Mailloux v. R., [1999] 3 CTC 2500

Archambault T.C.J.:

Pierre Mailloux is challenging notices of assessment issued by the Minister of National Revenue (“the Minister”) for the 1991 and 1992 taxation years. Essentially the question turns on Mr. Mailloux’s entitlement to investment tax credits for scientific research and experimental development expenses (SR & ED) incurred by a general partnership (“Ferme Piluma”).

At the start of the hearing counsel for the respondent admitted that her client acknowledged that during 1991 and 1992 Ferme Piluma was operating a business devoted entirely to scientific research, and also that Mr. Mailloux was entitled to part of its tax credits. However, certain expenses incurred by Ferme Piluma did not qualify for such credits. To facilitate identification of the expenses at issue counsel for the respondent filed at the start of the hearing a table which I reproduce here:

[TRANSLATION]

	1991	1992
Farm expenses claimed by taxpayer	273,758	204,236
LESS: expenses disallowed
Personal expenses**
Purchases	19,470	14,223
Personal consumption	1,326*	1,400*
Capitalized expenses**
Salaries		16,613
Capital property	74,687	9,369
- Class I
Capital property	5,705
- Class 8
Other expenses**
Expenses without disbursements
Building	990*

	1991	1992
Equipment	100*
Resid. expenses according to f.s.	1,200*	1,225*
	103,478	42,380
PLUS: additional expenses allowed
University contract		6,308
Capital cost allowance	3,932	6,560
	3,932	12,868
Revised farm expenses	174,212	174,274
LESS: research expenses disallowed
Interest expenses***	11,807	10,330
Miscellaneous***	7,144	15,442
Capital cost allowance***	17,922	18,534
	36,873	44,286
Revised research expenses	137,339 X 20%	129,988 x 20%
Revised tax credit	27,468	25,998
Pierre Mailloux’s portion - 98%	26,918	25,478
Notes:

* Mr. Mailloux admitted that these expenses were not qualified expenditures.

** These expenses are designated as ’ ‘group one expenses” in these Reasons.

*** These expenses are designated as ‘ ‘group two expenses” in these Reasons.

All the evidence dealt with the description and nature of the expenses incurred by Ferme Pi luma. I intend to review those expenses with respect to which there was a challenge by Mr. Mailloux and to determine to what extent they constitute “qualified expenditures” [1] for purposes of s. 127(9) of the Income Tax Act (“the Act”).

Group one expenses

(a) Personal expenses

Mr. Mailloux admitted that of the “personal expenses” included under the heading “purchases” an expense of $1,445 incurred in 1991 and an expense of $9,674^ [2] incurred in 1992 represented personal expenses and he stated that he was not challenging the Minister’s refusal to allow tax credits in respect of them. Among the personal expenses disallowed by the Minister for which Mr. Mailloux continues to claim tax credits are expenses regarding the acquisition and construction of a veranda around the residence occupied by Ferme Piluma’s manager, Mr. Mailloux’s brother.

In my opinion these expenses are not qualified expenditures for purposes of the investment tax credit because they are personal expenses which

(b) in the case of a taxpayer that is a corporation, an expenditure specified by the taxpayer for the purposes of clause 194(2)(#)(ii)(A).

Subparagraphs 37(1 )(a)(i) and (b)(i) of the Act provide:

37. (1) Where a taxpayer carried on a business in Canada in a taxation year and files with

his return of income under this Part for the year a prescribed form containing prescribed information, there may be deducted in computing his income from the business for the year such amount as he may claim not exceeding the amount, if any, by which the aggregate of

(a) the aggregate of all amounts each of which is an expenditure of a current nature made by the taxpayer in the year or in a preceding taxation year ending after 1973

(i) on scientific research and experimental development carried on in Canada, directly undertaken by or on behalf of the taxpayer, and related to a business of the taxpayer,

(b) the lesser of

(i) the aggregate of all amounts each of which is an expenditure of a capital nature made by the taxpayer (in respect of property acquired that would be depreciable property of the taxpayer if this section were not applicable in respect of the property, other than land or a leasehold interest in land) in the year or in a preceding taxation year ending after 1958 on scientific research and experimental development carried on in Canada, directly undertaken by or on behalf of the taxpayer, and related to a business of the taxpayer.

were not incurred in pursuance of the SR & ED program. In any case, even if they were, they are related to the acquisition of a building and by virtue of s. 37(7)(/)(i) of the Act are not qualified expenditures/ [3] In my view, the word “acquisition” includes acquisition by accession, namely an addition to an already existing building.

Among the other disputed personal expenses are $440 in premiums paid by Ferme Piluma on an insurance policy on Mr. Mailloux’s life. The beneficiary of the policy is Ferme Piluma. In my opinion, this expense is not a qualified expenditure for the purposes of the investment tax credit. There was no evidence that the insurance policy was obtained in pursuance of the SR & ED program, that is, for example, that the policy was necessary as security to finance the SR & ED activities of Ferme Piluma.

As to the costs incurred by Ferme Piluma for the purchase of patio furniture, it appeared from the evidence that this furniture was used both for personal and for business purposes and in my opinion, the cost thereof does not constitute a qualified expenditure given s. 37(7)(c)(ii)(A) of the Act. [4] This is not an expenditure of which all or substantially all is attributable to SR & ED.

In his testimony Mr. Mailloux indicated that an amount of $1,269 was used to finance a business trip by his brother to France and to acquire knowledge relating to the field in which Ferme Piluma was carrying out scientific research. Although no voucher was provided with respect to these expenses. I am satisfied that this amount was used for those purposes, and for this reason it represents a qualified expenditure for purposes of the investment tax credit.

(b) Capitalized expenses

We now turn to the next heading of group one expenses. These are the capitalized expenses, of which the first item relates to a salary of $16,613 for 1992. The Minister indicated he was prepared to admit that an amount of $540 should be allowed in the calculation of qualified expenditures; as to the balance, Mr. Mailloux admitted that it was not a qualified expenditure.

The second item concerns Class 1 property. The evidence indicated that for 1991 the amount of $74,687 disallowed by the Minister represented the cost of acquisition of buildings. A very large part of this amount related to the construction of a hay dryer which Mr. Mailloux regarded as a kind of [TRANSLATION] “pilot plant”. For 1992, the sum of $9,369 represents expenses relating to the construction of an annex - possibly a cheese house - and electrical modifications made to a building.

Having considered s. 37(7)(f) of the Act, which excludes from qualified expenditures any capital expenditure made in respect of the acquisition of a building, I have come to the conclusion that expenses relating to Class 1 buildings are not qualified expenditures. The Act expressly provides that the only exception to this rule is for a prescribed special-purpose building. According to the evidence heard, the hay dryer was a building but not a building covered by s. 2903 of the Income Tax Regulations.

As for the Class 8 property, the Minister admitted that a sum of $976 should be allowed as a qualified expenditure and the taxpayer admitted that the balance of $4,629 was not a qualified expenditure.

Group two expenses

(a) Interest expenses

Among the expenses in group two are interest expenses. The evidence showed that the interest disallowed by the Minister concerned a loan to finance the construction of the hay dryer. The question that must be decided is whether this interest is covered by s. 37(7)(f) of the Act, which excludes from qualified expenditures any capital expenditure made in respect of the acquisition of a building.

After some hesitation, I have come to the conclusion that s. 37(7)(f) applies to the interest. This result seems to me to be more in keeping with the spirit of the Act. I do not think that Parliament intended to allow the deduction of interest on a loan whose purpose was to cover expenses which are not qualified SR & ED expenditures.

(b) Miscellaneous

The respondent admitted that among the 1991 expenses indicated under the heading “Miscellaneous” the sum of $6,108 was a qualified expenditure while the taxpayer admitted that the balance of $1,036 was not a qualified expenditure.

With respect to 1992 the respondent admitted that part — $3,649 — of the sum of $15,422 which the Minister had disallowed was a qualified expenditure. Mr. Mailloux argued that the balance should be allowed also.

In my opinion, the balance of those expenses does not represent a qualified expenditure. It included car rental expenses and, in my view, those are not expenses all or substantially all of which were attributable to the prosecution of SR & ED, as required under s. 37(7)(c)(ii) of the Act. I was not persuaded by Mr. Mailloux’s testimony that the personal use of the car and truck was limited only to 10 percent. There was no evidence corroborating his assertions that these vehicles were used 90 percent for SR & ED purposes.

Among the other expenses under the heading “Miscellaneous” are expenses relating to the patio. These expenses are not qualified expenditures because they are not expenditures all or substantially all of which were attributable to the prosecution of SR & ED. There are also expenses for which there was no evidence to indicate their nature and the purposes for which they were incurred. Among these expenses were an amount of $1,162 and an amount of $590.

The only group two expenses that remain are capital cost allowance. As this is an “allowance” rather than an “expenditure”, it must be excluded in calculating qualified expenditures.

For these reasons, Mr. Mailloux’s appeals are allowed and the assessments are referred back to the Minister for reconsideration and reassessment on the basis that the group one expenses of Ferme Piluma that should be disallowed total $102,502 for 1991 and $41,021 for 1992, that the total group two expenses of Ferme Piluma that should be disallowed amount to $30,677 for 1991 and $40,637 for 1992, that the total qualified expenditures for investment tax credit purposes is respectively $144,423 for 1991 and $135,446 for 1992, which translates into a revised tax credit of $28,885 for 1991 and $27,089 for 1992. Mr. Mailloux’s share thus represents $28,307 for 1991 and $26,447 for 1992. No costs will be awarded.

Appeal allowed in part.