Qualico Developments Ltd. v. The Queen, 84 DTC 6119, [1984] CTC 122, 84 DTC 6126 (FCA)

Thurlow, CJ:—This appeal is from a judgment of the Trial Division which confirmed the Minister’s assessment of the appellant’s income tax for the year 1976. The Court heard at the same time an appeal (file A-323-83) from the assessment in respect of the appellant’s 1977 taxation year. In both the issue is the same, the only difference being in the amounts involved, amounts which are not in dispute. The issue is that of the taxation year in which the appellant is entitled to deduct, in computing its income for tax purposes, the costs of landscaping grounds around dwelling houses which in the course of its business as a real estate developer it constructs on land which it has purchased, subdivided and developed.

For the taxation year 1976 the amount involved is $826,512, for 1977 $299,782, being in each case the amount paid by the appellant in the year. In previous years such landscaping costs had been treated as forming part of the costs of the appellant’s inventory on hand of development property at the end of the respective accounting periods. This treatment was consistent with generally accepted accounting principles and with the manner in which the appellant had in earlier years reported such costs both for corporate and for income tax purposes. The effect of such accounting treatment is to defer a deduction in respect of such costs until the year in which the dwelling houses are sold in the course of the appellant’s business.

For the taxation year 1976, however, the appellant for income tax purposes, though not for corporate purposes, excluded such costs from the cost of its inventory on hand at the end of its 1976 fiscal period and claimed to deduct the $826,512 paid in that period under paragraph 20(l)(aa) of the Income Tax Act J [1]

For the taxation year 1977 the appellant first reconciled its 1976 income for tax purposes with its corporate income statements by treating the 1976 landscaping costs as forming part of the cost of its inventory on hand at the beginning of its 1977 fiscal period thereby adding back the $826,512, then deducted from its inventory on hand at the end of the 1977 period an amount of $1,126,294 and claimed the difference of $299,782 as a deduction under paragraph 20(l)(aa) of the Act.

It is agreed that the treatment sought by the appeallant for reporting such landscaping costs for purposes of the Income Tax Act is one contrary to generally accepted accounting principles in that such treatment is contrary to the principle known as the “matching” principle which seeks to match, over a period, revenues with the expenditures made or incurred to earn those revenues.

In the assessments for both taxation years the deductions as claimed were disallowed.

The issue turns on the wording of paragraph 20(1 )(aa) and its meaning in the context of the Income Tax Act.

The learned trial judge held that the amounts in question did not fall within the meaning of the wording “around a building that is used by him” in paragraph 20(1 )(aa)

. . .because the buildings, being part of inventory, are not used by him for the purpose of gaining or producing income therefrom or from a business. In other words, the landscaping is not done around a souce of income but around the inventory. It is only when that character of inventory shall be lost through sale that the landscaping shall become deductible.

He found support for that view in the decisions of Rowlatt, J, in Brake v Inland Revenue Commissioners [2] and Union Cold Storage Co vJones, Ltd [3] , in the first of which the expression “used bona fide for any business, trade or industry” and, in the second, the expression “used for the purpose of the trade of the appellant company” in different taxing statutes were held to refer to physical use by the taxpayer of the land for the purposes of his business. However, the statutes and the contexts in which the expressions occurred were so different from the applicable provisions of the Income Tax Act that I do not think the reasoning can be applied or that support for the learned judge’s conclusion can be drawn from it.

The appellant relied on a number of English, Canadian and American cases on the meaning of “use” or “used” in taxation and patent legislation. Of these, one that I regard as helpful is Shell-Mex and BP Ltd v Clayton et al J [4] There the question was whether the selling of oil by the appellants in the course of their business was a use of the oil within the meaning of a statutory definition of “Freight-transport hereditament” which included inter alia:

(c) A hereditament occupied and used wholly or partly for dock purposes as part of a dock undertaking being an undertaking whereof a substantial proportion of the volume of business is concerned with the shipping and unshipping of merchandise not belonging to or intended for the use of the undertakers.

In the Court of Appeal Sir Raymond Evershed, MR, said:

... We apprehend that a retail tradesman can, with perfect accuracy, be said to be using his stock when he sells it to customers and to have used it up when it is all sold. So here we think that inasmuch as the ratepayer’s business consists of the sale and distribution of oil, albeit as agent for others, it is using in its business the oil which it sells and distributes, and the oil is clearly brought to the hereditament with the intention that it should be so used. The word “use” in its natural meaning is a word of wide import. In British Motor Syndicate, Ltd v Taylor & Son, Ltd (6), Stirling, J, pointed out that ([1900] 1 Ch at p 583)

“The first meaning assigned to the word ‘use’ in JOHNSON’S DICTIONARY is ‘to employ to any purpose’; it is, therefore, a word of wide signification.”

In this wide sense it is, we think, apt to cover the commodity in which a merchant trades, be he a petroleum merchant, a timber merchant, or other merchant. The commodity is employed in the merchant’s business; it is used to supply his customers.

In the House of Lords Viscount Simonds said:

.. .It would, in my opinion, be in its context placing too narrow a meaning on “use” to confine it to use by consumption. It may and, I think, does include such use as a trader makes of his stock in trade, that is, by selling it. In this sense, the oil is intended for the use of the appellants and, in fact, so used by them.

Lord Tucker also said:

.. .1 also agree with the Court of Appeal that the oil was intended for their “use”, in the sense of being used in their business. If a garage proprietor carries on a business which includes a hire-car service as well as an installation of petrol pumps for the supply of petrol to his customers, and for these purposes buys petrol from the distributing companies, I think the petrol is supplied to him to be “used” in his business, irrespective or whether it is put in the tanks of his own hire cars or those of his customers. This, in my opinion, is the sense in which the word is used in the present context.

There is also a useful statement in the judgment of Russell, CJ, in Gulf Refining Co v Smith et al: [5]

It is very ingenuously argued that an agreement not to use any oil other than that of the Standard Oil Company is not equivalent to an agreement not to sell the oil of other producers or dealers. In the circumstances and from the nature of the case, the language of the stipulation cannot be otherwise construed than as an agreement not to sell other than Standard Oil products. A sale is one of the uses to which property can be subjected. As relating to one’s possession, the word “use” includes every purpose for which such property may be used. . . .

Even if these authorities on the point did not exist I should have thought that the ordinary meaning of the words ‘‘a building or other structure of the taxpayer that is used by him primarily for the purpose of gaining or producing income therefrom or from a business” apart from their context in paragraph 20(l)(aa) of the Income Tax Act would be broad enough to embrace use by the selling of such buildings or other structures in the course of a business of constructing and selling them. For this purpose I would make no distinction based on the fact that what is ordinarily sold in such a business is land with a building or other structure on it rather than merely a building or other structure.

But, that said, the question still remains whether the expression in its context is intended to include the appellant’s inventory of houses on hand at the end of the fiscal periods in question. While it may not always be easy to find harmony and consistency in the provisions of the Income Tax Act the Court must, as it seems to me, strive to give to particular provisions, even though broadly worded, an interpretation which will conform to and give consistency as far as possible to the apparent scheme of the Act. In this vein, Pratte, J, speaking for the Supreme Court in The Queen v Compagnie Immobilière BCN Ltée [6] said:

One of the most important rules to be followed in the interpretation of a particular provision of a statute was expressed as follows by Lord Herschell in Colquhoun v Brooks, [1889] 14 AC 493 at p 506:

“It is beyond dispute, too, that we are entitled and indeed bound when construing the terms of any provisions found in a statute to consider any parts of the Act which throw light upon the intention of the legislature and which may serve to show that the particular provision ought now to be construed as it would be if considered alone and apart from the rest of the Act.”

And, in Canada Sugar Refining Company, Limited v The Queen, [1898] AC 735, Lord Davey said at p 741:

. . Every clause of a statute should be construed with reference to the context and the other clauses of the Act, so as, so far as possible, to make a consistent enactment of the whole statute or series of statutes relating to the subject-matter.

Clearly, this basic rule of statutory construction is still in effect; it has not been repealed by the enactment of s 8 of the Official Languages Act.

The context in which the expression to be interpreted is found is that of a statute which imposes tax on persons and corporations in respect of their income for particular taxation periods including their income from a business or property. With respect to such income subsection 9(1) provides that:

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.

“Profit” is not defined. Its meaning has, however, been considered many times. In MNR v Irwin,’ [7] Abbot, J, speaking for the Supreme Court, referred to it as follows:

The basic concept of “profit” for income tax purposes has long been settled. A recent statement of the principle is that of Viscount Simonds in Minister of National Revenue v Anaconda American Brass Ltd [[1956] AC 85 at 100, [1955] CTC 311, 55 DTC 1220.]:

“The income tax law of Canada, as of the United Kingdom, is built upon the foundations described by Lord Clyde in Whimster & Co v Inland Revenue Commissioners, (1925) 12 TC 813, 823, in a passage cited by the Chief Justice which may be repeated. ‘In the first place, the profits of any particular year or accounting period must be taken to consist of the difference between the receipts from the trade or business during such year or accounting period and the expenditure laid out to earn those receipts. In the second place, the account of profit and loss to be made up for the purposes of ascertaining that difference must be framed consistently with the ordinary principles of commercial accounting, so far as applicable, and in conformity with the rules of the Income Tax Act, or of the Act as modified by the provisions and schedules of the Acts regulating Excess Profits Duty, as the case may be. For example, the ordinary principles of commercial accounting require that in the profit and loss accouint of a merchant’s or manufacturer’s business the values of the stock-in-trade at the beginning and at the end of the period covered by the account should be entered at cost or market price, whichever is the lower; although there is nothing about this in the taxing statutes.’”

The law is clear therefore that for income tax purposes gross profit, in the case of a business which consists of acquiring property and reselling it, is the excess of sale price over cost, subject only to any modification effected by the “cost or market, whichever is lower” rule. That rule as Lord Clyde indicated in the passage which I have quoted is based upon what he described as the ordinary principles of commercial accounting and s 14(2) of the Act gave it statutory recognition.

See also Oryx Realty Corporation v MNR [8] and MNR v Shofar Investment Corporation. [9]

Subsection 14(2) is now subsection 10(1). It reads:

10. (1) For the purpose of computing income from a business, the property described in an inventory shall be valued at its cost to the taxpayer or its fair market value, whichever is lower, or in such other manner as may be permitted by regulation.

Subsection 10(2) further provides:

10. (2) Notwithstanding subsection (1), for the purposes of computing income for a taxation year from a business, the property described in an inventory at the commencement of the year shall be valued as the amount at which it was valued at the end of the immediately preceding year for the purpose of computing income for that preceding year.

These provisions are mandatory. See MNR v Shofar Investment Corporation.™ [10]

The cost of landscaping around dwelling houses constructed for sale in the course of buisness is clearly a part of the cost of what is to be sold and is thus properly included in the cost of inventory on hand at the end of a fiscal period. In this framework there could be no doubt that the accounting method followed by the appellant in the taxation years prior to 1976 was correct and indeed required, both by the statute and on principle to disclose the profit from the business for the year. Subsection 9(1) however commences with the expression “Subject to this Part” and it is on this that the appellant relies to override what otherwise would be the correct accounting treatment for the landscaping costs and make them deductible in years other than those in which they would be deductible under that system.

In sections 12 to 17 inclusive of the Act are found provisions under which many items varying widely in nature are required to be included in the computation of income from a business or property and the statute then goes on to provide with respect to deductions, at first, in sections 18 and 19, by a series of prohibitions or limitations and then, in section 20, by express permission to deduct certain items.

With respect to these provisions it is important to note that nothing in sections 18 or 19 would have prohibited the deductions here in question in accordance with accepted accounting principles and that in particular they would fall within the excepting words of the prohibition of paragraph 18(l)(a). It reads:

18. (1) In computing the income of a taxpayer from a business or property no deduction shall be made in respect of

(a) an outlay or expense except to the extent that it was made or incurred by the taxpayer for the purpose of gaining or producing income from the business or property;

Nor would these deductions be prohibited by paragraph 18( l)(b) as being

(b) an outlay, loss or replacement of capital, a payment on account of capital or an allowance in respect of depreciation, obsolescence or depletion except as expressly permitted by this Part;

or (h)

(h) personal or living expenses of the taxpayer except travelling expenses (including the entire amount expended for meals and lodging) incurred by the taxpayer while away from home in the course of carrying on his business;

That brings me to subsection 20(1) and the particular provisions of it on which the appellant relies. It provides that:

Nothwithstanding paragraphs 18( l)(a), (b) and (h), in computing a taxpayer’s income for a taxation year from a business or property, there may be deducted such of the following amounts as are wholly applicable to that source or such part of the following amounts as may reasonably be regarded as applicable thereto:

The overriding feature of this provision is required because what are subsequently allowed as deductions are items of a capital nature or items which would not be allowable on accepted accounting principles in determining the profit from a business or property. It is also worthy of note that the subsection does not purport to override section 10 which would give effect to the appellant’s right to deduct the landscaping costs here in question in accordance with its system.

With respect to such costs there is no need for a provision overriding paragraph 18(l)(a), (b) and (h) to make them deductible in computing profit from the appellant’s business. The only effect of the paragraph 20(l)(aa) on which the appellant relies, if it applies at all to such costs, is to allow the deduction in a year that might be a different year from that in which it would be allowed under the system of section 10, that is to say, the year the costs were paid, which would not necessarily be the year the dwelling in respect of which the costs were incurred was sold.

The question thus arises squarely whether paragraph 20(l)(aa), when properly interpreted having regard to its context in the Act, applies to and authorizes the deduction of landscaping costs incurred in respect of property included in an inventory. For the reasons which follow I do not think it does.

There is first the fact that if the paragraph does authorize such a deduction it goes further than the provisions which surround it, and which provide deductions in respect of items not otherwise deductible, whether because of accepted accounting principles or because of statutory provisions prohibitng or dealing with them. The canon expressed by the maxim noscitur a sociis seems to me to apply to restrict the scope of paragraph 20(l)(aa) to items of a like nature.

Next, there is the fact that the opening wording of subsection 20(1) while overriding paragraphs 18(a), (b) and (h) does not purport to override the provisions of section 10 relating to inventories.

It appears to me, as well, that to interpret the wording of paragraph 20(l)(aa) as applying to landscaping costs incurred in respect of property included in inventory produces, without any reasons for doing so being apparent, distortion and inconsistency in the system and scheme established by the provisions of the Act which I have mentioned.

Finally, there is the consideration that to permit the deductions as claimed tends to distort the computation of the appellant’s income for the years in question, a result which I do not think the language used should be presumed to intend and which should be avoided if the statute can be so interpreted. See Highway Sawmills Ltd v MNR'' [11] where Cartwright, J (as he then was), speaking for the majority of the Supreme Court, said:

The answer to the question what tax is payable in any given circumstances depends, of course, upon the words of the legislation imposing it. Where the meaning of those words is difficult to ascertain it may be of assistance to consider which of two constructions contended for brings about a result which conforms to the apparent scheme of the legislation. In the present case the appellant purchased the land in question as a capital asset to secure a supply of timber to be used in earning its income. The scheme of the legislation is to allow the taxpayer to deduct the whole of the net cost of such capital asset in arriving at its trading profit. The judgment of the Exchequer Court in this case brings about this result. If, on the other hand, the contention of the appellant was upheld the result would be that it would have been permitted to deduct the total original cost of the capital asset although it had already recovered $22,620 of that cost.

I would dismiss the appeal with costs. I would also dismiss the appeal on file A-323-83 with costs but not including items that are common to both appeals.

Mahoney, J:—I agree that the appeal should be dismissed with costs for the reasons given by the Chief Justice. I should not have felt it desirable to add to his reasons were it not for the question of whether the unsold inventory of a business is properly to be regarded as used in the business. If it is, I take it that it is used primarily for the purpose of gaining or producing income from the business. No other primary purpose suggests itself.

The inventory in issue is part, at least, of the appellant’s stock in trade. As I appreciate it, the stock in trade of a business is that which the business offers for sale in the ordinary course of its trade. An item not so offered for sale is not properly to be included in the inventory of stock in trade. In my respectful opinion, an item offered for sale by a business in the ordinary course of its trade is an item used by it in that business. I do not agree that the use occurs only when the offer is accepted and the item is sold.

I would dispose of this appeal and that on file A-323-83 as proposed by the Chief Justice.

Hugessen, J:—The appellant, Qualico, is in the real estate development business and as a part of that business undertakes the construction and sale of residential properties. In the 1976 and 1977 taxation years, Qualico expended the amounts of $826,512 and $299,782 respectively for the landscaping of grounds around houses which it had constructed. At the end of each of those taxation years, the houses whose grounds had been so landscaped formed part of the “inventory” of Qualico in the sense that they were held by it and offered for sale to the public in the normal course of its business as a real estate developer.

Paragraph 20(l)(aa) of the Income Tax Act provides as follows:

20. (1) Notwithstanding paragraphs 18(l)(a), (b) and (h), in computing a taxpayer’s income for a taxation year from a business or property, there may be deducted such of the following amounts as are wholly applicable to that source or such part of the following amounts may reasonably be regarded as applicable thereto:

(aa) An amount paid by the taxpayer in the year for the landscaping of grounds around a building or other structure of the taxpayer that is used by him primarily for the purpose of gaining or producing income therefrom or from a business.

Invoking this provision, Qualico deducted the amounts of $826,512 and $299,782 in computing its income for the 1976 and 1977 taxation years respectively. The Minister disallowed such deduction and assessed tax on the basis that the landscaping costs were part of the cost of inventory which could only be deducted if and when the houses in respect of which they were incurred were sold. Appeals to the Trial Division having been dismissed, Qualico now brings the matter before this Court.

It is useful to note at the outset that there is no dispute between the parties as to the deductibility of the amounts spent by Qualico on landscaping. The question is in what year such a deduction can be taken for income tax purposes. Qualico says that paragraph 20(1 )(aa) allows landscaping expenses to be charged off in the year in which they are incurred. The Minister says they should be treated like any other costs going into inventory and only recovered in the taxation years in which such inventory is sold.

Paragraph 20(l)(aa) allows the deduction in the year they are incurred of the costs of landscaping

around a building.. .of the taxpayer that is used by him

for the gaining of income. Qualico argues that because the houses which are in its inventory are destined for sale in the course of its business, they are “used” by it within the meaning of the quoted words. It cites a number of authorities in support of the proposition (which I would have thought was almost self-evident) that the sale by a merchant of his stock in trade amounts to the “use” thereof. Particular emphasis was laid upon the judgments of the Court of Appeal and the House of Lords in Shell-Mex and BP Ltd v Clayton et al, [1955] 3 All ER 102; [1956] 3 All ER 185. Mention was also made of a number of authorities in patent law (see, for example, Formea Chemicals Ltd v Polymer Corp Ltd, [1968] SCR 754) holding that “use” includes sale.

With great respect, it seems to me that these authorities are nothing to the point. As I have indicated, there is no dispute that the appellant can recover the costs of landscaping its houses at the time that it sells them. The question is whether it can be said to “use” the houses while it is holding them in its inventory and before they are sold. In my view, the answer must be no.

In the ordinary use of the language, I think we would say that a merchant’s unsold stock in trade on hand at the end of the year, whatever it may be, is “unused” inventory. It is only “used” when it is employed in the business in some way.

Compare, for example, the situation in R v Henry K Wampole & Company, Limited, [1931] SCR 494. There it was held that goods manufactured by the company and disributed by it as free samples for advertising purposes were goods “for use by the manufacturer or producer” within the meaning of paragraph 87(d) of the Special War Revenue Act, RSC 1927, c 179. In the context of the present case, I would expect that houses serving for sales and display purposes as “model homes” could be said to be “used” in the same sort of way, but there is nothing in the agreed statement in the record before us to indicate that this was in fact the case.

In my view, the “use” of a building in the context of paragraph 20(l)(aa) of the Income Tax Act requires something more than the passive holding of it, waiting for it to be sold. The Shell-Mex case, (supra), so heavily relied on by the appellant, seems to me to support this view. Two short quotations serve to illustrate the point.

In the Court of Appeal, Evershed, MR, delivering the judgment prepared by Jenkins, LJ, said:

We apprehend that a retail tradesman can, with perfect accuracy, be said to be using his stock when he sells it to customers and to have used it up when it is all sold. [Emphasis added]

(at 117).

In the House of Lords, Viscount Simonds echoes the same theme:

It would, in my opinion be in its context placing too narrow a meaning on “use” to confine it to use by consumption. It may and, I think, does include such use as a trader makes of his stock in trade, that is, by selling it. [Emphasis added]

(at 191-192).

I conclude therefore that the unsold houses held by the appellant in its inventory at the ends of the 1976 and the 1977 taxation years were not “used” by it during those years for the purpose of gaining income and that, in consequence, the costs of landscaping around such houses incurred during those years is not deductible under the provisions of paragraph 20(1 )(aa) of the Income Tax Act.

I would dispose of both appeals as proposed by the Chief Justice.