Diversey (Canada) Employees’ Savings Trust v. Minister of National Revenue, [1978] CTC 2019, 78 DTC 1043

A W Prociuk (orally: November 18. 1977):—The appellant, Diversey (Canada) Employees’ Savings Trust, appeals from the reassessment of its income for the taxation years 1972 and 1973 wherein the respondent assessed the appellant for tax in the full amount of the purchase price of share warrants, purchased by the appellant in the said years, pursuant to subsection (1) of section 198 of the Income Tax Act, that is the sum of $36,814.09 for the taxation year 1972 and $29,846.09 for the taxation year 1973, on the ground that this was a non-qualified investment within the meaning of paragraph (d) of section 204 of the Act and of section 1502 of the Income Tax Regulations pertaining to profit sharing plan, as the same were in force in the said taxation years.

The assessment for 1972 is dated March 8, 1976, in the sum of $43,210.54 including accrued interest of $6,396.45, and for 1973 the notice of reassessment is dated June 7, 1976 for $33,720.87 including interest of $3,874.78.

The appellant filed a notice of objection in respect of each assessment and the respondent, by notification dated October 29, 1976, confirmed the said assessments and this appeal then followed.

At the commencement of the hearing of this appeal counsel for both parties hereto filed an agreed statement of facts which reads as follows:

FACTS AGREED UPON BETWEEN THE PARTIES

1. The parties hereto hereby agree that the following facts be taken as true for the purposes only of the hearing of this appeal before the Tax Review Board:

a) the Appellant is a trust governed by a deferred profit sharing plan within the meaning of the Income Tax Act’,

b) in 1972 and 1973 the Appellant made the following purchases of warrants of Loew’s Corporation:

..

c) on 5 April 1974 the Appellant sold all of the said warrants and received proceeds of disposition therefor in the amount of $21,444.54;

d) during the period from 12 April 1972 to 5 April 1974 the shares of Loew’s Corporation were listed on the New York Stock Exchange and the warrants of Loews Corporation were listed on the American Stock Exchange; neither the shares nor the warrants of Loew’s Corporation were listed on any stock exchange in Canada in the said period;

e) in assessing the Appellant for the taxation years 1972 and 1973 the Respondent assessed the Appellant for tax in the amounts of $36,814.09 and $29,846.09 respectively on the basis that the said purchases of warrants were acquisitions of non-qualified investments by the Appellant in respect of which tax equal to the cost to the Appellant of the said warrants was payable by virtue of subsection 198(1) of the Income Tax Act.

f) in assessing the Appellant for the taxation year 1974 the Respondent refunded to the Appellant the amount of $21,444.54 on the basis that the said sale of the warrants was a disposition of a non-qualified investment by the Appellant in respect of which the Appellant was entitled to a refund of the tax described in sub-paragraph 1(e) herein to the extent. of the said proceeds of disposition by virtue of subsection 198(4) of the Income Tax Act.

2. The said parties reserve their rights to dispute the relevance of and weight to be given to the facts set out in paragraph 1 herein.

3. The said parties further agree that, except for the facts set out in paragraph 1 herein, the truth of all facts which either party intends to reply upon at the said hearing must be established in evidence in the ordinary way.

In addition to this written agreement it was also orally agreed that the deferred profit sharing plan herein is composed of approximately 150 employees and that the total acquisition of the share warrants herein complied with the requirements of subparagraph 204(e)(ix) as it then read, that is in the 1972 and 1973 taxation years, in that the total cost of the acquisition by the trust was not greater than 10% of the cost to the trust of all property held immediately before the acquisition.

For convenience, paragraphs (d) and (e) of section 204 of the Act and section 1502 of the Regulations are reproduced hereunder:

204. In this Part,

(d) “non-qualified investment” means property that is not a qualified investment for a trust governed by a deferred profit sharing plan or revoked plan within the meaning of paragraph (e);

(e) ‘‘qualified investment” for a trust governed by a deferred profit sharing plan or revoked plan means

(i) money, including balances standing to the trust’s credit in the records of

(A) a bank to which the Bank Act or the Quebec Savings Banks Act applies, or

(B) a corporation that is licensed or otherwise authorized under the laws of Canada or a province to carry on in Canada the business of offering to the public its services as trustee,

(ii) bonds, debentures, notes, mortgages, hypothecs or similar obligations described in clause 212(1)(b)(ii)(C), whether issued before, on or after April 15, 1966,

(iii) bonds, debentures, notes or similar obligations of a corporation the shares of which are listed on a prescribed stock exchange in Canada, other than those described in paragraph 147(2)(c),

(iv) shares listed on a prescribed stock exchange in Canada,

(v) shares of an investment corporation,

(vi) equity shares of a corporation by which, before the date of acquisition by the trust of the shares, payments have been made in trust to a trustee under the plan for the benefit of beneficiaries thereunder, if the shares are of a class in respect of which

(A) there is no restriction on their transferability, and

(B) in each of 4 taxation years of the corporation in the period of the corporation’s 5 consecutive taxation years that ended less than 12 months before the date of acquisition of the shares by the trust, and in the corporation’s last taxation year in that period, the corporation

1. paid a dividend on each share of the class of an amount not less than 4% of the cost per share of the shares to the trust, or

2. had earnings attributable to the shares of the class of an amount not less than the amount obtained when 4% of the cost per share to the trust of the shares is multiplied by the total number of shares of the class that were outstanding immediately after such acquisition,

(vii) guaranteed investment certificates issued by a trust company incorporated under the laws of Canada or of a province,

(viii) investment contracts described in clause 146(1 )(j)(ii)(B) and issued by a corporation approved by the Governor in Council for the purposes of that clause,

(ix) shares listed on a prescribed stock exchange in a country other than Canada and not listed on a prescribed stock exchange in Canada, to the extent that the cost to the trust of all such shares held by the trust immediately after the latest acquisition by the trust of any such shares is not greater than 10% of the cost to the trust of all property held by it immediately before such acquisition, and

(x) such other investments as may be prescribed by regulations of the Governor in Council made on the recommendation of the Minister of Finance;

Then follows section 1502 of the Income Tax Regulations and for the purposes of this case it is not necessary to reproduce the entire section but only the first part, that is, paragraphs (1) (a), (b) and (c):

1502. (1) Pursuant to subparagraph 204(e)(x) of the Act, each of the following investments is hereby prescribed to be a qualified investment for a trust (in this subsection referred to as the “profit sharing plan trust’’) governed by a deferred profit sharing plan or revoked plan (within the meaning assigned by paragraph 204(f) of the Act):

(a) a share of the capital stock of a mutual fund corporation;

(b) a unit of a mutual fund trust;

(c) a share of the capital stock of a public corporation;

(c.1) a warrant or right, listed on a prescribed stock exchange in Canada, giving the owner thereof the right to acquire, either immediately or in the future, any property that is a qualified investment within the meaning assigned by paragraph 204(e) of the Act;

In 1974-75 subparagraph 204(e)(ix) was amended by chapter 26, subsection 114(1), applicable to the 1972 and subsequent taxation years, aS same is quoted above.

Section 1502 of the Income Tax Regulations was amended by adding paragraph (c.1) on March 25, 1975, applicable to 1974 and subsequent years.

While the term “share” is defined in the Income Tax Act, being subsection 248(1), there is no definition of the term “warrant”. The only reference to the latter term is in the amended section of the Regulations to which I just referred. The respondent’s position is that “warrant”, not listed expressly as a qualified investment under paragraph 204(e) of the Act is, therefore, a non-qualified investment.

It follows that had the appellant, in the relevant years, purchased shares instead of share warrants of Loew’s Corporation there would have been no problem today. The appellant’s submission, briefly stated, is that the term “warrants” for tax purposes should be considered in the same light as shares. It is further submitted that it is reasonable to assume that shares include warrants.

The appellant called two witnesses, Ross A Hamlin and George D Turnbull, both being partners in Sceptre Investments Counsel Limited, which is and was the investment manager for the appellant. Both men are well qualified and experienced in investment matters. Sceptre was formerly known as Fry Investment Management. Mr Hamlin stated he had given some consideration in depth to the elegibility of warrants for investment purposes and he treated warrants in the same manner as common stock.

In 1971 he had a telephone conversation with an official of the federal Department of Insurance named Mr Swartz of the Toronto office. As a follow-up to this conversation, he received a letter dated May 19, 1971, which was filed as Exhibit A-2 and reads as follows:

DEPARTMENT OF INSURANCE

May 19, 1971

Mr Ross A Hamlin,

Fry Investment Management,

Box 50,

Toronto-Dominion Centre,

Toronto 111, Ontario.

Dear Mr Hamlin:

Further to your telephone conversation with Mr Swartz of our Toronto office, I have been asked to reply to your enquiry concerning share purchase warrants.

At the outset, I might point out that we have never thought it appropriate to express any opinion in regard to the interpretation that can or should be given to any particular provision of the statutes that we administer until we are required to do so in the discharge of our responsibilities thereunder. You will appreciate, I am sure, that matters of law rather than opinion are involved and ordinarily, therefore, we can only suggest that companies subject to these laws make their own decisions, with the assistance of expert counsel if necessary. The Department feels that it must always be in a position to comment on any such transactions once completed, however, and with this in mind, I am sure you will agree that we could not undertake to express any official comments.

Unofficially, however, I would advise that it is reasonable to consider the eligibility of warrants in the same light as the common shares of the company, ie if the common shares of the company are a “basket” investment, then the warrants would also be a “basket” investment.

I hope that these few comments will be of some assistance to you.

Yours very truly,

(Sgd) L W Querel

Administrative Officer.

Mr Turnbull, who is the vice-president of Sceptre Investments Counsel Limited, stated he has considerable experience with profit sharing plans such as the one the appellant administered. He had seen Exhibit A-2 and decided with his partners in 1971, 1972 and 1973 that warrants could be considered in the same investment category as common shares and on the recommendation of Sceptre, the appellant purchased the warrants.

For the appellant to succeed it is necessary to find that a warrant is the same as a share, or that the term “share” includes “warrant”. Fraser’s Handbook on Canadian Company Law (6th edition, 1975), at page 79 under the heading of “Share Warrants” states as follows:

A company, upon compliance with and subject to the requisite statutory formalities and restrictions, may issue warrants under its corporate seal, certifying that the bearer of the warrant is entitled to the shares specified therein. Such warrants, which are called share warrants, may only be issued in respect of fully paid shares. Share warrants are transferable by delivery without registration. Dividends are usually made payable on presentation of coupons attached to the warrants. While the bearer of a share warrant may be deprived of the right to vote, it is usual to provide in the regulations that the holder is entitled, on deposit of the warrant, to obtain a voting certificate entitling him to vote.

In Jowett’s Dictionary of English Law the term “share warrant to bearer” is defined as follows:

A warrant or certificate under the seal of the company, stating that the bearer of the warrant is entitled to a certain number or amount of fully paid up shares or stock. Coupons for payment of dividends may be annexed to it. Delivery of the share-warrant operates as a transfer of the shares or stock.

Company securities, it appears to me, usually fall into two primary classes, shares and debentures. A shareholder is a member of the company whereas a debenture holder is a creditor, but not a member of that company. A warrant, accordingly, would fall in some lesser category of a share; it constitutes a right to a share upon payment of such further sums of money that may be stipulated therein, or the mere exchange for a share as the case may be.

It is not as if the term “warrant” had been until recently an unknown quantity and that it is a recent innovation of the modern commercial structure. I venture to say that the concept of warrants perhaps dates back to the very beginning of corporate structures.

I have been unsuccessful in locating a decided case directly on the point in issue here, but I wish to quote from at least two cases where warrants are discussed. In Henderson Estate and The Bank of New York v MNR, [1973] CTC 636; 73 DTC 5471, the matter of valuation of Share and share purchase warrants was in issue in respect of succession duties; an issue quite different from what we have here but it is helpful to note what the judge had to say about warrants.

Mr Justice Cattanach, at page 656 [5485], states as follows:

A company if authorized by its charter may issue share warrants which make the bearer of such warrant absolutely entitled to the shares in respect of which the share warrant is issued. What happens is that the fully paid shares are issued by the company to a shareholder. However instead of the shareholder taking a share certificate as evidence of his title to the share, he may exchange that certificate for a share warrant or he might be given a share warrant rather than a share certificate. The bearer of a share warrant is entitled upon surrender of the share warrant to be registered as a shareholder. The holder of a share warrant may be entitled to vote depending upon the conditions attaching to the share warrant.

The principal difference between a share certificate and a share warrant is that the transferee of a share certificate only perfects his title when the transfer is registered in the company’s share register. On the other hand the bona fide holder of a share warrant acquires a title free from equities immediately. Accordingly a share warrant is a negotiable instrument which passes by delivery free from equities.

In the case of Brinoram Limited v MNR, 30 Tax ABC 378 at 379; 63 DTC 54 at 55 and 56, Mr Snyder, QC, Chairman of the Tax Appeal Board, as it was then constituted, states as follows:

The price of purchase warrants is governed by the market prices of the shares on which the warrant gives a call. The appellant acquired 28,650 purchase warrants in August, 1956. from Burns Brothers & Denton Limited. investment dealers, at the market price which was. 20¢ each. The market value of the common shares of Lorado at that time was $1.15.

Then at page 381 [56] he states as follows:

Called by counsel for the Minister, evidence was given by Douglas Henderson. a stock broker of some twelve years' experience, that in the spring of 1957 the market in uranium stocks was buoyant. Mr Henderson said that. if a stock rose. one would expect warrants to do likewise. He said that usually warrants were of a more speculative nature than common shares.

It will be observed that while a warrant may be a type of share, it is not always the same as a share. In the instant appeal is it correct to substitute, in subparagraph 204(e)(ix) of the Act, warrants for shares? If so, then the acquisition by the appellant of the warrant was a qualified investment.

The term “warrant” appears for the first time in the Income Tax Act in section 1502 of the Income Tax Regulations in 1975. It states: “a warrant or right, listed on a prescribed stock exchange in Canada, . .

Could it be argued that this addition in 1975 is restrictive in nature in the sense that prior to this restriction warrants listed on a prescribed stock exchange outside Canada could be acquired and treated as a qualified investment? With some considerable hesitation and doubt I have reached the conclusion that is not so. !t has to be borne in mind that section 1502 of the Income Tax Regulations is an extension of paragraph 204(e) of the Income Tax Act for in subparagraph (x) of said paragraph 204(e), it clearly states “such other investments as may be prescribed . . .”’. It follows then that warrants as a qualified investment were added in 1975 and until then were not listed in the Act expressly or inferentially in any category. Further, it cannot be said that “share” includes “share warrant”. The Act does not so define it.

If Parliament had intended to include the purchase of a warrant as a qualified investment it could easily have done so by stating in so many words; for example, shares and share warrants listed on a stock exchange. It is trite law to say that the provisions of the Income Tax Act must be strictly construed and the words used therein be given their ordinary, everyday meaning.

I have no doubt the appellant honestly believed what it did was proper and legal within the purview of the Act, and Exhibit A-2, a letter from the Government Insurance Department, may have contributed substantially to that belief. This, unfortunately, I cannot consider as a deciding factor in arriving at a decision.

The respondent, in my opinion, has properly assessed the appellant as he is required to do under subsection 198(1). The appeal, accordingly, is dismissed.

Appeal dismissed.