J.D. Irving Limited v. Agence du revenu du Québec, 2020 QCCQ 2423, aff'd 2022 QCCA 241

The taxpayer ("JDI") and another pulp and paper company in the Irving group (“IPPL”) participated in transactions to effectively transfer non-capital losses (“NCLs”) from an oil refining company (“IOL”) in the Irving group to the taxpayer. In December 2002, IOL acquired pollution control equipment (“PCE”), that IPPL had been using in its pulp facilities, from IPPL under TA s. 85(1) and TA s. 518, at an agreed amount of $3. In the same month, JDI acquired the PCE from IOL for $120 million (claiming that amount in CCA thereon for 2002), and agreed to operate the PCE in consideration for “throughput fees” and cost reimbursements payable to it by IPPL pursuant to “Operating and Services Agreements” (“OSAs”) governed by New Brunswick law. In January 2003, after having earned about $1.3 million in throughput fees, JDI transferred the PCE “back” to IPPL on a rollover basis with an elected amount of $3. Further transactions to a similar effect were implemented in 2003, with one variation being that in May and June transactions, the PCE was sold by IOL to a wholly-owned inactive subsidiary (“IRF’) of the taxpayer, with IRF making substantial CCA claims that generated a NCL, and then being wound-up under inter alia s. 88(1.1) into the taxpayer.

The ARQ attacked on the basis that the PCE constituted leasing property to the taxpayer (and, subsequently, to IRF), so that the Quebec leasing property restriction rules denied the deduction of CCA so as to generate NCLs. In particular, although the OSAs provided that the taxpayer (and then IRF) was to operate the PCE, the taxpayer delegated to IPPL, in consideration for fees, the performance of all the such operating services, so that nothing had changed “on the ground.”

In allowing the taxpayer’s appeal and finding that the PCE generated business income rather than leasing revenue to it (and IRF), Fournier JCQ accepted that submissions of the taxpayer (quoted in English at para. 98) that a “legal right of exclusive possession is essential to the existence of a lease at common law” and that here no legal right of possession of the PCE is conferred upon IPPL under the Operating and Services Agreement, let alone an exclusive right of possession.” Furthermore (para. 109, TaxInterpretations translation) whether the taxpayer had “delegated or subcontracted to IPPL the performance of its contractual obligations (Contract Services) to operate and maintain the PCE is irrelevant”: similarly to Stubart, the taxpayer “carried on business through an agent, in this case IPPL” (para. 127).

The ARQ assessed the taxpayer (JDI) on the basis that the pollution control equipment (“PCE”) that JDI provided IPPL on a for-fee basis pursuant to “Operating and Services Agreements” (“OSAs”) governed by New Brunswick law was, in fact, leasing property, so that the Quebec leasing property restriction rules denied the deduction of CCA so as to generate non-capital losses. In particular, although the OSAs provided that JDI was to operate the PCE, JDI delegated to IPPL, in consideration for fees, the performance of all such operating services, so that nothing changed “on the ground.”

In allowing JDI’s appeal, Fournier JCQ found that the delegation of the performance of the services to IPPL did not detract from the services nature of the OSAs. In this regard, he stated (at paras. 126-127, TaxInterpretations translation ):

As in Stubart ... the appearance created by the OSAs corresponds to reality and the obligations set out therein are legal obligations in the sense that they are fully enforceable at law.

The Supreme Court in Stubart Investments Ltd thus recognized the validity of the contract constituting Stubart as agent, without concluding that Grover could not, in these circumstances, carry on a business itself. The same is true here. JDI carried on a business through an agent, in this case IPPL.

A loss consolidation transaction involved a company (“IPPL”) in the Irving group of companies transferring, in December, its pollution control equipment on a rollover basis to an affiliated lossco, which then sold the equipment for $120M to the group profitco (“JDI”), which then claimed $120M of CCA and, in January of the next year, transferred the equipment back to IPPL on a rollover basis. The Court rejected an ARQ challenge to this transaction through treating the equipment in JDI's hands as subject to the leasing property restriction rules.