Brydges v. R., [1996] 1 CTC 2851

Bell J.T.C.C.: — These Reasons for Judgment are representative of a number of Appellants who

A. claimed a capital cost allowance deduction from income tax, under Class 12 of Schedule II to the Income Tax Regulations, of an amount alleged to have been expended by them in the 1981 taxation year for the acquisition of a “certified short production” (referred to as “Reed Travel Library”). Each appeal was instituted from a reassessment by the Minister of National Revenue disallowing such claim, and/or

B. claimed as capital cost allowance, under Class 10 of Schedule II to the Income Tax Regulations, 30% of an amount alleged to have been expended by them in 1982 for the acquisition of undivided interests in “video tapes” (referred to as “Reed Medical Library”). Each appeal was instituted from the reassessment by the Minister disallowing such claim for the Appellant’s 1982 and certain subsequent taxation years.

Counsel agreed that all appeals would be heard on common evidence.

GENERAL

The Notices of Appeal were apparently prepared as “blanket” appeals in these cases designed to cover all potential appeal objectives of each Appellant. A given Notice of Appeal did not deal with the individual circumstances of an Appellant. In some cases, two Notices of Appeal, including one in the above described general form, were filed for the same taxation year. The resolution of that problem, discussed in detail at the hearing, does not result in overall clarity because of incomplete and inconsistent documentation in the assessment and subsequent procedural steps. The lack of certainty as to what matters are under appeal in what years leaves the Court unable to prepare a Judgment in each case dealing accurately with the specific circumstances of a given Appellant. Therefore, section A of these Reasons will apply to the Appellants who invested in the Reed Travel Library and section B of these Reasons will apply to the Appellants who invested in the Reed Medical Library.

The Judgment for each Appellant will attach a copy of these Reasons for Judgment and will direct reassessment of each Appellant in accordance with same.

A. REED TRAVEL LIBRARY

The issue is whether the Appellant, in the 1981 taxation year, had acquired an interest in a “certified short production” as defined in section 1104(2) of the Income Tax Regulations.

That term is defined, in part, as follows:

“certified short production”, in respect of a particular taxation year, means a motion picture film or video tape certified by the Minister of Communications to be a film or tape of less than 75 minutes running time in respect of which all photography, taping or art work specifically required for the production thereof and all film or tape editing therefor were commenced after May 25, 1976, certified by him to be a film or tape in respect of which the principal photography or taping thereof was commenced before the end of the particular taxation year or was completed no later than 60 days after the end of the particular taxation year and certified by him to be...

(b) a film or tape in respect of which

(i) the individual who performed the duties of producer was a Canadian,

and

(ii) not less than 75 per cent of the aggregate of all costs incurred in respect of producing the film or tape, including remuneration and processing, was paid or payable to, or in respect of services provided by, Canadians,

other than a film or tape

(g) in respect of which certification under this definition has been revoked

by the Minister of Communications as provided in paragraph 10(b);

[Emphasis added. I

The authority for a Class 12 deduction is that subsection 1100(1)(a) of the Regulations, for the purposes of paragraph 20(1 )(a) of the Income Tax Act, permits the deduction of capital cost allowance of 100% of the cost of an asset described in Class 12 of Schedule II to the Regulations. Paragraph

(n) of Class 12 includes “certified short production” as defined in Regulation 1104(2).

The transactions giving rise to the claimed deduction commenced with a public offering by prospectus dated November 12, 1981. It consisted of 3,000 Library Units of undivided interests comprising 100% ownership in 400 video tape programs constituting the Reed Travel Library. Each Appellant executed and delivered a form of subscription, promissory note, post-dated cheque and purchase agreement.

Although principal photography for the video tapes had been completed in 1981, the post-production work to complete the tapes had not been performed before the expiry of 60 days after 1981. The producer, Reed Communications Ltd., on a form marked Part A, dated February 15, 1982, and addressed to the Secretary of State, made an APPLICATION FOR CERTIFICATION OF A SHORT FILM/VIDEO respecting “Reed Travel Library — 400 programs - titles attached”. The Department of Communications issued to the producer a document dated September 9, 1982, entitled CERTIFICATION OF A CANADIAN MOTION PICTURE FILM/VIDEO TAPE. It showed December 28, 1981 as the date of completion of principal photography [1] and contained the words,

This is to certify that the above named titled is a ... certified short production-video which has fulfilled the requirements of Paragraph 1104(2)(j) [2] of the income tax regulations...

This Certification form contained a note to the applicant advising that if capital cost allowance under Class 12 of Schedule B to the Income Tax Regulations was claimed a copy of the certificate should be included with the income tax returns.

Evidence established that a letter of September 9, 1982 accompanied this certificate. It stated, in part, that

This certificate is issued conditionally on the basis of information provided in Part A.... Part B of the form must be completed and submitted ... within one year of completion of taping ... in order to confirm this ertificate. I would like you to note that failure to complete Part B of ... or to provide the necessary documentation to prove that you have fulfilled the criteria outlined in the Regulations will be reason to revoke the certificate.

[Emphasis added.]

Subsequent to this the Appellant made a claim for a deduction of 100% of cost under Class 12 as aforesaid. The producer’s affairs, because of financial problems, were taken over by a Committee of Interim Trustees. This Committee filed a Part B application on August 24, 1983, extensions for completion of post-production worked having been granted.

Extensive evidence was given by Mr. R.L. Soucy of the Department of Canadian Heritage (formerly Department of Communications) about the institution of two procedural steps leading to certification. These steps were a matter of internal procedure, not sanctioned or created by legislation or regulations. They were

(a) Part A application being a provisional application for certification, and

(b) Part B being an application for final certification.

Mr. Soucy and an officer of the Department of National Revenue described administrative procedures and policies, the reasons for the introduction of the Part A and Part B applications, the series of extensions given to the production company and the inter-departmental discussions respecting revocation. This appears to have been the foundation for the Respondent’s argument about its perceived need for the completion of the video tapes.

A document addressed to the Appellant from the Department of Communications dated August 24, 1988, and entitled NOTICE OF REVOCATION, stated that

The certificate for each of the short videotapes listed below, originally issued by the Assistant Deputy Minister of Communications, is now revoked.

Under paragraph 1104(10) of the Income Tax Regulations, a certificate that has been revoked is “‘null and void from the time of its issue”.

I accept Appellant’s submission that the purported revocation was ineffective. Having received the Certification aforesaid, the Appellant was entitled to the deductions sought under Class 12. The language of the Regulations makes it clear that a taxpayer can have a deduction in respect of a video tape to the extent of expenditures thereon in the year in which that deduction is sought. The expressed requirement to complete and submit a Part B application upon penalty of revocation, is inconsistent with the definition of “certified short production”. That definition contains the requisites of certification and refers to Regulation 1104(10) which contains the conditions for revocation of that certification. These requisites and conditions cannot be altered by departmental procedures.

There is no concept of conditional certification authorized by the Act or Regulations other than the potential revocation permitted by Regulation 1104(10). The letter accompanying the Certification states that failure to complete Part B will be reason to revoke the certificate. There is no legislative or regulatory authority for that statement. Completion or noncompletion does not affect the Appellant’s right to a deduction of capital cost allowance under Class 12 once the certification is made.

The NOTICE OF REVOCATION, expressed to be made under paragraph 1104(10) of the Regulations is invalid because the only basis in that Regulation for same is “an incorrect statement” made in the furnishing of information for the purpose of obtaining that certification. There is no evidence as to an incorrect statement having been made.

Accordingly, an Appellant who is an individual who invested in the Reed Travel Library in 1981 is entitled to a Class 12 deduction in the 1981 taxation year.

B. REED MEDICAL LIBRARY

The Appellants made loans to Reed Medical Library Ltd. (“Company”), the video tape producer, in 1981 and 1982 to assist the Company to produce 400 video tapes to constitute the Reed Medical Library. The purpose of these tapes was to provide lay persons with information on a broad cross-section of medical and health subjects. At the end of 1982 the Appellant, because of the producer’s financial difficulties and consequent inability to repay the loans on the due date of August 15, 1982, exchanged the loan under a conversion document, for an undivided interest in the then incomplete tapes. The lenders hoped to complete and market the Library. The Appellant, in a subsequent year, sold his interest in the Library to a numbered company, apparently for the sum of $1.00 [3] . The Appellant then claimed a terminal loss on the disposition of the Library interest.

The Minister took the position that the Appellant had not acquired depreciable property or, indeed, any property in 1982. He treated the sale for $1.00 as a disposition by the Appellant of the debt owing to the Appellant by the Company and reassessed disallowing the terminal loss claim and granting an allowable business investment loss, under sections 3 and 38 of the Income Tax Act, for the 1984 taxation year. [4]

The issues are:

(1) whether the interest in the Library was acquired by the Appellant in 1982, with the concurrent disposition of his debt,

(2) the value of any property acquired by the Appellant, and

(3) whether that property was depreciable.

I accept the argument that the Appellant acquired an interest in the Library in 1982. The Respondent, taking the position that the Appellant did not acquire any such interest in 1982, submitted that by virtue of section 21(6) of the Alberta Sale of Goods Act the Library was not in a deliverable state and was not unconditionally appropriated to the contract with the result that no property could pass to the Appellant. However, by virtue of section 21(1) of that Act, section 21(6) would apply only if no different intention appeared. I am satisfied from the evidence that title to the Library, in its then state, was intended to pass and that the Appellant acquired the Library interest in 1982. A typical document addressed to the Company, dated December 10, 1982 read in part,

Please accept this letter as my offer to convert, at par, my note in the principal amount of ... into ... units of undivided interest in the Reed Medical Library.

The offer in that document was shown as having been accepted in writing by the Company. The result was that the Appellant acquired a Library interest in 1982 and disposed of his debt in that year.

Dealing with the second issue, namely the value of the Library interest received by the Appellant, little evidence was proffered by either the Appellant or the Respondent. Appellant’s counsel said that if the Court determines that the fair market value of the loans in December, 1982 was not their face value and if section 79 of the Income Tax Act did not apply then the Court “must determine what that fair value was”. In spite of statements of several witnesses that those tapes might be completed and marketed, the only indication touching upon the then value was contained in a letter written by the Company on August 3, 1982 to the lenders. [5] Portions of that letter read as follows,

We are writing to let you know that we will probably not be able to repay the interim funds advanced by you for the Reed Medical Library by the due date of August 15, 1982.... The major asset against which your funds were borrowed, the Reed Medical Library, has been fully produced but is still in an unedited form. In order to complete the editing of the Library and take it to market we will require an additional three to five million dollars ... Legally, you are entitled to demand payment in full on August 15, 1982. However, if a demand is made by yourself or one of the other interim lenders, the net result will probably be that no one will recover anything of the amounts loaned. Because the Library is not finished, and because it cannot be finished by any other organization than Reed Communications, it has little or no value in its present state. In effect, if a demand were made, there would be no asset against which to realize the demand.

[Emphasis added. ]

The evidence of Mr. R.L. Soucy, Chief of the Certification Office of the Department of Canadian Heritage, formerly the Department of Communications, was that all of the post-production remained to be done, including editing, sound work, synchronization of sound and picture, various processes to polish the film, to erase scratch marks and a number of other things. A viewing of representative tapes at the hearing corroborates his evidence. Based on this evidence, I conclude that the Library was, at the end of 1982, without value.

Appellant’s counsel urged the Court to conclude that the provisions of section 79 deemed the cost of the Library acquired on the “repayment of the debt” to be equal to the principal amount of the debt outstanding. The relevant portion of that section reads as follows:

Where ... a taxpayer who ... was a mortgagee or other creditor of another person who had previously acquired property ... has acquired or reacquired ... the property in consequence of the other person’s failure to pay all or any part of that amount ... owing by him to the taxpayer ... the taxpayer shall be deemed to have acquired or reacquired, as the case may be, the property at the amount, if any, by which the cost at that time of the taxpayer’s claim exceeds... [certain specified amounts]

This section does not apply because the Appellant did not acquire the interest in the Library “in consequence of” the company’s failure to pay all or any part of the amount. The transaction giving rise to the acquisition of the property was an independent business transaction.

Respecting the third issue as to whether the property was depreciable, because the Appellant disposed of the debt owing to him by the Company in 1982, receiving no value in return therefor, the Appellant incurred no cost for property. Therefore, no decision as to whether such property was depreciable need be made. The Appellant is not entitled to capital cost allowance and is not entitled to a terminal loss.

The Appellant disposed of the debt in 1982. It is that year, not 1984, in which an allowable business investment loss arose.

Accordingly, an Appellant who invested in the Reed Medical Library is entitled only to an allowable business investment loss in 1982.

Conclusion

The appeal will be allowed without costs and the assessment will be referred back to the Minister for reconsideration and reassessment.

Appeal allowed in part.