Lornex Mining Corporation Ltd. v. Her Majesty the Queen, [1996] 3 CTC 309, 96 DTC 6550

Cullen J.: — This is an appeal of a reassessment of the plaintiff’s 1978 taxation year. The plaintiff requests that the reassessment for 1978 for federal and provincial tax purposes concerning interest capitalized and interest converted to exploration, prospecting and development expenses, be varied or referred back to the Minister of National Revenue for reconsideration and reassessment. More specifically, at issue between the parties is whether the reference to “exempt income” in each of subsection 21(1) to

(4) of the Income Tax Act includes income that is excluded from the computation of a taxpayer’s income by virtue of former section 28 of the Income Tax Application Rules, 1971, S.C. 1970-71-72, c. 63, as amended, or by any other statutory provisions.

THE FACTS

The plaintiff is a corporation, incorporated under the laws of British Columbia. At the relevant time, the plaintiff operated an open- pit mine near Kamloops, British Columbia. The mine produced principally copper and molybdenum.

The plaintiff began the construction phase of the mine in 1969. For income tax purposes, the mine commenced commercial production on September 1, 1972.

From 1969 to and including 1973, the plaintiff borrowed significant amounts of money for use in its mining business. This money was used to develop the mine site and to. acquire related depreciable property such as equipment and machinery. Included in the indebtedness of the plaintiff as of December 31, 1972 were bank and other borrowings of approximately $87,500,000. The total interest paid or payable with respect to these borrowings was $11,648,662 as of December 31, 1972. The interest expense for the period September 1, 1972 to December 31, 1972 was $2,289,681.

For accounting purposes, the plaintiff capitalized all interest expenses incurred from 1969 to October 1, 1972. This capitalized interest amounted to $9,925,039. Interest expenses of $1,723,623 for the period from October 1, 1972 to December 31, 1972 were deducted for accounting purposes. For accounting purposes, commercial production was considered to commence on October 1, 1972.

Total interest paid or payable by the plaintiff in respect of the period from January 1, 1973 to December 31, 1973 was $6,763,876. For accounting purposes, the plaintiff deducted the $6,763,876 in arriving at net income. The total bank and other borrowings outstanding at December 31, 1973 was approximately $60,500,000.

On June 28, 1973, the plaintiff elected, in the prescribed manner, to have subsections 21(1) to (4) of the Income Tax Act, R.S.C. 1952, c. 148 (hereinafter, the Act) apply to $11,648,662 (the total interest paid from 1969 to 1972) in respect of its 1972 taxation year. Included in this amount was the $2,289,681 from the period from September 1, 1972 to December 31, 1972, of which $1,881,951 was in respect of funds borrowed to acquire depreciable property. The balance of $407,730 was in respect of funds borrowed for the purposes of prospecting, exploration and development.

On June 28, 1974, the plaintiff elected, in the prescribed manner, to have subsections 21(1) to 21(4) of the Act apply to $6,763,876 (interest paid from January to December, 1973) in respect of its 1973 taxation year. $5,576,564 of the amount was in respect of funds borrowed to acquire depreciable property. The balance of $1,187,312 was in respect of funds borrowed for the purposes of prospecting, exploration and development.

By Notice of Reassessment dated June 3, 1982, the Minister of National Revenue (hereinafter, the “Defendant”) reassessed the plaintiff in respect of its 1978 taxation year in the amount of $2,610,826.25 for federal tax and $2,888,179.35 for provincial tax. According to the Defendant’s calculations, the plaintiff became taxable for federal purposes in 1978. The taxable income for federal purposes was $12,688,566.00. The plaintiff was also reassessed as taxable for provincial purposes for 1976, 1977, and 1978. The taxable income for provincial purposes for 1978 was $19,254,529.00. However, according to the plaintiffs calculations, its income for 1978 for federal tax purposes was “nil,” and for provincial purposes, its income was an amount smaller than what the Defendant had reassessed.

By a Notice of Objection dated August 27, 1982, the plaintiff duly objected to the reassessment for federal tax for 1978 in its entirety. It also objected to the reassessment for provincial tax for 1978, conceding that tax was payable to the Province in that year, but in a significantly lesser amount than in the reassessment.

In the Notice of Objection, the plaintiff gave specific facts and reasons for its objection relating to a number of areas. One of these areas related to interest capitalized and interest converted to exploration, prospecting and development expenses. The plaintiff submitted that subsections 21(1) through (4) of the Act permitted the interest capitalization and conversion because the expenses were not part of “exempt income” as defined by the Act. The effect of the capitalization and conversion was to increase the plaintiffs tax exempt income.

The defendant confirmed its reassessment of the plaintiff for 1978 and advised the plaintiff by Notification of Confirmation dated March 30, 1984. With regard to the above issue, the defendant confirmed its reassessment by concluding that the aforesaid interest expenses had been incurred for the purpose of acquiring property, the income from which would be exempt within the meaning of subsection 20(1 )(c) and 21 of the Act.

The defendant proceeded, in his assessment, on the basis that, pursuant to section 28 of the Income Tax Application Rules, 1971, (hereinafter, the “IT AR”) the plaintiffs income derived from the operation of its mine was exempt from taxation under the Income Tax Act for the period September 1, 1972 through December 31, 1973.

THE ISSUES

Was the plaintiff entitled to capitalize the interest expenses and convert interest expenses to exploration, prospecting and development expenses? To answer this question, this Court must decide whether the reference to “exempt income” in each of subsections 21(1) to (4) includes income that is excluded from the computation of a taxpayer’s income by virtue of former section 28 of the ITAR or any other statutory provisions. In this context, this Court must look at whether paragraph 81(1)(a) of the Act brings the tax exemption provided by section 28 of the ITAR within the meaning of subsection 248(1) of the Act. The analysis necessarily includes an examination of whether the interest was deductible from taxable income pursuant to subparagraph 20(l)(c)(i) of the Act. Simply put, one cannot deduct interest incurred to acquire tax exempt income according to subparagraph 20(1)(c)(1).

ANALYSIS

Statutory provisions

Interest may be deducted in the computation of income only if the criteria in section 20(1 )(c) of the Act are satisfied. This subsection reads:

Section 20. Deductions permitted in computing income from business or property

(1) Notwithstanding paragraphs 18(l)(a), (b), and (h), in computing a taxpayer’s income for a taxation year from a business or property, there may be deducted such of the following amounts as are wholly applicable to that source or such part of the following amount as may reasonably be regarded as applicable thereto:

… (c) Interest- an amount paid in the year or payable in respect of the year (depending upon the method regularly followed by the taxpayer in computing his income), pursuant to a legal obligation to pay interest on

(i) borrowed money used for the purpose of earning income from a business or property [other than borrowed money used to acquire property the income from which would be exempt or to acquire a life insurance policy],

(ii) an amount payable for property acquired for the purpose of gaining or producing income therefrom or for the purpose of gaining Or producing income other than property the income from which would be exempt or property that is an interest in a life insurance policy), or

à reasonable amount in respect thereof, whichever is the lesser;

[Emphasis added. I

If one properly qualifies for the deduction of interest pursuant to section 20(1 )(c), then one may properly convert and capitalize that interest pursuant to subsection 21(1) through (4). The portions of these subsections relevant to this appeal read:

21. Cost of borrowed money

(1) Where in a taxation year a taxpayer has acquired property in respect of which he is entitled to a deduction under regulations made under paragraph 20(1)(a) in computing his income for that taxation year (in this section referred to as “depreciable property”), if he so elects in prescribed manner on or before the day on or before which he is required by section 150 to file his return of income for the year,

(a) in computing his income for the year and for such of the three immediately preceding taxation years as the taxpayer had, if any, paragraphs 20( 1 )(c), (d) and (e) do not apply to the amount or to the part of the amount specified by him in his election that, but for this subsection, would have been deductible in computing his income [other than exempt income]) for the year and for those immediately preceding years, if any, by virtue of those paragraphs in respect of borrowed money used to acquired the depreciable property or the amount payable for the depreciable property acquired by him; and

(b) the amount or the part of the amount, as the case may be, described in paragraph (a) shall be added to the capital cost to him of the depreciable property so acquired by him.

(2) Borrowed money used for exploration or development

..(a) in computing his income for the year and for such of the three immediately preceding taxation years as the taxpayer had, if any, paragraphs 20(1 )(c), (d) and (e) do not apply to the amount or to the part of the amount specified by him in his election that, but for this subsection, would have been deductible in computing his income [other than exempt income] for the year and for those immediately preceding years, if any, by virtue of those paragraphs in respect of borrowed money used for the exploration, development or acquisition of property, as the case may be; and

(b) the amount or the part of the amount, as the case may be, described in paragraph (a) shall be deemed to be Canadian exploration and development expenses, foreign exploration and development expenses, Canadian exploration expense or Canadian development expense as defined in section 66, 66.1 or 66.2, as the case may be, incurred by him in the year.

(3) Idem. In computing the income of a taxpayer for a taxation year, where the taxpayer

(a) in any preceding year made an election under subsection (1) in respect of borrowed money used to acquire depreciable property or an amount payable for depreciable property acquired by him, and

(b) in each taxation year, if any, after that preceding year and before the taxation year, made an election under this subsection covering the total amount that, but for this subsection, would have been deductible in computing his income [other than exempt income] for each such year by virtue of paragraphs 20(1 )(c), (d) or (e) in respect of the borrowed money used to acquire the depreciable property or the amount payable for the depreciable property acquired by him,

...paragraphs 20(1 )(c), (d) and (e) do not apply to the amount or to the part of the amount specified by him in his election that, but for this subsection, would have been deductible in computing his income ([other than exempt income] for the year by virtue of those paragraphs in respect of the borrowed money used to acquire the depreciable property or the amount payable for the depreciable property acquired by him, and the said amount or part of the amount, as the case may be, shall be added to the capital cost to him of the depreciable property so acquired by him.

(4) Idem. In computing the income of a taxpayer for a taxation year, where the taxpayer

(a) in any preceding year made an election under subsection (2) in respect of borrowed money used for the purpose of exploration, development or acquisition of property, and

(b) in each taxation year, if any, after that preceding year and before the taxation year, made an election under this subsection covering the total amount that, but for this subsection, would have been deductible in computing his income [other than exempt income]) for each such year by virtue of paragraphs 20(1 )(c), (d) or (e) in respect of the borrowed money used for the exploration, development or acquisition of property,

...paragraphs 20(1 )(c), (d) and (e) do not apply to the amount or to the part of the amount specified by him in his election that, but for this subsection, would have bee deductible in computing his income [other than exempt income] for the year by virtue of those paragraphs in respect of the borrowed money used for the exploration, development or acquisition of property … shall be deemed to be foreign exploration and development expenses, Canadian exploration expense or Canadian development expense ... incurred by him in the year.

[Emphasis added.]

The Submissions

The plaintiff submits that it was entitled to make the elections provided for in section 21 because the interest expense that it incurred on borrowed funds used to acquire depreciable property used in its mining business was deductible pursuant to section 20(l)(c)(i). Section 20(l)(c)(i) allows a taxpayer to deduct interest on borrowed funds which are used by the taxpayer “for the purpose of earning income from a business...” The plaintiff submits that it was not precluded from making the election under section 21 because, since its income from September 1, 1972 to December 31, 1973 was not “exempt income,” the interest deduction did not relate to “exempt income” pursuant to subsection 20(1 )(c)(i).

The plaintiff submits that the income was not “exempt income” as defined for the purposes of the above subsections by virtue of ITAR, section 28. Section 28 allowed income derived from the operation of a mine for the above period not to be included in the computation of the plaintiffs income. The plaintiff submits that such income was not “exempt income” as defined in the Act. The plaintiff cites Driedger on the Construction of Statutes^ [1] in support of its interpretation of the Act.

The defendant submits that the interest cost incurred by the plaintiff between September, 1972 and December, 1973 was incurred to earn income which was exempt from tax by virtue of section 28 of the ITAR and subsection 81 (l)(a) of the Act. The defendant submits that this income was “exempt income” as defined by subsection 248(1) of the Act. These expenditures, therefore, constituted interest on “borrowed money used to acquire property the income from which would be exempt...” and, therefore, specifically not deductible under subsection 20( 1 )(c)(i) of the Act. Consequently, the plaintiff was not entitled to elect under section 21 of the Act to capitalize or to convert the interest that it did to exploration, prospecting and development expenses.

Discussion

Does the term “exempt income,” referred to in the above provisions, include income that is excluded from the computation of a taxpayer’s income by virtue of former section 28 of the ITAR or by any other statutory provisions?

Section 28 of the Income Tax Application Rules was repealed by 1985, c. 45, section 132. It was, however, applicable at the material time. It reads:

28. Income derived from operation of mine

(1) Subject to prescribed conditions, there shall not be included in computing the income of a corporation, income derived from the operation of a mine that came into production before 1974 to the extent that such income is gained or produced during the period commencing with the day on which the mine came into production and ending with the earlier of December 31, 1973 and the day 36 months after the day the mine came into production, except that this subsection does not apply in respect of any mine that came into production after November 7, 1969 unless the corporation so elects in respect thereof in prescribed manner and within prescribed time.

(1.1) “Income derived from the operation of a mine” defined - The expression “income derived from the operation of a mine” is, for the purposes of this section and section 83 of the former Act as it read in its application to the 1971 and preceding taxation years, hereby declared to include and always to have included the income of a corporation from the processing, to the prime metal stage or its equivalent, of ore from a mineral resource owned by the corporation

(2) In this section,

(a) “Income derived from the operation of a mine”...means the income derived from the operation of the mine before any deduction is made under section 65 or 66 of the amended Act....

(c) “Production”.- ...means production in reasonable commercial quantities.

[Emphasis added.]

There is no dispute between the parties as to the applicability of section 28 to the plaintiff from September 1, 1972 to December 31, 1973. [2] The dispute centres on the effect of section 28 within the Act.

Does the expression “shall not be included in computing the income ...” in section 28 mean the same as “exempt income” within the meaning of the Act? Although the plaintiff has tried, by arguing principles of statutory interpretation and case law, to convince this Court that the two expressions are not equivalent for the purposes of the Act, I cannot agree. On the basis of statutory interpretation, the case law, and common sense, I must find that “shall not be included in computing the income” in section 28 of the ITAR means the same as, “exempt income” within the meaning given to it by the Act.

In order for income to be “exempt income,” it must be defined as such in the Act. Subsection 248(1) defines what is meant by “exempt income.” This subsection reads:

“Exempt income ”.— means money or property received or acquired by a person in such circumstances that it is, by reason of any provision in Part I, not included in computing his income, but for greater certainty does not include a dividend on a share....

[Emphasis added.]

Section 28(1) of the ITAR refers to money not included in computing a taxpayer’s income. But, this subsection is not physically located in Part

I. Does this mean that the inquiry simply stops here, and that, therefore, section 28(1) income is not “exempt income”? Certainly not. One must also examine if, by reason of any other provision in Part I, the section 28(1) income would be defined as exempt income. Nor would the inquiry be complete without an examination of the role that section 28(1) plays within the Act as a whole, and in particular, within Part I.

“...by reason of any provision in Part I”

Subsection 81(1) of the Act defines what kinds of amounts are not to be included in computing a taxpayer’s income. Specifically, section 81(l)(a) authorizes the non-inclusion of amounts specified in enactments outside of the Act. This subsection reads:

81(1) There shall not be included in computing the income of a taxpayer for a taxation year,

(a) Statutory exemptions.- an amount that is declared to be exempt from

income tax by any other enactment of the Parliament of Canada;

The IT AR came into force pursuant to An Act to Amend the Income Tax Act to make certain provisions in the statute law related to or consequential upon the amendments to that Act, S.C. 1970-71-72, chapter 63 (hereinafter, the “Amending Legislation"). They are not part of the Act; they are part of a separate enactment of the Parliament of Canada. Subsection 81(1)(a) of the Act is the provision that authorizes the exclusions from income specified in the ITAR. Subsection 28(1) of the IT AR is, therefore, a statutory exemption pursuant to subsection 81(l)(a) of the Act. Subsection 81(l)(a) is located in Part I of the Act. Therefore, the amount excluded from income by subsection 28(1) of the ITAR is, by reason of a provision in Part I of the Act, definable as subsection 248(1) exempt income.

On the basis of statutory interpretation, this Court concludes that the reference to “exempt income” in each of subsections 21(1) to (4) of the Act includes income that is tax exempt by virtue of former section 28 of the ITAR.

History of section 28 of the Rules

Prior to 1972, the “new mine” exemption was granted under Part I of the Act, by subsection 83(5). This subsection had read, in part:

... Subject to prescribed conditions, there shall not be included in computing the income of the corporation income derived from the operation of the mine during the period of 36 months commencing on the day on which the mine came into production.

The right to capitalize or convert interest to exploration, prospecting and development expenses was given in subsection 85(j), the predecessor of section 21. Accordingly, in a “new mine” exempt-income period prior to 1972, the exclusion in subsection 85(j) would take effect and interest expenses incurred during that period could not be capitalized or converted. If the plaintiffs claim had been with respect to taxation years prior to 1972, its appeal clearly would have failed. This conclusion is consistent with the interpretation that was given to this very problem by the Chief Justice of the Federal Court of Appeal in Canadian Rock Salt Co. v. Minister of National Revenue, [1974] C.T.C. 725, 74 D.T.C. 6547. With respect to the predecessor to section 28, the Chief Justice wrote at 727 (D.T.C. 6549):

In my view, section 83(5) operated, in any of the taxation years to which it applied, to make interest on money borrowed for the business of operating the mine not “deductible” ...

...what section 83(5) in effect requires, when it provides that the income from operating the mine is not to be included, is the elimination of the revenues and the deductions that are used to calculate “income” from the mine for the year from the profit and loss account that would otherwise be used to produce the corporation’s world income for the taxation year...

It follows therefore, in my view, that, in computing income for a taxation year to which section 83(5) applies, interest on money used for operating the mine is not deductible.

What we may draw from the Chief Justice’s words, which is directly relevant to the present case, is that a provision which excludes income from the tax base is a provision that affects section 9 of the Act, in that income is profit. What is excluded by the provision is revenues minus deductions. Something that otherwise would be a deduction for the purposes of the Act, is not deductible. It is excluded from the calculation of income, along with the revenues. This is exactly the effect that former section 28 of the IT AR must be given. This is consistent with the history of the application of the provision, which I now turn to.

Part III of the Amending Legislation, which came into force on January 1, 1972, brought sweeping changes to income tax law. Part I of Chapter 63 repealed Part I (inter alia) of the former Act, and substituted in its own, new Part I. The extensive, new income tax provisions were followed by the ITAR. The ITAR were enacted as Part III of Chapter 63, S.C. 1970-71-72, and dealt with the coming into force of the revised Act. The ITAR set up special transitional rules that applied until such time as the new Act became fully operative, as well as special rules that would apply in the case of certain taxpayers having taxation years not coinciding with the calendar years.

Section 9 of the Rules reads as follows:

APPLICATION OF PARTS 9. Application of section 1 of this A Subject to the provisions of the amended Act and subject to this Part, section 1 of this Act applies to the 1972 and subsequent taxation years.

This section indicates that the Rules complement the Act for its better administration. Rules, like regulations, are issued by various governmental departments to carry out the intent of the law. Rules and regulations prescribe or direct action in relation to laws; however, they are, in no way, a substitution for laws. Part I of the Act is legislation that must be read in conjunction with the Rules. In this way, one must take into consideration the effect of section 28 of the Rules on every subsection in the Act which affects the exempt income of mines. Section 28 gives additional and integral meaning to such subsections, and in that way, section 28 of the Rules is an additional and integral part of Part I — even though it is physically located in Part III. The plaintiff is clearly equally wrong in its submissions that because section 28 is located outside of the Act in Part III of the Amending Legislation, this subsection has no bearing on the provisions in Part I. Part I cannot be read without the additional, integral meaning given to it by the Rules.

The approach provided in the Department of National Revenue’s Interpretation Bulletin, IT-144, dated January 31, 1974 (subsequently cancelled by Correction Sheet April 15, 1983) indicates that the purpose of section 28 of the Rules was simply to carry on the new mine exempt period during the transitional phase of the Act until the end of 1973 — that 1S, section 28 was to provide for the continuation of a previous provision, and not to make any substantive changes in that provision (the only changes of substance that was added to the former provision, subsection 83(5) of the pre-1972 Act, was a specific definition of “income derived from the operation of a mine,” which definition was lacking in subsection 83(5); and a termination date for the provision). I glean this conclusion from the first paragraph of IT-144, which reads:

Exemption for New Mines 1. Pursuant to subsection 83(5) of the pre-1972 Act, if a corporation complied with Regulation 1900 its income derived from the operation of a mine during the period of 36 months commencing on the day on which the mine came into production in reasonable commercial quantities, was not included in the computation of its income for tax purposes. Section 28 of the ITAR continues this exemption until December 31, 1973....

[Emphasis

added.]

In the same bulletin, paragraph 13 gives a further indication that section 28 was not intended to change the pre-1972 approach by giving away more exemptions to taxpayers than they previously had been entitled to. Paragraph 13 reads:

13. Where a corporation which received income from the operation of a new mine ... has made an election pursuant to section 28 ... the right to claim an accelerated allowance pursuant to Regulations 1100(l)(w) and (x) is not available to the corporation with respect to its assets which qualify for class 28 by virtue of Regulation 1100A(l) unless that corporation elects under subparagraph 13(21)(f)(iv) of the Act as prescribed in Regulation 1100A(2). Such an election allows the accelerated allowance but reduces the undepreciated capital cost of relative class 28 assets by the amount of income from the particular mine which was exempt to the corporation.

[Emphasis added.]

The final line of this paragraph indicates to me that Parliament did not intend that the section 28 tax exemption be the basis of further tax exemptions that were not available prior to the enactment of the Rules.

On the basis of the history of the application of section 28 of the ITAR, this Court concludes that the reference to “exempt income” in each of subsections 21(1) to (4) of the Act includes income that is tax exempt by virtue of former section 28 of the ITAR.

The case law

Although there is no case law directly on-point with the issue before this Court, Mahoney, J.A., for the majority in Federal Court of Appeal in Westar Mining Ltd. v. R., (sub nom. Westar Mining Ltd. v. Canada) [1992] 2 C.T.C. 11, 92 D.T.C. 6358 (hereinafter, Westar) has made comments on the operation of section 28 which are relevant to this case.

The issue in Westar was whether business interruption insurance proceeds received by the taxpayer were properly characterized as exempt income derived from the operation of a mine within the meaning of subsection 28(1) of the Rules. The Court held that, on the basis of the Supreme Court of Canada decision in Minister of National Revenue v. Bethlehem Copper Corp., [1975] 2 S.C.R. 790, [1974] C.T.C. 707, 74 D.T.C. 6520, the insurance proceeds were such exempt income.

Mahoney J., in analyzing the definition of “income derived from the operation of a mine” as provided by subsection 28(1.), stated at page 13 (D.T.C. 6359)

... In my opinion, subject to the effect, if any, to be given to that definition, the effect of ITAR subsection 28(1) and subsection 83(5) of the former Act is, for all purposes relevant to this appeal, identical.

Of course, the issue in Westar is distinct from the issue in this case. However, the interpretory principles to be applied with respect to section 28 are similar. In Westar, there was no evidence that the taxpayer had claimed or that the defendant had allowed a deduction of the insurance premiums (i.e., tax exempt income) in calculating its taxable income. This is not the case in the present instance, as the plaintiff is attempting to get analogous deductions in subsection 20(1) and 21 in calculating its taxable income. However, subsection 18(l)(c) of the Act prohibits the deduction from taxable income of an outlay for the purpose of producing exempt income.

Secondly, the principles applied by the Federal Court of Appeal in Cyprus Anvil Mining Corp. v. R., (sub nom. Cyprus Anvil Mining Corp. v. Canada) [1990] 1 C.T.C. 153, (sub nom. R. v. Cyprus Anvil Mining Corp.) 90 D.T.C. 6063; leave to appeal to S.C.C. refused (sub nom. Cyprus Anvil Mining Corp. v. Minister of National Revenue) 115 N.R. 320n (hereinafter, Cyprus Anvil) speak directly to the interpretation that this Court ought to give to the effect of section 28 in this case.

The facts in Cyprus Anvil differ from the case before this Court, but the legal principles involved do not. In Cyprus Anvil, the Respondent corporation changed the way in which it valued inventory as between the mine’s section 28 exempt period and its post-exempt, taxable period. Inventory at all times had been valued at the lower of cost or market but that for the tax exempt period, the Respondent took the position that it was entitled to maximize its income by valuing the inventory at market. In this way, the taxpayer sought to maximize the profit that would be reflected in the three-year exempt period, and minimize the profit that would be reflected in the post-exempt period.

These facts are analogous to the case at hand. The plaintiff, before this Court, had deducted interest for financial statement purposes, and has sought to capitalize and convert it for income tax purposes.

However, as was decided in Cyprus Anvil, such a change, in fact, has the effect of distorting the taxpayer’s profits both in the exempt and non- exempt years. I agree with the conclusion made by Urie J. as to the effect of the tax exempt period within the Act as a whole. Speaking for the Court, Mr. Justice Urie wrote at page 159 (D.T.C. 6068-69):

... The tax exempt period cannot exist in isolation and the rules to be applied in determining the profit which the company earns from its production of concentrates during the exempt period must be determined, as was said by this Court in a different factual and statutory context in Denison Mines Limited v. Minister of National Revenue:

... must be determined by sound business or commercial principles and not by what would be of greatest advantage to the taxpayer having regard to the idiosyncrasies of the Income Tax Act.

The undoubted fact that subsection 83(5) is incentive legislation does not, as I see it, entitle the recipient of the statutory beneficence to propose a method of computing the profit it purported to derive during the exempt period in a manner which is contrary to its method of computing its income before, during and after the exempt period both for its own financial reporting purposes and for its tax reporting purposes. To permit the taxpayer to change its usual accounting practices solely to maximize its profits during the exempt periods distorts not only the income during that period but also that in the periods before and after it. This is neither logical, authorized by statute nor consistent with good business or accounting practice.

[Emphasis added.]

This reasoning is applicable to the present case. It is not logical to characterize the plaintiff’s income for the period in question, which was excluded from the computation of taxable income by a statutory provision, as anything but statutorily-defined tax exempt income. Ergo, the plaintiff was not authorized by statute to maximize income in this way. And it certainly is not consistent with good business or accounting practice for the plaintiff to have done so.

On the basis of the case law in relation to the interpretation of former section 28 of the ITAR, this Court concludes that “exempt income” in each of subsections 21(1) to (4) of the Act includes income that is tax exempt by virtue of former section 28 of the ITAR.

CONCLUSION

By exercising elections under section 21 of the Act, the plaintiff tried to maximize its income during the exempt period from September 1, 1972, to December 31, 1973, and to minimize its income for the post exempt period. The plaintiff tried to do this by taking interest and exploration and development expenses incurred and deducted for financial statement purposes in relation to the exempt period, and moving them into the non-exempt period.

However, the reference to “exempt income” in each of subsections 21(1) to (4) of the Income Tax Act includes income that is excluded from the computation of a taxpayer’s income by virtue of former section 28 of the Income Tax Application Rules, 1971, S.C. 1970-71-72, c. 63, as amended. The plaintiff’s above actions were, therefore, neither authorized by the legislation nor condoned by the case law.

This Court does not have jurisdiction to hear the appeal with respect to provincial income tax. Nevertheless, it is reasonable to conclude that, since provincial income taxes are determined on the basis of federal income taxes, the determination of this Court concerning the federal income tax appeal will have bearing on the provincial tax issue. However, in areas where the provincial tax is calculated independently of the federal tax, the plaintiff must apply to the appropriate provincial court for relief.

On the basis of the above, this appeal is dismissed.

Appeal dismissed.