Maple Leaf Mills Ltd. v. Minister of National Revenue, 76 DTC 6182, [1976] CTC 324, [1977] 1 S.C.R. 558

de Grandpre, J (concurred in by the Chief Justice, Ritchie and Spence, JJ):—This is an appeal from a judgment of the Federal Court of Appeal ([1973] FC 549), confirming the substance of a judgment pronounced by Gibson, J ([1972] CTC 188) wherein he dismissed the appeai by the appellant from the income tax assessment in respect of its 1965 taxation year. The issue is whether, on the facts disclosed in the evidence, the benefit realized by the appellant when it acquired in that taxation year certain shares of Bessbulk Limited at a price below their fair market value (because of the deficit in the net revenue earned by the vessel Federal Monarch, as explained in the statement of facts) was a benefit which must be brought into account in computing the appellant's income for that year.

The judgments below having been reported, it will be sufficient for me to summarize the facts in the following fashion:

(1) two United States corporations, Federal Bulk Carriers, Inc (referred to as “Federal Bulk”) and Bessemer Securities Corporation (referred to as “Bessemer”) beneficially owned the ship Federal Monarch through subsidiary companies; the ship was chartered to Imperial Oil Limited;

(2) as of July 31, 1961 the appellant purchased from Federal Buik and Bessemer the shares and outstanding notes of the holding companies for the sum of $2,325,000 and then purchased the ship from the holding companies;

(3) appellant insisted on guarantees from the vendors as to ithe income to be earned by the vessel during the chartered period; that protection was derived by placing part of the purchase price into an escrow corporation and setting up a mechanism whereby the purchase price could be adjusted according to the annual income earning pattern of the investment; ;

(4) Federal Bulk and Bessemer jointly incorporated Bessbulk Limited, the escrow corporation (referred to as “Bessbulk”), and transferred to it the sum of $1,943,550 out of the purchase price paid to them by the appellant; Bessbulk was to invest those moneys in certain income producing assets, such income io be paid to appellant in all or in part should the revenue from the vessel be less than the anticipated amount guaranteed as above;

(5) according to this 1961 agreement, should the performance of the vessel be deficient to the point that the aggregate of the actual income from its operations and of the investment income received from Bessbulk be inferior to the guaranteed amount, the shortfall, defined in the agreement as net revenue decrease, became a debt owing by Bessbulk to the appellant, to remain in existence until actual payment or until compensated by the profit derived from the future operations of the ship;

(6) by agreement dated June 20, 1963 the 1961 agreement was restructured; the appellant was now agreeing to purchase from Federal Bulk and Bessemer all the outstanding shares and debentures of Bessbulk at a price which took into account the net revenue of the ship over the years and which was not payable until the charters were terminated or the ship was sold, whichever first occurred;

(7) for every year of performance, the ship had a shortfall in performance; deficiencies in the ship’s net revenue for the relevant fiscai years were as follows:

(8) the appellant received from Bessbulk in accordance with the 1961 indemnity agreement the sum of $36,058 in fiscal year 1963:

(9) the appellant received from Bessbulk in accordance with the 1963 purchase agreement the following sums:

(10) on November 19, 1965 (in the 1966 fiscal year) the ship was sold to Oswego Unity Corporation;

(11) the appellant then paid for the shares and debentures of Bessbulk which it had acquired pursuant to the 1963 purchase agreement; the purchase price was calculated as follows:

(12) the charter period deduction was calculated as follows:

Amount by which the actual

revenue from the vessel was

less than the projected revenue $1,201,079

Less

Earnings of Bessbulk Ltd

available for distribution

to Maple Leaf and received

by Maple Leaf	216,435
Unrecovered net revenue
decrease which represented	—
the Charter period deduction	$ 984,644

The amount in issue in the appeal before this court is this last mentioned figure of $984,644 less whatever amount is properly chargeable to the 1966 taxation year. The assessment was for the full figure of $1,201,079 without any deduction for the earnings of $216,435 paid by Bessbulk to Maple Leaf and that amount was confirmed by the Trial Division of the Federal Court. However, respondent in his memorandum in the Federal Court of Appeal acknowledged that the amount of the benefit could not be the sum of $1,201,079.

In the courts below, the appellant made two major submissions:

(a) the amount of the benefit enjoyed was on account of capital and ought not to be reflected in its income statements; and

(b) in any event, the benefit was one which ought to be brought into account in its 1962-1965 taxation years, and was not one which ought to be brought into account during the 1966 taxation year.

Both these contentions were rejected by the trial judge and the Court of Appeal. The first contention is no longer in issue on this appeal.

With respect to the second contention, the learned trial judge, in his reasons for judgment, found (p 193):

Under the 1963 agreement, this receipt or benefit was determined and payable in November 1965, when the ship was sold and was obtained by the appellant in its 1966 taxation year. The amount of this receipt or benefit must therefore be included in the income of the appellant in computing its profit for the 1966 taxation year.

In the Court of Appeal, Thurlow, JA, in delivering judgment for himself and MacKay, J A, stated, (p 554 [336-7]):

With respect to the taxation years 1963, 1964 and 1965, to which the 1963 agreement applied, I am at a loss to understand what could have been regarded at the end of any year as having accrued to the appellant as a right since the charter still had many years to run during which the deficiency might be obliterated and since the ship had not yet been sold. . . . As I see it, the earliest time when any of these amounts had the character and qualities of a receivable was when the ship had been sold and their net amount, which because there were no anuual revenue increases was also their gross amount, had been determined in accordance with the provisions of the arrangements. I do not think, therefore, that there was anything to be taken into account as income by the appellant in respect of such amounts in any taxation year earlier than 1966.

Appellant submits that the Court of Appeal was in error in that it failed to consider that the indemnity agreements guaranteed a specific income for each of the years 1962 to 1966 inclusive with the result that the unrecovered balance of net revenue decrease for each of these years could not be income accrued in the 1966 taxation year alone.

As a starting point in the examination of this submission, one must first look in a general way at the intention of the parties to the 1961 and 1963 agreements. In his reply to the notice of appeal filed by appellant against the assessment, the Minister stated that the arrangement between the parties to the sale of the vessel was “an agreement whereby there was to be paid to the appellant certain amounts so that it would have a guaranteed minimum income”. It is true that the Minister was then replying to a submission (now abandoned as aforesaid) that the amounts received by appellant constituted capital and not income. Still, in my view, these words summarize the true goal of the complex arrangements between the parties and the matter must be examined on that basis.

Having thus determined that the intent of the parties to the agreements was to guarantee the appellant a certain amount of income from the operations of the vessel, the next step is to decide whether or not this purpose was achieved in substantially the same fashion in both agreements, only the machinery being different. On this point, the following extract from the trial judgment is relevant (p 192):

The respondent submitted that from al! these arrangements it should be inferred that it was the intention on the part of the appellant that the abatement of the purchase price of these shares and debentures received by it should be on income account; and that the restructuring of the 1961 agreement in 1963 to accommodate Federal Bulk and Bessemer did not change the character of the sum in issue in this appeal, such representing the guarantee of income in the operation of the ship.

In my view, both the 1961 and 1963 agreements in essence, guaranteed a certain revenue from the operation of the ship.

Reference should also be had to a paragraph in the reasons of Thurlow, JA (p 553 [336)):

The agreement was said to be a restructuring of the 1961 arrangements and that it was Intended to produce in another way the same economic results. It may, therefore, be taken, that its provisions were in substitution for the earlier 1961 provisions, and constituted a method of filling the hole in revenues, or of supplementing revenues, which was different from that provided by the 1961 arrangement but which served the same purpose, viz, to satisfy the appellant’s initial stipulation for an assurance that the revenues from the operation of the vessel would not be less than projected. That suggests in my opinion that what accrued to the appellant under this agreement was also of a revenue nature.

Although these two quotations refer to the appellant’s submission in the courts below that the amount assessed by the Minister was of a capital nature, I do believe that both courts were right in considering the 1961 and the 1963 agreements as similar in substance.

Thus we are brought to the nub of the case: should the appellant's entitlement to the net revenue deficiency of each year have been assessed in the years in which such deficiency arose? The courts below have given a negative answer to this question because, in the words of Thurlow, J A (p 554 [336]):

I think the appellant’s submission is even weaker with respect to these years than it is with respect to the 1962 taxation year, to which the 1961 agreement applied. In that case as well, however, though the amount of the deficiency for the year was capable of ascertainment at the end of the year and constituted a debt due and owing within the meaning of the agreement, it too remained subject, until the end of the charter period or until the vessel should be sold, to revision or obliteration as a result of the operation of the vessel in subsequent years, or as a result of the vessel being sold for enough to bring into play the provisions of the agreement for reimbursement of Bessbulk.

Is this the correct answer? With respect, I do not believe su.

The 1961 agreement by its terms creates, in the event of a revenue deficiency in any one year, a debt in favour of Mapie Leaf. The latter is certain to receive the amount of that debt, which is payabie partly in cash and partly in the form stipulated in the agreement. The portion of the debt which is not paid in cash even carries interest. While the machinery of the 1963 agreement is different, relating as it does to the purchase price of the shares and debentures of Bessbulk, the essence is still the same. This later agreement parallels the earlier one when it relates the purchase price to the aggregate of the “net revenue decrease”, this expression being defined:

for any year in which there have been actual earnings, the excess of projected earnings for such year over such actual earnings and, for any year in which there have been actual losses, the aggregate of projected earnings for such year and such actual losses.

The essence of the agreements is the certainty of a minimum yearly revenue for Maple Leaf. In any year where there is a shortfall in the performance of the ship, this guaranteed income is to be made up of at least two elements:

(1) the actual income derived from the day to day operations of the vessel;

(2) cash payable by Bessbulk.

If the total of these two elements is less than the guaranteed minimum, a third element is added, namely a debt by Bessbulk in favour of Maple Leaf. This debt is our concern here and, in my view, it is a receivable in the year during which it came into existence. The right to receive this third element so as to reach the plateau of the guaranteed minimum income never was a precarious one. At all material times appellant had a clearly legal right to receive all the benefits that together would bring its income to the guaranteed minimum. There is also no doubt that the right of appellant to the amount of the debt resulting from the deficiency in any given year was held by it unconditionally. That amount was bound to accrue though not necessarily immediately. I accept without question the test expressed by Kearney, J in MNR v John Colford Contracting Company Limited, [1960] Ex CR 433 at 440 and 441; [1960] CTC 178; 60 DTC 1131. An appeal to this court from this judgment was dismissed without written reasons ([1962] SCR viii; [1962] CTC 546; 62 DTC 1338.

This test is the one this court has applied in income tax cases resulting from expropriations; for an amount to become receivable in any taxation year, two conditions must co-exist: (1) a right to receive compensation; (2) a binding agreement between the parties or a judgment fixing the amount. The principle is to be found in MNR v Benaby Realties Limited, [1968] SCR 12; [1968] CTC 418; 67 DTC 5275, and in Vaughan Construction Company Limited v MNR, [1971] SCR 55; [1970] CTC 350; 70 DTC 6268. In the case at bar, we are admittedly faced with a very different set of facts; still as to the guaranteed minimum income, the prescribed conditions exist: the right to receive that minimum income is not contested and the binding agreement between the parties stipulates the quantum thereof.

I do not see that this conclusion is affected by the possibility that a shortfall in performance could be followed the year after by a profitable performance, the actual income from the day to day operations of the vessel being in excess of the guaranteed amount of return on the investment. True, such a profitable performance would create a debt in favour of Bessbulk payable by appellant upon the sale of the vessel; thus would be created side by side two debit-credit situations which would come to an end at the time of the sale. Still the character of the arrangements would not change and year after year Maple Leaf would earn at least its guaranteed minimum income.

For these reasons, I am of the opinion that the assessment under appeal was in error and should not have included the unrecovered balance of the net revenue decrease for each of appellant’s fiscal years 1962, 1963, 1964 and 1965. The unrecovered balance of $195,302 accrued in fiscal year 1966 admittedly does not form part of the appeal, which is limited to the four years mentioned in the preceding sentence. Accordingly, I would allow the appeal and vary the judgment appealed from so as to refer the assessment back to the Minister for reassessment on the basis that the sum of $195,302 only should be included in appellant’s income for the year 1966 instead of the sum of $984,644 referred to in the judgment under appeal, with costs against respondent in this court, as well as in the courts below to the extent that they have not already been granted to appellant.

Judson, J (dissenting):—I agree with the reasons given by Thurlow, J in the Federal Court of Appeal ([1973] FC 549 at 554; [1973] CTC 333 at 336-7; 73 DTC 5268 at 5271). He deals with the problem of the year of attribution of the income in the following paragraph:

On the other point the submission was that in any event the amount was not properly included in the appellant’s 1966 income since it accrued year by year and the appellant’s entitlement with respect to the net revenue deficiency of each year should have been assessed in the year in which such deficiency arose. With respect to the taxation years 1963, 1964 and 1965, to which the 1963 agreement applied, I am at a loss to understand what could have been regarded at the end of any year as having accrued to the appellant as a right since the charter still had many years to run during which the deficiency might be obliterated and since the ship had not yet been sold. For this reason, I think the appellant’s submission is even weaker with respect to these years than it is with respect to the 1962 taxation year, to which the 1961 agreement applied. In that case as well, however, though the amount of the deficiency for the year was capable of ascertainment at the end of the year and constituted a debt due and owing within the meaning of the agreement, it too remained subject, until the end of the charter period or until the vessel should be sold, to revision or obliteration as a result of the operation of the vessel in subsequent years, or as a result of the vessel being sold for enough to bring into play the provisions of the agreement for reimbursement of Bessbulk. As I see it, the earliest time when any of these amounts had the character and qualities of a receivable was when the ship had been sold and their net amount, which because there were no annual revenue increases was also their gross amount, had been determined in accordance with the provisions of the arrangements. I do not think, therefore, that there was anything to be taken into account as income by the appellant in respect of such amounts in any taxation year earlier than 1966.

This reasoning is in accordance with two decisions of this Court MNR v Benaby Realties Limited, [1968] SCR 12; [1968] CTC 418; 67 DTC 5275, and Vaughan Construction Company Limited v MNR, [1971] SCR, 55 at 62; [1970] CTC 350 at 355; 70 DTC 6268 at 6271.

In the Benaby case, the right to receive was established in one year but the amount was not ascertained until the next year. The profit was held to be taxable in the year when the amount was ascertained.

In the present case, the Minister could not assess the appellant to tax on the deficiency payments to be received in respect of the years 1962 to 1965 until the ship was sold in 1966 and the amount of the deficiency finally ascertained. I can find no authority in the Act for the proposition that once income is received, the taxpayer can choose to have it related back to a year prior to the time when it became ascertained and payable.

I would dismiss the appeal.