Vincent N Hurd v. Her Majesty the Queen, [1979] CTC 450, 79 DTC 5369

Dubé, J:—This is an appeal of a decision of the Tax Review Board confirming an assessment of the Minister of National Revenue which included in the plaintiff’s income for his 1973 taxation year the sum of $77,812.50.

The basic issue to be resolved here is whether a resident in the United States can be taxed in Canada with respect to a stock option issued to him while he was employed in Canada, but not exercised until he returned to the United States.

Both parties filed a statement of agreed facts identical to the one placed before the Tax Review Board. The relevant facts are as follows:

The plaintiff is an American citizen who worked and resided in Canada from September 1965 to March 31, 1971 after which date he returned to the United States. On October 4, 1967, by way of an agreement, his employer The British American Oil Company Limited (“the Company’’), a Canadian corporation, gave him an option to buy 2, 500 shares in the company at $37 /s per share. On April 1, 1971 he returned to the United States to work with Gulf Oil Corporation, an “affiliated company’’ of his former employer. On September 26, 1973 he validly exercised his option and purchased 5,000 common shares (the shares were split in the interim) at a cost of $18.69 per share. The amount by which the value on that date of the shares exceeded the amount paid was of $77,812.50. The Minister included all of that amount in the appellant’s income for his 1971 taxation year.

The appellant reported only a portion of that sum, or $43,606.13, which he computed by apportioning the total amount of $77,812.50 according to the number of days in which he was employed in Canada over the total number of days between the date when he received the option and the date when he exercised it. He worked out the calculation as follows:

Calculation of taxable portion of stock option benefit

Date option granted			October 4,1967
Date option exercised			Sept 26,1973
Date ceased to be resident in Canada and returned to US			April 1, 1971
Days between grant and exercise dates:
Spent in Canada	1224	56.04
Spent in US*	960	43.96
	2184	100.00
Taxable portion of stock option benefit:
.5604 x 77,812.50 = $43,606.13

includes 51 days spent in US on business between October 4, 1967 and April 1, 1971.

The option agreement carried these stipulations: The option is exercisable only after one year’s continuous employment with the Company, or an affiliated company. It is exercisable within ten years, not thereafter. In the case of retirement it becomes exercisable within six months, not later. In case of death the option is exercisable within twelve months. In the case of termination for other reasons, within three months. Should the capital stock of the Company be subdivided into a greater number of shares, the optionee is entitled to purchase a proportionately increased number of shares.

Learned counsel for the plaintiff advances two alternative arguments: Firstly, there is no provision in the Income Tax Act which deems that the plaintiff performed any duties of an office or employment in Canada during his 1973 taxation year. Secondly, if there was a benefit received by the plaintiff by virtue of paragraph 7(1)(a) of the Act, then such benefit was of a capital nature and therefore exempt by virtue of Article VIII of the Canada- US Tax Convention.

He contends that the basis of taxation in Canada is comprised of two factors: residency, or activities carried on by non-residents within Canada. The plaintiff being a non-resident, the charging provision would be subsection 2(3), which reads:

(3) Where a person who is not taxable under subsection (1) for a taxation year

(a) was employed in Canada,

(b) carried on a business in Canada, or

(c) disposed of a taxable Canadian property,

at any time in the year or a previous year, an income tax shall be paid as hereinafter required upon his taxable income earned in Canada for the year determined in accordance with Division D.

He argues that taxing statutes must be strictly construed and that tax is exigible only if the words clearly indicate a change of tax to the plaintiff. For the plaintiff to be subject to Canadian tax in his 1973 taxation year he must have been employed in Canada, or deemed to have been employed in Canada, and his taxable income must be determined in accordance with Division D. Division D, titled “Taxable Income Earned in Canada by Non- Residents’’ contains only the two sections 115 and 116. The latter section is not relevant as it deals with the disposition by non-residents of certain property.

The relevant clause, subparagraph 115(1)(a)(i) stipulates that a nonresident’s taxable income is the amount of his “incomes from the duties of offices and employments performed by him in Canada’’. It reads:

115.(1) For the purposes of this Act, a non-resident person’s taxable income earned in Canada for a taxation year is the amount of his income for the year that would be determined under section 3 if

(a) he had no income other than

(i) incomes from the duties of offices and employments performed by him in Canada

The plaintiff is not caught by the provisions of that sub-paragraph as he performed no duties of offices and employments in Canada during the 1973 taxation year. During that year he worked in the United States.

The plaintiff, however, concedes that under paragraph 7(1 )(a) an employer who has acquired shares under such an agreement, as his option, shall be deemed to have received a benefit by virtue of his employment, but he argues that the paragraph only applies to the employee by virtue of his employment in the taxation year in which he acquired the shares. The plaintiff points out that in 1973 he performed no duties in Canada. The subparagraph reads:

7.(1) Where a corporation has agreed to sell or issue shares of the capital stock of the corporation or of a corporation with which it does not deal at arm’s length to an employee of the corporation or of a corporation with which it does not deal at arm’s length,

(a) if the employee has acquired shares under the agreement, a benefit equal to the amount by which the value of the shares at the time he acquired them exceeds the amount paid or to be paid to the corporation therefor by him shall be deemed to have been received by the employee by virtue of his employment in the taxation year in which he acquired the shares

He therefore concludes that Parliament did not specify that a taxpayer in his circumstances was deemed to have performed duties of an office or employment in Canada, and therefore that in calculating his taxable income pursuant to subparagraph 115(1)(a)(i) no amount of any benefit deemed to be received by him pursuant to subsection 7(1)(a) is to be included in his taxable income.

Learned counsel, of course, is not aware of subsection 7(4) of the Act which declares that subsection (1) shall continue to apply “as though the person were still an employee and as though the employment were still in existence’’. He argues that by virtue of subsection 7(4) the plaintiff may be deemed to have continued in employment, but not in employment in Canada. In other words, he says that subsection 7(4) does not apply to nonresidents. In the year 1973 the plaintif was not a resident in Canada and was not employed in Canada; if he is to be deemed so to be, that can only be effected by clear unambiguous language. Subsection 7(4) reads:

7.(4) For greater certainty it is hereby declared that, where a person to whom any provision of subsection (1) would otherwise apply has ceased to be an employee before all things have happened that would make that provision applicable, subsection (1) shall continue to apply as though the person were still an employee and as though the employment were still in existence.

As to the calculation obtained by apportioning the excess amount as between days spent in Canada and days spent in US during the relevant period between the grant of the option and its exercise, we are referred to subparagraph 115(1)(a)(v). However, counsel for the plaintiff admits that his client incorrectly used the provisions of that subparagraph which do not apply in his case: He is not a non-resident person as described in subsection 115(2).

Unfortunately for the plaintiff, I cannot accept his first proposition.

The aforementioned subsection 2(3) of the Act clearly applies to a nonresident who “was employed’’ in Canada at any time in the year, “or a previous year”. He may be charged even if he was not employed in Canada in the taxation year. By virtue of paragraph 7(1)(a) the plaintiff acquired shares the excess value of which “shall be deemed to have been received . .. by virtue of his employment in the taxation year in which he acquired the shares”. And “for greater certainty” subsection 7(4) declares that 7(1) shall continue to apply as though “he were still an employee and as though the employment were still in existence”. The employment deemed to have been continued is, of course, the one he occupied in Canada at the time the agreement was made. It cannot be any subsequent or previous employments. It has to be the employment which yielded the agreement and which is deemed under subsection 7(4) to continue as though it were still in existence when the profit was reaped.

Whether plaintiff actually performed any duties of an office or employment in Canada during his 1973 taxation year is immaterial. In my view, under the combined provisions of section 7, the non-resident plaintiff received by virtue of his employment in Canada, actually terminated in 1971 but deemed to have been continued to 1973, a benefit which is taxable in that taxation year.

Alternatively, plaintiff contends that if the benefit were taxable income pursuant to the provisions of section 7, then such benefit is of a capital nature and therefore exempt from taxation in Canada by virtue of Article VIII of the Canada-US Tax Convention, which reads:

Article VIII

Gains derived in one of the contracting States from the sale or exchange of capital assets by a resident or a corporation or other entity of the other contracting States shall be exempt from taxation in the former State, provided such resident or corporation or other entity has no permanent establishment in the former State.

Plaintiff submits that the purchase of shares exercised under the option was “an exchange of capital assets”. He claims that at common law the stock option agreement was a Capital asset which he exchanged in 1973 for shares in Gulf Canada Limited.

That submission is not valid. Plaintiff’s transaction was neither a sale nor an exchange of capital assets. He acquired shares at a price previously set under an option and thus benefited from their increased value, a benefit taxable under the Act as having been made by virtue of his employment in Canada. The mere fact that he only exercised his option after he had left Canada does not transform the taxable benefit into something else.

The appeal therefore must be dismissed, with costs.