Dominion Construction Company (Niagara) Limited v. Minister of National Revenue, [1974] CTC 2006, 74 DTC 1026

The Assistant Chairman:—This is the appeal of Dominion Construction Company (Niagara) Limited from an income tax assessment in respect of its 1970 taxation year.

On April 25, 1969 the appellant entered into a contract with the Welland County Board of Education for the construction of an addition to Fort Erie High School. The plans and specifications were drafted and supervision of the project was carried out by Donald N Chapman, Architect. Mr Gordon Goulty, who worked for Mr Chapman, was looking after the work involved.

The original contract in the amount of $602,490 called for specific work to be completed on December 31, 1969, and the contract included such work as paving, grading, painting exterior entrances, cleaning windows and general site cleaning (Exhibit A-1).

Because of weather conditions, and because of the existence of two buildings on the school site which had to be removed before the grading and paving could be completed, it was decided, at the suggestion of Mr Goulty, to terminate the original contract on March 16, 1970 (Exhibits A-2 and A-15), and to engage in another contract for the remaining work which was required to be done.

On March 20, 1970 a supplementary contract in the amount of $3,500 which was to be completed on June 15, 1970 was let in order to permit the appellant company to execute the paving, grading and exterior painting which formed part of the original contract but which was delayed owing to the circumstances described above (Exhibit A-7). The amount of the original contract was reduced by $3,500 (Exhibit A-3).

On March 18, 1970 the original contract having been reduced by $3,500 amounted to $598,990 and the 15% holdback provided for in the contract and calculated thereon was in the amount of $89,530 (Exhibits A-4—A-16).

On March 20, 1970 the architect issued a certificate which certified that the addition to the Fort Erie Secondary School was completed and that the commencement of the lien period was established as March 17, 1970 (Exhibit A-17). On April 20, 1970, as requested, the appellant company forwarded to the architect the subcontractors’ waiver of liens A-4-A-16).

On April 24, 1970 the appellant submitted his account claiming the holdback of $89,530 (Exhibit A-10). On April 27, 1970 the architect issued certificate No 11 entitled “Release of Holdback” (Exhibit A-19). Although it is not clear on what date the amount of $89,530 was actually received, it is on record that the holdback was deposited at the Bank of Montreal in Niagara Falls on April 29, 1970 (Exhibit A-11).

It was established that the appellant company’s fiscal year ended March 31, 1970, and uncontradicted evidence would indicate that since 1958 it has been the company’s policy to calculate its profits only when a contract has been completely terminated.

The main issues to be determined in this appeal are—first, whether the holdback on the original contract amounting to $89,530 was received by the company in its 1970 fiscal year and whether that amount was properly included in computing the company’s income for that year; secondly, whether, upon the issuance of the architect’s certificate, the $89,530 holdback constituted an amount receivable by the appellant in its 1970 fiscal year and whether such a receivable was properly included in calculating the appellant’s 1970 income; thirdly, whether the $89,530 constituted part of progress payments received by the appellant in its 1970 taxation year.

Dealing with the last question first—If I understood counsel for the respondent correctly, he contended that what had been referred to as a supplementary contract was in fact not an addition to, but was part of, the original contract which terminated on August 31, 1970, and the amount of $89,530 paid to the appellant on or about March 27, 1970 was a progress payment and not the payment of a holdback since the holdback would not have become a receivable until August 31, 1970. This contention is not, in my view, supported by the facts of this appeal. The Niagara South Board of Education’s letter of March 13, 1970 reads (Exhibit A-15):

This will confirm our meeting of March 12, 1970 where the following items were discussed and agreed upon with the contractor:

Item 1 The contract for the work which has been completed and inspected will be terminated effective as of March 16th.

Item 2 A new contract for the items that could not be completed due to the weather conditions will be drawn up.

The items of this pertain to the remaining paving to be done, the remaining grading to be done, the remaining painting of exterior entrances, both sides, etc, exterior window cleaning (excluding greenhouse), general site cleaning and exterior cleaning and touch up of the building.

The amount of the contract is $3,500 for the remaining work and all work is to be completed by June 15th.

The specifications and drawing of the first contract will apply to the new contract.

Item 3 The contractor will furnish waiver of liens from the sub-contractors along with the other certificates and documents required at the termination of the contract. Also we would like a copy of the letters from the General Contractor to his subs notifying them of the commencement of the lien period.

Yours very truly,

NIAGARA SOUTH BOARD OF EDUCATION

Signed . . .

On March 16, 1970 Mr Goulty, Architect, forwarded to the appellant the following letter (Exhibit A-2):

DONALD N CHAPMAN 2385 Colborne Street

ARCHITECT Niagara Falls, Ontario

D N Chapman, B Arch, MRAIC

March 16th, 1970

Dominion Construction Co Ltd,

Box 31, Niagara Falls, Ontario

Attention: Mr Iseppon

Re: Fort Erie Secondary School

Dear Mr Iseppon:

Further to the meeting in our office on Friday last, we attach a photo copy of a letter from the Board received today.

From this letter you will note that the amount contract is terminated with effect from today, March 16th, and that the work covered by the supplementary contract must be completed by June 15th, 1970.

In order for us to issue a certificate terminating the amount contract we must attach copies of letters, from you to your subs informing them of the commencement of the lien period.

Would you please forward these letters without delay in order that we can issue the certificate of termination.

Yours very truly,

Gordon Goulty (Signed for

D N Chapman, Architect).

The original contract, by consent of the interested parties, was formally terminated on March 16, 1970 in keeping with the provisions of section A-3(b)(1) of the original contract dated April 25, 1969, which reads (Exhibit A-1):

A-3(b)(1)

Notwithstanding the provisions contained in subsection (2) above—

(1) if on account of climatic or other conditions reasonably beyond the Contractor’s control there are items of work that cannot readily be completed, the payment in full for the work which has been completed shall not be delayed on account thereof, but the Owner may withhold a sufficient and reasonable sum, as determined by the Architect, until the uncompleted work is finished and such sum as will adequately protect the Owner against liens;

I am satisfied from the record that the main contract was terminated on March 16, 1970. A new and supplementary contract was entered into by the parties for the work remaining to be done (Exhibit A-7). The payment of $89,530 calculated on the reduced amount of the original contract, viz $598.990 (Exhibit A-10), was not a progress payment on the original contract of $602,490 but was the payment of the 85% holdback provided for in section A-3(a)(2) on the reduced original contract that was terminated on March 16, 1970. Even if one were to assume that the amount of $89,530 was a progress payment, the record shows that in any event the payment was received between April 24, 1970 and the date of its deposit in the bank which was April 29, 1970. It was also established to the satisfaction of the Board that the appellant company’s fiscal year ended March 31, 1970, so that in keeping with the decision in John Coif ord Contracting Company Limited v MNR, [1962] CTC 546; 62 DTC 1338, cited by counsel for the appellant, “progress payments must be taken into account in the year in which they are received”. It cannot be held that a progress payment of $89,530, even if it were a progress payment, was received by the appellant in its fiscal year ending March 31, 1970, and for that reason it cannot be properly included in the appellant’s 1970 taxation year.

The two remaining issues to be determined are somewhat related. The first is whether or not a holdback of $89,530 was received in the appellant’s 1970 fiscal year. The second is whether the amount of the holdback became a receivable in the appellant’s 1970 fiscal year. From the above stated facts and the reasons already given, the amount of $89,530 having been received after the end of the appellant’s 1970 fiscal year, the holdback cannot in my view properly be included in calculating the appellant’s income in that year.

As to the contention that the amount of $89,530 became a receivable in the appellant’s 1970 fiscal year, counsel for the respondent relied largely on the certificate of the architect dated March 20, 1970 (Exhibit A-17) which certifies that the proposed addition to the Fort Erie Secondary School project was terminated and that the 37-day lien period was established as at March 17, 1970. In my view there are in a construction project such as the one before us several certificates of the architect issued for different purposes, and the purport of each certificate has to be taken into account.

I find it difficult to interpret the March 20, 1970 certificate as saying anything more than that the project was completed and accepted by the architect, and determines the date when the lien period was to commence. Pursuant to subsection 11(1) of The Mechanics’ Lien Act of Ontario, the amount of $89,530 was held back for a period of 37 days after the completion of the addition to the Fort Erie High School in order to ensure the Niagara South Board of Education that the completed project was free of structural defects and that the appellant had honoured all its financial commitments in respect of that project.

The required waiver of liens and other pertinent documents were forwarded to the architect on April 20, 1970 (Exhibit A-9). Subsequently, on April 27, 1970, the architect issued another certificate, No 11, entitled “Release of Holdback” in which the architect confirms that the contractor was entitled to the release of the holdback of $89,530 (Exhibit A-19).

The actual amount of holdback payable to the contractor could finally be determined, not only after the project was completed by the contractor and accepted by the architect, but the amount of holdback also depended on whether or not moneys were still owing to the subcontractors on the project by the contractor. The appellant, in my view, would have a clear legal right to the holdback only when both these conditions had been met. The holdback therefore was finally determined only after the architect had assured himself that the contractor had no outstanding debts relative to the formally accepted project and that he confirmed this fact by issuing the “Release of Holdback” certificate. In my opinion the $89,530 became a receivable on the issue of the ‘‘Release of Holdback” certificate.

Since this certificate was issued on April 27, 1970, after the expiry of the appellant’s 1970 fiscal year, the appellant had no clear legal right to the amount of $89,530 and it was not a receivable in that year. Therefore it should not have been included in calculating the appellant’s income for the 1970 taxation year.

Paragraph 85B(1)(b) of the Income Tax Act does not apply to the facts of this appeal. The $89,530 holdback was not, in my opinion, a receivable in the appellant’s 1970 taxation year. Furthermore; the section does not apply because the evidence was that the appellant company computed its income only on the completion of its contracts. This method of computing the appellant’s income was not contested by the respondent, and the Board must assume that it was accepted by the Minister .The appellant therefore comes within the exception provided in paragraph 85B(1)(b) of the Income Tax Act and would not have had to include the holdback in its 1970 taxation year even though the $89,530 holdback had been considered a receivable in the appellant’s 1970 fiscal year.

I conclude that the holdback in the amount of $89,530 was not received, nor did it constitute a receivable for the appellant in its 1970 taxation year and was therefore improperly included in calculating the appellant’s income for that year.

For these reasons the appeal is allowed.

Appeal allowed.