costs to the Respondent.
Signed at Ottawa, Canada, this 15th day of May 2009.
“B.Paris”
Email this Content