10 January 2005 External T.I. 2004-0095361E5 F - Dommages

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3 56(1)a)(i)

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This translation was prepared by Tax Interpretations Inc. The CRA did not issue this document in the language in which it now appears, and is not responsible for any errors in its translation that might impact a reader’s understanding of it or the position(s) taken therein. See also the general Disclaimer below.

Principal Issues: [TaxInterpretations translation] What will the tax treatment be of amounts that may be received as compensation for lost income?

Position: General comments.

Reasons: Question of fact.

XXXXXXXXXX 2004-009536
A. St-Amour, CA
January 10, 2005

Dear Madam,

Subject: Tax treatment - damages

This is in response to your letter of September 8, 2004 in which you asked us to confirm the tax treatment of certain damages in a particular case.

In your letter, you stated that due to the professional misconduct and negligence of his defendant in failing to fulfill his mandate, your client is deprived of a survivor's pension from the Régie des rentes du Québec [Quebec Pension Plan] ("QPP"). Your client has instituted proceedings and is claiming damages in the amount of this pension. You wish to know whether the damages that may be paid will be considered income or non-taxable capital.

Unless otherwise indicated, all statutory references herein are to provisions of the Income Tax Act (the "Act").

The situation described in your letter appears to us to be an actual situation involving a taxpayer. As stated in paragraph 22 of Information Circular 70-6R5 dated May 17, 2002, it is our practice not to issue a written opinion regarding proposed transactions otherwise than by advance rulings. Furthermore, when it comes to determining whether a completed transaction has received appropriate tax treatment, that determination is made first by our Tax Services Offices. However, we can offer the following general comments that we hope may be helpful to you. These comments may not, however, apply to your particular situation in certain circumstances.

According to the jurisprudence, the question of whether an amount received as damages is a taxable or non-taxable amount is a question of fact that can only be resolved after a detailed analysis of all the facts of a particular situation, which must include the terms of the court-ordered judgment or settlement. In this regard, Justice Mogan made the following comments in Catherine Dumas 2000 DTC 2603 (TCC):

" In income tax law, there is nothing magic about an amount recovered by a plaintiff in civil litigation whether it be the result of a favourable judgment or a negotiated settlement. The amount recovered is compensatory in nature. That alone will not determine its character for tax purposes as being income or capital or something else. The real question is to determine why the compensatory amount was paid. The answer is often found in the pleadings of the plaintiff and defendant in the civil litigation."

Interpretation Bulletin IT-365R2, Damages, settlements and similar receipts, provides the Canada Revenue Agency's ("CRA") views on the tax treatment of various amounts received as compensation. This bulletin is available on our website at www.cra-arc.gc.ca/menu/EmenuKLA.html. In particular, paragraphs 8 and 9 of the bulletin state that in determining whether compensation is an income or capital receipt, one must look at what the payment is intended to replace. In Canadian National Railway Company 88 DTC 6340 (FCTD), Strayer J. summarized the jurisprudence as follows"

"There is much jurisprudence on the question of whether compensation paid on the occasion of the termination of some business arrangement is capital or income. To a large extent each case turns on its own facts. It appears to me that there are two aspects which a court must consider in examining such a situation retrospectively: was the purpose of the payment to replace capital or income; and, whether or not the purpose can be reliably determined, was the effect of the payment to replace capital or income? It appears to me to be a dual test because the purpose may not be discernible, or it may not be reliably discernible in the sense that parties to settlements should not, by misstating the real purpose, determine the tax consequences of the receipt of such compensation. It is therefore necessary to look at both purpose and effect.

With respect to purpose, the essential question is to determine what the compensation - whether paid pursuant to a contract, a court award of damages, or otherwise - is intended to replace. (See e.g. London and Thames Haven Oil Wharves Ltd. v. Attwooll (1967) 2 All E.R. 124 (CA); followed in H.M. v. Manley, 85 DTC 5150 (FCA)). In some cases the contract providing for compensation may be clear (See e.g. Commissioners of Inland Revenue v. Fleming & Co. (Machinery), Ltd. (1951 33 T.C. 57 (Ct of Sess.). The measure employed for calculating compensation is not always determinative: potential lost income may be taken into account in calculating a capital sum to be paid. Nor on the other hand does the fact that an amount is paid as damages for breach of a contract necessarily make it a capital sum and not income. On the contrary it appears to me that whatever the source of the legal right to the compensation, be it the contract or the law of damages, the substantive issue is: what is this amount intended to replace?

With respect to the effect of the termination of the business arrangement and the role of compensation in respect thereto, I believe the two possibilities are well expressed in the judgment of Lord Russell in the Fleming case, at page 63:

"When the rights and advantages surrendered on cancellation are such as to destroy or materially to cripple the whole structure of the recipient's profit-making apparatus, involving the serious dislocation of the normal commercial organization and resulting perhaps in the cutting down of the staff previously required, the recipient of the compensation may properly affirm that the compensation represents the price paid for the loss or sterilization of a capital asset and is therefore a capital and not a revenue receipt... On the other hand, when the benefit surrendered on cancellation does not represent the loss of an enduring asset in circumstances such as those above mentioned where for example the structure of the recipient's business is so fashioned as to absorb the shock as one of the normal incidents to be looked for and where it appears that the compensation received is no more than a surrogatum for the future profit surrendered the compensation received is in use to be treated as a revenue receipt and not a capital receipt".

This principle has also been followed in situations where the amount was not received in relation to a business contract, such as where the compensation is received to replace the receipt of an amount that would have been income had it been received (see Catherine Dumas and Manley 85 DTC 5150 (FCA)).

You stated in your letter that the compensation being claimed is intended to replace benefits under the QPP. Consequently, you must determine whether this compensation could be included by virtue of subparagraph 56(1)(a)(i) as a "superannuation or pension benefit". Subparagraph 56(1)(a)(i) provides, without limiting the generality of section 3, that a taxpayer shall include in income for a taxation year all amounts received by the taxpayer in the year in full or partial payment of a "superannuation or pension benefit", including, without limiting the generality of the foregoing:...(B) any benefit under the Canada Pension Plan or under a provincial pension plan as defined in section 3 of that Act The term "superannuation or pension benefit" is defined in subsection 248(1) and includes amounts received under a superannuation or pension fund or plan, including any payment made to a beneficiary under the fund or plan or to an employer or former employer of the beneficiary. The words "retirement" and "pension" are not defined in the Act and reliance must be placed on the jurisprudence. In this regard, the courts have relied primarily on dictionary definitions (see E. William Abrahamson 91 DTC 213 (TCC)). It should be noted that according to the various dictionary definitions, an employer-employee relationship is never required. In addition, we can consider the following definition of "pension" in the Shorter Oxford English Dictionary:

"an annuity or other periodical payment made, esp. by a government, a company or an employer of labour, in consideration of past services..."

In our view, the word "or" suggests that the identity of the payer is irrelevant, as long as the payment will be in consideration of years of service. However, as noted in paragraph 1 of Interpretation Bulletin IT-499R, Superannuation or Pension Benefits, we wish to emphasize that the amounts must be received from a fund or under a superannuation or pension plan (including a benefit under the QPP) and consequently, in our view, may be taxable by virtue of subparagraph 56(1)(a)(i) only if the amounts were paid in accordance with the terms of the fund or plan.

Furthermore, paragraph 2 of IT-365R2 states that all amounts received by a taxpayer as compensation for injury will be excluded from income, even if they were based on the taxpayer's loss of income in respect of which they were paid. Paragraph 2 of Interpretation Bulletin IT-467R2, Damages, Settlements and Similar Payments, states that damages may relate to a loss or financial injury to a person arising from negligence as determined by a court. Those amounts are not taxed since they are not derived from a listed source and there is no specific provision to tax them.

Finally, in general, section 3 sets out the basic rule for determining a taxpayer's income for the year. This section requires the computation of “the total of all amounts each of which is the taxpayer’s income for the year … from a source … including, without restricting the generality of the foregoing, the taxpayer’s income for the year from each office, employment, business and property.” (Paragraph 3(a)). The courts have repeatedly ruled on the possibility of taxing unlisted sources under section 3(a). In general, the courts have preferred to tax sources that are enumerated and/or provided for under a specific provision of the Act (see Schwartz 96 DTC 6103 (SCC) and Fries 90 DTC 6662 (SCC)).

These comments are not advance income tax rulings and, as stated in paragraph 22 of Information Circular 70-6R5 dated May 17, 2002, are not binding on the CRA. However, we hope you find them of assistance. If you have any questions, please do not hesitate to contact us.

We would be pleased to consider an application for an advance ruling on the tax treatment of damages that would be payable under a forthcoming judgment or out-of-court agreement.

Best regards,

Ghislain Martineau
Manager
Financing and Plans Section
Financing and Plans Division
Income Tax Rulings Directorate
Policy and Planning Branch

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Text of Severed Letter

Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the CRA.
Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle de l'ARC.

Principales Questions: Quel sera le traitement fiscal de sommes qui pourraient être reçues à titre de dédommagement pour une perte de revenu?

Position Adoptée: Commentaires généraux.

Raisons: Question de fait.

XXXXXXXXXX 2004-009536
A. St-Amour, CA
Le 10 janvier 2005

Madame,

Objet: Traitement fiscal - dommages

La présente est en réponse à votre lettre du 8 septembre 2004 par laquelle vous nous demandez de confirmer le traitement fiscal de certains dommages dans un cas particulier.

Dans votre lettre, vous mentionnez qu'en raison de la faute professionnelle et de la négligence de son défendeur dans l'inaccomplissement de son mandat, votre client est privé d'une rente de conjoint survivant de la Régie des rentes du Québec (" RRQ "). Votre client a intenté des poursuites et réclame des dommages représentant le montant de cette rente. Vous désirez savoir si les dommages qui pourraient être versés seront considérés comme un revenu ou comme du capital non imposable.

À moins d'indication contraire, tous les renvois législatifs dans la présente sont des renvois aux dispositions de la Loi de l'impôt sur le revenu (la " Loi ").

La situation décrite dans votre lettre nous apparaît être une situation réelle impliquant un contribuable. Tel qu'il est mentionné au paragraphe 22 de la circulaire d'information 70-6R5 du 17 mai 2002, nous avons comme pratique de ne pas émettre d'opinion écrite concernant des transactions projetées autrement que par voie de décisions anticipées. Par ailleurs, lorsqu'il s'agit de déterminer si une transaction complétée a reçu le traitement fiscal adéquat, la décision en revient d'abord à nos bureaux de services fiscaux. Nous pouvons toutefois offrir les commentaires généraux suivant qui, nous l'espérons, vous seront utiles. Ces commentaires pourraient cependant, dans certaines circonstances, ne pas s'appliquer à votre situation particulière.

Selon la jurisprudence, la question de savoir si un montant reçu à titre de dommages est un montant imposable ou non imposable est une question de fait qui ne peut être résolue qu'après une analyse détaillée de tous les fait relatifs à une situation particulière, ce qui doit inclure les modalités du jugement ordonné par un tribunal ou de l'accord déterminé en vertu d'un règlement à l'amiable. À cet effet, le juge Mogan a fait les commentaires suivants dans la cause Catherine Dumas 2000 DTC 2603 (CCI):

" In income tax law, there is nothing magic about an amount recovered by a plaintiff in civil litigation whether it be the result of a favourable judgment or a negotiated settlement. The amount recovered is compensatory in nature. That alone will not determine its character for tax purposes as being income or capital or something else. The real question is to determine why the compensatory amount was paid. The answer is often found in the pleadings of the plaintiff and defendant in the civil litigation."

Le bulletin d'interprétation IT-365R2, Dommages-intérêts, indemnités et recettes semblables, donne le point de vue de l'Agence du revenu du Canada (l'" ARC ") sur le traitement fiscal de divers montants reçus comme dédommagement. Ce bulletin peut être consulté sur notre site Internet à l'adresse suivante : www.cra-arc.gc.ca/menu/FmenuKLA.html. En particulier, les paragraphes 8 et 9 du bulletin mentionnent que pour déterminer si le dédommagement est à titre de revenu ou à titre de capital, il faut regarder ce que le versement a pour but de remplacer. Dans l'affaire Canadian National Railway Company 88 DTC 6340 (CF-DPI), le juge Strayer a résumé la jurisprudence en ces termes:

"There is much jurisprudence on the question of whether compensation paid on the occasion of the termination of some business arrangement is capital or income. To a large extent each case turns on its own facts. It appears to me that there are two aspects which a court must consider in examining such a situation retrospectively: was the purpose of the payment to replace capital or income; and, whether or not the purpose can be reliably determined, was the effect of the payment to replace capital or income? It appears to me to be a dual test because the purpose may not be discernible, or it may not be reliably discernible in the sense that parties to settlements should not, by misstating the real purpose, determine the tax consequences of the receipt of such compensation. It is therefore necessary to look at both purpose and effect.

With respect to purpose, the essential question is to determine what the compensation - whether paid pursuant to a contract, a court award of damages, or otherwise - is intended to replace. (See e.g. London and Thames Haven Oil Wharves Ltd. v. Attwooll (1967) 2 All E.R. 124 (CA); followed in H.M. v. Manley, 85 DTC 5150 (FCA)). In some cases the contract providing for compensation may be clear (See e.g. Commissioners of Inland Revenue v. Fleming & Co. (Machinery), Ltd. (1951 33 T.C. 57 (Ct of Sess.). The measure employed for calculating compensation is not always determinative: potential lost income may be taken into account in calculating a capital sum to be paid. Nor on the other hand does the fact that an amount is paid as damages for breach of a contract necessarily make it a capital sum and not income. On the contrary it appears to me that whatever the source of the legal right to the compensation, be it the contract or the law of damages, the substantive issue is: what is this amount intended to replace?

With respect to the effect of the termination of the business arrangement and the role of compensation in respect thereto, I believe the two possibilities are well expressed in the judgment of Lord Russell in the Fleming case, at page 63:

"When the rights and advantages surrendered on cancellation are such as to destroy or materially to cripple the whole structure of the recipient's profit-making apparatus, involving the serious dislocation of the normal commercial organization and resulting perhaps in the cutting down of the staff previously required, the recipient of the compensation may properly affirm that the compensation represents the price paid for the loss or sterilization of a capital asset and is therefore a capital and not a revenue receipt... On the other hand, when the benefit surrendered on cancellation does not represent the loss of an enduring asset in circumstances such as those above mentioned where for example the structure of the recipient's business is so fashioned as to absorb the shock as one of the normal incidents to be looked for and where it appears that the compensation received is no more than a surrogatum for the future profit surrendered the compensation received is in use to be treated as a revenue receipt and not a capital receipt".

Ce principe a aussi été suivi dans des situations où le montant n'était pas reçu relativement à un contrat d'entreprise comme par exemple lorsque la compensation est reçue pour remplacer la réception d'un montant qui aurait été un revenu s'il avait été reçu (voir l'affaire Catherine Dumas et Manley 85 DTC 5150 (CAF)).

Vous mentionnez dans votre lettre que le dédommagement qui est réclamé, a pour but de remplacer des prestations prévues par la RRQ. Par conséquent, vous devez déterminer si ce dédommagement pourrait être inclus en vertu du sous-alinéa 56(1)a)(i) comme une " prestation de retraite ou de pension ". Le sous-alinéa 56(1)a)(i) prévoit, sans préjudice de la portée générale de l'article 3, qu'un contribuable doit inclure dans son revenu pour une année d'imposition toutes les sommes qu'il a reçues au cours de l'année en paiement intégral ou partiel au titre d'une " prestation de retraite ou de pension ", y compris, sans préjudice de la portée générale de ce qui précède :...(B) une prestation prévue par le Régime de pension du Canada ou par un régime provincial de pensions au sens de l'article 3 de cette loi. L'expression " prestation de retraite ou de pension " est définie au paragraphe 248(1) et comprend les sommes reçues dans le cadre d'une caisse ou d'un régime de retraite ou de pension, et, notamment, tous versements faits à un bénéficiaire dans le cadre de la caisse ou du régime ou à un employeur ou un ancien employeur du bénéficiaire. Les mots " retraite " et " pension " ne sont pas définis dans la Loi et l'on doit s'en remettre à la jurisprudence. À cet égard, les tribunaux se sont appuyés essentiellement sur les définitions des dictionnaires (voir la cause E. William Abrahamson 91 DTC 213 (CCI)). Il est à remarquer que selon les diverses définitions des dictionnaires, il n'est jamais nécessaire qu'un lien employeur-employé existe. De plus, nous pouvons considérer la définition suivante qu'attribue le Shorter Oxford English Dictionary au terme " pension " :

"an annuity or other periodical payment made, esp. by a government, a company or an employer of labour, in consideration of past services..."

À notre avis, le mot " or " suggère que l'identité du payeur n'est pas pertinente, en autant que le paiement sera en contrepartie d'années de service. Cependant, comme nous l'indiquons au paragraphe 1 du bulletin d'interprétation IT-499R, Prestations de retraite ou d'autres pensions, nous désirons souligner que les sommes doivent être reçues d'une caisse ou en vertu d'un régime de retraite ou d'autres pensions (incluant une prestation prévue par la RRQ) et par conséquent, à notre avis, ne peuvent être imposables en vertu du sous-alinéa 56(1)a)(i) seulement si les montants ont été payés conformément aux conditions de la caisse ou du régime.

Par ailleurs, le paragraphe 2 du bulletin d'interprétation IT-365R2 mentionne que tous les montants reçus par un contribuable comme dédommagement pour blessures seront exclus du revenu, même s'ils ont été établis d'après les pertes de revenus du contribuable à l'égard de qui ils ont été versés. Le paragraphe 2 du bulletin d'interprétation IT-467R2, Dédommagements, règlements et autres paiements semblables, précise que les dédommagements peuvent avoir trait à une perte ou à un préjudice financier causé à une personne découlant d'une négligence telle que déterminé par un tribunal. Ces montants ne sont pas imposés puisqu'ils ne proviennent pas d'une source énumérée et qu'il n'y a pas de disposition spécifique pour les imposer.

Pour terminer, en général, l'article 3 expose la règle de base pour déterminer le revenu d'un contribuable pour l'année. Cet article requiert le calcul du total des sommes qui constituent chacune le revenu du contribuable pour l'année ...d'une source ... y compris, sans que soit limitée la portée générale de ce qui précède, le revenu tiré de chaque charge, emploi, entreprise et bien (alinéa 3a)). Les tribunaux se sont prononcés à plusieurs reprises sur la possibilité d'imposer en vertu de l'alinéa 3a) des sources non énumérées. De façon générale, les tribunaux ont toujours préféré imposer des sources énumérées et/ou prévues en vertu d'une disposition spécifique de la Loi (voir les causes Schwartz 96 DTC 6103 (CSC) et Fries 90 DTC 6662 (CSC)).

Les présents commentaires ne constituent pas des décisions anticipées en matière d'impôt sur le revenu et, tel qu'il est mentionné au paragraphe 22 de la circulaire d'information 70-6R5 du 17 mai 2002, ils ne lient pas l'ARC. Nous espérons cependant qu'ils vous seront utiles. Si vous avez des questions, n'hésitez pas à communiquer avec nous.

Il nous fera plaisir d'examiner une demande de décision anticipée pour statuer sur le traitement fiscal des dommages qui seraient payables en vertu d'un jugement ou d'une entente hors cour à intervenir.

Veuillez agréer, Madame, l'expression de nos sentiments les meilleurs.

Ghislain Martineau
Gestionnaire
Section du financement et des régimes
Division du financement et des régimes
Direction des décisions en impôt
Direction générale de la politique
et de la planification

Summaries

Summary Under

Tax Topics - Income Tax Act - Section 56 - Subsection 56(1) - Paragraph 56(1)(a) - Subparagraph 56(1)(a)(i)

damages for negligence resulting in not becoming entitled to QPP would not be income under s. 56(1)(a)(i)

Regarding the treatment of damages received pursuant to proceedings against a professional for negligence resulting in loss of a survivor's pension from the Régie des rentes du Québec [Quebec Pension Plan] ("QPP"), and after noting that there was no requirement that a “superannuation” payment (as contrasted perhaps with a “pension” payment) need not be paid by a former employer, CRA stated:

[T]he amounts must be received out of or under a superannuation or pension plan (including a benefit under the QPP) and consequently, in our view, may be taxable pursuant to subparagraph 56(1)(a)(i) only if the amounts were paid in accordance with the terms of the fund or plan.

Furthermore, paragraph 2 of IT-365R2 states that all amounts received by a taxpayer as compensation for personal injury will be excluded from income, even if they were based on the taxpayer's loss of income in respect of which they were paid. Paragraph 2 of Interpretation Bulletin IT-467R2, Damages, Settlements and Similar Payments, states that damages may pertain to a loss or financial injury to a person arising from negligence as determined by a court. Those amounts are not taxed since they are not derived from a listed source and there is no specific provision to tax them.

Summary Under

Tax Topics - Income Tax Act - Section 3 - Paragraph 3(a)

courts have preferred to tax on the basis of an identified source

The courts have repeatedly ruled on the possibility of taxing unlisted sources under section 3(a). In general, the courts have preferred to tax sources that are enumerated and/or provided for under a specific provision of the Act (see Schwartz … and Fries …).

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10 January 2005 External T.I. 2004-0095361E5 F - Dommages

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