David Calvin v. Minister of National Revenue, [1978] CTC 2788, [1978] DTC 1565

Delmer E Taylor:—This is an appeal against an income tax assessment in which the Minister of National Revenue disallowed an amount of $8,498.72 claimed as “repairs and maintenance’’ in the year 1974. The Minister did allow capital cost allowance on 25% of that amount during the year. The respondent relied, inter alia, upon paragraphs 18(1)(a), 18(1)(b) and 13(7)(c) of the Income Tax Act, SC 1970-71-72 as amended.

Facts

The taxpayer is a farmer in the province of Saskatchewan. In 1974 he started building a new house and relocated his former house to a new site on the property. Although it did take him about two years to complete the new house at a greater cost than the amount claimed here, during the year in question he did spend $8,498.72.

Contentions

It was contended by the appellant that:

—he was remodelling the former house for his hired help;

—the total amount should be deductible therefore as repairs;

—alternatively, the full amount should be set up for capital cost allowance purposes.

The respondent’s position was that:

—the renovations and repairs effected on the appellant’s house represented an outlay on account of capital;

—at all material times, ie 1974 to 1976, the appellant and his family lived in the former house;

—during the 1974 taxation year, no hired help employed by the appellant lived in the appellant’s house;

—the business use of the old house during the 1974 taxation year was 25% of the total use.

Evidence

The appellant pointed out to the Board that the two-year period for construction of his new house had not been anticipated by him, and that indeed he had lived in his new house in 1974, residing in the basement during the winters of 1974-75 and 1975-76, but using the former house in the summers. He had been forced to move the former house because the location was needed for construction of his new house. The former house had not been used for the hired help during the period under review because the building was needed for his own family.

Argument

Counsel for the Minister referred the Board to the case of Alexandra Hotel (1960) Ltd v MNR, [1971] Tax ABC 1135; 71 DTC 767, and put forward that the renovations in the instant appeal were so extensive that they could only be described as replacement of capital and not deductible as repairs or upkeep. The 25% base for capital cost allowance was because the appellant occupied the former home, and if and when the property were used for hired help it would be eligible for 100% of the capital cost allowance provisions.

Findings

There are really three questions which must be addressed in examining this appeal. First—if the amount of $8,498.72 in issue had been expended on the house, without any change in location, would it have been as a capital or a current expense? Second—does the relocation of the original structure have any effect on that determination? Third— does the assertion of the appellant that the renovated former house was to be for hired help have any effect on the situation?

Taking these questions in the reverse order, the Board would point out that while the appellant’s statements regarding the purpose of the expenditure on the former house (to use for hired help) appears logical enough, it must also be accepted that some rehabilitation was necessary after the move to the new site, to provide living accommodation for the appellant, even during the construction of the new house. That such occupancy of the rehabilitated former house finally extended over two years (during the summers) only serves to emphasize the fact that it was essential, no matter what may have been the period of construction—two months or two years. One of the major complaints of this appellant was that the assessment of Revenue Canada implied he was building and living in two homes at the same time. However,That is precisely what was happening. That he intended to use the former house for hired help when his new house was completed does not change the fact that during the year in question it was used as his home, and only as his home. In allowing 25% of the additional expense for purposes of capital cost allowance, the Minister recognized this fact. It is assumed that this capital cost allowance was in addition to such allowance for the undepreciated 25% of the cost of the former home before such rehabilitation. Whether the amount spent by the taxpayer on the former home was excessive when considering its immediate use (as a temporary home for the appellant) is irrelevant—the Board must deal with the amount claimed and that was $8,498.72. The fact that the appellant lived in the new house for two winters (for whatever reasons) again only strengthens the Minister’s case. It might be argued that the appellant should be allowed one half (for two winters) of 25% of the capital cost of the new house for cca purposes, and one half (for two summers) of 25% of the additional expenditures on the former house rather than being allowed all of the capital cost allowance on the renovated former house, since he lived in it for only a portion of the year. Nothing to support such a calculation was presented, and the approach taken by the Minister is considered adequate by the Board. In no way, however, is the appellant entitled to capital cost allowance on 100% of the cost of the renovations, based on his argument that the former house should be regarded as a building for the hired help.

Turning to the second question—the appellant’s argument is that if he had spent the money without moving the building*, it would have been claimed as repairs. From my review of the components involved

—basement, porch, roof, etc., I have serious doubts that it would have been allowed as such. I will deal with this under the first question, but I can find no support that a determination of whether capital or current would be different due to a location change. In fact, it might be just as well argued that the appellant had virtually built a new house, salvaging that which he could from the former structure. In addition, at least the cost of moving the former house to its new location might well be regarded as clearing the site for the new house (and the cost charged thereto).

Finally, dealing with the capital or current issue—while it might be more correct to examine each dollar spent, and make an allocation thereby, the Board has been requested to look at the total amount as of one form or the other. The position of the appellant was that the expenditures (basement, roof, porch, plumbing, chimney, etc.) were required to keep the house in its original condition, and were not improvements. It seems ,to me that it is in this perspective that he is viewing the matter incorrectly. The original basement (by his own evidence) was not worn out or useless, it was quite good. It needed to be replaced by another basement, when the house was moved. The same applies to the porch and the roof—the replacement was occasioned by damage during the move. It might be held that the very fact of such “replacement” determined that the expenditure was capital rather than current, but that determination might just beg the question when looking at the taxpayer’s proposal. Therefore, the Board has reviewed in some depth the question of “repairs” as they have been treated in the legislative record. It should first be noted that there are few contemporary cases which appear to have applicability here—the most recent apparently that of Alexandra Hotel (supra) a matter decided in 1971 by the then Tax Appeal Board, dealing with the 1968 income tax year. It is both supportive and contradictory to the Minister’s position in the instant matter, since the portion of the appeal dealing with structural changes was dismissed, while another portion related to the cost of new carpeting was allowed. Reviewing the reasons given by the presiding member in the case of Alexandra Hotel (supra) on the first point in issue in this appeal, it is evident that the critical position adopted by him, which did not favour the taxpayer, is contained in the sentence from pages 1137 and 768 respectively:

. . . I have formed the opinion that these changes and alterations were too extensive and substantial in their nature to be looked upon as merely routine repair and maintenance of the premises.

I can only conclude from the above comment that the presiding chairman considered the distinction between a “capital” and a “current” expenditure in deciding that particular appeal, to be one of degree, primarily in the cost and the end result produced. It would appear possible, using only this guideline, to write-off as a current expense the replacement of one piece of wood at a cost of $20 for example, but arguing for capitalization of the cost of 50 identical pieces of wood in a more major effort, at a cost of $1,000. Clearly the presiding member in that appeal did not intend it should be regarded as the only criterion to be considered.

Turning to the second point in the Alexandra Hotel case (supra), the explanation given on pages 1137 and 768 was:

There was satisfactory evidence that the life of a carpet in such a public room does not extend for more than two years and then the carpeting has to be replaced. As a matter of fact, the carpeting installed in 1968 has already been replaced after approximately two years’ wear.

I am of the opinion that , items in the nature of carpeting for public rooms, which are subjected to extreme wear and tear, especially during periods of bad weather, and require frequent replacement in order not to appear unsightly, are items of ordinary maintenance and that the taxpayer should be permitted to claim the full cost of such replacements in the year in which they are made.

It is evident to me that the presiding member made a judgment decision based on one point—“the life of a carpet in such public place does not extend for more than two years’’. The clear inference there is that there was a reasonable possibility on the evidence provided to him that the carpet might only last one year. It is only a matter of conjecture what his decision would have been had the evidence shown that the carpet would last at least two years or perhaps somewhat longer. The presiding member would then have been confronted with the signal decision in MNR v Haddon Hall Realty Inc, [1961] CTC 509; 62 DTC 1001, to which l shall later return.

There is another decision which has some relevance—No 705 v MNR, 24 Tax ABC 228; 60 DTC 301, in which an expenditure of some $3,700 resulting from storm damage to a cottage was held to be current rather than capital. The significant sentence from pages 229 and 302 of that decision is:

The items for repairs shown in the statement already mentioned are numerous, but there was no evidence to indicate that they were unnecessary, or of a capital nature, and did not result from the said storm.

The point that it was not “capital’’ appears to me to serve only as reinforcement of the decision; and the expenditure would have been necessary in order to use the cottage. The fundamental reason for allowing the appeal would seem to be that the expenditure corrected the damage done by the storm. In this sense there is some similarity to the instant case since there was damage occasioned by the move. I have considered this point at length, wondering why the replacement of a porch (for example) or any other structure, or part of a structure, should be a current expense as a result of storm or moving damage, while perhaps treated differently if the expenditure resulted from normal (or even excessive) wear and tear. I readily confess I have been unable to discern a distinction of merit—when the entire issue is examined against the background of the current capital cost allowance charges provided in current tax legislation. The “diminishing balance’’ and “asset class’’ system ensures to a taxpayer that a proportionate amount of capital expenditure may be charged annually against current operations, at his option, whether that asset depreciates or not. Again, therefore, it is doubtful that the actual duration experience of an asset under certain circumstances should be the only factor in deciding whether the replacement or renovation of that asset has current maintenance rather than capital investment characteristics.

In looking for a stable guideline the Board notes the decision of the British Privy Council in MNR v Anaconda American Brass Ltd, [1955] CTC 311; 55 DTC 1220, which rejected distortion of the income of the specific taxation year under review. In that case the point at issue was valuation of inventory, and it has been dealt with again by the Board recently in Wickett and Craig Ltd v MNR, [1978] CTC 2516; 78 DTC 1382. The principle, however, remains the same—to be deductible an item should apply (and based on the Anaconda decision (supra) in theory at least, totally) to the current year. From the Haddon Hall decision (supra), the Board points out the following from pages 511 and 1001 respectively:

The sole matter in issue here is whether such expenditures were an income expense incurred to earn the income of the year 1955 . . .

It can only be concluded from the dismissal of the above-referenced appeal by the Supreme Court of Canada that the benefits to the taxpayer flowing from the purchases in question extended over a period greater than merely the year 1955. Some further enlightenment on the general principles related to the differentiation between “capital” and “current” expenditure, for income tax purposes, may be found in a judgment of the Federal Court, Trial Division, Her Majesty the Queen v Baine, Johnstone & Company Limited, [1977] CTC 556; 77 DTC 5394. Although the matter at issue therein was related to the expansion of an insurance business, the fundamental question was whether the payment made by the company (in that trial, the defendant) could be written off during the year in question, or whether it was of a capital nature. The following quotations from the judgment found at pages 559 and 5397 respectively are indicative of the reasoning of the learned judge:

In both cases, the covenants and undertakings extend into the future and, in my view, include all goodwill that could exist with the exception of whatever goodwill could be generated by the use of the name of each vendor.

In conclusion, the defendant has failed to discharge the onus cast upon it of establishing in either case that the expenditure did not include assets and advantages for the enduring benefit of its trade in insurance and was therefore not in the nature of a capital expenditure.

Good judgment and a responsible attitude have characterized the approach of the taxing authorities in dealing with this vexing question. Nevertheless, in any dispute on the point, the responsibility appears to rest initially with the taxpayer to prove that the expenditure would

be totally consumed in earning the related income for the taxation year under review. It appears to me that many of the currently allowed “repair” expenditures would fall quite short of reaching this level of acceptability. Interpretation Bulletin IT-128 dated October 29, 1973, produced by Revenue Canada, attempted to establish guidelines for classifying expenditures as “capital”, and predictably is subject to the vagaries and inadequacies of such a difficult effort. That effort is designed to equate recognized accounting treatment and recordkeeping practice with the more rigid legislative and structural requirements of the Income Tax Act.

With reference to the “enduring benefit” portion of Bulletin IT-28, it could be noted that the replacement of an enduring benefit which a business has used but no longer has available, has many similarities for income tax purposes to bringing into existence. a new asset, additional benefit or advantage. That it is “lost” or “no longer available” implies that it does not exist for business or commercial purposes, and that its restoration or resurrection may require the further infusion of capital funds. Similar views might be advanced with regard to the “maintenance or betterment”, and “integral part or separate asset” sections of the same Bulletin.

In the case before the Board, there has not been any suggestion that the funds expended by the taxpayer had an applicability limited to the year in question. Whatever characteristics they may have had similar to others which historically he treated as “current” to me are irrelevant. They were for an “enduring benefit” as contrasted with “current consumption” and therefore are not deductible as a cost of earning the income solely for the year under review.

Decision

The appeal is dismissed.

Appeal dismissed.