Brock v. MNR, 91 DTC 1079, [1991] 2 CTC 2121 (TCC)

Lamarre Proulx, T.C.J.: —This appeal concerns the year 1982.

The question is about the computation of income from a law practice under subsection 34(1) of the Income Tax Act, R.S.C. 1952, c. 148 (am. S.C. 1970-71-72,

c. 63) (the "Act"). The appellant submitted that statements of account that were considered receivables by the respondent were, in substance, statements of interim accounts and represented work in progress.

Subsection 34(1) of the Act read, in that year, as follows:

34. (1) In computing the income of a taxpayer for a taxation year from a business that is the professional practice of an accountant, dentist, lawyer, medical doctor, veterinarian or chiropractor, the following rules apply:

(a) paragraph 12(1)(h) is not applicable;

(b) every amount that becomes receivable by him in the year in respect of property sold or services rendered in the course of the business shall be included;

(c) for the purposes of paragraph (b), an amount shall be deemed to have become receivable in respect of services rendered in the course of the business on the day that is the earliest of

(i) the day upon which the account in respect of the services was rendered,

(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, and

(iii) the day upon which the taxpayer was paid for the services; and

(d) where the taxpayer so elects in his return of income under this Part for the year, no amount shall be included in respect of work in progress at the end of the taxation year, except as otherwise provided by this section.

The facts on which the respondent relied in reassessing the appellant are described in paragraph 5 of the reply to the notice of appeal and are the following:

5. In reassessing taxes for the 1982 taxation year and computing the loss for the 1983 taxation year, the Respondent relied upon the following findings or assumptions of fact:

(a) the Appellant during the 1982 taxation year carried on the practice of law in Kitchener, Ontario;

(b) on a regular basis the Appellant would render statements of account to his clients requesting payment for legal services that had been provided by the Appellant to his clients;

(c) the statements of account issued by the Appellant to his clients requested payment within 10 days from receipt of the statement;

(d) the clients on a regular basis would pay the Appellant in response to the statement of account;

(e) at the end of the Appellant's 1983 taxation year the Appellant had receivables outstanding resulting from accounts rendered in the amount of $241,436 (the "receivables");

(f) of the receivables referred to in paragraph (e) above, not more than $171,901 were bad or doubtful debts;

(g) the outstanding receivables of $241,436 were not work in progress at the end of the taxation year.

Though the appellant disputes the qualification of receivables in paragraph 5(e) of the reply to notice of appeal, the amount referred to in that paragraph is not in dispute. The amount described in 5(f) of the same reply did not appear to be in dispute until the time of the argumentation where counsel for the appellant submitted that the amount referred to in that paragraph was not high enough. There was no evidence as to what this amount should have been and for what reasons.

The appellant testified that most of the statements of account were not true statements of account in the sense that they were in respect of interim accounts and not in respect of final accounts. He said that they represented work in progress and were only sent for the information of his clients. He added that no accounts may be qualified as receivable in a law practice until the work for which the lawyer has been retained has been completed because a lawyer cannot enforce collection of his accounts before that time pursuant to Rules 8 and 9 made under the Law Society Act, R.S.O. 1980, c. 233 and the Solicitors Act, R.S.O. 1980, c. 478.

A sample of the contentious statements of account were produced as Exhibit A-7. Thought the appellant had previously put much emphasis on whether the account was noted interim or final, the statement of account that he produced, which was addressed to a client and dated January 1983, did not indicate whether it was interim or final. The appellant said that this was, unfortunately, not a good example explaining that he had taken one in haste on the morning of the trial without examining it carefully. Regarding this procedure of noting accounts as interim or final, the evidence adduced by the respondent leads me to believe that this may not have been a practice followed very carefully bY the law practice. It does not, for example, appear to have been an important element in the discussions that took place with the respondent's agent, but rather whether the statements of account represented, in fact, work in progress or not.

The statements of account that were included in the computation of the income of the law practice by the respondent are entitled "Statement of Account”. As previously mentioned, there is space at the top right of the page to tick whether it is an interim or final statement of account. Then, in the body of the document, there are four items as such:

1. Previous Balance Owing:

(as attached)

2. (i) Plus Schedule Totals:

(ii) Disbursements In Schedule:

(iii) Total On This Account:

3. Less Payments Received:

(since last account)

4. Net Balance Owing To Date:

At the bottom of the Statement of Account there is this stipulation:

Errors and Omissions Excepted Payments due 10th day following receipt. All accounts dated as of last day of service specified herein. Schedules attached on First billing only.

Interest will be charged on past due accounts in accordance with the Solicitors’ Act.

The appellant admitted receiving payments from clients on reception of these accounts.

The appellant's present accountant, Mr. Mark Andrew Ewald, testified on behalf of the appellant. He was not the appellant's accountant at the time in question. His testimony is to the effect that the Statement of Account, Exhibit A-7, was in its form a statement of account but in substance, it may not have been, depending on the nature of its content and the purpose of the account.

Here is what was said about this by the witness: [1]

Q. In this case Mr. Brock and counsel for the Ministry have shown documents and they say on the head of them "Statement of Account”?

A. Yes. . . .

Q. You have seen these beforehand?

A. Yes.

Q. Is that something that you would take into account in trying to decide whether something was a receivable or not?

A. Well again another concept in the accounting profession is something called substance over form. The form would certainly suggest it is a receivable and that it is an account being generated to the client.

I think the next question is: is the substance really the same as the form? The words “Statement of Accounts” is not a common term used by our profession, but it would seem to suggest it is a receivable but the substance would not necessarily agree with that form.

Q. So the fact it is on this form is one of the indicia that you look at to see whether it was a receivable or not a receivable?

A. That is correct.

Q. And by substance, what do you mean by substance?

A. When we look at the concept of substance over form we try to look through the actual form of the document, or form of the transaction and look at the bottom line substance. Was it an account receivable? Was it a sale, or what have you, depending on the particular industry. Try to look through the initial documents or what have you and see what exactly is happening in real life.

Thank you. Those are the questions I have.

There was no evidence adduced about the terms of the contracts between the clients and the law practice relating to the billing practice and the understanding that the clients should have had about the distinction between interim and final accounts.

Before I proceed to the analysis of the nature of the statements of account, I wish to deal with the matter of the reserve for doubtful debts. This reserve is allowed as a deduction pursuant to paragraph 20(1)(l) of the Act which reads as follows:

(I) a reasonable amount as a reserve for

(i) doubtful debts that have been included in computing the income of the taxpayer for that year or a previous year, and

(ii) . . .

Counsel for the appellant questioned the accountant as to the nature of the debts that should be included in the reserve for doubtful debts. That was the gist of the evidence adduced on the matter. He put no questions as to whether the amount of doubtful debts, as determined by the respondent in accordance at that time with the then accountant of the taxpayer, was right or wrong, and if it was wrong, what this amount should have been and why.

However, at the end of his argumentation, counsel for the appellant asked the Court to review the amount of the reserve determined by the respondent, I told him at that time that I did not believe that I had the elements for such a review and I am, now, still of this opinion.

If counsel for the appellant had asked his witness why the amounts determined by the respondent were wrong and why those amounts did not concur with the principles he had enunciated, this would have allowed the respondent to make the proper cross-examination and bring forward his own evidence when the witness for the respondent was called to testify and, in so doing, given me ground for determining the appropriate reserve. As the matter stands, I conclude that I have no grounds nor any basis to change the respondent's amounts in this aspect.

I shall now revert to the matter of the statements of account. I reproduce from the transcript excerpts of the argument of counsel for the appellant:

For the account to be rendered, in my respectful submission, is something that is rendered with a view to obtaining payment. It is my respectful submission that this must imply that it is or can be collected. A person sends out an account and someone does not pay, then you have recourse to collect that. That is what a receivable is and a document that sends that out and makes it known that you want to have that has to be a positive document in that regard.

Now, in my respectful submission lawyers are somewhere in a somewhat anomalous position from other businesses and professions, because they have laid on them various duties and those duties are partly set out in the rules of professional conduct which are issued under the authority of the Law Society.

Rule 8 deals with withdrawal of services. The rule is this, that the lawyer owes a duty to the client not to withdraw services except for good cause and upon notice appropriate to the circumstances.

Failure on the part of the client, after reasonable notice to provide funds on account of disbursements or fees would justify withdrawal by the lawyer unless serious prejudice to the client would result.

And then of course Rule 9 deals with the fees and disbursements, and a lawyer in making his account is asking, as Mr. Brock says he does, is asking for a retainer as a business process and sends out to the client some interim statements which disclose to the client how much work has been done and what the apparent value of that work is to the date that was sent out. Whether that is really what was due or payable by the client is the question that is quite open, because lawyers are subject to assessment under the Services Act. In that regard I have provided Your Honour two cases. One is Haber v. O’Connor which is the Supreme Court of Ontario and also the matter of Lang, Michener and Newell.

Similarly, by analogy, I would submit that this idea relates not only to assessment of lawyers' accounts, but also deals with the question of when an account is rendered. In my submission, no account, except for a final account, is a receivable. Because in order to take any effective steps what must be done is what Mr. Brock has said, either the client must terminate your retainer, or you must terminate the client's retainer, or the matter must be brought to a conclusion at that point or any of those points.

If a document is sent to a client requesting payment, then that is a receivable. But before such time, notwithstanding what the document might say on its face, it is not a receivable. If a client does not pay the lawyer only has two choices, to continue with the case in hopes of payment at some future time, subject to assessment and subject to the outcome, or cease his relationship with the client whereupon he can have his account assessed and the appropriate judicial officer will decide whether the amount is appropriate. That is not to say it has to come to the end of the assessment process. Rendering the account brings that assessment process into focus.

That is, in my respectful submission, the only time the situation at which an account can realistically and in the terms of the profession and in terms of the profession, [sic] but the way that Mr. Brock carried on his practice, that what he sent out cannot be treated simply because of what he says on the face of it, as an account. It is only deemed to be a receivable if that is an account. In my submission it is not an account, it is some kind of advice to the client, or something along those lines. In my opinion it is not an account and therefore the taxpayer is entitled to classify this as work in progress.

It would appear that, in English law, for accounts of a legal practice, there is a distinction as to their enforceability between interim and final accounts and that interim accounts have to be differentiated from periodic bills or successive bills.

A retainer is a contract whereby in return for the client's offer to employ the solicitor, the solicitor expressly or by implication undertakes to fulfil certain obligations. [2]

Where the retainer is an entire contract any bill delivered during its continuance will be presumed to be an interim bill in the absence of evidence to the contrary. [3] An interim bill can be rendered at any stage, but it cannot be enforced by the solicitor, nor can the client apply for it to be taxed on its own.

A solicitor may arrange with his client that bills of costs will be delivered and paid in succession as the work progresses, whether the work is to be done under a single retainer or a series or retainers. It is particularly important to make such an arrangement, if the work is likely to be protracted, to enable the solicitor to regulate his cash flow and to avoid being put into a position where he may be required to finance the expense of the client’s work over a long period of time.

Accounts that are interim accounts, in accordance with the agreement between the lawyer and his client, are not enforceable. Only bills that are affirmed by the lawyer to be final are subject to payment unless the agreement with the clients allows for periodic or successive accounts. This meaning given to interim accounts as being non-enforceable seems to be more particularly adhered to in the law of England. There are also several cases to the same effect in the law of British Columbia. [4] In Ontario, I cannot say that the matter is as definite.

After my reading of the Law Society Act and the Solicitors Act and the regulations thereunder, it appears to me that in the Ontario law, the general contract law governs the solicitor and client agreement except to the extent modified by these acts and the regulations. In these acts, there does not seem to be any distinction between interim and final accounts respecting their enforceability. I am not aware of anything that prevents a lawyer from sending bills on a recurrent basis and nothing that prevents a lawyer from enforcing them in accordance with the provisions or the Solicitors Act as to proper notice. [5] I cannot therefore agree with the argument that only accounts sent at the completion of the lawyer's mandate can be enforced by virtue of the aforementioned acts.

If I refer to the two judgments cited by counsel for the appellant, it appears to me that in the Ontario law an interim bill is enforceable except that it is not considered final for the purposes of taxation and for the purposes of calculating the limitation period under section 10 of the Solicitors Act.

About this, I wish to quote Mr. Justice Craig in a matter of taxation:

It is my opinion that in the circumstances here present where the solicitors performed services for the client in relation to the same matter over a long period of time, all of the bills must be considered as interim for the purpose of taxation. [6]

I refer to the decision of Master Davidson in Re Lipsett and Bliss et al., 15 O.R. (2d)

35. The headnote provides an accurate summary as follows:

Where solicitors render interim accounts relating to the same matter, the effective date for the purposes of calculating the limitation period under s. 10 of the Solicitors Act, R.S.O. 1970, c. 441, within which the client must obtain an order to tax the accounts is that of the final account and the client is entitled to have the interim accounts taxed notwithstanding the fact that they were rendered more than 12 months prior to the date the application for taxation was made. [7]

The statements of account of the appellant's law practice are so worded that they cannot, in any event, be considered as true interim bills or non- enforceable bills. They are worded as accounts in respect of services rendered of which payment is requested and owed. They are not worded as pieces of information for the fees and disbursements incurred on work in progress. If the nature of these accounts were to be true interim accounts, this should have been made clear on the face of the document. The note at the bottom of the page should have read in clear terms that the statement is sent for information purposes only, that the bill is an interim bill, and that no payments are expected. It is impossible to believe that clients receiving statements of account, as those previously described, could have understood that they did not have to pay and that the account was an interim account, not a final account. Moreover, it has to be remembered that there was no evidence adduced in respect of the agreements with the clients. In the circumstances, I cannot but find that these statements were statements of account within the meaning of these words in subsection 34(1) of the Act and were receivables.

Counsel for the appellant also made the submissions that they were statements for work in progress. This cannot stand either.

What is work in progress? It is not defined in the Act. It should then be given a meaning that is consistent with the natural meaning of these words in the context of subsection 34(1) of the Act. It has to consist of services rendered about which an account has not been rendered or should not have been rendered if there had not been an undue delay. Because the services have been rendered, a proportionate amount of the fees should be included in the receivables but because they have not been invoiced, or should not have been invoiced, they may be excluded from the computation of income if an election is made to this effect by the taxpayer. This is the extent of the reserve allowed under subsection 34(1) of the Act since that reserve is allowed "except as otherwise provided by this section". This section stipulates that an amount is deemed to be receivable in respect of that part of the services rendered that is invoiced or that should have been invoiced if it had not been for an undue delay, and therefore the part that remains for the exclusion of the work in progress is that part of the services rendered but not invoiced.

I am therefore of the view that the words "work in progress” mean that part of the services rendered which have not yet been invoiced or should not have been invoiced. In the case at bar, the services rendered have been invoiced. The appellant submits that it constitutes in fact work in progress because the invoices are not invoices. As previously explained, this is a statement that is not correct in fact and in law, in the circumstances of the case at bar.

The appeal is therefore dismissed.

Appeal dismissed.