Design One Creative Graphic Productions Ltd. v. MNR, 92 DTC 1006, [1991] 2 CTC 2667 (TCC)

Teskey, T.CJ.:—The appellant appeals from its reassessment in respect of its 1986 and 1987 taxation years wherein the Minister of National Revenue disallowed the appellant's claim that:

(1) certain fixed assets were used in the manufacture or processing of goods for sale within the meaning of Class 29 of Schedule Il of the Income Tax Regulations (the "Regulations");

(2) it had profits from manufacturing for the years 1986 and 1987 within the meaning of paragraph 125.1(3)(a) of the Income Tax Act, R.S.C. 1952, c. 148 (am. S.C. 1970-71-72, c. 63) (the "Act") and therefore was entitled to a deduction from tax pursuant to subsection 125.1(1) of the Act; and

(3) the fixed assets referred to above were within the meaning of subsection 127(9) of the Act and therefore it was entitled to a deduction from tax pursuant to subsection 127(5) of the Act.

Issue

The sole issue herein is to determine if the appellant in its taxation years 1986 and 1987 was in the business of manufacturing or processing goods for sale.

Facts

The major portion (approximately 85 per cent) of the appellant's business is the sale to five different customers of what is known in the trade as final art board or paste ups. These five customers all advertise by delivery of. four- colour paper flyers that are mailed to the general public or inserted into daily newspapers.

The customer may rely upon the appellant's expertise for the format of the flyer or will instruct the appellant as to the format. The appellant starts with clear sheets of acetate, then mechanically typesets the printing, takes the necessary photographs, arranges for the colour separation, completes all necessary illustrations. When this is all completed, the end product is 14 to 40 pages of stable acetates, each sheet is approximately 3’ x 2' and different. One complete set is required for each page of the flyer. Each colour of the four colors is on a separate page, as well as the printing. The number of pages depends on the complexity of the flyer. It is this final art board or paste ups that the appellant sells to his customers. It is insured by the appellant right up to delivery. If in delivery, it is damaged, it has to be done over again at the same cost.

The customer then takes this final art board to the printer of his choice, the printer then places this final art board in his presses and produces the four- colour paper flyer.

Without the final art board, the printing presses cannot produce anything. Title to the final art board passes to the customer upon delivery and after printing, the customer retains it.

Analysis

Counsel for the respondent acknowledged that the final art board is a "thing". Of this, there is no doubt. The 14 to 40 original pages of clear acetate are entirely different in their final form. In the final form they are an object of value essential to the production of a four-colour flyer.

The final art board is a finished product, even though it is of no use in itself, [and] it is essential as a product to produce a four-colour flyer.

The Oxford English Dictionary, 2nd edition, Volume IX printed in 1989 shows that the word manufacture derives from manu facice, manu meaning hand and facice meaning to make. Then it defines the word as:

a) The action or process of making by hand.

b) The action or process of making articles or material (in modern use, on a large scale) by the application of physical labour or mechanical power.

c) A product of hand-labour; a person's handiwork.

d) To work up (material) into forms suitable for use.

The respondent argues that even if what the appellant is doing is manufacturing a thing, it is not a finished product. The Court is satisfied that the appellant is manufacturing a finished product or good and sells it.

The Court was referred to many previous decisions dealing with this problem. It is satisfied that Halliburton Services Ltd. v. The Queen, [1985] 2 C.T.C. 52; 85 D.T.C. 5336 (F.C.T.D.); [1990] 1 C.T.C. 427; 90 D.T.C. 6320 (F.C.A.) and Nowsco Well Service Ltd. v. The Queen, [1988] 2 C.T.C. 24; 88 D.T.C. 6300 (F.C.T.D.); [1990] 1 C.T.C. 416; 90 D.T.C. 6312 (F.C.A.) are the decisions that apply to the facts herein. There is no similarity between the facts herein and the so-called X-Ray cases of, namely: Dixie X-Ray Associates Ltd. v. The Queen, [1988] 1 C.T.C. 69; 88 D.T.C. 6076, MDS Health Group Ltd. v. The Queen, [1979] C.T.C. 337; 79 D.T.C. 5279 and Reg Rad Tech Ltd. v. Canada, [1990] 2 C.T.C. 77; 90 D.T.C. 6350.

Urie, J.A. writing for the Court in the Halliburton decision quotes with approval at length from Reed, J.'s trial decision at pages 55-56 (D.T.C. 6321-22). Reed, J. having said:

I do not read subsection 125.1 (3)(b) as requiring that a taxpayer's profit has to arise out of a contract for a sale of goods as defined by the various Sales of Goods Acts. Subsection 125.1(3)(b) does not talk of a sale of goods. It talks of profit arising out of the processing of goods for sale. There is no doubt that the products in question are sold to the plaintiff's customers in the sense that the invoices list the cost of the various components which go into each product and the blending and processing charges are specifically detailed in the invoice.

Secondly, I do not find any requirement that the contract which gives rise to the taxpayer'sprofit must be of a particular nature, e.g.: one for the sale of goods and not one of a more extensive nature involving work and labour as well as the goods or material supplied. In my view it is the source of the profit, (arising out of process) that is important for the purposes of section 125.1(3)(b), not the nature of the taxpayer's contract with its customers.

In the third place, to adopt the distinction for which the defendant argues would be to create an illogical result. As counsel for the plaintiff pointed out, under such a regime, a manufacturer or processor of a product (eg: a chemical fertilizer) who also provided a service in connection therewith (eg; spreading the fertilizer for his customers) would be denied the processing tax deduction. If he merely sold the product to his customers he would be allowed the deduction.

Paraphrasing Urie, J.A.'s words in Nowsco at page 424 (D.T.C. 6318) and adopting them as mine, I am of the opinion that a common sense, realistic, and businesslike appreciation of all of the facts herein indicates that the appellant does not enter into a pure service contract but manufactures goods to the customer's specifications which it utilizes to print four colour paper advertising flyers. Title passes to the customer on delivery whether the customer uses it or not. Using the modern principle of statutory interpretation that "the words of an act are to be read in their entire context and in their grammatical and ordinary sense harmoniously with the scheme of the act and the intention of Parliament”, I am satisfied the business activities of the appellant fall with the meaning of paragraph 125.1(3)(a) of the Act.

The appeal is allowed, with costs, and the assessment for the taxation years 1986 and 1987 is referred back to the Minister for reconsideration and reassessment on the following basis:

(a) that fixed assets totalling $175,395 were acquired and used by the appellant in the manufacturing or processing of goods for sale within the meaning of Class 29 of Schedule Il of the Income Tax Regulations and qualify for the accelerated capital cost allowance write-off;

(b) the profits of the appellant for the years 1986 and 1987 were profits within the meaning of paragraph 125.1 (3)(a) and accordingly, the appellant is entitled to the deduction pursuant to subsection 125.1(1) of the Act from tax payable; and

(c) the appellant did acquire qualified property within the meaning of subsection 127(9) of the Act and is entitled to the investment tax credit pursuant to subsection 127(5) of the Act.

Appeal allowed.