Rsi Research Ltd. v. Her Majesty the Queen (Informal Procedure), [1993] 2 CTC 2378

Rowe, D.T.C.C.J.:—The appellant appeals from a reassessment of income tax for the 1989 taxation year. In computing income tax for the 1989 taxation year the appellant claimed a refundable investment tax credit in the amount of $6,485 in respect of certain research expenditures on a project to develop a computer assisted control system for a feller-buncher, a piece of equipment used in harvesting timber. The concept was to develop a control system similar to a“ "joystick", a device familiar to those persons who play wargames on their computers. The claim was arrived at by calculating 35 per cent of the sum of $18,529, the amount of expenditures incurred on the research project, for which payment was received by the appellant from the British Columbia Advanced Systems Institute ("BCASI"). In issuing a reassessment, the Minister disallowed the refundable investment tax credit in respect of the feller-buncher control system on the basis that the amount was non-government assistance as referred to in paragraph 127(11.1) of the Income Tax Act, R.S.C. 1952, c. 148 (am. S.C. 1970-71-72, c. 63) (the "Act") as defined in subsection 127(9) of the Act.

The litigants agreed the appeal would be heard on a statement of agreed facts and issue, located within tab 1 of a binder of documents, filed as Exhibit A-1. The agreed facts are as follows:

(a) The appellant

1. During the appellant's 1989 taxation year ending August 31, it was a British Columbia corporation.

2. During the appellant's 1989 taxation year it carried on a business (the"SRED Business") of engaging in scientific research and experimental development ("SRED"), particularly robotics research, and exploiting its SRED on a commercial basis for profit.

3. In the absence of the contract (as defined below) the appellant would have had the sole right to receive the revenue, if any, derived from its commercial exploitation of its SRED.

(b) The BCASF and BCASI

4, The British Columbia Advanced Systems Foundation ("BCASF") is a non-profit organization within the meaning of paragraph 149(1)(l) of the Income Tax Act.

5. The BCASF was incorporated on June 23, 1986 under the Society Act (B.C.). A copy of the BCASF's Constitution is at tab 1.

6. The agent for the administration of the BCASF is the British Columbia Advanced Systems Institute ("BCASI"). Any actions taken by the BCASI in respect of the appellant were taken as agent for the BCASF and not on behalf of the BCASI.

7. Neither the BCASF nor the BCASI is a government, municipality or public authority.

8. At all times relevant to this appeal the BCASF and the BCASI dealt at arm's length with the appellant.

(c) The Project

9, On November 1, 1988 the BCASI issued a request for research proposals (the "request"). Copies of the request and an undated Public Tender announcement relating to the request are at tab 2.

10. At some time between November 1 and December 14, 1988 the BCASI sent a copy of the request to the appellant under cover of an undated letter inviting the appellant to bid on the request. A copy of the invitation letter is at tab 3.

11. Under covering letter dated December 14, 1988 the appellant made a proposal (the proposal") to the BCASI for $392,140 to develop a computer assisted fellerbuncher control system for timber harvesting (the"project"). The BCASI initially accepted the proposal on December 29, 1988. Copies of the proposal, covering letter and the BCASI's responsiveness checklist are at tab 4.

12. At some time between December 14, 1988 and March 13, 1989 the BCASI formally accepted the appellant's proposal but only for $100,000.

13. On March 13, 1989 the appellant wrote to the BCASI requesting additional funds. In the March 13 letter the appellant agreed in principle to pay a” royalty” to BCASI based on successful commercialization of the project. A copy of the March 13 letter is at tab 5.

14. On April 1, 1989 the executive committee of the BCASI agreed to increase the appellant's funding from $100,000 to $200,000. By memorandum dated April 6, 1989 the executive committee requested the BCASI awards committee to vote on the increase. A copy of the April 6 memorandum is at tab 6.

15. The BCASI approved the project for $200,000 by letter dated April 21, 1989, a copy of which is at tab 7.

16. The appellant commenced the project on or about May 1, 1989. For internal purposes the appellant assigned the project control number 2403. A copy of the appellant's project registration slip is at tab 8.

17. Under covering letter dated March 28, 1989 the BCASI sent a first draft contract to the appellant in respect of the project. Copies of the covering letter and the first draft are at tab 9.

18. Under covering letter dated April 19, 1989 the appellant returned the first draft to the BCASI with proposed amendments. Copies of the covering letter and revised contract are at tab 10.

19. Under covering letter dated April 24, 1989 the BCASI sent a second draft of the contract to the appellant for review and comment. Copies of the covering letter and second draft are at tab 11.

20. By letter (the “opinion letter") dated June 14, 1989 Thorne Ernst & Whinney delivered an opinion to the BCASI on the income tax implications of the BCASI making funds available to corporations such as the appellant for SRED purposes. A copy of the opinion letter is at tab 12.

21. The opinion letter assumed that the BCASI had four options for providing funding to corporations such as the appellant. The second option was for the BCASI to acquire a royalty interest in the results of projects such as the project. The opinion letter opined that if this option were chosen the money paid by the BCASI as the purchase price of the royalty interest would likely not reduce the corporations investment tax credit claims in respect of expenditures incurred in respect of their projects.

22. By memorandum (the"memorandum") dated June 9, 1989 but delivered June 15, 1989 from the BCASI to the appellant, the BCASI asked the appellant to choose one of the four options discussed in the opinion letter. A copy of the memorandum is at tab 13.

23. In response to the memorandum the appellant chose the second option of the opinion letter, as evidenced by the appellant's internal memorandum dated July 25, 1989, a copy of which is at tab 14.

24. Under covering letter dated July 28, 1989 the BCASI sent to the appellant a third draft of the contract. The third draft was revised to take into account the appel- lant’s choice of the opinion letter's second option. Copies of the third draft and covering letter are at tab 15.

25. On May 3, 1989 the BCASI announced the 14 projects which were to receive funding from the BCASI, including the project. A copy of the May 3 announcement is at tab 16.

26. On August 4,1989 the appellant suggested further changes to the third draft of the contract. A copy of the appellant's letter dated August 4 is at tab 17.

27. The BCASI revised the contract to take into account the appellant's August 4 letter and issued a fourth draft. The fourth draft of the contract (the "contract") was executed by the BCASI on August 8 and 11, 1989 and by the appellant on September 1, 1989. A copy of the contract as executed is at tab 18.

28. Under the contract the appellant agreed to perform certain SRED (the"project SRED") relating to the project and BCASI agreed to purchase for $200,000 (the "purchase price") the right to receive a percentage of any revenues derived by the appellant from the commercial exploitation of the project SRED.

29. RSI was under no obligation to repay the $200,000 or any part thereof during the project or anytime thereafter, except in accordance with section 7 and Schedule D of the contract.

30. Under the contract the appellant was to send invoices to the BCASI on account of the purchase price and BCASI was to pay each invoice within 30 days of receipt, less a 10 per cent holdback. The following table shows the dates on which the appellant invoiced the BCASI during the appellant's 1989 taxation year on account of the purchase price and the dates the BCASI paid the invoices:

Invoice		Invoice
Number	Invoice Date	Amount	Date Paid
1070	May 31, 1989	$4,869.40	September 11, 1989
1084	June 30, 1989	6,120.87	September 22, 1989
1096	July 31, 1989	8,593.58	September 22,1989
1102	September 15, 1989	5,636.09	October 17, 1989
Total		$25,219.94

Copies of invoice numbers 1070, 1084, 1096 and 1102 are at tab 19.

32. In its 1990 taxation year the appellant invoiced the BCASI for the balance of the purchase price and the BCASF paid each invoice.

33. Under covering letter dated August 14, 1990 the appellant delivered to the BCASI invoice number 1208 for $20,000, representing 10 per cent of the purchase price. This invoice was paid by the BCASI on August 22, 1990. Copies of invoice 1208 and the covering letter are at tab 20.

34. In its 1989 taxation year the appellant incurred expenditures towards the project of at least $18,529. A copy of the appellant’s R&D tax analysis for the project is at tab 21.

35. As shown in the table above, during its 1989 taxation year the appellant received from the BCASF, under the contract, on account of the purchase price, purchase payments totalling at least $18,529 (the"amount").

36. The appellant received the amount in its 1989 taxation year in the course of earning income from its SRED Business.

37. The appellant included the amount in its income from its SRED Business for its 1989 taxation year. A copy of a portion of the appellant's accounting records for its 1989 taxation year showing the inclusion in income of the amounts stated in invoice numbers 1070, 1084, 1096 and 1102 is at tab 22.

38. In September, 1989 the appellant delivered to the BCASI its phase one report on the project and on June 5, 1990 the appellant delivered to the BCASI its phase II report, copies of which are at tab 23.

39. The BCASF did not pay the amount in the course of earning income from a business or property.

40. The only benefit or advantage achieved by the BCASF in paying the amount was the fulfilling of its objectives and purposes set out in its constitution (tab 1).

In the appellant's notice of appeal at paragraphs 3.10 to 3.18, admitted by paragraph 1 of the reply to notice of appeal, the statutory regime for investment tax credits (ITCs) was set out as follows:

3.10 Subsection 127(5) of the Act states that a taxpayer may deduct from his tax otherwise payable for a particular taxation year an amount not exceeding his investment tax credit for that year.

3.11 Subparagraph (a)(ii) of the definition of investment tax credit” in subsection 127(9) of the Act states that in computing a taxpayer's investment tax credit for a particular taxation year there may be added the” qualified expenditures” made by him in that year.

3.12 Subsection 127(10.1) of the Act states that there may be added to the investment tax credit of a qualifying corporation for a particular taxation year an amount not exceeding 35 per cent of its qualified expenditures made in that year.

3.13 Paragraph 127(11.1)(c) of the Act states that in computing a taxpayer's qualified expenditures for a particular taxation year there shall be deducted any "nongovernment assistance” that, at the time of the filing of the return of income for the year in which the expenditure was made, the taxpayer has received, is entitled to receive or can reasonably be expected to receive.

3.14 Subsection 127(9) of the Act defines “non-government assistance" to be an amount that would be included in income under paragraph 12(1)(x) of the Act if that paragraph were read without subparagraphs (vi) and (vii).

3.15 Subsection 127.1(1) of the Act states that a taxpayer may, by filing a prescribed form, be deemed to have paid on account of his Part I tax owing for a particular taxation year an amount not exceeding his "refundable investment tax credit” for that year.

3.16 Subsection 127.1(2) of the Act defines refundable investment tax credit for a particular taxation year to mean a percentage, not exceeding 100 per cent, of a taxpayer's investment tax credit for that year.

3.17 Subsection 164(7) of the Act defines "overpayment" as the difference between the amount paid (including an amount deemed by subsection 127.1(1) of the Act to have been paid) by a taxpayer on account of his Part I tax for a particular taxation year and the amount owing by the taxpayer under Part I of the Act for that year.

3.18 Subsection 164(1) of the Act states that the Minister may and where requested by a taxpayer shall refund to the taxpayer any overpayment.

The scheme is such that the taxpayer who receives certain types of assistance, including non-government assistance, must reduce his refundable tax credits provided, however, the payment falls within paragraph 12(1)(x) of the Act, which is as follows:

12(1)(x) Payments as Inducement or as reimbursement etc.—any amount (other than a prescribed amount) received by the taxpayer in the year, in the course of earning income from a business or property, from

(i) a person who pays the amount (in this paragraph referred to as "the payor") in the course of earning income from a business or property or in order to achieve a benefit or advantage for himself or for persons with whom he does not deal at arm’s length, or

(ii) a government, municipality or other public authority where the amount can reasonably be considered to have been received

(iii) as an inducement, whether as a grant, subsidy, forgivable loan, deduction from tax, allowance or any other form of inducement, or

(iv) as a reimbursement, contribution, allowance or as assistance, whether as a rant, subsidy, forgivable loan, deduction from tax, allowance or any other form of assistance, in respect of the cost of property or in respect of an outlay or expense

to the extent that the amount

(v) was not otherwise included in computing the taxpayer's income, or deducted in computing, for the purposes of this Act, any balance of undeducted outlays, expenses or other amounts, for the year or a preceding taxation year,

(vi) except as provided by subsection 127(11.1), does not reduce, for the purposes of this Act, the cost or capital cost of the property or the amount of the outlay or expense, as the case may be,

(vii) does not reduce, under subsection (2.2) or 13(7.4) or paragraph 53(2)(s), the cost or capital cost of the property or the amount of the outlay or expense, as the case may be, and

(viii) may not reasonably be considered to be a payment made in respect of the acquisition by the payor or the public authority of an interest in the taxpayer, his business or his property;

Counsel for the appellant submitted the following arguments: the payment received by the appellant from BCASI does not fall within paragraph 12(1)(x) for three reasons, any one of which is sufficient to have the Court allow the appeal. First, neither BCASF nor its agent BCASI is a government, municipality or public authority. Therefore, the issue is whether BCASF is a payor within subparagraph 12(1)(x)(i) and it can only fit within that wording if it paid the amount to the appellant:

(a) in the course of earning income from a business or property;

(b) to achieve a benefit or advantage for itself; or

(c) to achieve a benefit or advantage for a non-arm's length person.

Since it is an agreed fact that BCASF did not pay the amount in the course of earning income from a business or property and there is no assumption by the respondent that BCASF achieved a benefit or advantage for a non-arm's length person, then the remaining issue is whether BCASF paid the amount to achieve a benefit or advantage for itself. It is an agreed fact that the only benefit or advantage received by BCASF in paying the amount was the fulfilling of its objectives and purposes set out in its constitution. In accordance with recognized definitions of "benefit" or "advantage" the compliance with its own constitution does not fall within that ambit.

Counsel further contended that the purpose of paragraph 12(1)(x) is to include amounts in income. However, if an amount is already included in income then, by virtue of subparagraph 12(1)(x)(v), it will be excluded. The appellant received the amount from BCASF in the course of its own SRED business and included such amount in its 1989 income pursuant to sections 3 and 9 of the Act, thereby preventing any inclusion in income under paragraph 12(1)(x).

Counsel further submitted that subparagraph 12(1)(x)(viii) operates to exclude amounts paid to acquire an interest in the taxpayer's property. Since BCASF agreed to pay the appellant the sum of $200,000, according to the schedule set forth in the agreement, to purchase the right to receive a portion of any revenues derived by the appellant from the commercial exploitation of the SRED, such right was clearly "property" as defined by subsection 248(1) of the Act.

Counsel for the respondent submitted that if BCASF was found not to be the “right kind of payor" then the amount received from it by the appellant would not have the effect of reducing the investment tax credit and the appellant should succeed. Therefore, in order that BCASF be a qualified payor under subparagraph 12(1)(x)(i) it must be found to have made such payment" in order to achieve a benefit or advantage" to itself. That benefit or advantage is to be found in the act of complying with its own purposes as set forth in the constitution.

Counsel further submitted that it is not enough for a taxpayer merely to include amounts into income under sections 3 and 9, the inclusion must be correct and the act of filing in such a manner does not preclude the operation of other sections of the Act to include such amount by virtue of a different method. As for the alleged purchase of "property" as defined by the Act, BCASF received nothing of value and the appellant had nothing to sell as the computer system was not yet commercially viable and no copyright or patent protection existed to prevent any other person from developing the same product. Counsel contended that an examination of the correspondence and documents, including the contract between the appellant and BCASF, demonstrates BCASF did not care at all how the appellant, as a recipient, categorized the funds. In fact, the appellant was given an option to choose the method of receipt of funds which would be most advantageous to it. The proper method for inclusion into income of the amount of $18,529 received by the appellant was under the provisions of paragraph 12(1)(x) of the Act and not under section 9, the effect being to eliminate 35 per cent of $18,529 or $6,485 as a refundable investment tax credit.

The first and third submissions of counsel for the appellant are mutually exclusive. If BCASF is not the right kind of payor, having received no benefit or advantage to itself, then that is the end of the matter. However, the submission, upon which counsel seemed to want to prevail, was that the amount paid by BCASF was excluded because the payment was made in respect of the acquisition by the payor of an interest in the property of the appellant. In this event, it no longer could be found that BCASF did not pay the money in order to obtain a benefit or advantage for itself.

Property, as defined in subsection 248(1) of the Act is "property of any kind whatsoever whether real or personal or corporeal or incorporeal and, without restricting the generality of the foregoing, includes a right of any kind whatever, a share or a chose in action". On September 1,1989 BCASI, on behalf of BCASF, and the appellant entered into a written contract, BCASI having executed same on August 8 and 11, 1989. Under the contract the appellant agreed to perform certain scientific research and experimental development (SRED) and in return for payment of the sum of $200,000 BCASF obtained the right to receive a portion of any revenues derived by the appellant from the commercial exploitation of the project. In the event the computer assisted control system for the feller-buncher used in timber harvesting could be put on the market, then BCASF was entitled to share in any revenue flowing from such sales to the extent and in the manner set forth in the contract between it and the appellant.

In Vaillancourt v. Canada, [1991] 2 C.T.C. 42, 91 D.T.C. 5408, the Federal Court of Appeal considered the definition of property as to whether it was broad enough to encompass a fractional interest in a multiple unit residential building (MURB). At page 49 (D.T.C. 5413), Décary, J., writing on behalf of the Court, after referring to the definition of property in subsection 248(1) of the Act, stated:

This definition could hardly be more inclusive and seems quite broad enough to me to take in a portion or fraction of property: a person who acquires a portion or fraction of property most certainly acquires property. [2]

I fail to see how it was necessary to the appellant to have protected its intellectual property in the project by patent, as it may have been premature to do so. In any event, that does not impinge on the issue as to whether the right, acquired by contract, of BCASF to share in the revenue from commercial exploitation of the SRED was property. It does not take much imagination to see that successful development of the control device could lead to substantial sales, world-wide, and as the originator of such a system, the appellant, with or without any patent protection, could still derive substantial revenue from sales, in which case BCASF would receive its share pursuant to the contract.

The respondent contended that BCASF did not care whether or not it received any rights to property or revenue from any commercial exploitation of any research project. BCASF was operating according to its mandate by making funds available for scientific research and experimental development in worthwhile fields of endeavour and issued options to the appellant so as to allow it to choose the most advantageous method of receiving the largesse, which, in any event, was going to be paid by BCASF which had approved the SRED proposal.

The Federal Court of Appeal in Friedberg v. M.N.R., [1992] 1 C.T.C. 1, 92 D.T.C. 6031 considered the matter of the taxpayer using a particular method of accounting for his income in trading in gold futures. At pages 2-3, (D.T.C. 6032), Linden, J.A. stated:

In tax law, form matters. A mere subjective intention, here as elsewhere in the tax field, is not by itself sufficient to alter the characterization of a transaction for tax purposes. If a taxpayer arranges his affairs in certain formal ways, enormous tax advantages can be obtained, even though the main reason for these arrangements may be to save tax (see Canada v. Irving Oil, 1991] 1 C.T.C. 350, 91 D.T.C. 5106, per Mahoney, J.A.). If a taxpayer fails to take the correct formal steps, however, tax may have to be paid. If this were not so, Revenue Canada and the courts would be engaged in endless exercises to determine the true intentions behind certain transactions. Taxpayers and the Crown would seek to restructure dealings after the fact so as to take advantage of the tax law or to make taxpayers pay tax that they might otherwise not have to pay. While evidence of intention may be used by the courts on occasion to clarify dealings, it is rarely determinative. In sum, evidence of subjective intention cannot be used to correct documents which clearly point in a particular direction.

An examination of paragraphs 10 through 27 of the statement of agreed facts chronicles the history of the initial contact between the appellant and BCASF, culminating in the execution of a contract. Also, the facts contained Paragraphs 28 through 38 relate to the manner in which the appellant and BCASF conducted affairs pursuant to their contractual arrangement. I fail to see how the prolonged negotiations, the contract itself and the actions taken subsequent thereto and in pursuance of said contract, can be said to be a sham or subterfuge, artificially created to permit the appellant to exempt income from inclusion under subparagraph 12(1)(x)(viii). Therefore, I would allow the appeal

on the basis that the amount at issue was received by the appellant from BCASF under circumstances in which it could reasonably be considered to be a payment by BCASF made in respect of the acquisition by it of an interest in the appellant's property. It would then be excluded from income under paragraph 12(1)(x) of the Act.

In the event that I am wrong in this conclusion, and that BCASF did not obtain property in respect of the payment, then I would allow the appeal on the other ground that BCASF, as payor, was not the kind of payor whose payment would require the appellant, as recipient, to have the amount included under subparagraph 12(1)(x)(i) or (ii) It It is somewhat unusual to be compelled to look at the characteristics of the payor in order to determine whether a certain payment is to be considered income in the hands of the recipient. Generally, the issue of benefit or advantage is looked at from the perspective of the person receiving something but the particular wording in the Act seems to recognize that on occasion/' it is more blessed to give than to receive". It is agreed that the only conceivable advantage or benefit accruing to BCASF in its role as payor would be in fulfilling the objectives and purposes set out in its constitution. One has become accustomed over the years to governments reaping revenue from so-called "sin taxes" but in this instance the respondent seeks to tax a payment to a recipient, under a special charging provision, because the giver was a good corporation, complying with the requirements of its constitution under the terms of the Society Act of British Columbia. Doing what any person, natural or corporate, is compelled to do in order to abide by the law cannot be construed as being a benefit or advantage for the purposes of a taxing statute. It has long been recognized that in matters of fiscal jurisprudence, the issue is money and only money, without regard to the niceties of equitable principles or philosophical debate.

The appeal is allowed with costs. The matter is referred back to the respondent for reconsideration and reassessment on the basis that the amount in issue was not non-government assistance as defined in subsection 127(9) of the Act.

Appeal allowed.