12 October 2006 External T.I. 2006-0180041E5 - CRCE- feasibility studies

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.

Principal Issues: Whether the cost of pre-feasibility and feasibility studies purchased by a taxpayer or carried out by a contractor on behalf of a taxpayer will be CRCE, an eligible capital expenditure or part of the capital cost of Class 43.1 or Class 43.2 property?

Position: Question of fact depending on the nature and purpose of the studies.

Reasons: As per Reg. 1219(1) and 1219(2)

							2006-018004
XXXXXXXXXX 						Catherine Bowen
(613) 957-8284
October 12, 2006

Dear XXXXXXXXXX:

Re: Canadian Renewable and Conservation Expenses - Feasibility Studies

We are writing in response to your request of March 29, 2006 concerning whether the cost of certain pre-feasibility and feasibility studies relating to a proposed wind farm project will qualify as Canadian renewable and conservation expenses ("CRCE"), an eligible capital expenditure, or part of the capital cost of depreciable property included in Class 43.1 or Class 43.2 ("Class 43.1 or Class 43.2") in Schedule II to the Income Tax Regulations (the "Regulations"). We apologize for the delay in responding to your letter.

Our Comments

Written confirmation of the income tax implications inherent in particular transactions is given by this directorate only where the transactions are proposed and are the subject matter of an advance income tax ruling request as described in Information Circular 70-6R5 dated May 17, 2002 issued by the Canada Revenue Agency. A fee is charged for this service. Although we are unable to provide any comments with respect to your particular fact situations otherwise than in the form of an advance income tax ruling, the following general comments may be of assistance.

A. General comments on CRCE

The determination of whether a particular expense incurred by a taxpayer will qualify for inclusion in CRCE under subsection 1219(1) of the Regulations must be made based upon a review of all of the facts relevant to a particular situation. However, in general terms, expenses incurred by a taxpayer in respect of the development of a project for which it is reasonable to expect that at least 50% of the capital cost of the depreciable property to be used in the project would be the capital cost of any property that is included in Class 43.1 or Class 43.2 or that would be such property except for subsection 1219(1) of the Regulations (a "qualifying project") may constitute CRCE to the taxpayer

• provided they are payable to a person or partnership with whom the taxpayer is dealing at arm's length, and
• to the extent they are not specifically excluded from CRCE under subsection 1219(2) of the Regulations, for example,
• certain expenses in respect of overhead and management, financing and interest, and the acquisition, or use of, land, as well as
• amounts, other than an amount for a test wind turbine (as defined in subsection 1219(3) of the Regulations), payable to a non-resident person or to a partnership, unless all of the members thereof are resident in Canada.

In addition, any expense incurred for a qualifying project in respect of any time at or after the earliest time at which a property described in Class 43.1 or Class 43.2 was used in the project for the purpose of earning income is expressly excluded from CRCE under subparagraph 1219(2)(b)(ix) of the Regulations. Furthermore, the capital cost of depreciable property, including that described in Class 43.1 or Class 43.2, or an eligible capital expenditure will generally not qualify as CRCE (see comments below).

B. Feasibility study costs qualifying as CRCE

Project Table #4 Wind Farm (electricity) of the Class 43.1 Technical Guide and Technical Guide to Canadian Renewable and Conservation Expenses (CRCE) indicates the types of pre-feasibility and feasibility study costs in respect of a proposed qualifying wind farm project of a taxpayer that may qualify as CRCE, including:

a) pre-feasibility study costs incurred to

i) identify and quantify market opportunities for the electricity;

ii) obtain and analyze regional wind data; and

iii) negotiate and obtain access to the site for testing and assessment

b) feasibility study costs incurred to

i) determine and quantify the markets for electricity in both quantity and value terms;

ii) perform financial analysis - detailed cost analysis & financial feasibility assessment, including expected return on investment & sensitivity analysis;

iii) create the initial design of the overall wind farm and single line electrical drawing of the electrical installation; and

iv) perform initial negotiations with the proper authorities on regulatory requirements, need for official assessments and public hearings or consultations (e.g. land use, noise).

Although it is our understanding that none of the expenses listed above would be considered as being for process engineering referred to in paragraph 1219(1)(e) of the Regulations, they may still qualify as CRCE as long as they relate to the pre-production development phase of a qualifying project.

Paragraphs 4 and 5 of Interpretation Bulletin IT-475, Expenditures on Research and for Business Expansion, discuss the general income tax treatment (ignoring CRCE) of the cost of various types of feasibility studies. As described therein, once the commitment is made to proceed with a particular project, those expenditures that are directly linked to the creation or acquisition of a capital asset generally form part of the capital cost of that asset. However, if the asset is not acquired, the costs related to the creation or acquisition of a capital asset will generally be eligible capital expenditures if they relate to a business.

Generally, the costs described in (a) and (b) above associated with a pre-feasibility or feasibility study regarding the development of a proposed qualifying wind farm project of a taxpayer should be eligible for inclusion in CRCE provided, as noted above, that the amounts

• are payable to a person or partnership with whom the taxpayer is dealing at arm's length, and
• are not payable to a non-resident person or to a partnership, if any of the members thereof is not resident in Canada.

However, where such costs are considered to relate to the acquisition of a particular depreciable property or eligible capital property other than those permitted as exceptions to paragraph 1219(2)(iv) (e.g., a test wind turbine) and paragraph 1219(2)(v) of the Regulations, respectively, they will not qualify as CRCE.

These results would not normally be affected by whether the pre-feasibility or feasibility studies are purchased from a third party vendor or the taxpayer hires an arm's length contractor to perform the pre-feasibility or feasibility studies under contract (i.e., contract for services) on the taxpayer's behalf.

In the situation where the pre-feasibility or feasibility studies are purchased from another person, it is our view that subsection 66(12.1) of the Income Tax Act would be applicable to the vendor to the extent that any of the related costs constituted CRCE to the vendor.

We trust that our comments, which are provided in accordance with the practice outlined in paragraph 22 of IC-70-6R5, will be of assistance.

Yours truly,

for Director
Reorganizations and Resources Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch