R. Rousseau & Fils Ltée v. Minister of National Revenue, [1992] 1 CTC 2426

Tremblay, T.C.C J.:—

1. Point at Issue

The question is whether the appellant company was correct in claiming an investment tax credit in calculating its tax for 1982.

The qualified property involved in the tax credit calculation consists of buildings and equipment for piggeries. The latter were built by the appellant and leased to J.N. Brochu Inc. The appellant is a wholly-owned subsidiary of J.N. Brochu Inc.

Besides leasing piggeries, the appellant operates in two other areas, namely milling and pig rearing.

The appellant maintains that the buildings and piggery equipment are qualified property, since they are used by the lessee for farming within the meaning of subparagraph 127(10)(c)(viii) of the Income Tax Act, R.S.C. 1952,

c. 148 (am. S.C. 1970-71-72, c. 63) (the "Act").

The respondent refused to consider the piggery equipment as qualified property within the meaning of subsection 127(10) of the Act, since, it said, the appellant's principal business was not leasing property within the meaning of clause 127(10)(d)(i)(A). Each party supplied figures from financial statements in support of its argument.

2. Burden of Proof

2.01 The appellant has the burden of showing that the respondent's assessments are incorrect. This burden of proof results from several judicial deci- sions, including a judgment of the Supreme Court of Canada in Johnston v. M.N.R., [1948] S.C.R. 486, [1948] C.T.C. 195, 3 D.T.C. 1182.

2.02 In the same judgment, the Court decided that the facts presumed by the respondent in support of the assessments or reassessments are also presumed to be true until the contrary is shown. In the instant case, the facts presumed by the respondent are described in paragraph 5(a) to (i) of the respondent's reply to the notice of appeal. That paragraph reads as follows:

5. In assessing the appellant for its 1982 taxation year, the respondent Minister of National Revenue assumed, inter alia, the following facts:

(a) in 1979, 1980, 1981 and 1982, the appellant rented piggeries with related

equipment to J.N. Brochu Inc., the appellant's shareholder; [admitted]

(b) the appellant's costs for the rental of the said property related to financing, insurance and property tax; [admitted]

(c) in 1979, 1980, 1981 and 1982, the appellant operated a mill and a farm; [denied]

(d) the farm income consisted of the sale of pigs and the rearing of pigs was done on a farm owned by the taxpayer and by a third party, which was responsible for rearing the pigs; [denied]

(e) the appellant's employees' time and energy was spent on operating the appellant's mill; [denied]

(f) the total income from the mill made up most of the appellant’s turnover; [admitted]

Proportion of Sales

(Mill and Farm and Rental Income)

	1979	1980	1981	1982
Mill	$1,598,109 $2,302,000 $4,258,460 $ 991,540
Farm	$ 370,956 $ 291,363 $ 402,562 $ 215,596
Rental	$ 51,308 $ 306,197 $ 304,370 $ 257,076
	$2,020,373	$2,902,560	$4,965,392	$1,464,212
Percentage
Mill	79%	79%	86%	68%
Farm	18.5%	10.5%	8%	14.5%
Rental	2.5%	10.5%	6%	17.5%
Total	100%	100%	100%	100%
				[admitted]

(g) the appellant’s main business during the 1979, 1980, 1981 and 1982 taxation years was not the leasing of property; [denied]

(h) the respondent refused to treat the equipment leased in each of the 1979, 1980, 1981 and 1982 taxation years as qualified property within the meaning of s. 127(10) of the Income Tax Act; [admitted]

(i) the investment tax credit at the end of 1982 was determined in accordance with s. 127(9) and (10) of the Income Tax Act; [denied]

3. Facts

3.01 At the outset of the inquiry, the Court was told that the buildings were not involved, as they had been allowed. The only point at issue, therefore, is the equipment.

3.02 The appellant is a wholly-owned subsidiary of J.N. Brochu Inc. ("Brochu Inc.”).

3.03 The appellant's fiscal year is from November 1 of one year to October 31 of the next year.

3.04 In 1979-80 and 1982-83, the appellant built piggeries which it subsequently leased to Brochu Inc., which operates them.

3.05 Mr. Marc Landry of Saint-Isidore de Dorchester is the general manager of Brochu Inc. and of its subsidiaries, namely:

(1) Salaison Brochu Inc. of Saint-Henri de Lévis (pork butchery);

(2) Alphonse Lafleur Limitée of Saint-Henri de Lévis, which markets the products of Salaison Brochu Inc.;

(3) Charcuterie Le Baron of Saint-Henri de Lévis;

(4) Les Aliments C.D.J. Inc. of Cap-de-la-Madeleine;

(5) R. Rousseau & Fils Ltée (the appellant) of Saint-Agapit.

J.N. Brochu Inc. is, independently of its subsidiaries, the owner of the Saint- Isidore mill and its activities are 80 per cent operation of the mill and 20 per cent pig rearing. Mr. J.N. Brochu owns 25 per cent of the company's shares and private interests own 75 per cent.

3.06 The appellant's base is in Saint-Agapit, county of Lotbiniére, Quebec. It was purchased by Brochu Inc. in June 1978 for $160,000. The appellant was then a small mill producing 50 metric tons a week. In fall 1989, it was producing 3,000 tons a week. It had 300-400 pigs in 1978. In 1989, it had 1,000.

3.07 In late 1978 and early 1979, the decision was made to give the appellant another activity, that of constructing the buildings required by Brochu Inc. and its subsidiaries and leasing them. It was decided, first, to build piggeries. The piggery plans were supplied by Brochu Inc. Construction began in April or May of 1979. The piggery was divided into nine buildings each of which could hold 750 pigs. Elimination of waste and distribution of water and food were done mechanically.

3.08 The cost of these buildings is shown in the appellant's statement of assets (I-1, pp. 4a, 05, 38). It appears that the appellant's assets rose from $349,484 in 1978 to $1,399,907 in 1979. This increase came from the building of piggeries.

3.09 The first step in financing the piggeries in 1979 was a long-term loan from the Bank of Nova Scotia. In 1978, it was $8,773 and in 1979 $581,890 (1-1, pp. 05, 010). Short-term loans to the parent company and affiliates rose from $20,015 in 1978 to $334,336 in 1979. The capital invested by shareholders rose from $84,067 in 1978 to $161,762 in 1979 (I-1, p. 05).

3.10 Mr. Landry testified that on May 4, 1981 the Saint-Isidore mill burned down. J.N. Brochu Inc. rebuilt at Saint-Isidore. In fact, the Saint-Isidore mill did not become operational until November 1983. The witness, confirming his statement by a letter from the accountant Gaudet [sic] to the respondent, dated March 20, 1985, maintained that after the fire J.N. Brochu Inc., in 1981, in order to continue serving its customers, had to have its feed made on contract by third parties, including the appellant. Thus, during 1981, 1982 and 1983 the turnover of the appellant's milling division was swollen by this additional production volume.

According to Mr. Landry, during this period it was J.N. Brochu Inc. which in practice took control of the appellant's mill, using buildings, equipment and employees specialized in the preparation of 450 types of feed.

3.11 In July 1982, three of the appellant's nine piggeries burned down.They were piggeries numbered three (3), four (4) and five (5). They were rebuilt using the insurance compensation and a loan.

3.12 Sales from the activity "piggery leasing" and “gross” profit in the financial statements, after operating costs (interest on long-term debt, insurance and taxes, but excluding depreciation), are as indicated below in the financial statements from 1979 to 1982:

It appears from the financial statements that the leasing of piggeries ceased to be one of the appellant's activities in late 1984. In that year, this activity brought in $249,900 in sales and $147,615 in profit after deducting operating expenses (Exhibit 1-4).

It appears from the financial statements that the 1980-85 turnover from the appellant's mill and gross profit are broken down as follows:

1982 $ 991,203 $229,497 1984 $ 712,333 $237,769 1985 $ 907,016 $441,537

In order to obtain net income based on this calculation of gross income, other expenses must be deducted, including depreciation.

On sales from the "pigs" activity (Exhibit 1-1), Mr. Landry testified that the appellant bought piglets and had them raised by third parties, paying for feed and medication. This resulted from contracts remaining after the shares of Rousseau & Fils were acquired in 1978. This activity lasted until late 1982.

Sales, the gross margin after the cost of sales and gross profit after operating costs from this activity broke down as follows between 1979 and 1982:

In 1985, the activity "pig rearing" appears in the financial statements with sales of $543,749 and profits of $224,727 after operating costs, including $174,492 in salaries.

To summarize, for the year 1982 at issue and 1981, gross profits from the appellant's activities were as follows:

3.13 As to the salaries paid, the financial statements show in Exhibit I-1 the following figures for 1978-82 against the activity mill”:

The number of employees varied from three to five, including two part-time employees.

Salary expenses do not appear in the activities "piggery leasing”, "pigs" and "transport". However, there are management fees (for example, $32,000 for 1981) which apply as a deduction from the appellant's overall income. These fees are those paid, inter alia, to Mr. Marc Landry, whose work concerned in part the appellant's various sources of activity.

3.14 Mr. Michel Gaudette, a member of the accounting firm Gaudette, Gaudette et Potvin, filed and discussed the fixed assets statement (Exhibit A-1, Appendix I hereof) and profitability statement (Exhibit A-2, Appendix ll hereof) of the sources of income of the appellant, with the percentage relating to each source, for 1979-84.

3.15 Mr. Gaudette explained in connection with the profitability statement (A-2) that 1979 is not shown because in that year there were no profits, only losses. This was the year building took place. There were only two months of income.

3.16 Mr. Gaudette also explained that the "transport" source of income consisted essentially of the leasing of trucks with bulk permits.

3.17 On the activity "pig rearing" which began in 1985, Mr. Gaudette explained that as with the leasing of piggeries, the appellant did not own the pigs. It supplied the buildings and equipment. It paid employees and other fixed expenses such as municipal taxes and interest on debt. J.N. Brochu Inc. provided the piglets, paid for feed and paid for veterinary fees, purchases of materials, transportation, marketing and delivery, and so on.

3.18 On the fixed assets statement, Mr. Gaudette said that Exhibit A-2 confirms what he had already written to the respondent in a letter dated March 20, 1985, namely that the building of piggeries in 1982 and 1984 at a cost of about $1,500,000 must be compared with the improvements to the mill in the same period, on the order of $725,000.

3.19 The equipment which is at issue, namely whether it was qualified property in 1982, had a value of $27,600 at the time. In previous years, its value was $112,000 in 1979, $50,000 in 1980 and $7,500 in 1981.

4. Act—Case Law—Analysis

4.01 Act

The provisions of the Income Tax Act on the investment tax credit involved in the instant appeal are the following: 127(5), 127(10)(b) and 127(10)(d)(i)(A). They read as follows:

127. (5) Investment tax credit.—There may be deducted from the tax otherwise payable by a taxpayer under this part for a taxation year an amount not exceeding the lesser of

(a) his investment tax credit at the end of the year, and

(b) the aggregate of

(i) $15,000, and

(ii) the amount, if any, by which the tax otherwise payable by him under this part for the year exceeds $15,000.

127. (10) Qualified property.—For the purposes of subsection (9), a “ qualified property" of a taxpayer means a property (other than a certified property) that is

(b) prescribed machinery and equipment acquired by the taxpayer after June 23, 1975, that has not been used, or acquired for use or lease, for any purpose whatever before it was acquired by the taxpayer and that is

(d) to be leased by the taxpayer, to a lessee (other than a person exempt from tax under section 149) who can reasonably be expected to use the property in Canada primarily for any of the purposes referred to in subparagraphs (c)(i) to (x), but this paragraph does not apply in respect of property that is a prescribed property for the purposes of paragraph (b) unless

(i) the property is leased by the taxpayer in the ordinary course of carrying on a business in Canada and the taxpayer is a corporation whose principal business is

(A) leasing property

4.02 Case law and doctrine

1. Combined Appraisers & Consultants Ltd. v. M.N.R., [1983] C.T.C. 2606, 83 D.T.C. 543;

2. Hady Construction (1971) Ltd. v. M.N.R., [1980] C.T.C. 2135, 80 D.T.C. 1101;

3. M.W.A. Gaz & Oil Ltd. v. M.N.R., [1974] C.T.C. 140, 74 D.T.C. 6123;

4. Thomas Company (Niagara) Ltd. v. M.N.R., [1984] C.T.C. 2733, 84 D.T.C. 1641;

5. Canadian Dyno Mines Ltd. v. M.N.R., 41 Tax A.B.C. 21, 66 D.T.C. 299;

6. Canvil Ltd. v. M.N.R., [1985] 2 C.T.C. 2541, 85 D.T.C. 699;

7. Interpretation Bulletin IT-371.

4.03

4.03.1 Because of the conditions set by cl. 127(10) (d) (i) (A) above and on the basis of the evidence submitted, therefore, it remains to determine which of the appellant's businesses was the principal one in the year at issue. Was it the leasing of property, as the appellant maintains, or the mill, as the respondent contends?

4.03.2 During the inquiry counsel for the appellant objected to the filing of Exhibit 1-2, the appellant's tax return for 1985, including the comparative financial statements for 1984 and 1985. I then reserved judgment on the objection for resolution in a decision to be rendered. My decision is to accept this evidence, even though it was subsequent to the year 1982 at issue. The appellant itself filed in A-1 and A-2 information relating, inter alia, to 1983 and 1984.

Further, the activity titled "piggery leasing" terminated in 1984 and in 1985 this same activity essentially began again in another form, namely "pig rearing". As these changes gave rise to arguments by counsel, I wanted to elucidate these points.

4.03.3 To clarify the point at issue, counsel properly referred to Interpretation Bulletin 117-371, which deals, inter alia, with the meaning of "principal business”. Paragraphs 5, 7 and 8 are worth citing:

5. Whether or not a business is a“ principal” business is a matter of significance only where the taxpayer carries on more than one business in the taxation year. The phrase "principal business” is not defined by the Act or the Regulations and accordingly the words must be given their usual meaning and the identity of a taxpayer's principal business determined from the facts of the particular case.

7. There is no standard set of criteria that may be looked to where the nature of each of a taxpayer's businesses is known but it must be determined which of them is his principal business; the significant factors of each case must be searched out and evaluated. In the department's view the following are among the factors which may be relevant;

(a) the profits realized by each of the businesses;

(b) the volume and the value of the gross sales or transactions of each business;

(c) the value of the assets of each business;

(d) the capital employed in each business; and

(e) the time, attention and effort expended by the employees, agents or officers in each business.

8. Although the determination of which of a taxpayer's businesses is the principal business is made in respect of a particular taxation year, it is often necessary to consider patterns over several years. Thus, if a particular business has been the principal business and in a particular year (evaluated in isolation from preceding and succeeding years) it fails to satisfy many of the tests, it does not necessarily follow that another business has become the principal business in that year. For example it may be that, because of economic conditions and not because of the change in management's policies, there has been in a particular year a reduction in the level of activities of the business which was the principal business,so that another business appears to have assumed that role. If this condition continues only in the short run and thereafter the business again satisfies the tests of being the principal business, the Department's view is that the principal business may not have changed during that period. Whether this is so in any particular case can only be determined by a review of the circumstances of that case.

4.03.4 The basis of the assessment for disallowing the tax credit on the piggery equipment is that the appellants principal business is the mill. The respondent relied on the fact that the volume of gross sales from the mill makes up most of the appellant's turnover. The accounting information for 1979-82 contained in paragraph 5(f) of the reply to the notice of appeal, cited above in para. 2.02, is in fact admitted by the appellant. Further, in 1984 and 1985 the mill’s turnover increased to $712,333 and $907,016 (3.12), which supports the respondent's argument on this point.

4.03.5 However, turnover is not the only criteria. There is also the question of time, attention and effort expended by employees, offices or managers on each business”, counsel for the respondent noted, citing Canadian Dyno Mines Ltd. According to the evidence, the salaries paid were paid particularly for the activity of the mill. In the year at issue the mill accounted for nearly $410,000 in salaries (3.13).

4.03.6 The appellant's argument is that the “ mill” activity in 1981,1982 and 1983 was not really representative. It argued that it was because the Saint- Isidore mill owned by the parent company burned down in May 1981 that J.N. Brochu Inc. decided to use the appellant’s mill during the rebuilding period, which ended in November 1983. During 1982, the year at issue, the production of the appellant's mill was 75,000 metric tons, 51,000 tons of which came from customers of J.N. Brochu Inc. (3.10). Further, during that period, the appellant only provided manpower to keep up the building and pay the overhead (3.10). The appellant's position on this point finds support both in paragraph 8 of Interpretation Bulletin IT-371, cited above (4.03.3), and in M.W.A. Gaz & Oil Ltd. (4.02.3).

4.03.7 The appellant further argued that the “fixed assets" test must be considered. It is clear from Exhibit A-1 that this test strongly favours the appellant's argument (3.08 and 3.18).

4.03.8 The appellant argues that the profit test is by far the most important one. Referring to Combined Appraisers and Consultants Ltd. (4.02.1) and Hady Construction (1971) Ltd. (4.02.2), counsel noted that the ultimate objective of any business is to make a profit. In the final analysis, Exhibit A-2 shows that the business with the best profit was the leasing business, especially as according to the appellant the "transport" activity was simply the leasing of trucks to transport bulk merchandise (3.16). This activity can thus be taken with the leasing of real property, as both are the leasing of property within the meaning of clause 127(10)(d)(i)(A), cited above (4.01).

4.03.9 Counsel for the appellant even alleged in oral argument that the use of the appellant's mill by J.N. Brochu Inc. during the period from June 1981 (after the fire at the Saint-Isidore mill in May 1981 (3.10)) to 1983 (end of rebuilding at the Saint-Isidore mill (3.10)) was essentially a leasing. The appellant only paid salaries and overhead, and J.N. Brochu Inc. paid the rest and had overall control. The Court is not prepared to share this view, but is willing to admit that the sudden increase in the "mill" business was due simply to a temporary or occasional cause, the fire at Saint-Isidore in May 1981, while reconstruction was under way. Additionally, the Court is persuaded that "profit" and "investment" are the key factors in this matter, based on the weight of evidence in this regard (4.03.7 and 4.03.8).

4.03.10 I consider that the weight of the evidence support the appellant's argument.

5. Conclusion

The appeal is allowed with costs.

Appeal allowed.