|
Citation: 2005TCC352
|
|
Date: 20050519
|
|
Docket: 2004-4028(IT)I
|
|
BETWEEN:
|
|
MARY FARRELL,
|
|
Appellant,
|
|
And
|
|
|
|
HER MAJESTY THE QUEEN,
|
|
Respondent.
|
REASONS FOR JUDGMENT
Campbell J.
[1] It
was agreed between the parties at the commencement of the hearing that the
taxation years 1998, 1999, 2000 and 2001 were not validly before me as the
Appellant had not filed Notices of Objection. In addition, there are no issues
to be resolved in these years. The appeals with respect to those years are
therefore quashed. The only taxation year before me is 2002.
[2] The
Appellant was an employee with the Worker's Compensation Board for the Province of Prince Edward Island when she became medically disabled and
unable to continue to work. In connection with her employment, the Appellant
was insured against wage loss with Great-West Life Assurance Company (the
"Insurer"). She testified however that she encountered a great many
obstacles before the insurer paid the claim. During this period she was forced
to declare bankruptcy. She hired a law firm to bring legal action to pursue
these benefits. The first lawyer she hired did little to assist her or to
pursue her claim. Eventually she was forced to hire a second lawyer to pursue the
insurers. A settlement was reached and the insurer paid a lump sum amount to
the Appellant's lawyer in trust. The settlement amount consisted of the
benefits owing under the policy, interest, legal fees and disbursements. In
addition to the legal fees that were included in the settlement amount and paid
by the insurer ($10,829.64), the Appellant was charged and she paid additional
legal fees and disbursements of $12,583.74. It is the legal fees which the
Appellant is attempting to deduct. This deduction has been denied by the
Minister of National Revenue (the "Minister") pursuant to paragraph
8(1)(b). The Respondent argued that the wording of paragraph 8(1)(b)
is very clear and strict in its application and prevents the Appellant from
deducting the legal fees. The Respondent submitted that it is the last few
words of this section that prevents the Appellant from deducting the fees
because the legal action is between the Appellant and the insurer and not the
Appellant and the employer, the Worker's Compensation Board.
[3] Paragraph
8(1)(b) allows for a deduction of legal fees incurred to collect or
establish income from "salary or wages". It states:
8(1) In computing a taxpayer's
income for a taxation year from an office or employment, 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:
...
(b) amounts paid by
the taxpayer in the year as or on account of legal expenses incurred by the
taxpayer to collect or establish a right to salary or wages owed to the
taxpayer by the employer or former employer of the taxpayer;
[4] The
definition of "salary or wages" as contained in subsection 248(1)
includes "...the income of a taxpayer from an office or employment as computed
under Subdivision a of Division B of Part I...". Therefore if an amount is
taxable as employment income, any legal fees incurred to collect or establish a
right to that amount can be deducted. Whether legal fees are deductible depends
on the source of income earned. In general, any reasonable expense can be
deducted against business income unless it is specifically restricted under the
Income Tax Act (the "Act"). In contrast taxable income
from employment can only be reduced according to certain permitted statutory
deductions. Therefore it is important to first determine if the source of income
received by the Appellant was from a business or employment. Once this is
determined, the deductibility of fees here is determined pursuant to either paragraph
8(1)(b) or subsection 18(1). Paragraph 8(1)(b) applies where
income is determined to be from employment while subsection 18(1) applies
to business income. I believe it is clear in this case that the source of
income received by the Appellant was from employment.
[5] The
Respondent does not dispute that the amounts were paid by the Appellant on
account of legal expenses incurred to collect a replacement for lost salary or
wages. What the Respondent does dispute is whether it is owed to the Appellant
by the Appellant's former employer, the Worker's Compensation Board in
accordance with the wording of paragraph 8(1)(b).
[6] It
is undisputed that the amount was paid by the insurer. The question to be
determined is whether the insurer was paying the Appellant, or whether the
insurer was paying the Appellant on behalf of the employer. Justice Miller in Zitko
and The Queen, [2003] 3 C.T.C. 2737 at paragraph 13 stated:
13 Were the amounts
sought by Ms. Zitko salary or wages owed to her by her employer? Certainly her
legal action sought amounts from both the employer and the insurer. Both
amounts sought were salary or wages, as the definition of salary or wages
reads:
248(1) In this Act
"salary or wages", except in sections 5
and 63 and the definition "death benefit" in this subsection, means
the income of a taxpayer from an office or employment as computed under
subdivision a of Division B of Part I and includes all fees received for
services not rendered in the course of the taxpayer's business but does not
include superannuation or pension benefits or retiring allowances;
Amounts brought into employment income under
paragraph 6(1)(f) fall squarely within this definition. Amounts received
under paragraph 6(1)(f) are, however, necessarily going to be received
from the insurer; paragraph 8(1)(b) does not refer to legal expenses
incurred for amounts received from the employer - it refers to amounts owed by
the employer. If salary or wages, as defined, and as used in paragraph 8(1)(b),
includes a paragraph 6(1)(f) receipt then by implication the salary or
wages will be paid by the insurer. That does not preclude a finding something
was still owed by the employer. The Respondent argues that the phrase
"owed to the taxpayer" is limited by the phrase that follows,
"by the employer", and implies that because funds were paid by the
insurer, they were not owed by the employer. I disagree. Certainly the insurer
paid the paragraph 6(1)(f) amounts, but it paid them because the
employer contracted with the insurer to pay them. The employer paid the
insurer, so that the benefits would be paid. It was part of Ms. Zitko'
employment contract that the employer would provide, through a contract with
the insurer, disability benefits. While the insurer paid the benefits, it was
the employer who owed them in accordance with its employment contract with
Ms. Zitko. Just as the Federal Court of Appeal looks behind a lump sum
settlement to the underlying contract to determine the lump sum represents
periodic payments for the purposes of paragraph 6(1)(f), I have no
difficulty in looking behind the insurer's payment to Ms. Zitko at the
underlying employment contract to find that the amounts were owed by the
employer for purposes of paragraph 8(1)(b).
[7] Paragraph
6(1)(f) referred to in the above noted paragraph states:
6(1) There shall be included
in computing the income of a taxpayer for a taxation year as income from an
office or employment such of the following amounts as are applicable:
...
(f) the
total of all amounts received by the taxpayer in the year that were payable to
the taxpayer on a periodic basis in respect of the loss of all or any part of
the taxpayer's income from an office or employment, pursuant to
(i) a sickness
or accident insurance plan,
(ii) a disability
insurance plan, or
(iii) an income
maintenance insurance plan
to or under which his employer has
made a contribution, not exceeding the amount, if any, by which
(iv) the total of
all such amounts received by the taxpayer pursuant to the plan before the end
of the year and
(A) where there was
a preceding taxation year ending after 1971 in which any such amount was, by
virtue of this paragraph, included in computing the taxpayer's income, after
the last such year, and
(B) in any other
case, after 1971,
exceeds
(v) the total of
the contributions made by the taxpayer under the plan before the end of the
year and
(A) where there was
a preceding taxation year described in clause (iv)(A), after the last such
year, and
(B) in any other
case, after 1967;
[8] Justice Miller referred to the surrogatum
principal as the method used by the Federal Court of Appeal to look
"through a contract". This principal was best explained in the case
of London and Thames Haven Oil Wharves Ltd. v. Attwooll, [1967] 2 All
E.R. 124 (C.A.). The Federal Court of Appeal in referring
to this principal in The Queen v. Manley, [1985] 2 F.C. 208, relied upon
the following passage from Diplock, L.J.:
... The question whether a sum of money
received by a trader ought to be taken into account in computing the profits or
gains arising in any year from his trade is one which ought to be susceptible
of solution by applying rational criteria; and so, I think, it is. I see
nothing in experience as enbalmed [sic] in the authorities to convince
me that this question of law, even though it is fiscal law, cannot be solved by
logic, and that, with some temerity, is what I propose to try to do.
I start by formulating what I
believe to be the relevant rule. Where, pursuant to a legal right, a trader
receives from another person compensation for the trader's failure to receive a
sum of money which, if it had been received, would have been credited to the
amount of profits (if any) arising in any year from the trade carried on by him
at the time when the compensation is so received, the compensation is to be
treated for income tax purposes in the same way as that sum of money would have
been treated if it had been received instead of the compensation. The rule is
applicable whatever the source of the legal right of the trader to recover the
compensation. It may arise from a primary obligation under a contract, such as
a contract of insurance; from a secondary obligation arising out of
non-performance of a contract, such as a right to damages, either liquidated,
as under the demurrage clause in a charter party, or unliquidated; from an
obligation to pay damages for tort, as in the present case; from a statutory
obligation; or in any other way in which legal obligations arise.
The source of a legal right
is relevant, however, to the first problem involved in the application of the
rule to the particular case, viz., to identify for what the compensation was
paid. If the solution to the first problem is that the compensation was paid
for the failure of the trader to receive a sum of money, the second problem
involved is to decide whether, if that sum of money has been received by the
trader, it would have been credited to the amount of profits (if any) arising
in any year from the trade carried on by him at the date of receipt, i.e.,
would have been what I shall call for brevity an income receipt of that trade. The
source of the legal right to the compensation is irrelevant to the second
problem. The method by which the compensation has been assessed in the
particular case does not identify for what it was paid; it is no more than a
factor which may assist in the solution of the problem of identification.
(Emphasis mind)
[9] I believe it is fair to state that Justice
Miller's extension went further than Diplock, L.J. did. However Justice
Miller's extension is a reasonable and logical one and I believe that Diplock,
L.J. did not make this extension simply because he was not required to do so in
the case that was before him.
[10] I recognize that there are cases in this
Court which go against Justice Miller's decision. Justice Lamarre in Marchand
v. Canada, [1995] T.C.J. No. 287 at paragraph 6 states:
... it is clear from a reading of paragraph
8(1)(b) that the amount thus claimed must be owed by the employer. In
the instant case, the appellant did not show that any amount whatever was owed
to her by her former employer.
[11] And in Guenette v. Canada, [2004]
T.C.J. No. 81 Justice Lamarre again took the opportunity to comment on this
issue at paragraph 18 where she stated:
In the first place, disability benefits
received by an employee from an insurance company while off work are not salary
or wages owed by an employer, as the employee has not rendered any services to
the employer during that period ...
[12] The facts in the Guenette case can
be distinguished because the amounts there would not be taxable as employment
income. However it is unclear whether Justice Lamarre's dicta should be taken
to suggest that disability benefits are not wages or salary (which they are) or
whether she is suggesting that, although they are salary, they do not stem from
the employer. In any event her comments in both decisions are dicta.
[13] In the case of O'Donovan v. R.,
[2001] 2 C.T.C. 2399 (T.C.C.), Justice Beaubier held that wage loss
replacement plans do not produce income from an office or employment and
therefore paragraph 8(1)(b) does not govern the deductibility of the
legal fees in dispute. Instead he followed the decision of Evans v. M.N.R.,
60 DTC 1047 (S.C.C.). No statutory provision was referred to in O'Donovan
and I assume the appeal was allowed on the basis that the income was treated as
income from a property. This would enable Justice Beaubier to rely on the Evans
case, which made references to deductibility of expenses from capital amounts
versus deductibility from income from property. Unlike employment income, which
can only be reduced through specifically allowed statutory deductions, income
from property is the profit that is calculated. Subsection 9(1) includes only
the profit of income from property in taxable income and legal fees would be
deductible pursuant to the reasoning in the Evans case. Justice Beaubier
found that the amounts before him were not salary or wages and yet he allowed
the deduction. I must disagree with Justice Beaubier's conclusions and
particularly so in light of the recent Supreme Court decision in Tsiaprailis
v. Canada, [2005] S.C.J. No. 9 and in light of the definition in
subsection 248(1). It is now clear that insurance payments are a
"salary or wage". Although the amount is paid by the insurance
company, it is paid to compensate for a salary owed by the employer and should
be deductible. I place no reliance on the O'Donovan decision because
Justice Beaubier did not explain how he moved from finding that paragraph
8(1)(b) did not apply and yet the fees were deductible.
[14] In conclusion, I believe that the wording
of paragraph 8(1)(b) is slightly ambiguous. I am prepared therefore to
follow the interpretation and conclusions of Justice Miller in Zitko.
The facts in Justice Miller's case are very similar to those before me. In
addition it is logically consistent with the comments of Diplock, L.J.
respecting the surrogatum principal. I am in complete agreement with
Justice Miller's comments that paragraph 8(1)(b) refers to amounts owed
by the employer or former employer – not amounts received from the
employer or former employer. The employer contracted with the insurer on behalf
of the employee as part of a benefit package negotiated with the employee to
pay benefits owed by the employer in the event of disability. There is further
evidence of this in the final release (Exhibit R-2) where the Appellant
released the insurer:
... from any and all
actions, causes of action, claims, obligations and demands for damages, loss or
injury, howsoever arising, which heretofore has been or hereafter may be
sustained or acquired in respect of group policy no. 138410 issued to Workers
Compensation Board of Prince Edward Island for the period May 4, 1998 to
November 3, 2002 inclusive and in respect of an action brought ...
The Appellant's release is pursuant
to the contract between her employer and the insurer as well as the legal
action she was forced to take to obtain the benefits. The insurer paid the
funds to the Appellant pursuant to the group policy contract but I have no
problem looking behind the origin of the benefit funds to the underlying
employment contract and in doing so to find that it is the employer that owed
the Appellant.
[15] Therefore the appeal is allowed without costs
on the basis that the contract with the insurer to pay the Appellant disability
benefits is pursuant to the Appellant's employment contract with the former
employer. Since the insurer was paying the Appellant on behalf of the employer,
for the purposes of paragraph 8(1)(b) the amounts were therefore
owed by the employer and consequently the legal fees are deductible.
Signed at Ottawa, Canada, this 19th
day of May 2005.
Campbell J.
Email this Content