16 March 1988 Income Tax Severed Letter 5-5035 - [880316]

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.

Wyman W. Webb (613)957-4364

March 16, 1988

Dear Sirs:

We are writing in response to your letter of November 5, 1987 in which you asked for our opinion relates to the application of paragraph 20(1)(m) of the Income Tax Act (the "Act") in the following circumstances

1. Co. A carried on an oil and gas production business in Canada and, in connection therewith, has received payments from pipeline companies under the "take or pay" provisions of the governing gas purchase agreements.

2. The amounts received were included in the computation of Co. A's income for tax purposes pursuant to the provisions of paragraph 12(1)(a) of the Act.

3. Co. A has claimed deductions pursuant to paragraph 20(1)(m) of the Act in computing its income for tax purposes for a particular taxation year in respect of its obligation to deliver prepaid gas after the end of such year.

4. Co. A and Co. B have established a partnership (the "Partnership") to carry on several businesses including the oil and gas business previously carried on by Co. A. There has been a novation of the Partnership into the various gas purchase contracts to which Co. A was a party.

5. When calls for prepaid gas are made by the relevant pipeline company, such gas will be delivered by the Partnership in accordance with the terms of the governing gas purchase contracts.

6. Since Co. B as a result of the Partnership is jointly and severally liable for the obligations of Co. A to deliver the gas pursuant to the various gas purchase contracts for which Company A has already been paid, Co. A has compensated Co. B in money for assuming these joint obligations.

In our opinion, based on the facts as outlined above, Co. A would not be entitled to claim any amount as a deduction pursuant to paragraph 20(1)(m) of the Act 85 a reserve in respect of undelivered gas for any years ending after the formation of the Partnership. The amount of a reserve that a person may claim for any year pursuant to paragraph 20(1)(m) of the Act is based on goods that the person will not have to deliver until after the end of the year. Once the Partnership was formed and there was a novation of the Partnership into the gas purchase contracts, since Co. A is a member of that Partnership, the activity of delivering gas became an activity of the Partnership as a separate person pursuant to paragraph 96(1)(c) of the Act, for the purpose of computing the income of Co. A. In determining any reserve of Co. A pursuant to paragraph 20(1)(m) of the Act for any year ending after the formation of the partnership, since the activity of delivering the gas will be the activity of the Partnership as a separate person, Co. A would not be entitled to claim any amount as a reserve pursuant to paragraph 20(1)(m) of the Act for any such year as the activity of delivering gas will no longer be Co. A's activity but that of a separate person for the purposes of computing Co. A's income.

With respect to any amounts that the Partnership may receive pursuant to the gas purchase agreements referred to above, such amounts would be included in determining the income of the Partnership.

Please note that the above opinions are not advance rulings and therefore they are not binding on the Department. If advance rulings are required please note the procedure to be followed as set out in Information Circular No. 70-6R.

We trust that our comments will be of assistance.

for Director Bilingual Services and Resource Industries Division Rulings Directorate