Kenneth A. Shere v. Minister of National Revenue, [1989] 1 CTC 2286

Couture, C.J.T.C.: —This appeal deals with the appellant's 1983 taxation year. He was an employee of the National Film Board (the Board), a Canadian Crown Corporation assigned to its New York office where he had carried on the duties of his office. He lived there permanently for seven years prior to 1983. Before that he worked for his employer in Canada. While employed in New York his salary was paid by the Board in Canadian funds by depositing it in a bank account in Montreal.

During 1983 he made charitable donations to organizations in the United States in the amount of $1,673 Canadian. This is admitted by counsel for the respondent in the reply to the notice of appeal.

As a deemed resident of Canada under the provisions of paragraph 250(1)(c) he filed an income tax return in Canada in which he claimed the donations as a deduction in computing his income.

Paragraph 250(1)(c) reads:

250(1) For the purposes of this Act, a person shall, subject to subsection (2), (which is irrelevant to this appeal) be deemed to have been resident in Canada throughout a taxation year if

(c) he was, at any time in the year,

(i) an ambassador, minister, high commissioner, officer or servant of Canada, or

(ii) an agent-general, officer or servant of a province,

and he was resident in Canada immediately prior to appointment or employment by Canada or the province or received representation allowances in respect of the year.

The respondent disallowed the deductions relying on the following facts mentioned in the reply to the notice of appeal :

7. In assessing the appellant's 1983 taxation year, the Respondent relies, inter alia, upon the following facts:

(c) During the 1983 taxation year, the Appellant made charitable donations to United States organizations in the amount of 1,673.00$;

(d) The Appellant was not able to provide any official receipts from those above-mentioned organizations, after being duly requested;

Counsel for the respondent invoked the application of the following statutory provisions in her reply:

10. The Respondent submits that the Appellant cannot take advantage of the deductions provided for by section 110(1)(a) of the Income Tax Act since the said charitable donations were made to United States organizations which are not encompassed by the expression 'registered charities' within the meaning of section 110(8)(c) and are not any other institutions enumerated in section 110(1)(a) of the Income Tax Act;

11. Furthermore, the Respondent contends that the Appellant cannot benefit from the deeming provision of section 110(3) of the Income Tax Act since he was not residing in Canada during the whole taxation year of 1983 near the boundary between Canada and the United States of America;

12. Moreover, the Respondent submits that the Appellant cannot take advantage of the deductions provided for in article XII] of the Canada-United States Tax Convention given that the Appellant did not have any income from sources in the United States being employed by the National Film Board of Canada;

At the hearing counsel conceded that the question of receipts was no longer in issue and admitted that the donations were made to charitable organizations in the United States. She summarized the issue before the Court as follows: "That you can't claim a deduction for the charitable organizations in the United States. That is the point in issue.”

The appellant relied entirely on the application of Article XIII D 2 of the Canada-United States Income Tax Convention at the relevant time (the Convention) in support of his submission contending that he met the test of that provision and was therefore entitled to deduct his charitable donations.

A long-established and accepted doctrine confirmed by the jurisprudence holds that the provisions of an international tax convention have precedence over the application of domestic tax legislation. In addition the Act that implements the Convention in Canada know as the Canada-United States of America Tax Convention Act (the Convention Act), 1943 being Chapter 21 of the 1943 Statutes of Canada provides in section 3:

In the event of any inconsistency between the provision of this Act and or of the said Convention and Protocol and the application of any other law, the provisions of this Act and of the Convention and Protocol, shall to the extent of such inconsistency, prevail.

The provisions of Article XII] D 2 of the Convention in force in 1983 read:

Art. XIII D 2. In the computation of taxable income for any taxation year under the income tax laws of Canada, there shall be allowed as a deduction gifts to any organization created or organized under the laws of the United States (and constituting a charitable contribution for the purposes of the income tax laws of the United States) if and to the extent such gifts would have been allowable had such organization been a Canadian charitable organization: Provided, however, that such deduction shall not exceed an amount determined by applying to the taxpayer's income from sources in the United States upon which he is subject to tax in Canada the same percentage as is applied by Canada to income in determining the limitation of the deduction for such gifts.

Five conditions have to be met under this Article so that a resident of Canada may deduct donations or gifts to United States charitable organizations:

1. The organizations must have been created or organized under the laws of the United States;

2. The donations or gifts must have constituted a charitable contribution for the purposes of the income tax laws of the United States;

3. The donations or gifts would have been allowable had such organization been a Canadian charitable organization;

4. The deductions shall not exceed the taxpayer's income from sources in the United States taxable in Canada; and

5. The quantum of the deduction against United States source income must not exceed the percentage applied in Canada to the taxpayer's income.

In argument counsel for the respondent submitted in support of the validity of the assessment that the United States charitable organizations to which the appellant had made donations were not "registered charities" within the meaning of the provisions of paragraph 110(1)(a) of the Act, and further that the appellant had no income from sources in the United States.

I cannot accept her first contention that the donations or gifts in question are not deductible because they were not made to “registered charities” in accordance with the provisions of subparagraph 110(1)(a)(i). The provisions of Article XIII D 2 of the Convention do not impose such a requirement. To accept the validity of her proposition that only donations or gifts to a "registered charity" as provided in paragraph 110(1)(a) are deductible in computing the income of a resident of Canada in the light of the provisions of Article XII] D 2 of the Convention would come in direct conflict with the provisions of Article 3 of the Convention Act referred to above and the jurisprudence in addition to defeating the sole purpose of the existence of that Article. For these reasons, I have to reject the validity of this submission.

The only condition stipulated in Article XIII D 2 regarding the character of charitable organizations is that the gifts would have been allowable had the American organization been a Canadian charitable organization. This issue was not raised in the respondent's pleadings and therefore was not a test that the appellant had to meet. She restricted her pleadings to a single issue in regard to Article XIII D 2, namely that he had no income for the taxation year from sources in the United States. I disagree with this contention.

The fact that the appellant's employer was a resident of Canada and that he was paid in Canada in Canadian funds are not determinative in my opinion, at least in these circumstance, of the territorial source of his income in 1983.

The income of an employee in the situation of the appellant is earned and arises from performing his duties within the requirements of his contract of employment and the location or territory wherein such duties are performed establishes the source of such income. I do not believe that the place where a contract of employment is entered into or the fact that the employee is paid at a location different from the one in which he performs his normal duties, whatever the currency, determines the territorial source of his income.

A contract of employment of itself is not generative of income for the employee and is only a prerequisite to the employment income earning process. What generates such income is the actual performance of the duties described in the contract of employment. It therefore follows that the territorial source of employment income is where such duties are so performed. In my opinion the territory in which employment income is paid and the currency in which it is paid are features that carry little weight, if any, in determining the territorial source of income. Barring a statutory provision asserting these features as the basis of a determination, or exceptional and unique circumstances supporting them as a possible basis for a determination, I am satisfied that the determination of the territorial source of employment income must rest on the location where the duties to be performed by an employee under a contract of employment are so performed. What has to be determined is the source of the income and not of the situs of the employment contract itself.

To say that without a contract of employment there could not be a source of income is not persuasive as a legal basis for a determination of territorial source of income any more than to argue that without an employer there is no source of income. What must be focused on is the actual feature that generates income, and normally, it is the performance of the duties prescribed in the contract of employment.

There is no Canadian jurisprudence dealing with the territorial source of income from employment as far as I know.

There are two decisions of Courts in England that should be referred to, namely, the decision of the House of Lords in Foulsham v. Pickles, [1925] A.C. 458, and the decision of the Court of Appeal in Bennet v. Marshall, [1938] 1 All E.R. 93. Foulsham was followed and applied in Bennet. The headnote in Foulsham reads:

The word "possessions" in Case V. of Sch. D to the Income Tax Act, 1918, includes an employment which is a source of income. So held on the authority Colquhoun v. Brooks (1889) 14 App. Cas. 493.

The respondent was employed abroad for nearly the whole of each year under a contract of service with an English company and was paid a salary and commission. The contract provided that the commission should be paid into a banking account in this country, and both the salary and commission were in fact paid in this country. The Special Commissioners of Income Tax assessed him under Sch. D., Case V., of the Income Tax Act, 1918, on his earnings under his contract as in respect of a possession out of the United Kingdom: —

Held, (1.) that, having regard to the mode of payment provided by the contract, the respondent's employment was not wholly out of the United Kingdom, and was therefore not a possession out of the United Kingdom, and that the assessment was wrongly made under Case V.;

(2.) that in the circumstances the matter ought not to be remitted to the Commissioners to make an assessment under some other Case.

Decision of the Court of Appeal [1924] 1 K.B. 323 affirmed.

The headnote in Bennet reads:

The respondent, who was resident in the United Kingdom, was vice-president of a company incorporated in the United States of America. The American company was a parent company having subsidiary companies all over the world, and the respondent supervised the activities of the subsidiary companies everywhere except in the United States of America and Canada. The respondent spent about 8 weeks in each year in America, conferring with the other officers of the American company, and for some months in each year he travelled all over the world supervising the work of the subsidiary companies. There was no reason, apart from his residence, for the respondent to be in England except when in his own discretion he considered that the English subsidiary company required supervision. Payment of his salary was made throughout by payments into his banking account in Canada. The Crown contended that, as the respondent was resident in the United Kingdom and carried on an employment partly in the United Kingdom, he was chargeable to tax under Sched. E in respect of the whole of the profits of his employment, whether carried on in the United Kingdom or elsewhere, and whether remitted to the United Kingdom or not: —

Held: the source of the respondent's income was the place where that income really came to the employee, and that place was Canada.

Decision of Lawrence, J., ([1937] 3 All E.R. 208) affirmed.

To my mind it is clear that Fou/sham is inconsistent with other English judicial pronouncements pertaining to trade, a profession or vocation that, with respect, I regard as correct and applicable to employment. The point is dealt with in the response for judgment delivered by Romer, L.J. in Bennet at pages 104-5. I think it is clear that His Lordship would have applied the other judicial pronouncements that I have alluded to and decided Bennet differently had he not regarded himself bound by Foulsham:

I therefore approach this case on the footing that every source of income of which it can be legitimately said that it is situated wholly abroad is taxable under Case V of Sched. D. In those circumstances, one has in cases of trades, professions, vocations and employments to ascertain where the source of income is situated. Naturally one cannot decide where the source of income is situated unless one knows what is the source of income. In respect of a trade, take the case of a partner, resident here, in a trade carried on wholly abroad. What is his source of income? Is it the partnership deed which secures to him a share in the profits in the partnership? Is it the activities of himself and his co-partners exercised abroad? Or is it the body of commercial contracts entered into with traders, and so forth, that produces the money out of which the profits—and therefore the income— ultimately are derived? Or can it be said that the customers themselves are the source of income?

Now, as regards a trade, I am glad to say that the question has been decisively solved, and solved in the way in which one would have expected it to be solved. It was held by Lord Esher, M.R., in the case of the London Bank of Mexico & South America v. Apthorpe, [1891] 2 Q.B. 378; 28 Digest 27, 141; 60 L.J.Q.B. 653; 65 L.T. 61; 3 Tax Cas. 143, that what one had to regard for the purposes of ascertaining the source of income was the place where the business was done—that is to say, the place where the trade was carried on—and, if it was carried on solely abroad then the case would fall within Case V. The same view was expressed by Lord Sumner in Mitchell v. Egyptian Hotels, Ltd., [1915] A.C. 1022; 28 Digest 26, 139; 84 L.J.K.B. 1772; 113 L.T. 882; 6 Tax Cas. 542. Lord Sumner there pointed out that, in considering whether the business activities had been conducted wholly abroad, one had to include amongst the business activities even a passive oversight and tacit control, so that, though the mere business activities were conducted abroad, yet, if one found in this country a passive oversight and tacit control, that would be a sufficient reason for saying that the source of the income was not wholly situated abroad.

As regards a profession or vocation, again there can be no doubt. The place of the source of income, the place where the source of income is situated, must be the place where the profession or vocation is exercised and carried on, as was indeed pointed out by Viscount Cave in the case of Foulsham v. Pickles, [1925] A.C. 458; 28 Digest 25, 131; 94 L.J.K.B. 418; 133 L.T. 5; 9 Tax Cas. 261, where he gave, as an instance of a profession being exercised wholly abroad, a doctor going abroad and exercising his profession there. Viscount Cave did not refer to the locality of the patients, for instance, from whom the doctor's income was earned, and who, in one sense, of course, might be regarded as the source of the doctor's income. The source was constituted by the activities of the doctor in carrying on his profession abroad.

Now, consistently with those decisions, I confess that I should have expected to find that in the case of an employment the locality of the source of income was the place where the employment was actually carried on by the employee—that is to say, where the activities of the employee were to be found—because I should have thought that it would be held, consistently with those other two cases relating to trade, that those activities, the activities of the employee, were the source of the income that he derived from his employment. Of course, in one sense it may be said that the source of the income that he earns by his activities is his contract of employment. Another possible view, I suppose, would be that the source of his income was his employer, so that, in finding out what was the locality of the source of income, one would have to find out what was the locality—which, I suppose, means the usual place of residence—of the employer. The House of Lords, as it seems to me, in Foulsham v. Pickles (supra) have definitely decided that in the case of an employment the locality of the source of income is not the place where the activities of the employee are exercised, but either the place where the contract for payment is deemed to have a locality or the place where the payments for the employment are made, which may mean the same thing.

The Supreme Court of Australia, however, did consider this question in the matter of Commissioner of Taxation (N.S.W.) v. Cam and Sons Ltd. (1936), 4 A.T.D. 32 (S.C.). The issue that the Court had to determine was whether the whole or any part of the wages earned by men employed on certain trawlers were taxable under the provisions of the Special Income and Wages Tax Amendment Act, 1933-34. The facts are as follows:

Men were hired in New South Wales at the ship’s side on the morning of the sailing for each cruise which took from 9 to 25 days. Men were paid in New South Wales on the return of the ships.

Income for the purpose of that Act included all income derived by a resident of the State from any source outside the State except—(a) income from wages, and —(b) income from the carrying on of a trade or business not being an investment business. The legislation also provided that unless the context required another meaning, "income" meant income derived, or deemed to be derived, directly or indirectly, from any source in the State or in respect of which tax was otherwise expressly made payable under the Act.

The Court had to consider whether the wages in question ought to be regarded as derived directly or indirectly from a source in New South Wales. The unanimous decision of the Court was rendered by Jordan, C.J. At page 33 he says:

The character of the source may depend upon which of the factors is dominant. The earnings of a carpenter who owns his tools, or of a taxi driver who owns his car, are treated as wholly derived from personal exertion, although they are, to a certain extent, derived from property. And there are many forms of income which are regarded as wholly derived from property, notwithstanding that an appreciable amount of personal exertion is involved in connection with the property. At a certain stage, which in a particular case it may be difficult to define with precision, an accentuation and change of direction of this element of personal exertion may, for example, prevent income received in connection with investments from having the character of income derived from property and endow it with that of income derived from personal exertion in an investment business. Where income is derived from wages or salary, again the source has several factors. Personal exertion may be involved in negotiating and obtaining the contract of employment, in performing the stipulated services, and in obtaining payment for them. In the present instance, for example, in the case of all the men concerned, in a very real sense it may be said that the source of their wages consisted of the three elements of getting the job, doing it, and getting paid for it. Which of these factors is the most important element of the source in any given case depends upon the facts of that case.

In the ordinary case of the employment of a seaman, such as is now under consideration, where there is nothing special, either in the circumstances of the contract of employment in the payment, and where the work is both done and paid for in the ordinary course, the all-important factor is the doing of the work; and the contract of employment and the payment are relatively insignificant and formal elements. But this is not necessarily so with respect to all wages or salary. In the case of an appointment to a sinecure, the engagement and the payment may be the only significant factors. In the case now before us, the engagement and the payment took place, and part of the work was done in New South Wales, but the bulk of it was done outside New South Wales. The source of the wages was thus partly within and partly without the State.

Jordan, C.J. referred to the comments of Lord Buckmaster in the decision of the House of Lords in Foulsham v. Pickles, [1925] A.C. 458 in which he said:

In the present case I do not think that the source of income was the employment of the respondent in West Africa. The source of his income was the money paid by an English company into an English bank in pursuance of an agreement for service made in this country.

At page 37, Jordan, C.J. says in respect to Lord Buckmaster's comments:

It is impossible to treat this observation as a decision of general application that in no circumstances and to no extent can work be regarded as the source of wages.

I now turn to American jurisprudence. In the case of Peter Stemkowski v. Commissioner of Internal Revenue, 82-2 U.S.T.C. 85, 122, the United States Court of Appeal (2nd Circuit) held that the salary paid to a non-resident alien Canadian hockey player was to be allocated to sources within and without the United States on the basis of the number of days in the regular season of play plus the number of days spent in training camp and the number of days spent in the playoffs. Oakes, J. made the following statements at page 85, 123:

As a nonresident alien, Stemkowski was subject to United States tax on that portion of his income connected with his performance of services in this country, and entitled to deduct expenditures relating to such United States income.

And at page 85, 124:

The less time Stemkowski was in the United States during the period covered by his contract, the less United States tax he owes.

The 4th Circuit of the United States Court of Appeal explicitly and specifically agreed with the 2nd Circuit of that same Court, in its decision in John J. Hanna v. Commissioner of Internal Revenue, 85-1 U.S.T.C. 88, 175. The facts of this case were practically identical to those in the Stemkowski case, supra, so much so that the two cases "were consolidated by the Tax Court for briefing, trial and rendition of opinion,” (per Hanna, supra, at page 88 ,176). In a per curiam decision, the 4th Circuit stated, at page 88 , 176:

Our review of the record in this litigation leads us to agree with each and all of the views and holdings of the Second Circuit.

And at pages 88, 177-78:

As indicated infra, we find ourselves in agreement without reservation with the Second Circuit's opinion in Stemkowski.

Furthermore, in the case of Wolfgang Metz v. Commissioner (1985), 49 T.C.M. 575, Judge Sterrett (as he then was) of the Tax Court of the United States rendered a memorandum opinion to the effect that the taxpayer therein, a non-resident alien who had been in the United States on a temporary research appointment with a multi-national corporation, was taxable on the entire amount of compensation that he received for the yearlong appointment. The judge based his opinion on the ground that all the compensation was paid based upon personal services performed in the United States. Sterrett, J. dealt with the issue as follows at page 577:

Section 861 (1)(3) provides, in general, and with an exception not herein applicable, that compensation for labor or personal services performed in the United States shall be treated as income from sources within the United States. Section 1,861-4, Income Tax Regs., fleshes out the statute by providing, in part, as follows:

Gross income from sources within the United States includes compensation for labor or personal services performed in the United States irrespective of the residence of the payer, the place in which the contract for service was made, or the place or time of payment***.

The compensation received by petitioner was clearly income from sources within the United States since the personal services compensated were performed in the United States. Therefore, we reject from the outset petitioner's assertion that the amount of the compensation paid by IBM Deutschland GmbH and IBM World Trade was foreign source income.

[Emphasis added.]

In the absence of a definition in the Act of what constitutes a source of income Within Canada and any exceptional circumstances as referred to by Jordan, C.J. in Commissioner of Taxation v. Cam & Sons Ltd., supra, the performance of the duties pursuant to an employment contract within a territory is the proper and realistic consideration which determines the territorial source of employment income.

I am somewhat surprised, however, that the respondent forced the determination of this issue before the Court since his own expressed interpretation of this concept is in agreement with the basic position of the appellant with regard to the assessment.

In paragraph 30 of Interpretation Bulletin 270-R we read:

30. the territorial source of income from an office or employment is considered to be the place where the related duties are normally performed. Where those duties require an individual to spend a significant part of the time in a country other than Canada, the individual may be subjected to tax in that foreign country on a portion of the remuneration. In such cases an apportionment of the individual’s regular salary or wages based on the number of working days spent in Canada, and in that other country, is considered appropriate in determining the foreign income from employment for purposes of the foreign tax credit calculation. Director's fees are generally considered to be earned where the director's meetings are held and commission income is earned in the country in which the effort was expended for the purposes of gaining such remuneration.

The evidence adduced at the hearing has not demonstrated any reason which could lead to an exception to this rule and which could have justified the respondent to confirm this assessment.

Should there be any doubt as to the legal meaning of the territorial source of employment income for the purpose of the Act, then I rely on the remarks of De Grandpré J. of the Supreme Court of Canada in J. Camille Hare! v. D./M.N.R. (Quebec), [1977] C.T.C. 441; 77 D.T.C. 5438 in which he said at page 447 (D.T.C. 5441):

If it had the slightest doubt on this subject, I would nevertheless conclude in favour of appellant on the basis of respondent's administrative policy. Clearly, this policy could not be taken into consideration if it were contrary to the provisions of the Act. In the case at bar, however, taking into account the historical development that I will review rapidly, this administrative practice may validly be referred to since the best that can be said from respondent's point of view is that the legislation is ambiguous.

And at page 448 (D.T.C. 5442):

Once again, I am not saying that the administrative interpretation could contradict a clear legislative text, but in a situation such as I have just outlined, this interpretation has real weight and, in case of doubt about the meaning of the legislation, becomes an important factor.

For the above reasons, I am satisfied that the source of income of the appellant for the taxation year 1983 was in the United States and in accordance with the provisions of Article XIII D 2 of the Convention in force at the time, he is entitled to deduct the donations to charitable organizations in the United States which he claimed in computing his income for the taxation year under appeal.

The appeal is allowed and the appellant is entitled to his costs on a partyparty basis.

Appeal allowed.