Maritime Coastal Containers Limited v. Minister of National Revenue, [1981] CTC 2227

John B Goetz:—This is an appeal from a reassessment of the appellant’s income tax liability for its 1973, 1974 and 1975 taxation years.

Facts

At the outset of the hearing, an agreed statement of facts was filed and reads as follows:

1. The appellant was incorporated in Nova Scotia and carried on a business of shipping from that province.

2. In March 1973 the appellant entered into a series of complex agreements to enable it to acquire two vessels, the MV Hansa Bay and the MV Bergfalck which were owned by Norwegian and German interests.

3. Pursuant to the agreements, the appellant made payments which were designated as interest and failed to withhold tax as required by paragraph 212(1)(b) of the Income Tax Act.

4. The respondent reassessed, for income tax, in the 1973,1974 and 1975 taxation years, the Norwegian payees, who denied liability and refused to pay subsequently, the respondent reassessed the appellant for the income tax not withheld pursuant to the provisions of subsection 215(6) of the Income Tax Act.

5. The issues are:

(1) Whether the payments made to the Norwegians were in fact interest within the meaning of 212(b) of the Income Tax Act.

(2) Whether the appellant is protected from Canadian income tax by the provisions of the Canada Norway Tax Convention.

6. The key provisions of the agreement are as follows:

(a) Overall agreement dated March 26, 1973 between the appellant and Nord Transport, Strandheim & Sensaker, hereinafter referred to as NTSS regarding the MV Hansa Bay:

(i) Clause 1(b) provided that the vessel at that time was owned by Schiff-

fahrtsgesellschaft Sensaker MS Hansa Bay, a German Company;

(ii) Clause 1(c) provided that NTSS had charter rights to the vessel and also the right to subcharter her;

(iii) Clause 1(d) stated that NTSS will become the sole owner of the vessel in January or February of 1975;

(iv) Clause 2(i) stated that the parties were entertaining bareboat charter, hire-purchase, and management agreements contemporaneously with the overall agreement;

(v) Clause 2(ii) also noted that the bareboad charter shall govern the terms of the appellant’s possession of the vessel until NTSS becomes the sole owner; thereafter terms of the hire-purchase agreement shall govern; bareboat charter payments are to be credited to hire-purchase agreement;

(vi) Clause 5 stated that the appellant can obtain clear title and full ownership of the vessel after March 1, 1975 upon full payment of the balance of the purchase price;

(vii) Clause 6 provided that if NTSS does not become the sole owner of the vessel by April 30, 1975, the terms of the bareboat charter shall govern, except that NTSS shall be required to give the appellant a sister ship for purchase at the same price with amounts paid on the bareboat charter credited to the purchase price;

(viii) Clause 12 permitted assignment of appellant’s interest in bareboat charter and hire-purchase agreement as security for loan or guarantee;

(ix) Clause 14 noted that if the vessel becomes a complete loss at any time after its delivery, NTSS is to recover the insurance proceeds in full, and from such proceeds: mortgages and other charges on the vessel will be paid: a designated amount will be retained by NTSS; and then a specified amount will be paid to the appellant.

(b) Bareboat charter for two year period dated March 24, 1973 between the appellant and NTSS regarding the MV Hansa Bay:

(i) Charter was a standard form with modifications.:

(ii) Clause 8 specified that the rate to be paid by charterer to the owner is noted in Schedule A; Schedule A listed a monthly amount of principal plus interest each month from 1 to 60 for 60 months.

(c) Hire purchase agreement dated March 26, 1973 between the appellant and NTSS regarding the MV Hansa Bay:

(i) recitals noted that parties had also entered a bareboat charter agreement and that agreement was to continue until the beginning date of the hire purchase agreement;

(ii) Clause 1 of the agreement noted that beginning date means the date on

which NTSS becomes sole owner of the vessel; (January, February 1975);

(iii) Clause 2 stated that the appellant agrees to buy and NTSS agrees to sell the vessel for $2,100,000 US with the hire purchase agreement governing the sale to take effect on the beginning date; (January, February 1975)

(iv) Clause 3 noted that payments made according to the attached Schedule A pursuant to the bareboat charter shall be credited to the purchase price as if the hire purchase agreement had been in effect from the first instance; the attached Schedule is identical to Schedule A referred to in (b)(ii) above:

(v) Clause 4 noted that the appellant has the option of requiring NTSS to transfer title to the vessel upon payment of the balance of the purchase price at any time after the beginning date; (January, February 1975)

(vi) Clause 6 made the bareboad charter part of the hire-purchase agreement;

(vii) Clause 10 gave NTSS the right, in the event of default, to cancel the contract, keep the money already paid, and to claim damages;

(d) Supplementary agreement dated February 25, 1974 between the appellant and NTSS regarding the Hansa Bay:

(i) NTSS agreed to assume all responsibility for the operation of the MV Hansa Bay;

(ii) Appellant would pay a monthly management fee to NTSS of US $2,000 to replace fee of US $1,000 set out in Schedule D of overall agreement dated March 26, 1973;

(iii) Appellant still has obligation to make all payments under overall agreement and to exercise its right to purchase the Hansa Bay by April 1, 1975. If right not exercised interest rate will increase to 12% on balance of principal outstanding.

(e) Management agreement dated March 26, 1973 between appellant and NTSS appointed NTSS as Manager for a monthly fee of US $1,000 for each vessel.

(f) Overall agreement dated March 26, 1973 between the Appellant and NTSS and K/SA/S Falckship, hereinafter referred to as Falck, regarding the vessel MV Bergfalck:

(i) Clause 1(b) stated that the vessel at the date of the agreement was owned by Falck Schiffahrtsgesellschaft of Germany, which was owned by Hans Falck, the president of Falck, and another party; the vessel at the time of the agreement was chartered to Falck;

(ii) Clause 1(c) noted that NTSS is the sub-charterer of the vessel with the right to sub-charter her;

(iii) Clause 1(d) noted that Falck will become the sole owner of the vessel during the months of January or February 1975;

(iv) Clause 2(iii) provided that if the purchase option price was not half paid by October 1, 1973 and the other half by April 1, 1974 the hire purchase agreement is null and void. This provision was amended by supplemental agreement dated October 27, 1973 to extend the deadlines to January 31, 1974 and June 30, 1974 respectively with interest penalty. By further Supplemental agreement dated February 25, 1974, the deadline was extended to June 1, 1974 for the whole amount;

(v) In other respects the agreement was the same as that regarding the MV Hansa Bay;

(g) Bareboat charter dated March 26, 1973 between the appellant, NTSS and Falck;

(i) Clause 8 and schedule A provided the rate of charge is $31,000 US per month for the first six months, $41,000 US for the second six months and $36,000 for the third and fourth six month periods:

(ii) No interest payment schedule is noted;

(iii) In other respects, the charter is the same as that regarding the MV Hansa Bay.

(h) Hire purchase agreement between the appellant NTSS and Falck dated March 26, 1973 regarding the MV Bergfalck:

(i) Clause 2 and Schedule A set out purchase price to be paid in monthly installments (sic) with principal and interest over a 5 year period.

(ii) In other respects the hire purchase agreement relating to MV Bergfalck was similar to that governing the MV Hansa Bay;

7. Agreements supplementary to the overall agreement regarding MV Bergfalck were entered into by the parties to extend the time period for payment of the option amounts and to raise the interest due on such amounts from 8 to 12% per annum, dated Feberuary, 1974.

8. In the fall of 1973, the appellant began to include in its financial statements the buildup of contingent equity in the form of the principal portions of the charter payments made each month.

9. In its annual financial statement of December 31, 1973, the appellant listed MV Hansa Bay as an asset with the principal portion of the hire payments listed as contingent equity and interest portions listed; MV Bergfalck was not listed as an asset.

10. In May of 1974 the final payment on the purchase option for MV Bergfalck was paid.

11. In its annual financial statement, dated December 31, 1974, both vessels were listed as assets and the total of monthly hire payments was split into principal and interest amounts.

12. The appellant had its interest in MV Hansa Bay purchased by NTSS for $2,550 less mutually agreed deductions. The appellant listed this as a capital gain transaction on its tax return for 1975.

13. Falck confirmed its title to MV Bergfalck in April 1975 and the appellant obtained title to the vessel in August 1975.

As can readily be seen, there were a number of interlocking complex agreements entered into between the appellant and Nord-Transport Strand- heim & Sensaker, a company organized and existing under the laws of Norway. The documents involved the acquistion and use of two vessels, the MV Hansa Bay and the MV Bergfalck. There was, of course, separate documentation involving the two vessels but their working and import were virtually the same. The agreements were dated March 26, 1973, and indicated that payments to the non-resident company were partly interest. Schedule A to the bareboat charter, which forms an integral part of all the agreements, was incorporated by reference to a hire-purchase agreement. An overall agreement sets out in detail the amount of principal and interest payable. The non-resident company could not bring itself within the provisions of any of the exceptions with respect to interest as set out in paragraph 212(1 )(b) of the Income Tax Act, SC 1970-71-72, c 63, as amended. There was a set purchase price for each of the vessels, the Hansa Bay and the Bergfalck, and set payments under the bareboat charter, including principal and interest. The appellant could acquire, after March 1, 1975, the right to obtain clear title and full ownership of the vessels from Nord-Transport, by paying the then outstanding balance of the purchase price as shown in schedules E and F attached to one of the agreements.

The appellant maintains that all payments made to the foreign companies were by way of rent rather than by way of purchase. The respondent, on the other hand, maintains that a perusal of all the interlocking agreements executed on or about the same time, clearly discloses an intention to purchase the two vessels by the appellant.

Issue

The issues for me to resolve are twofold: (1) whether the payments made to the Norwegians included interest and whether a portion of such interest should have been deducted at source, pursuant to the provisions of subsection 215(6) of the Income Tax Act; and (2) whether the appellant is protected from the Canadian income tax by the provisions of the Canada-Norway Income Tax Convention.

Findings

It was agreed that all documents signed by the parties were contemporaneous on the entering into the bareboat charter, the hire-purchase agreement and the management agreement. Attached to the general agreement were various supplemental agreements. After a long and careful perusal of the documentation, it becomes apparent that the sole purpose of all the documentation was for the appellant to acquire title to both vessels. One of the terms stated that the bareboat charter should govern the terms upon which Maritime Coastal Containers Limited is in possession of the vessel (MV Hansa Bay) until Nord Transport becomes sole owner of the vessel (which would be in the month of January or February 1975) and that thereafter the hire-purchase agreement shall govern, provided payments made under the bareboat charter shall be credited to the hire-purchase agreement as if the hire-purchase agreement were in effect throughout. If by April 31, 1975 Nord-Transport could not effect transfer of the MV Hansa Bay, it had to substitute it with another vessel and all payments in respect to the MV Hansa Bay were to be credited against the purchase price of the Substitute vessel and the hire-purchase agreement shall be deemed to be and shall take effect as a bareboat charter until the date of delivery of such Substitute vessel. The bareboat charter, the hire-purchase and management agreements were all contemporaneous with the overall purchase agreement of both vessels. The bareboat charter agreement was merely a holding agreement for use of the vessels pending the vendors obtaining ownership of the vessels. All documentation clearly indicate the firm intention to sell by Nord-Transport and the purchase by the appellant. As a matter of fact, the appellant did acquire title to the MV Bergfalck.

The constant reference to interest, either separately or as being included in a lump payment, forces me to take the position that the whole set of various documents was intended to enable Nord-Transport to sell and the appellant to buy the two respective vessels.

The respondent filed the auditor’s report for the years 1973, and 1974 and 1975. Further, on page 6 of such statement, the accountant states:

The Company holds the right to an option to purchase the M/V Bergfalck which expires March 1, 1974. If that option is exercised, a portion of payments under the bareboat charter will be retroactively applied as blended interest and principal payments under the purchase agreement.

The appellant had permanent use of the vessels unless they so defaulted. The agreements are clearly agreements of purchase with payments for the ultimate purchase price extended over a period of time.

The appellant did not withhold any payments whatsoever on account of interest paid to the vendor as required by the Income Tax Act, with respect to the purchase of both vessels, the MV Hansa Bay and the MV Berfalck.

In assessing the appellant, the respondent relied, inter alia, upon paragraph 212(1)(b), subsections 214(2) and 215(6) of the Income Tax Act and upon the Income Tax Convention between Canada and Norway, and I uphold his assessment.

With respect to the Canada-Norway Income Tax Convention, even though demand was made upon non-resident corporations, and payment refused, section 21 affords the non-resident of certain tax relief by making certain deductions on the income of the person remitting tax (the 15% withholding tax) which should have been paid in Canada by the appellant. There is nothing in article 21, or in any other article of the said Convention, requiring Canada to forego its tax in respect of interest payable pursuant to its own Income Tax Act.

Article 10 of the Canada-Norway Income Tax Convention permits taxation of interest arising in one contracting state (Canada) and paid to the resident of another contracting state. The definition of “interest” in article 10(6) of the said Convention is wide enough to include the payments made in the present case. Article 10(6) reads as follows:

10.(6) The term “interest” means interest on bonds, securities, notes, debentures or any other form of indebtedness as well as any excess of the amount repaid in respect of any form of indebtedness over the amount lent.

Counsel for the respondent submitted a number of cases relating to interest but candidly admitted that they were not of much use to the Board, which proved to be the fact.

The documents, in my view, speak quite clearly for themselves, and I dismiss the appeal.

Appeal dismissed.