The Cattermole-Trethewey Contractors Ltd. v. Minister of National Revenue, [1970] CTC 619, 71 DTC 5010

SHEPPARD, D.J.:—This appeal is by The Cattermole-Trethe- wey Contractors Ltd. against an income tax re-assessment by the Minister of National Revenue for the year 1966, on the ground of alleged errors in the re-assessment in disallowing certain disbursements for the year 1966 under Section 76(1) of the Income Tax Act, and also disbursements for the year 1967 which latter disallowance reduced the amount of the business loss of the appellant claimed as a deduction under Section 27(1) (e) against the corporate income tax for the year 1966.

The issues are :

1. Whether the appellant is entitled to deduct for the year 1966 the sum of $127,679.00 pursuant to Section 76(1) of the Income Tax Act :

2. Whether the appellant in computing the business loss for 1967 with the. corresponding deduction from the income for the year 1966 under Section 27(1) (e) is entitled to deduct the following items (Exhibit AT) :

(a) Pursuant to Section 76(1), the sum of $12,391.00, being alleged expenditures for Robert James Catter- mole of $6,078.00, and for Edgar Allan Trethewey of $6,313.00;

(b) Pursuant to Section ll(l)(g), the sum of $1,229.99, being expenditures for Robert James Cattermole of $557.99 and for Edgar Allan Trethewey of $672.00 ;

(c) Pursuant to Section 11(1) (c), the sum of $8,937.53, being for Robert James Cattermole of $4,475.59 and for Edgar Allan Trethewey of $4,461.94.

The basic issues are really:

1. Whether alleged pension plans of the appellant in favour of the respective Robert James Cattermole and Edgar Allan Trethewey are within Section 76(1) ;

and

2. Whether the alleged expenditures are excluded by Section 137(1) as "unduly and artificially” reducing the income of the appellant.

The facts follow :

The appellant is a body corporate, engaged in logging, construction, land clearing and lumbering, particularly in logging and lumbering in the interior of British Columbia. The appellant has issued 320 shares and each of Cattermole and Trethewey hold one share each as a qualifying share and 159 shares in the company controlled by each; while each of Cattermole and Trethewey holds one share in his own name, no doubt as a qualifying share, and indirectly 159 shares in a controlled company. (Exhibit A80)

In May 1964 the appellant set up an Employees’ Pension Plan (Exhibits 3A, 3B and 3C), which includes as employees the said Cattermole and Trethewey, to commence May 31, 1964 (Exhibit 3B) and in which both the members of the company covered by the plan and the company were to make payments to provide the funds to meet the promised pension (Exhibit 3C).

In the fall of 1964 there was a discussion between D. E. P. Maze of William M. Mercer Limited and R. Kenny, secretarytreasurer of the appellant, as to establishing an executive pension plan for the appellant covering the certain executives, and those discussions were covered by the letter of December 2, 1964 from William M. Mercer Limited to R. Kenny (Exhibits A5 and A6). The plan was not proceeded with, as it was felt that the obligations to be undertaken by the company would be too heavy for the company to assume.

On September 23, 1965 the appellant applied to the Bank of Nova Scotia for a credit of $1,000,000 and that was granted by the Bank (Exhibit A7).

In 1966 there were further discussions between a representative of the chartered accountants of the appellant, Helliwell, Maclachlan & Co., and L. C. Mason, its controller, with regard to a pension plan for the said Cattermole and Trethewey only, and those discussions were summarized in the letter of April 4, 1966 from Helliwell, Maclachlan & Co. to L. C. Mason (Exhibit A8), which letter begins ‘‘Further to our discussions as to ways of minimizing current income taxes ’ ’ etc. and includes the following :

Dealing with the current year only, it would be posible, under existing legislation, to do the following:

1) Have C.T.C. Ltd. pay $150,000.00 into a pension plan; such amount being allowable as a deduction for income tax purposes, would result in a saving of income taxes of approximately $75,000.00.

2) Have the trustees (who could be Messrs. Cattermole and Threthewey) of the pension plan invest the $150,000.00 in preference shares of C.T.C. Ltd.

The net effect of the foregoing would be that the company would have $75,000.00 more than it would have had if the pension payment had not been made. Of course, any receipt of pension fund monies by the individual members of the plan would be subject to income tax in their hands.

and further states :

In B.C., at the present time, it is still possible to make investments in securities of the employer company, although this could be changed in the future.

Ultimately, the appellant set up two Supplementary Pension Plans, one for Edgar Allan Trethewey as shown in the Agreement of May 1, 1966 between the appellant and the Royal Trust Company (Exhibit A9), and similar plan for May 1, 1966 between the appellant and the Royal Trust Company for the said Cattermole. These two plans were amended on September 18, 1969 (Exhibits A9 and A10). Under these respective plans, the company was to pay $1,500 in respect of each year of the future services by the member less the amount contributed by the company under the previous plan and ‘ hopes and expects’’ to contribute additional sums for each member. (See Section 9 of the Supplementary Pension Plan.) Under paragraph 3 of the Agreement, it states that the trustee shall not be limited by the laws of any province of Canada concerning investments by trustees. Section 10—“No person entitled to benefits under the Plan shall have any claim against the Trustee or the Fund except by or through the Company”. Under section 12 of the Agreement, the company reserves the right to amend all of the provisions of the Agreement. Under Section 3, the trustee was to invest in securities directed by the Retirement Committee. Under Section 4 of the Supplementary Pension Plan, the Retirement Committee was to be appointed by the board of directors of the appellant. The two plans were approved by the Department of National Revenue on the advice of the Superintendent of Insurance, Section 76(1).

By cheque of May 30, 1966, the appellant paid to the Royal Trust Company $127,679 (Exhibit A13), which cheque was cleared on May 31, 1966. The appellant gave a promissory note to the Royal Trust Company for $63,937 (Exhibit A14) for the Cattermole Trust, and a promissory note to that trustee for $63,742 for the Trethewey Trust, and by letter of May 31, 1966, the Retirement Committee directed the Royal Trust Company to invest the monies by lending to the appellant, and the appellant received back a cheque for the amount of $127,679 the same day (see Exhibit Al).

By letter of August 3, 1966, the Department enquired as to the appellant’s proposed contribution of payments to the Plan (Exhibits A23 and A24). By letters of August 9, 1966, the Department of Insurance reported to the Minister that the ‘ ‘ allowance ’ designated would be sufficient to meet the proposed benefits (Exhibits A83 and AS—l). By letters of August 29, 1966, (Exhibits A25 and A26), the Department reported to the appel- lant that there had been paid in respect of the said Cattermole the sum of $63,937 on May 1, 1966, and the proposed benefits would require $6,078 for the next 18 years, and in respect of the said Trethewey, there was the payment of $63,742 on May 1, 1966 and there would be required an annual contribution of $6,313.00 for the next 18 years.

In 1967, the appellant paid to the Royal Trust Company in respect of the said Cattermole, the sum of $11,111.58 (Exhibits A32 and A33) and in respect of Trethewey the sum of $11,446.94 (Exhibits A32 and A33), which sums were immediately lent to the appellant against the appellant’s promissory note for $75,- 188.94 (Exhibits A35 and A36). Later, under date of July 31, 1969, the Department of National Revenue issued a circular stating that the pension plans under Section 76 of the Income Tax Act would not permit the lending of money to the employer setting up the pension plan (Exhibit A85). The appellant made the amendment of September 18, 1969 and the Department accepted the amendments (Exhibits A9 and A10).

The principal argument under Section 76(1) is that there was no ‘‘employees’ superannuation or pension fund or plan’’ within that section. It was contended that under a conventional plan, the employer is bound to make contributions and hence it was not sufficient for this appellant, as employer, to state that it ‘‘hopes and expects’’ to make adequate annual contributions. Further, that the proposed benefits by way of pension should be stated and that there should be some obligation for payment of this pension. It was further contended that the section was not complied with in that under Saunders v. Vautier (1841), Cr. & Ph. 240, and as more clearly set out in Wharton v. Masterman, [1895] A.C. 186, there being only one cestui que trust in each plan and no gift over so that the respective cestur que trust (Cattermole or Trethewey) had the entire beneficial interest and could demand that the res be handed over to him at any time.

Hence, as the alleged plans were binding upon no one except the trustee, and upon the trustee only, to the amount of the fund from time to time actually paid to the trustee, the respondent contends there was no ‘‘employees’ superannuation or pension fund or plan” within Section 76(1). On the other hand, whatever is to be required in the ‘‘fund or plan’’ is that which Parliament has declared required by Section 76(1) and those requirements are :

1. That an employer has made special payment within the stated time ;

2. On account of an employees’ superannuation or pension fund or plan with employees (that implies there is such a fund or plan for the benefit of the employees) ;

3. Pursuant to a recommendation by a qualified actuary ‘‘in whose opinion the resources of the fund or plan required to be augmented by an amount not less than the amount of the special payment to ensure that all the obligations of the fund or plan to the employees may be discharged in full’’. The test is here subjective equally as in Liversidge v. Anderson, [1942] A.C. 206, and not objective as in The Registrar of Restrictive Trading Agreements v. W. A. Smith & Son Limited, [1969] 1 W.L.R. 1460 (C.A.) at page 1468. Section 76(1) requires that payment be made pursuant to a recommendation by a qualified actuary whose opinion, that is of the actuary, is as to the matters specified. The section does not require the employer or its officers before paying to check the opinion of the actuary, to see if the actuary had reasonable grounds for the opinion.

4. That the employer (here the appellant) has made the payment so that it is “irrevocably vested in or for the fund or plan’’. That appears to have been complied with in that the monies paid to the trustee are permanently held in trust for the plan subject, of course, to the directions for investment.

5. That the plan or fund is to be “approved by the Minister on the advice of the Superintendent of Insurance”. That has been done.

Apparently, any check that is to be made on the opinion of the actuary is to be made by the Department or by the Superintendent of Insurance but not by the employer, here the appellant. Therefore, Section 76(1) has been complied with by the appellant as employer.

As to Section 76(1) which may permit a deduction of the employer’s contributions for past service and to Section 11 (1) (g) which provides for the deduction of the employer’s contribution and 11(1) (c) which provides for the deduction of the payments of interest pursuant to a legal obligation to pay interest, these will depend upon the compliance with Section 137(1).

Section 137(1) reads as follows:

In computing income for the purposes of this Act, no deduction may be made in respect of a disbursement or expense made or incurred in respect of a transaction or operation that, if allowed, would unduly or artificially reduce the income.

In Shulman v. M.N.R., [1961] Ex. C.R. 410 at 425; [1961] C.T.C. 385 at 400, Ritchie, D.J. states:

In considering the application of Section 137(1) to any deduction from income, however, regard must be had to the nature of the transaction in respect of which the deduction has been made. Any artificiality arising in the course of a transaction may taint an expenditure relating to it and preclude the expenditure from being deductible in computing taxable income.

In my opinion, the primary object of injecting Shultup into the management setup was to reduce the income tax payable by the appellant on his professional income.

and later at p. 425 Ip. 400] :

The non-payment of any direct remuneration to the appellant for the services performed as agent for Shultup is opposed to the usual and natural relationship existing between a company and an agent who devotes from one-third to one-half of his time to the business of the company.

(Appeal dismissed without reasons, [1962] S.C.R. viii.)

In that case, the nonpayment of any direct remuneration to Shulman as agent for the company and performing its services was opposed to the usual and natural relationship existing between a company and the agent.

In Susan Hosiery Ltd. v. M.N.R., [1969] Ex. C.R. 408 at 418; [1969] C.T.C. 533 at 543, Gibson, J. considered of evidentiary value that the transaction was a sham, which the parties never intended to be acted upon. Therefore, whether a disbursement was an expense within Section 187(1) depends upon:

(a) The primary object of the transaction being to reduce the income unduly or artificially, and it is not necessary that it be the exclusive object ;

(b) Any artificiality may taint an expenditure ;

(c) There must be, in order to come within the Section 137 (1), a ‘‘disbursement or expense by the employer’’. The section apparently does not apply to a transaction where there has been no disbursement or no expense.

Accordingly, the facts here to be considered are as follows:

1. There was an earlier pension plan, under which the employees were to contribute 2% (Exhibit 3C), and the directors were to determine who were the executives for the purpose of the plan (Exhibit 3B). Hence, there was a plan for the remuneration for past services which was to commence on October 1, 1964 (Exhibit A3).

2. Later, under Agreement of May 1, 1966, there was a plan set up for Edgar Allan Trethewey (Exhibit 94), and an equivalent plan for Robert James Cattermole (Exhibit 104A). Those plans were commenced with the letter of April 4, 1966 from Helliwell, Maclachlan & Co. to L. C. Mason, the appellant’s controller, stating “Further to our discussions as to ways of minimizing current income taxes and as requested by yourselves, we are setting out below certain particulars concerning past service pension contributions” (Exhibit 8A).

Further enquiry as to what past services could there remain to be rewarded by the appellant as employer and the amount to be remunerated appear not to have been considered in this discussion nor reported upon in the letter, but the items that were considered were :

(a) The benefit to the company in minimizing taxes, that is, by avoiding the corporate income tax, which otherwise would be payable by the appellant;

(b) The inerease of the funds of the company by reason of their not having to pay corporate income tax; and

(c) There appears no enquiry as to the amount of the services of Cattermole or Trethewey, or whether they were rendering any services to the company.

As a body corporate, the appellant cannot make a gift of its corporate funds, Henderson v. The Bank of Australia (1889), 40 Ch. D. 170, and Hutton v. West Cork Railway Company (1883), 28 Ch. D. 654, unless there is some benefit reasonably expected to accrue to the company. But in this instance, there was no enquiry as to the services being rendered by the alleged employees, Cattermole and Trethewey, nor as to any expected benefit to the company through such plans other than the reduction of income taxes for the appellant company.

Further, the employees under the said plans were shareholders and controlled the company, and were the directors, and therefore, had charge of the funds of the company. Again under the proposed plans, according to the letter of April 4, 1966, the company would have ‘‘of a [payment of] $150,000, $75,000 more than it would have had, had the pension payment not been made.’’ In other words, the company was to avoid paying the company income taxes.

Under the original Agreements setting up the trust (Exhibits 9A and 10A), Section 3 provides that the trustee should invest only in those investments designated by the Retirement Committee, and as the shareholders controlling the appellant were the Retirement Committee, the company could and would receive back any monies which they contributed to the pension plan and for which contributions, the company would be entitled to deduct from its income.

There was no obligation on the company to make any contributions, in that under Section 9 of the Supplementary Pension Plan, the appellant ‘‘hopes and expect’’ to contribute. Under the amendment of September 18, 1969 the trustee was required to invest only in those investments prescribed by Section 11 of the Pension Benefits Standards Act and Section 8 and Schedule ‘C’ of the Pension Benefits Standards Regulations. This provision would, of course, not prevent the appellant escaping the corporate income tax on all contributions it made to the plan, as such contributions would again be deducted from its income for the year of the contribution.

Therefore, the plans (Exhibits 9A and 10A), for the benefit of Cattermole and Trethewey, were entered into for the primary object that the disbursements ‘‘would unduly or artificially”? reduce the income of the Appellant, by permitting the appellant to escape paying its corporate income taxes on the amounts so contributed. In consequence, the appellant has failed to establish that the re-assessment was in error and the appeal is therefore dismissed with costs.