Her Majesty the Queen v. Halliburton Services Ltd., [1990] 1 CTC 427, 90 DTC 6320

Urie, J.A.: — The sole issue in this case is whether the respondent during its 1976 and 1977 taxation years manufactured or processed goods for sale or lease within the meaning of paragraph 125.1 (3)(a) of the Income Tax Act ("the Act") to entitle it to deduct from tax otherwise payable by it the manufacturing and processing tax credit provided by section 125.1 of the Act.

The respondent carries on business as an oil well service company in competition with several other similar companies, providing specialized services and products to the oil and gas industry in Canada. One of those competitors is Nowsco Well Service Ltd. whose appeal from reassessments for income tax for the 1977, 1978 and 1979 taxation years was also successful at trial in the Trial Division. The appeal by the Crown from that decision was heard immediately prior to this appeal. There were three issues in that appeal, the first of which was identical (except for the tax years in issue) to the sole issue herein. The respondent here did not cross appeal on the other two issues so that they are not before us in this appeal.

No useful purpose would be served in reviewing the facts since they are virtually identical for all material purposes, to those which were set out in my reasons for judgment in the Nowsco appeal. As in that appeal, counsel for the appellant at the outset conceded that the respondent was engaged in either the manufacturing or processing Within the meaning of paragraph 125.1(3)(a) of the Act; probably processing. He did not really argue with conviction that that which the respondent was processing was "goods". The issue thus narrows itself down to whether or not the respondent processed those goods "for sale".

The learned trial judge in this case, Reed, J., commenting on the assertion of appellant’s counsel that in the provision of the services and products by the respondent to its customers its main activity was in the provision of the former, and that the production of the goods was only incidental thereto so that the contract between the parties was really one for work, labour and material and not one for the sale of goods, had this to say about that assertion: [1]

The Defendant does not dispute the fact that in all three activities there is processing carried out. Nor does she dispute the fact that “goods” are produced. What is disputed, however, is that there is a "sale of a good". It is argued that the Plaintiff’s main activity is the provision of services and that the production of goods in connection therewith is only incidental to the service being provided. Therefore, it is argued there can be no “manufacturing or processing of goods for sale" as that concept is used in subsection 125.1(3)(b) of the Income Tax Act.

This argument is based on the well known distinction between contracts for the sale of goods and contracts for work, labour and materials, developed with respect to sales of goods legislation. The defendant cites in support of its argument Sterling Engine Works v. Red Deer Lumber Co. (1920), 51 D.L.R. 509 (Man. C.A.), and Scott Maritimes Pulp Ltd. v. B.F. Goodrich Canada Ltd. et al. (1977), 72 D.L.R. (3d) 680 (N.S.S.C. App. Div.). It is argued that the test of relative importance set out at page 40 of Benjamin-Sale of Goods (1974) is applicable, and that in the present case the services provided by the taxpayer are a much more important component of its contract with its customers than are the products it produces. It is argued that the services and products are inseparable; that customers (except with respect to one specialized product) do not purchase the goods without the services. The way the industry is structured makes it impractical for customers to do so (as noted above some of the processing of the product must necessarily be done at the well site immediately before use). It is argued that what the customer contracts for is the placing of the cement in the well, the fracturing of the hydrocarbon bearing formation, or the cleaning of the well to free it from debris, blockage etc., not the products used to accomplish these results. Also, in two cases (fracturing and cleaning) the product is consumed in the providing of the service.

I have considerable difficulty with this line of argument. In the first place, it is based on distinctions developed for purposes of the sale of goods legislation, not with respect to subsection 125.1(3)(b) of the Income Tax Act. I do not read subsection 125.1 (3)(b) as requiring that a taxpayer's profit has to arise out of a contract for a sale of goods as defined by the various Sales of Goods Acts. Subsection 125.1 (3)(b) does not talk of a sale of goods. It talks of profit arising out of the processing of goods for sale. There is no doubt that the products in question are sold to the Plaintiff's customers in the sense that the invoices list the cost of the various components which go into each product and the blending and processing charges are specifically detailed in the invoice.

Secondly, I do not find any requirement that the contract which gives rise to the taxpayer's profit must be of a particular nature, eg: one for the sale of goods and not one of a more extensive nature involving work and labour as well as the goods or material supplied. In my view it is the source of the profit, (arising out of process) that is important for the purposes of section 125.1(3)(b), not the nature of the taxpayer's contract with its customers.

In the third place, to adopt the distinction for which the Defendant argues would be to create an illogical result. As counsel for the Plaintiff pointed out, under such a regime, a manufacturer or processor of a product (eg: a chemical fertilizer) who also provided a service in connection therewith (eg: spreading the fertilizer for his customers) would be denied the processing tax deduction. If he merely sold the product to his customers he would be allowed the deduction.

In my reasons for judgment in the Nowsco case, I cited with approval the above passage and do so again. I also agree with Reed, J.'s analysis of the cases cited by counsel for the appellant and of the manner in which she distinguished the various cases cited to her and to us. For these reasons, and for the other reasons given in the Nowsco case, I am of the opinion that the respondent, being engaged, as its primary purpose, in the processing of goods for sale, was entitled to deduct from its tax otherwise payable, the manufacturing and processing tax credit provided by section 125.1 of the Act in the taxation years in issue.

Accordingly, the appeal should be dismissed with costs.

Appeal dismissed.