The Weatherhead Company of Canada LTD v. Minister of National Revenue, [1982] CTC 2839, 82 DTC 1831

M -J Bonner:—The appellant appeals from assessments of income tax for the 1977 and 1978 taxation years. On assessment the respondent treated certain foreign exchange gains as income. One-half of those gains had been reported by the appellant as taxable capital gains.

The appellant carried on the business of a manufacturer of automotive parts. Some of its products were sold in the United States, with payment being made to the appellant in US dollars. The gains in issue in this case do not, as I understand it, include amounts representing the excess in value of the US dollar over the Canadian dollar at the time customers made their payments in US dollars. Rather, they are gains which accrued during a period following receipt of such payments while the foreign exchange was retained in the form of US dollars invested in term deposits.

It was the appellant’s position that the money invested was “excess cash”, that the term deposits were capital assets and that the foreign exchange gains realized on the disposition of such assets were capital gains. The appellant pointed to the fact that the interest earned on the term deposits was reported as investment income, that such designation was accepted by the respondent, and it submitted that investment income can only be produced by capital assets.

The respondent’s position was that the gains in question were income because they arose not from the purchase and sale of capital assets, but from the normal business operations of the appellant.

Both John Levi, the appellant’s Treasurer, and James Thomas, a chartered accountant with the firm that acted as the appellant’s auditors during most of the relevant period, testified that the appellant had a very high working Capital ratio, that is to say, a very high ratio of early maturing assets to early maturing liabilities. Mr Thomas stated that on the basis of a study which he had done of the appellant’s records he found that increasing amounts of term deposits in both Canadian and US funds were being created. It was not necessary, he said, to put all those funds back into the business to finance current operations. He admitted on cross-examination that the source of the funds used to purchase the US dollar term deposits was trade receipts and that the proceeds from the disposition of those deposits were used to pay trade accounts payable, as well as to make short term loans to the appellant’s US parent company.

Mr Levi testified that, typically, the deposits were made for a term of one- hundred and eighty days. However, they were often cashed in prematurely. The average period for which the deposits were kept was four months. Normally, they were cashed in to enable the appellant to meet demands from its parent, whether for payment for goods supplied by it or for loans. As I understand Mr Levi’s testimony, the appellant could have met its US dollar trade payables by purchasing foreign exchange with Canadian funds on hand, but it cose to cash its US dollar term deposits rather than incur the commission costs involved in the conversion of funds.

I must observe first that I cannot accept a line of argument based on the thesis that the foreign exchange gains in question arose from the disposi- tion of the term deposits. The gains did not result from the making of term as opposed to demand deposits. Rather, they resulted from the retention of property in the form of the United States dollars which appreciated in value when expressed in terms of the Canadian dollar.

I need not consider how the respondent treated interest on the term deposits for purposes of section 129 of the Income Tax Act. There was no issue raised in these appeals and no relief sought in relation to the application of section 129 to the interest from the term deposits.

The question which I regard as essential is whether the foreign exchange was acquired and retained in the ordinary course of the appellant’s business. The evidence as to the acquisition was clear. The foreign exchange was, as previously mentioned, acquired in the payment of trade receivables.

The evidence as to the retention of the US dollars in that form was much less clear. I am satisfied that some of the US funds were held and were, in fact, used for the purpose of payment for goods supplied to the appellant by its parent for use in the manufacturing process. It is idle to argue that the appellant had an adequate supply of Canadian dollars which it might have used to buy US dollars and thus pay for goods supplied. Tax liability rests on what happened and not what might have happened. The remainder of the funds were loaned, from time to time, for short terms to the appellant’s parent. The evidence did not reveal what connection, if any, such loans had with the conduct of the appellant’s ordinary business operations. Indeed, the loans were not explained at all.

On all of the evidence I am not satisfied that the appellant has shown that the foreign exchange in question was a fund not employed in its ordinary day-to-day business operations. As I see it the appellant, in making the deposits, was simply managing its cash flow in the manner which it found most effective, having regard to the exigencies of its business. Profits generated by such operations are, in my view, income. I, therefore, cannot find that the assessments are wrong. The appeals will be dismissed.

Appeal dismissed.