Irving Oil Ltd. v. The Queen, 88 DTC 6138, [1988] 1 CTC 263 (FCTD), aff'd 91 DTC 5106 (FCA)

Muldoon, J.: —This case, involving a dispute over income tax, came on for trial at Toronto and was tried during 16 days starting May 11, through June 2, 1987. This is an appeal by the plaintiff from assessments by the Minister of National Revenue relating to the plaintiff's 1971, 1972, 1973, 1974 and 1975 taxation years. The Minister, invoking subsection 245(1) of the Income Tax Act, S.C. 1970-71-72, c. 63 as amended, disallowed certain amounts as overstated costs which, he averred, if allowed would unduly or artificially reduce the plaintiff's income. Those amounts were claimed by the plaintiff to be properly deducted amounts paid for light crude oil acquired from Standard Oil of California (Socal) sources in Iran and in Saudi Arabia through the plaintiff's wholly-owned Bermuda subsidiary, Irving California Oil Company Limited (Irvcal) (formerly Bomag International Ltd. [Bomag]). In the final analysis, after weighing the evidence and the credibility of the witnesses' testimony, and after heeding the written arguments of each party's counsel, the Court concludes that the plaintiff’s contentions prevail over those of the defendant, and judgment goes accordingly in the plaintiff's favour.

Both sides very helpfully and commendably jointly tendered what they call a Partial Agreed Statement of Facts (PASF) by which they probably mean an "agreed partial statement of facts”. It is Exhibit 17. By means of the PASF, the parties admit the facts and documents therein expressed and mentioned, provided that such respective admissions are made for the purposes of this appeal only and may not be used against either party on any other occasion, or by any other person, and provided further that the parties were not restrained from adducing further and other evidence relevant to the issues and not inconsistent with their agreement, Exhibit 17. Documents exhibited with the PASF are designed ASF-1, ASF-11 etc. Here are the facts to which the parties agree:

BACKGROUND

1. In late 1955 the Chairman of Standard Oil Company of California ("Socal") Mr. R.G. Follis, requested a number of corporate officials to prepare an analysis of possible Western Hemisphere outlets for surplus Arabian crude oil. The surplus was occasioned by the fact that Socal, as a 30% shareholder in Arabian American Oil Company ("Aramco"), had not been honouring its undertaking to purchase its specified percentage of crude oil.

2. Socal's corporate name has since been changed to Chevron Corporation, but during the taxation years under appeal and in virtually all of the relevant documents, the former name was in use. For the sake of clarity and consistency, the designation “Socal” will be used throughout this appeal.

3. The Province of New Brunswick was identified as a desirable market for the surplus Arabian crude and a review was made of the existing marketers of petroleum products within that general area.

4. An independent Canadian company named Irving Oil Company Limited (''Irving Oil Co.") had a very large business which was supplied on purchase contract by Standard Oil Company of New Jersey (now Exxon). Follis made inquiries as to who owned Irving Oil Co., what their standing was in the financial community, and what individual represented them as Chief Executive Officer. He was advised of high financial standing for Irving Oil Co., and that it was owned and operated by a man named K.C. Irving.

5. Irving Oil Co. was a dealer in finished products, such as gasoline, fuel oils and other products. It had no facilities to handle crude oil and no refining capacity in 1956 or 1957.

6. Prior to 1956, K.C. Irving had been active in marketing oil products in Eastern Canada through Irving Oil Co. In early 1956, K.C. Irving and British Petroleum entered preliminary crude supply negotiations under which Mr. Irving sought to have the right to transport up to 50% of the crude from the Middle East to a proposed new refinery. These negotiations terminated in early 1956.

7. Socal commenced negotiations with K.C. Irving in May 1956, for the construction of a new refinery in St. John, New Brunswick and a long term crude supply contract. The negotiations were almost completed in the summer of 1956, but then were held in abeyance because of the Suez crisis. The negotiations were resumed in May, 1957 between Henry Judd, the Treasurer of Socal, W.H. Beekhuis, a Socal Vice-President, and on the Irving side, K.C. Irving, assisted by his son Arthur Irving.

8. From the viewpoint of planning, investing in and operating a refinery, the most important considerations for Irving Oil Co. were:

(a) To acquire an assured long term supply of crude in the quantities needed for the refinery to meet the capacity for which it was built. Socal was able to provide the assurance of supply, and to meet the long-term need.

(b) The quality of the crude would have to be of the type for which the refinery was designed. Both Arabian and Iranian light crudes that Socal could supply met this requirement.

(c) The cost of crude oil.

9. Important factors to Socal in negotiating the 1957 crude oil supply contract were:

(1) Getting a foothold in the expanding, new (to Socal) Eastern Canadian market through the purchase of shares in the Irving Oil Co.

(2) Providing an outlet for Socal’s share of Arabian crude acquired from Aramco to improve Socal's position as an underlifter.

THE 1957 AGREEMENT

10. The negotiations were concluded in August, 1957 whereby Socal agreed to buy 49% of the stock of Irving Oil Co. and to buy 51% of the stock of a new company, Irving Refining Limited (“Irving Refining”). The Irving interests agreed to purchase the remaining 49% of Irving Refining which was to construct a new refinery in New Brunswick with a capacity of about 36,500 barrels per day. Irving Refinery agreed to purchase its entire crude oil requirement for this refinery from Socal and to supply to Irving Oil Co. the petroleum products it might require for sale in Canada.

11. Initially, K. C. Irving had insisted on owning 51% of the stock of both corporations in Canada. However, this was unacceptable to Socal as 51% Irving ownership of the refining company would preclude Socal from extending to the refining company royalty-free licenses for all of the necessary petroleum refining processes. Socal had acquired some refining process licenses from third parties and, under the terms of these licenses, Socal could extend to Irving Refining royalty- free sublicenses only if Socal had 51% or more voting stock ownership in Irving Refining.

12. It was agreed that Socal would own 51% of the Irving Refining stock, the Irvings would own 51% of the Irving Oil Co. stock and that effective voting control of both companies would be 50:50 as a result of the operation of shareholders' agreements entered into by all parties.

13. In the negotiations leading up to the 1957 contract for the supply of crude oil to Irving Refining, the price of the crude was an important consideration. Socal had wanted to supply Persian Gulf oil at the posted price, and transport it in Socal tankers at the going U.S. Maritime Commission (USMC) rates. Irving took the position that this could be unfair to him at times when there was an oil or a tanker glut of which its competitors could take advantage if he were bound to an exclusive contract with Socal. Irving thereupon proposed that Socal agree to supply its oil at the lowest price at which he could obtain oil from any other source.

14. However, a contract requiring Socal to supply its oil at the lowest price at which Irving Refining could obtain oil from any other source would be unrealistic and unfair to Socal, as from time to time there were low rates which would not represent a true, fair market value for long term supply.

15. Follis and Irving discussed this issue over the course of a number of meetings and finally agreed that there was no simple formula that could be put in a contract that would take account of all future price revisions so as to be fair to both Irving Refining and Socal under the erratic conditions that occurred in the international market.

16. Irving Refining and Socal settled on the basis that when conditions requiring price adjustment arose the parties, while not obligated to make any future adjustments in the terms and conditions of the agreement, would in the spirit of mutual good faith, give consideration to making such adjustments under such terms and conditions as would be justifiable and equitable to both parties. This aspect was reflected in the "good faith” provision in clause XVII of Exhibit ASF-1.

17. The following documents were executed on August 14, 1957:

(a) An agreement, attached hereto as Exhibit ASF-1, between Irving Refining and California Transport Corporation, a Socal subsidiary, for the sale and delivery of Arabian and Iranian crude oil to the new refinery in New Brunswick.

(b) An agreement, attached hereto as Exhibit ASF-2, between the shareholders of Irving Oil Co.: the Irving family members, K.C. Irving Limited, Standard Oil Co. of British Columbia, (a Socal subsidiary) and The Eastern Trust Co. as Trustee.

(c) An agreement, attached hereto as Exhibit ASF-3, between the shareholders of Irving Refining: the parties referred to in paragraph (b) above.

18. California Transport Corporation, since renamed Chevron Transport Company, a wholly owned subsidiary of Socal, is involved in ocean transportation and the sale and delivery of crude oil supplies.

19. The shareholders' agreement pertaining to Irving Oil Co., (Exhibit ASF-2) provided that the Irving family shareholders would at all times vote their shares so that Socal would never be outvoted and also provided that Socal would be entitled to nominate and appoint half of the directors.

20. The shareholders' agreement pertaining to Irving Refining (Exhibit ASF-3) provided that Socal would at all times vote its shares so that the Irving family shareholders would never be outvoted, except that all shareholders would be free to vote their shares without restriction for the election of directors. Directors were to be elected by cumulative voting as provided in the by-laws. The cumulative voting provision of the by-laws could not be changed without the Irvings' consent. Under the cumulative voting formula, neither Socal nor the Irving family shareholders could elect more than one-half of the ten directors.

21. These shareholder positions remained unchanged from 1957 to 1973, with Socal owning 51% and the Irvings 49% of Irving Refining and Socal owning 49% and the Irvings 51% of Irving Oil Co. The different equity position of the two shareholding groups did not affect their voting position, which was always 50:50 by reason of the shareholders' agreements (Exhibit ASF-2 and ASF-3).

22. In 1973, there was a reorganization of the Irving companies, which led to the incorporation of Irving Oil Limited, the Plaintiff in this action, by the merger of Irving Refining with Mispec Oil Limited which had acquired the assets of Irving Oil Co. After the reorganization the Irving interests owned 51.10% of the Plaintiff, although the voting rights of Socal and the Irvings interests remained at 50% each.

23. The shareholdings in the Plaintiff and its predecessors for the relevant years are set out in Exhibit ASF-4. The officers of the Plaintiff and each of its predecessors for the relevant years are set out in Exhibit ASF-5 and the directors of each company are set out in ASF-6.

24. The term of the crude oil supply contract between Irving Refining and California Transport Corporation (Exhibit ASF-1) commenced on August 14, 1957, and the contract provided that it would continue for a period of 20 years from the date the refinery went on stream. There was, however, a price re-opening provision in Article Ill, Clause 5 under which prices were to be reviewed after ten years.

25. The Irving refinery was completed and went on stream on March 23, 1960.

26. During the years under appeal the Irving refinery was much larger and more complex than the one initially contemplated by the parties. The initial cost of the Irving refinery was approximately $30-35 million, which was financed by $10 million of subordinated notes and by a bond issue of $25 million. Its size was about average, in world terms, although large for Canada at the time.

27. Socal provided Irving Refining with:

(a) supervision and consultation in the design and construction of the refinery;

(b) royalty-free licenses for petroleum refining processes under patents and

know-how which Socal owned or to which it had access through licenses;

(c) the loan of technically trained people required for the start-up, smoothing out and management of refinery operations.

(d) the major operating personnel, such as the Vice-President, Refining, the Manager of Operations and the Chief Engineer.

28. A number of changes were negotiated in the contract price in Exhibit ASF-1 after the contract became operative:

(a) The base price was $2.712 per barrel (Exhibit ASF-1, clause III). Before deliveries started in 1960, there was a change in the posted price from $1.93 to $1.80 per barrel, which produced a $.13 reduction in the billing price under the escalation provisions of the Contract.

(b) By letter dated September 10, 1964, Chevron Transport allowed a discount of $.15 per barrel off the base price.

(c) The $0.15 discount was supplanted by a discount of $.3563 per barrel by letter dated September 1, 1965 (Exhibit ASF-7).

(d) The base price after netting the discount factor for crude oil supplied to the Irving refinery throughout 1969 and until August 31, 1970, was $2.3557 however the provisional billing price reflecting the escalation factors was $2.253. The price of any particular invoice was subject to final adjustment in accordance with the terms of the contract.

(e) A letter dated August 9, 1971 to Irving Refining Limited from Chevron Transport Company (Exhibit ASF-8) set out revised prices for the period September 1, 1970 through August 8, 1971.

29. Commencing in 1959 incentive arrangements were put into effect that rewarded Aramco shareholders who lifted crude oil from Aramco in excess of their equity share with an additional dividend. Capital contributions to Aramco were required from the shareholders on the basis of their equity position, while the incentive arrangements took liftings into account.

30. During this period there were also pressures from the King of Saudi Arabia to increase liftings of Saudi Arabian crude oil to increase the revenues of the Kingdom which gave Socal an additional incentive to increase its liftings of Saudi Arabian crude.

RENEGOTIATIONS

31. The prospects of refinery expansion in Canada played a significant role in the contract discussions pursuant to the 10 year price reopening provisions of the 1957 contract. In addition to an expansion of the Saint John refinery, serious consideration was given to the building of a Quebec refinery to counter the activities of other companies moving into that area with refinery projects. The Quebec refinery project was abandoned but the expansion of the Saint John refinery and the construction of a deep-water terminal in the Bay of Fundy went ahead.

32. The ship terminal at the Saint John refinery had a maximum depth of 35 feet, which would only permit entry of ships of 50,000 or less dead weight tonnes ("DWT") fully loaded. Socal had been using ships of approximately that tonnage. However, Socal had 4 very large crude carriers ("VLCC's") or supertankers having a capacity of 160,000 DWT or more, on order in June 1967 scheduled for delivery in 1969 and 1970. The tankers used to supply the Plaintiff with crude oil during the years 1971-1975 are set out in Exhibit ASF-9.

33. In the Spring of 1968, Socal recommended to K.C. Irving that a Bay of Fundy terminal be constructed which could receive VLCCs. It was Socal's view that the ability to use supertankers would be necessary in the future to keep Irving Refining competitive.

34. Although K.C. Irving was the dominant member of the Irving team during the discussions, it was his almost invariable practice to have Arthur Irving or one of his other sons present during the meetings with Socal and occasionally other advisors.

35. In the early stages, Socal was represented in these discussions by W.H. Beekhuis and H.D. Armstrong, Socal's Treasurer. Beginning in 1970, Beekhuis and R.T. Savage, a Socal Vice-President, represented Socal.

36. The Irving relationship was important to Socal and it was to Socal’s long-term advantage to keep the Plaintiff and its predecessors competitive in Canada. Socal had ample Mid-East crude oil and several VLCCs under construction for use in the Irving refining and marketing business in Eastern Canada which had been growing successfully.

37. Draft A (Exhibit ASF-10) was the first draft document which Socal prepared, in mid-1969, prior to discussion with the Irvings. This draft was internal within Socal and was not sent to the Irvings. In this draft document the proposed parties were Irving Refining and Overseas Tankship Corporation, a Socal subsidiary.

38. The first draft actually sent to the Irvings was Draft B (Exhibit ASF-11) which differed in only minor respects from Draft A (Exhibit ASF-10). Draft B was discussed with the Irvings by W.H. Beekhuis at a two day meeting in Brussels, on September 29th and 30th, 1969.

39. Exhibit ASF-112 is a report dated October 1st, 1969 by W.H. Beekhuis of his meeting in Brussels with the Irvings.

40. The next in the series of draft documents was Draft C-1, (Exhibit ASF-13) prepared during October 1969 and dated October 22, 1969, which is in the form of a letter from Chevron Transport Corporation to Irving Refining and Overseas Tankship Corporation, proposing amendments to the original 1957 supply contract. These included an extension of the term to March 15, 1983, a price review after 10 years, and a limitation that the contract was to supply the requirements of the Saint John refinery only.

41. The next draft documents (Exhibit ASF-14) contained a proposal for the formation of an Irving trading company and a transportation option. It was prepared by Socal in April, 1970. K.C. Irving, representing the Plaintiff's predecessor rejected this proposal and on June 22, 1970 informed Socal of this through his lawyer, Philip Dunlay.

42. By draft documents enclosed with a letter dated October 27, 1970, Socal sought to vary the right previously acquired by the Plaintiff to provide at its option, one-half of the transportation on the crude oil to be supplied to the St. John Refinery, Exhibit ASF-15. This proposed variation was rejected by K.C. Irving, Exhibit ASF-16.

THE 1971 DOCUMENTATION

43. The following documents, dated August 9, 1971, were executed relating to the Plaintiff's acquisition of crude oil originally acquired by Socal from its interests in Saudi Arabia and Iran and described as being between the following parties:

(a) Exhibit ASF-17 between Bomag International Limited, ("Bomag") and Chevron Oil Sales Company (“COSCO”).

(b) Exhibit ASF-18 between Bomag and Irving Refining.

(c) Exhibit ASF-19 between Chevron Transport Corporation and Irving Refining.

(d) Exhibit ASF-20 from COSCO to Bomag.

(e) Exhibit ASF-21 from Bomag to Irving Refining.

(f) Exhibit ASF-22 from SOCAL to K.C. Irving.

44. All of the above documents were executed.

45. The Average Freight Rate Assessment ("AFRA") is a weighted average charter rate calculated for each of 5 categories of tankers based on commercial charters in operation during one month ending on the 15th of the previous month and which is calculated and published monthly by the London Tanker Brokers Panel.

46. The base prices referred to in all the various documents were on a CIF basis, meaning they included the cost of delivery of the crude oil to Saint John, New Brunswick.

47. In Exhibit ASF-22, Socal agreed that if K.C. Irving built tankships in Canada, it would attempt to work out an agreement to utilize such tankers for up to 50% of the crude oil moved to Saint John and would attempt to agree on suitable transportation charges for such utilization.

48. On July 28, 1971, Irving Refining and Irving Oil Co. each acquired 50% of the authorized capital stock of Bomag. Bomag had been incorporated on December 24,1969 pursuant to an Act of the Bermuda Legislature.

49. The authorized share capital of Bomag was on December 31, 1971, increased from U.S. 12,000 to U.S. 1,000,000 by the creation of an additional 988,000 shares, which shares were acquired by Irving Refining Ltd. and Irving Oil Co.

50. By Act of the Bermuda Legislature dated March 21, 1972, Bomag's name was changed to Irving California Oil Company Limited ("Irvcal").

51. The crude oil supply documents dated August 9, 1971 (Exhibits ASF-17 and ASF-18) were amended and replaced by documents dated December 26, 1972, between COSCO and Irvcal (Exhibit ASF-23) and between Irvcal and Irving Refining (Exhibit ASF-24) respectively, which were executed.

52. The directors of Irvcal from October 21, 1971 and throughout the taxation years under appeal were as follows:

J.A. Ellison

S.C. Lambert

P.J. Dunlay (to 1974)

R.T. Savage

M. McKee

W. Maddocks (Alternate)

53. J.A. Ellison was, at all relevant times, a resident of Bermuda and a partner in the Bermudian law firm of Conyers, Dill & Pearman.

54. S.C. Lambert was, at all relevant times, a resident of the United States of America and a senior executive of Socal until his retirement in November, 1975, although he remained a director of Irvcal thereafter.

55. P.J. Dunlay was, at all relevant times, a resident of the United States of America and a partner in the law firm of Dewey, Ballantine, Bushby & Palmer until his death in 1974. No replacement director was ever named.

56. R.T. Savage was a resident of the United States of America and until his retirement in December of 1985, was a senior executive of SOCAL. He also held the offices in the Plaintiff and its predecessors as set out in Exhibit ASF-5.

57. M. McKee was, prior to October 30, 1971, a resident of the United States of America, thereafter becoming a resident of Bermuda, which he remained throughout the remainder of the taxation years under appeal.

58. W. Maddocks, the alternate director, was at all relevant times, a resident of Bermuda and a partner in the Bermudian law firm of Conyers, Dill & Pearman.

59. M. McKee was appointed President of Irvcal effective November 1, 1971 and the terms of his employment were set forth in a written employment contract dated October 5, 1971.

60. Irvcal maintained premises in Bermuda which it rented in its own name pursuant to lease arrangements with an arm’s length third party.

61. Irvcal had its own stationery, invoices, cheque forms and related records.

62. Irvcal had its own telephone and telex and was listed in the Bermuda telephone directory and the appropriate telex directories.

63. Irvcal maintained books and records.

64. The records of the Plaintiff and Irvcal were clerically correct in recording the flow of funds under the documents (Exhibit ASF-17, 18, 20, 21, 23, and 24).

65. The accounts of Irvcal for the calendar years ending December 31st, were audited by Price Waterhouse & Co., a firm of chartered accountants carrying on business as chartered accountants, in inter alia, Bermuda.

66. Price Waterhouse and Co. auditors reports relating to Irvcal’s calendar years 1971 to 1975 were issued without qualifications.

67. Bank accounts were maintained in Irvcal’s name in Bermuda and New York.

68. From time to time, Eurodollar time deposits were acquired in Irvcal's name.

69. Recorded in Irvcal's records as being purchased and sold to Irving Oil Co. were 8 cargoes of finished product (fuel or heating oil).

70. Also recorded in Irvcal’s records were 15 transactions with respect to the sale of Boscan crude oil, 13 of which were to the Plaintiff (or its predecessors).

71. Exhibit ASF-25 contains a sample of each of the documents which were prepared in a transaction for a shipment of light Arabian crude oil.

72. The following clerical steps were carried out by Irvcal in connection with the Plaintiff’s acquisition of crude oil:

(a) Upon receipt of telex advice from Ras Tanura advising that a cargo of Arabian light was loaded, an interim invoice is prepared and mailed to the Plaintiff.

(b) The estimated amount to be paid to Socal is then calculated.

(c) Upon receiving an invoice from Socal, the amount charged therein is compared with the estimated amount under step (b) above.

(d) A delivery report from Chas. Martin Inspectors of Petroleum Inc. (an independent licensed petroleum inspector retained by the Plaintiff) is sent to Irvcal, which then forwards a copy to Socal. This report verifies precise quantities actually delivered in each tanker to the Plaintiff and forms the basis for the adjusted invoices.

(e) The interim and adjusted invoices are recorded in Irvcal's records.

(f) Amounts received from the Plaintiff were deposited in a bank account maintained in IRVCAL's name. Disbursements were made from that account to Socal.

73. Irvcal had no offices, employees, assets or business records in Canada during the taxation years under appeal.

No witnesses were called to testify here on the defendant's behalf. The witnesses called to testify for the plaintiff were, nearly all, cross-examined searchingly and extensively, but all to no avail in regard to crumbling their credibility. The Court finds them all to be worthy of belief.

In summary, the allegedly overstated costs of crude oil, stated in Canadian currency, disallowed by the Minister, resulting from the purported sales from Irvcal to the plaintiff, and inclusive of interest purportedly earned by Irvcal according to the Minister, are as follows:

(In both 1971 and 1975, the Canadian dollar was exchanged at a value greater than the U.S. dollar.) There is no dispute between the parties about the mathematical calculation of the amounts relating to the crude oil cost deductions disallowed by the Minister. The plaintiff, Irvcal and Socal and its affiliates dealt in U.S. currency.

A plethora of documents was tendered by the parties with each side consenting thereto. It is noteworthy however, that counsel on each side disclaimed any assertion or even suggestion of the truth or accuracy or the relevance of the contents of any of those documents. This posture was articulated on the first day of the trial, as may be seen in transcript 1, at pages 5 and 6.

In view of that posture of the parties, the Court will decide the relevance of each document seen to be necessary for the formulation of judgment herein, but will accept the truth of its contents unless the same be demolished or diluted by further and other evidence either testimonial or documentary. Unless adverse reference be made herein specifically to either of those qualities, the Court is accepting the relevance and truth of the contents of the documents exhibited herein at trial.

It may be noted that notice of reassessment 284386, mailed April 3, 1979, states that no tax is payable by the plaintiff for its 1974 taxation year. The defendant contends that notice number 284386 is not an assessment within the meaning of subsection 152(4) of the amended Income Tax Act, but is “only a notification in writing to the plaintiff that no tax was payable for that period with the consequence that it is not an assessment which the plaintiff can object to or appeal”. (Ex. 12 "grey book", pp. 153 & 154.) This is a matter of dispute yet to be resolved, after consideration of the main issues.

According to the subsequently submitted written argument tendered by the respective counsel for the parties, the main issues to be resolved by the Court differ somewhat according to each party's perspective.

At page 3, paragraph 5, of the defendant's memorandum of argument is found the following passage:

(iii) Question at Issue

5. The fundamental question at issue is whether or not the Minister of National Revenue was correct in determining that the true cost of the Plaintiff’s crude oil acquisitions during the years 1971 to 1975 was represented by the C.I.F. base prices of $2.10 and $2.24 per barrel of Arabian/Iranian Light Crude Oil paid by IRVCAL to SOCAL and not by the $2.90 c.i.f. base price per barrel purportedly charged by IRVCAL to the Plaintiff and deducted by the Plaintiff for income tax purposes.

This spread of 80 cents to 66 cents found in the purported dual agreements between IRVCAL and SOCAL and IRVCAL and the Plaintiff created the artificial inflated cost in the Plaintiff's costs of crude oil acquisition that was disallowed by the Minister on assessment.

Document between BOMAG (later called IRVCAL) and Chevron Oil Sales Company (COSCO) dated August 9, 1971,

Partial Agreed Statement of Facts, Ex. ASF 17, para. 3.1

(Price - C.I.F. $2.1042 U.S. and $2,243 U.S.) (Ex. 17)

Document dated August 9, 1971 between Irving Refining Limited and BOMAG (later called IRVCAL)

Partial Agreed Statement of Facts, Ex. ASF 18, para. 3.1

(Price — C.I.F. $2.90 U.S.) Ex. 17)

The memorandum then displays the 11 assumptions made by the Minister which constitute the basis of the disputed assessments. The defendant's counsel, citing among other authorities Hillsdale Shopping Centre Ltd. v. The Queen, [1981] C.T.C. 322; 81 D.T.C. 5261, a decision of the Appeal Division of this Court, expressed by the reasons of Mr. Justice Urie, correctly states that the plaintiff bears the onus “to demolish the basic facts on which the taxation rested" by a "preponderance of evidence". Those are not the precisely same words written by Urie, J. at page 328 (D.T.C. 5266) but nothing turns on that.

The plaintiff traverses the assumptions alleged by the Minister and in its declaration (statement of claim) filed in the certified record herein, asserts that the reassessments in issue are unfounded in law and in fact. The plaintiff's memorandum of fact and argument, and the plaintiff's reply to the defendant's memorandum of argument, extensively purport by reference to the evidence and certain jurisprudence, to traverse all of the defendant's assumptions.

The defendant tendered a sur-reply argument by means of a two-page letter which closed written arguments.

In assessing the plaintiff's income for its taxation years ending December 31, 1971 and 1972, May 31, 1973 and 1974, and December 31, 1975, and in notifying the plaintiff that no tax was payable for its taxation year ending December 31, 1974, the Minister of National Revenue disallowed the $141,946,190 of the plaintiff's crude oil deductions, according to the Minister's counsel, on the basis that the plaintiff had overstated its cost of oil acquisition by the artificial inter-position [Minister's emphasis] of its wholly- owned subsidiary Irvcal in the chain of that acquisition from Socal and in so doing the Minister assumed the following:

(a) that at all material times SOCAL and associated companies supplied all the crude oil needs of the Plaintiff and its predecessor;

(b) that in the late 1960's, increasing demand for petroleum products resulted in an increased requirement for crude oil by the Plaintiff, which, together with the construction of an oil terminal near Saint John, N.B. (MISPEC Terminal) brought about substantial savings to SOCAL and its associated companies in the cost of the crude which includes transportation costs;

(c) that commencing in 1968, negotiations led by Mr. K.C. Irving, for and on behalf of the predecessors of the Plaintiff, and prior to the acquisition by the Plaintiff of IRVCAL, took place between the Irving group of companies and SOCAL respecting changes to be made to their ongoing relationship for the supply of crude oil delivered at Saint John, N.B., namely to allow the Irving group of companies to participate in this reduction in the cost of crude oil, which included transportation costs, that would otherwise have accumulated to SOCAL;

(d) at the conclusion of negotiations in 1971, between the Irving group of companies and SOCAL, IRVCAL was acquired by the predecessor of the Plaintiff as an instrumentality for the accumulation off-shore, in a tax free jurisdiction, of the savings resulting from the reduced cost of the crude oil being acquired by the predecessors of the Plaintiff from SOCAL;

(e) that the transactions or agreements whereby IRVCAL was interposed in the chain of acquisition of crude oil by the Plaintiff (or its predecessors) from SOCAL, whereby it was purported that IRVCAL was acquiring the oil from SOCAL and then selling it at a profit to the Plaintiff, was done but for a fiscal purpose, lacked a bona fide business purpose and were shams and in fact and substance the purchase and sale of the crude oil was between the Plaintiff and SOCAL;

(f) that the profits reported by IRVCAL from its purported sales to the Plaintiff, including any interest earned thereon, were in substance the profits of the Plaintiff, which were transferred to IRVCAL by way of inflated costs of goods sold to be returned to the Plaintiff by IRVCAL as tax free dividends;

(g) that part of the tax free dividends received by the Plaintiff from IRVCAL was utilized by the Plaintiff as payments on account of purported crude oil purchases;

(h) that IRVCAL acted as a mere paper routing intermediary between the Plaintiff and SOCAL;

(i) that IRVCAL's financial statement reported amounts as illustrated in Schedule A, as resulting from its purported sale of crude oil to the Plaintiff;

(j) that the attached Schedules B, C and D illustrate the cost and expenses disallowed by the Minister of National Revenue upon reassessment;

(k) that the amounts disallowed on reassessment were:

(i) outlays or expenses not made or incurred for the purpose of earning income within the meaning of Section 12(1)(a) of the former Income Tax Act and Section 18(1)(a) of the amended Income Tax Act;

(ii) Outlays or expenses not reasonable in the circumstances within the meaning of Section 12(2) of the former Income Tax Act and Section 67 of the amended Income Tax Act;

(iii) disbursements or expenses that if allowed, would unduly or artificially reduce the income of the Plaintiff within the meaning of Section 137(1) of the former Income Tax Act and Section 245(1) of the amended Income Tax Act.

Crown's statement of defence Certified Record, para. 7,

pp. 11 to 13.

The schedules referred to in paragraphs (i) and (j) above, are those appended to the statement of defence, replicated at pages 17 through 20 of the certified record. They do not need to be replicated here.

The Minister's Assumptions

Assumption (a):

(a) At all material times Socal and associated companies supplied all the crude oil needs of the plaintiff and its predecessor.

If this assumption be not absolutely correct it is as correct as it needs to be for purposes of this litigation. The documents, or contracts, recited in paragraph 43 of the PASF, Exhibit 17, indicate that each party in the chain of supply of crude oil (shown in Exhibit 17 (ASF 17) & (ASF 18)), contemplated the supply of "the entire requirements of crude oil, excluding Boscan crude oil or other crude oil specifically for the manufacture of asphalt, for the Refinery [i.e. the plaintiff's refinery] (hereinafter called the “Refinery’s Requirement")." In any event, the Minister in this litigation is concerned with the plaintiff’s allowable costs and taxable profits on the chain of supply of crude oil from Saudi Arabia and Iran by COSCO through Irvcal. There is no doubt about that and so long as it is remembered that the plaintiff directly bought its crude oil from Irvcal of Bermuda the assumption is innocuous in this case. If the particular expression of that assumption is meant to bear the latent implication of discounting Irvcal as a sham, or that the expenses for the supply transactions or operations referred to unduly or artificially reduced the plaintiff's income, then the assumption as expressed is overloaded with the premature affreightment of the ultimate issues in this case. The Court finds that the innocuous thrust of the assumption is made out, but that the overburdened version, if such it be, is not established herein.

Assumption (b):

(b) In the late 1960s, increasing demand for petroleum products resulted in an increased requirement for crude oil by the plaintiff, which, together with the construction of an oil terminal near St. John, N.B. (Mispec terminal) brought about substantial savings to Socal and its associated companies in the cost of the crude [oil] which includes transportation costs.

Whatever be the state of documents or testimony from which the Court may find facts or draw inferences, the parties cannot resile from their agreement on the facts. Such facts, unless objectively nonsensical, upon which the parties agree, must be accepted, as if so found by the Court. So, in regard to this assumption (b) on the Minister's part, certain of the parties' agreed facts are brought into consideration. Under the heading of "Renegotiations" in Exhibit 17, PASF, paragraphs 31 to 33, and 36, state factors every bit as significant (to adopt the parties' expression of paragraph 31) as those of increasing demand and substantial savings to Socal in the costs of crude oil including transportation. The Court finds that an equally important factor in use of the VLCC tankers at an enhanced terminal was the maintaining of Irving Refining’s posture of commercial competitiveness, as stated by agreement in Exhibit 17.

Whatever the number and relationship of the involved corporate bodies it is naturally assumed by the Court that each one was motivated by the desire and strategy to effect savings, even substantial savings, in order to enhance commercial profitability and to avoid commercial mediocrity and, especially failure. So, taken at its face value, the Minister’s assumption (b) is also largely true, and innocuous, in that it does not tell against the plaintiff's contentions in this litigation.

The assumption speaks of increasing demand, which is true, but the basic reason for lower crude oil prices in 1969 and 1970 was really “increased production" "around the world as a result of successful exploration efforts by many companies”. (Transcript 11: Reuben T. Savage, pp. 2354 to 2356.) In the latter part of the 1960s, however, production continued to grow at a faster rate than did demand. These findings were amply confirmed by the former president and chairman of Socal, Otto N. Miller, (transcript 14: pp. 3280-1 and 3294-5).

Assumption (c):

(c) Commencing in 1968, negotiations led by Kenneth Colin Irving, for and on behalf of the predecessors of the plaintiff, and prior to the plaintiff's acquisition of Irvcal, took place between the Irving group of companies and Socal respecting changes to be made to their ongoing relationship for the supply of crude oil delivered at St. John, New Brunswick, namely to allow the Irving group of companies to participate in this reduction in the cost of crude oil, which included transportation costs, that would otherwise have accumulated to Socal.

Events in the oil market world moved rather quickly in the period from late 1968 to mid 1971, generating movement in the relationships between the Irvings and Socal. The renegotiations are largely described by the parties' mutually agreed facts set out in Exhibit 17 (PASF) in a section so titled, paragraphs 31 through 42.

Article Ill, paragraph 5 of the 1957 contract (ex. 17 PASF (ASF 1) p. 10) included a price re-opening provision for review after ten years. Negotiations under that provision began in mid-1969 and were concluded by written agreement in August 1971.

The parties, the Irvings on the one side and Socal on the other, dealt with each other at arm's length in every sense of that expression. Kenneth Colin Irving never tendered any draft agreements to Socal. He took advice, pondered, and rejected every draft which did not suit him; then he in effect called upon Socal to produce a more suitable, modified draft, according to Mr. Savage. (Transcript 11: p. 2337; transcript 14; pp. 3403, 3422 through 3425 and 3427.) Exhibit 17, PASF, paragraph 39 mentions ASF 12, a telex report of Mr. Beekhuis on October 1, 1969, to Otto N. Miller. The following passages are noted:

K.C. Irving, Jim and Arthur arrived here Sunday morning. I held a continuous meeting with them from three Sunday afternoon until nine thirty and again on Monday from nine until three. It was a harrowing experience and utterly exhausting.

Before I could correct this Irving really put on a performance and said he would not be boxed in by us and if he wanted to run an oil business wherever he chose he would do so. For emphasis he hurled his briefcase to the floor.

There is nothing self-serving for the plaintiff in the composition of that telex. Nor is there any such in the defendant's admission obtained from the defendant's spokesman, Lyall Mulligan on examination for discovery:

Q. Would you agree that Mr. Irving negotiated with SOCAL at arm's length?

A. Arm’s length is a question of fact, of course, and I am not saying that they are related in any sense of the ownership idea.

Without going into all the facts the relationship and digging into it very deeply, I would have to say yes I believe they would deal at arm's length.

(Transcript 16: pp. 3726-27)

In this regard the testimony of Otto N. Miller is most telling and is found in transcript 14, pages 3281 through 3283.

On the above and all of the evidence, the Court finds that there was at all material times an arm's length relationship between the plaintiff (including its predecessors) on whose part the Irvings negotiated, and SOCAL (and its related enterprises).

Where assumption (c) mentions allowing "the Irving companies to participate in this reduction in the costs of crude oil, which included transportation costs . . .”, it does not strictly conform to the evidence and to that extent the assumption is not made out. The cost of lifting crude oil was not necessarily to be permanently described in terms of a "reduction". There were in fact escalations “in the price of crude caused by the increase in taxation by the host governments, producing governments" according to Mr. Savage. (Transcript 11: page 2368.) Again, at page 2406, the witness is recorded as testifying that in December 1970, "There were resolutions passed by the OPEC countries demanding increased taxes and royalties and requesting and demanding immediate negotiations with the oil companies”. Mr. Savage testified that in February 1971, he had informed Mr. K.C. Irving by telephone that under the Teheran agreement prices for crude would increase on February 15 by 34.4 cents a barrel, rising to 40.7 cents a barrel on June 1, 1971, and further rising to 60.6 cents a barrel on January 1, 1975. (Transcript 11: p. 2414, and Exhibit 1(16).) Thus, the plaintiff having displaced the Minister’s assumption, it does not tell against the plaintiff’s contentions.

Assumption (d):

(d) At the conclusion of negotiations in 1971, between the Irving Group of companies and Socal, Irvcal was acquired by the predecessor of the plaintiff as an instrumentality for the accumulation off-shore, in a tax free jurisdiction, of the savings resulting from the reduced cost of the crude being acquired by the predecessors of the plaintiff from Socal.

Again, the Minister's assumption is based on the notion of savings from reduced costs, and the evidence does not support either the notion or the precise purpose for the establishment of Irvcal.

The background is of relevance. Overlooking the harassing or perhaps merely inept interjections of the defendant's counsel, the testimony in chief of Otto N. Miller (transcript 14: pp. 3280 through 3313) is most instructive when coupled with Exhibits 1(18) and (19), and 17 (ASF 18). The first two of these three exhibits are replicated also in Exhibit 14, pages 986 through 990. Even allowing cross-examining counsel great latitude to test the witness' credibility by means of irrelevance and redundancy, the Court finds Mr. Miller’s testimony to have been unshaken and trustworthy. Additional light and corroboration were imparted to Mr. Miller’s testimony by that of Arthur Leigh Irving generally and especially in transcript 14: pages 3425 through 3433.

The witness Arthur Leigh Irving was virtually always present with his father, Kenneth Colin Irving during consultations and negotiations with Socal. He testified thus:

Q. In these negotiations that you were going through in this period with you on the Irving side what did you want to get from Socal?

A. We wanted to get a better arrangement for the Irving family and take the opportunity to get a better price on crude and to participate in the crude profit.

Q. You mean the production profit?

A. Production profit and transportation profit that Standard Oil of California had. We wanted to share that with them. We wanted to tie up and know that we were going to be supplied with crude for our new expanded refinery.

Q. Was security of supply one of the things that you thought about in the negotiations or was important to you?

A. Very important to us. We wanted to have a crude supply so we didn't have to stay awake at night worrying about where was the crude going to be coming from, so security of supply is or was very important to us.

Q. What about your father, was he concerned about security of supply?

A. He learned his lesson back in the Twenties not — to cover your supplies so you didn't have to worry about it.

Q. All right. And the advent of VLCC tankers, was that a part of the consideration on your side in the price negotiations at the contract negotiations?

A. Yes. The supertanker ships were, there was a lot of talk about supertankers and we up to that time were bringing up crude into Courtney Bay with ships Q. Perhaps you can just describe where Courtney Bay is?

A. Saint John harbour has the main harbour and to the east of the main harbour there is a small harbour called Courtney Bay. That is where we brought our crude into Saint John on smaller ships.

Q. What size ships back then?

A. They would range between 45,000 to 55,000 ton ships. They would come in with crude from the Persian Gulf and discharge and there would be with the big ships coming in they needed a lot more draught than we had in Courtney Bay and approximately five miles from the refinery to Mispec Point we looked at building a marine terminal to receive supertankers. The reason we picked Mispec Point is that they have very deep water offshore and realizing that we could bring supertankers into Saint John we were most keen on being able to do that to reduce our costs.

Q. Did you have reason to belive that other competitors would be using the VLCCs?

A. Yes, we knew they would and we didn't want to be put in a position of having to use Courtney Bay and small ships when our competitors would be bringing crude in larger ships. So we wanted to prepare ourselves so we could be competitive.

(Transcript 14: pp. 3412-14)

K.C. Irving kept making Socal come up with various draft proposals for the commercial relationship which was thereafter, ultimately, to include a mechanism for the Irving's sharing in the non-Canadian production and transportation profits of Socal. Note paragraphs 37 through 44 of Exhibit 17, the PASF. The Irvings' concern for sharing the non-Canadian profits of Socal was similarly discribed from the other side of the table, so to speak, by Reuben Savage, on pages 2376 through 2380 in transcript 11. There can be no doubt on all of the evidence that the plaintiff and Socal were aware that Irvcal (then Bomag) was to operate not only outside of, or “off-shore”, Canada and the U.S.A. but certainly in that tax-free jurisdiction, Bermuda.

Thus, the Minister’s assumption (d) is inaccurate only to the extent that it maintains the notion of savings from declining prices of crude oil and to the extent that it does not recognize the intent of the plaintiff's directors, especially the Irvings to take some share in profits to be earned in the production and transportation of the crude oil which was to be refined in New Brunswick. The plaintiff succeeds in proving its contentions in that regard.

Assumption (e):

(e) The transactions or agreements whereby Irvcal was interposed in the chain of acquisition of crude oil by the plaintiff (or its predecessors) from Socal, whereby it was purported that Irvcal was acquiring the oil from Socal and then selling it at a profit to the plaintiff, was done but [i.e. only] for a fiscal purpose, lacked a bona fide business purpose and were shams, and in fact and substance the purchase and sale of crude oil was between the plaintiff and Socal.

Rightly or wrongly, the law has never flinched at metaphysical concepts. The notion of a corporation as a person is one, and is well known, as is the concept of transfer of ownership. The Income Tax Act abounds with such concepts, so the plaintiff's invocation of purportedly legal metaphysics should not cause outrage to the Minister. Needless to say, the plaintiff led evidence, both documentary and testimonial in order to attempt to set the Minister’s assumption at naught.

As is clearly stated in paragraphs 10, 11 and 12, and further in paragraphs 19 through 23 of the PASF, Exhibit 17, the plaintiff corporation was owned approximately equally and was controlled equally by Socal and the Irvings.

Early — towards or by April — in 1971, after the discussions with the government officials of Iran, Saudi Arabia and Libya, Otto N. Miller, then president of Socal began to feel a little more comfortable about the world oil situation and believed that Socal could enter into a long-term contract with the Irvings. He was fearful that the OPEC agreements might be overridden country by country but concluded that there was nothing anyone could do about it, in any event. Mr. Miller believed that in those circumstances Socal would have to maintain the flexibility to be able always to deliver crude at a competitive market price. Socal had very good means of ascertaining competitive market prices and the witness was kept well informed about them. Because Socal lifted and transported around two million barrels of oil per day, its policy was to keep prices reasonably consistent simply to avoid the trouble of disaffected affiliates and customers, among others. It adhered very closely then to its rule or principle that Socal imported its oil at the competitive market price, according to Mr. Miller.

(Transcript 14: pp. 3281-83, 3285-87, and 3299-3303)

Socal had also to be concerned about its own relationship with the Internal Revenue Service of the U.S.A. in regard to OPEC price raises actual and prospective, and in that regard, too, its principle of landing crude oil at competitive market prices had to be maintained.

(Transcript 11: Savage, pp. 2352-53

Transcript 14: Miller, p. 3290)

Socal’s means of ascertaining competitive market prices of crude oil among its outlets, including eastern Canada was its own corporate tax department exploiting various sources within Socal and outside sources such as the Dominion Bureau of Statistics in particular.

(Transcript 11 : Savage, pp. 2431-32.)

Now, one can see that although the plaintiff's predecessors, like itself, were controlled equally by Socal and the Irvings, the respective owners had very different concerns. There is nothing in the evidence to suggest that the Irvings initiated any research or study of the Canadian tax implications of their dealings with Socal. Rather they learned of tax implications from the Socal side of the enterprises.

Otto N. Miller, Socal’s director and president, declined to sell crude oil into Canada at a price less than market price because that would subject the production and transportation profits to Canadian income tax, when as he testified the income had already been highly taxed by foreign jurisdictions. Mr. Miller testified that while Socal was content to share non-Canadian producing and transportation profits with Mr. Irving, his responsibility to Socal's shareholders demanded that the corporation, as a public company, not pay taxes to a jurisdiction which had nothing to do with these profits. Accordingly he would not agree to any arrangement with the Irvings whereby those profits would be subjected to taxation in Canada. He instructed Scott C. Lambert, head of Socal’s tax department, and nominal author of the memorandum “Proposed Transfer Price into Eastern Canada", dated April 29, 1971 (ex. 14, pp. 989-990), to “find a way and come up with some scheme, procedure that would permit us to import crude oil into Canada at competitive market prices and also to share a part of our producing and transportation profits with Mr. Irving outside of Canada”.

(Transcript 14: Miller, pp. 3306-3309)

(Exhibit 1(19))

Mr. Lambert's memorandum was the genesis of what the plaintiff characterizes as the "Irvcal proposal". The defendant's counsel on the other hand, submits "that Irvcal was interposed as an Afterthought to disguise and to conceal the arm's length negotiations between the plaintiff and Socal which had resulted in the base prices of $2.10 and $2.24 (counsel's emphasis; para. 23, defendant's memorandum of argument).

Reuben Thornton Savage, the witness in these proceedings to whom Scott Lambert's memorandum of April 29, 1971 (the “Irvcal proposal”) was addressed, went to St. John the following week to discuss the proposal with the Irvings. Mr. Savage testified:

Q. You told Mr. Irving about the proposal?

A. Yes, we presented the proposal to Mr. Irving which involved forming a nonCanadian subsidiary of Irving Refining and Irving Oil, having that company purchase crude at essentially cost from Socal and deliver it — deliver and sell it to Irving Refining at a competitive market price. We discussed it with Mr. Irving. He was receptive and said that he would discuss it with his attorneys and get back to us.

Q. That would be Mr. Dunlay?

A. Yes

Q. Was Mr. Arthur Irving at that meeting?

A. Yes

(Transcript 11: pp. 2437-38)

Mr. Savage further explained:

Q. The cost you mentioned, to purchase at cost, what cost was that?

A. It was a delivered cost, cost of the oil produced in the Persian Gulf and transportation at cost essentially.

Q . Whose cost?

A. Socal's cost.

Q. All right. So you left the meeting, Mr. Irving having said he would go and discuss it with his lawyer, Mr. Dunlay?

A. Yes.

Q. What happened then between May [the time of that meeting] and July, 1971 with respect to that proposal?

A. There were many phone conversations between the parties and attorneys for the parties culminating in a meeting on July 22nd, I believe, 1971 in Mr. Dunlay's New York office. I was there with Mr. Scott Lambert, Mr. Claude Hogan, an attorney and Mr. Leaver from our tax department and Mr. Irving was there with his sons and Mr. Dunlay.

Q. Was Arthur Irving there?

A. Yes, all his sons were there on that one.

(Transcript 11: pp. 2439-40)

It is noteworthy that, in so far as the evidence discloses, neither Arthur L. Irving nor his father sought or received any Canadian income tax advice regarding that Irvcal proposal. Philip Dunlay, their New York lawyer, seems to have shortly discussed that proposal with their Montreal lawyers, Messrs. Stikeman and Elliott, but the import of such communication was not made known to the Irvings. Messrs. Stikeman and Elliott billed the sum of $200 to Mr. Dunlay who included it as a disbursement in his bill for services (Exhibit 20) to the Irvings dated much later.

(Transcript 15: Irving, pp. 3441; 3498-3502; and 3707)

The principal agreement by which the "Irvcal proposal” was reified are documents received as Exhibit 17 (ASF 17) and (ASF 18).

First Stage of Crude Oil Transactions: Socal to Irvcal

Exhibit 17 (ASF 17) is mentioned in paragraph 43 of the PASF and it governs sales of crude oil by Cosco (called Chevron) to Irvcal (then called Bomag). Cosco and Chevron were at all material times owned entirely and ultimately by Socal (Exhibit 27); and Irvcal was owned entirely by the plaintiff. The parties agreed to supply and buy the Irving refinery's “entire requirements for crude oil” (except that used for making asphalt), c.i.f. Mispec Terminal, or elsewhere in St. John as agreed by the parties. The deliveries of crude oil were to be 65 per cent Iranian light crude, not to exceed 11 million barrels per year, and the remainder of the refinery's requirements was to be composed of Arabian light crude oil. Pursuant to Article III, Section 3.1, Irvcal was obliged to pay Chevron for each barrel of either of the two above described light crude oils a base price of $2.1042 (U.S.) for the first 100 million barrels and $2,243 (U.S.) "thereafter, C.I.F. ship's permanent hose connection at Saint John” subject to adjustment of those base prices according to further provisions of Article III. Article VI, Section 6.1 requires Irvcal to pay for the quantity of oil loaded within 120 days following completion of the ship’s loading. Executed on August 9, 1971, this agreement was to continue until August 31, 1980 and thereafter from year to year unless terminated after 12 months prior to written notice by either party.

From June 1 to December 31,1971, Socal's total production and transportation costs were constant at $2.238 (U.S.) per barrel. On December 26, 1972, the above agreement was amended, or replaced, (Exhibit 17 (ASF 23)) to provide, among other matters, that the first 120,000 barrels per calendar day would bear the price of $2.1042 (U.S.) “until 106,500,000 barrels shall have been sold at such base price under this agreement on and after August 9, 1971", and $2,243 (U.S.) thereafter. The base price of $2.1042 was in effect until early 1974. Accordingly, throughout 1971 Socal sold the subject crude oil to Irvcal at a price which was less than Socal's cost.

(Exhibit 17 (ASF 17), Art. III, Section 3.1, Exhibit 17 (ASF 18), Art. III, Section 3.1, Transcript 8: Dreyer, pp. 1823 through 1833, Transcript 9: Deighton, pp. 2089 through 2092,

Transcript 10: McDonald, pp. 2283-84.)

Socal's total production and transportation costs for 1971 in the amount of $2.238 (U.S.) per barrel of light crude oil include no profit on production and transportation. Thus, the profits generated by Irvcal must perforce represent, as the Court finds, only non-Canadian production and transportation profits.

(Transcript 9: Deighton, p. 2094)

Brinton Stanley Deighton, a credible and careful witness — as were the plaintiff's other witnesses in the resolution of the issues of this case — adequately explained the components of Socal's production costs, except for the incidence of United States federal and state income tax in regard to the barrel of crude oil. Total barrel of oil production costs, exclusive of the above mentioned income taxes, were $1.50 throughout the time period of June 1,1971 to the end of that year. To the sum of $1.50 per barrel, one adds the sum of $0.729, being Socal’s transportation costs, in order to obtain the total production and transportation costs in the amount of $2.229, still exclusive of U.S. income taxes.

(Transcript 9: Deighton, pp. 2080-89

Exhibit 26)

The above mentioned total production and transportation costs of $2.229 include a sum for both Saudi Arabian and Iranian income taxes levied on production of crude oil in and by each country’s government. Those taxes were each levied at the rate of 55 per cent in 1971 until October 1974. The rate increased then to 65-66 per cent and the next month, November 1974, the Saudi Arabian rate of income tax increased to 85 per cent where it stayed throughout 1975. The Iranian rate was constant at 65-66 per cent from October, 1974 until the end of 1975.

Exhibit 26 also shows royalties levied by each government of the countries of production. The rate is the same but different official posted prices made the Iranian take a fraction of a cent higher, with a composite average of 28.5¢ per barrel. Income tax was computed on posted price less 10.1¢ operating expense and royalties.

So, Irvcal's profit was basically the difference between the price which it paid to Cosco and the price which it extracted from the plaintiff. As the Iranian and Saudi Arabian prices were increased the escalation provisions of the agreement(s) in Article III, especially Section 3.4 came into operation to increase by the same amount the costs payable by Irvcal, and by the plaintiff. (Exhibit 17 (ASF 23).) In effect, then, Irvcal's profit remained constant, despite increasing taxes in Iran and in Saudi Arabia.

(Transcript 9: Deighton, pp. 2082-83; 2094 and 2110 through 2112)

Thus, that non-Canadian profit of Irvcal bore the levy of those foreign income taxes even although it remained constant, for it might have been all the more if such taxes could have been avoided. Throughout the years 1972 to 1975 Socal was selling the subject crude oil to Irvcal at a price which was at or less than its cost.

(Transcript 8: Dreyer, p. 1833, Transcript 9: Deighton, p. 2110)

James L. McDonald, a tax partner with the Price Waterhouse accounting firm in San Francisco, California, testified about the item “U.S. Federal & State Income Tax" in Exhibit 26, about which Mr. Deighton prudently declined to testify. (Transcript 9: Deighton, pp. 2069, 2072 and 2083.) A credible witness, as were the plaintiff's other witnesses, Mr. McDonald testified about the factual effects of American federal and state income taxes in order to yield the values for that third line in Exhibit 26. Briefly, the result of Mr. McDonald's testimony was to re-cast Exhibit 26 in the following manner, only:

Thus, Socal's total production and transportation costs from June 1 to December 31, 1971 were $2.238 per barrel of crude oil.

In the remaining years of the material time, 1972 through 1975, because the California tax levy, if any, had not yet been settled, Mr. McDonald hazarded a forecast ranging between "5 cents per barrel to a negative 5 cents per barrel benefit for that period”. He suggested that the American tax impact for those years ought simply to be regarded as zero.

(Transcript 10: p. 2281)

At trial the Court ruled that having tendered no affidavit of expertise about his testimony in chief pursuant to Rule 482, Mr. McDonald, on the objection of the defendant's counsel, was not permitted to testify either as to foreign law, nor to express the opinions of a professional accountant concerning the meaning of foreign tax laws or accounting principles. He was however permitted to testify as to the facts which can be observed by any bookkeeper, that is what entries were made and whether they were accepted and allowed; in effect what were the results of tax treatment, but not the opined validity or invalidity of the reasons for those results. (Transcript 10: pp. 2260 and following.) Counsel for the defendant declined to cross-examine Mr. McDonald and, in fact, the Court accepts his uncontradicted testimony.

Mr. Mulligan, describing the defendant's assertions and positions in this case by testimony on examination for discovery, said that the Minister neither knows nor cares whether Socal made any profit on the sale of crude oil to Irvcal at $2.25 per barrel, because the matter is not “really relevant from [the defendant's] point of view — [who] really looked at what the Canadian taxpayer paid”. (Transcript 16: p. 3745.) That hardly seems to be a valid posture for the Minister in levying an allegation of "sham" against Irvcal.

These last passages illustrate the parties' divergent points of view on this case in regard to the benefit, if any, of foreign tax credits and in regard to whether Irvcal's profits legitimately do represent Socal's non-Canadian production and transportation profits (to be shared with the plaintiff) or not. That was, of course, the intention of Socal and of the Irvings with Socal in their partnership in Irving Oil Limited, the plaintiff. The testimony of Otto N. Miller in this regard has been mentioned, above, in regard to the directors' and his own concept of responsibility to Socal’s shareholders.

(Transcript 14: pp. 3306-09. )

The evidence bearing on the Minister’s assumption (e) will require a brief review in regard to the organization and operations of Irvcal, but first it will be convenient to examine the second stage of the impugned transactions during the last part of 1971 through 1975.

Second Stage of Crude Oil Transactions: Irvcal to Plaintiff

Exhibit 17 (ASF 18) is mentioned also in paragraphs 43 and 51 of the PASF and it governs sales of crude oil by Irvcal (then called Bomag) and the plaintiff's predecessor then being Irving Refining Limited (Irving or the plaintiff). Like Exhibit 17 (ASF 17) this agreement is also dated August 9, 1971. Irvcal was, as already noted, owned entirely by the plaintiff, which in turn was owned almost equally by Socal and the Irvings. The PASF, Exhibit 17, paragraphs 48 and 52, (ASF 4) and (ASF 5) indicate shares of ownership and distribution of representation among the offices of the various corporations including the plaintiff. Here, too, the parties agreed to supply and buy the Irving refinery’s "entire requirements for crude oil” (except that used for making asphalt), c.i.f. Mispec Terminal or elsewhere at St. John as agreed by the parties. The deliveries of crude oil were to be 65 per cent Iranian light crude, not to exceed 11 million barrels per year, and the remainder of the refinery's requirements was to be composed of Arabian light crude oil. The provisions are virtually word for word identical with those of the other agreement, that between Socal and Irvcal, Exhibit 17 (ASF 17). Pursuant to this Irvcal-plaintiff agreement's Article Ill, Section 3.1, the plaintiff (Irving) was obliged to pay Irvcal for each barrel of either of the above described light crude oils a base price of $2.90 (U.S.) "C.I.F. ship’s permanent hose connection at St. John” subject to adjustment of that base price according to further provisions of Article III. Article VI, Section 6.1 requires the plaintiff to pay for the crude oil delivered within 120 days following completion of the ship’s loading. This agreement was to continue until August 31, 1980, and thereafter from year to year unless terminated after 12 months prior written notice by either party, exactly like the other agreement, Exhibit 17 (ASF 17).

On December 26, 1972, the above agreement was also amended, or replaced, (Exhibit 17 (ASF 24)) to provide, among other matters, that 11 million barrels, plus or minus, five per cent of the refinery's requirements were to be supplied by delivery of Iranian crude oil, and the remainder by delivery of Arabian crude oil. The term of this agreement of 1972 was extended to August 31, 1987, according to the same conditions expressed in the 1971 agreement between Irvcal and the plaintiff. The base prices were:

(a) $2.90 (U.S.) for the first 120,000 barrels per calendar day (BPCD) of the refinery's requirements; (b) $3.05 (U.S.) for the next 20,000 BPCD of such requirements; (c) $3.15 (U.S.) for the next 80,000 BPCD of those requirements; and (d) such base price as may be agreed between Irvcal and Irving (the plaintiff) for the remainder of such requirements. Those prices are "C.I.F. ship’s permanent hose connection at St. John" subject to adjustment, as in previous agreements, for evaporation and change in specific gravity, etc. according to further provisions of Article III. As in the earlier agreements, Article VI, Section 6.1 permits the plaintiff to pay for the crude oil delivered within 120 days following completion of the loading of the ship.

There appears to be a reason for the above mentioned credit period commencing upon completion of loading. This is where the metaphysical concept, change of ownership of things, so familiar to law and to people generally comes into play, but in a manner which might seem astonishing to many and which, among other incidentals, arouses the Minister’s skepticism. Article IV, Section 4.2 in all four agreements, Exhibit 17 (ASF 17), (ASF 18), (ASF 23) and (ASF 24) provides:

Title to crude oil shall pass to [the buyer] at ship's permanent hose connections at the loading port. [Seller] shall obtain and pay for insurance . . . or at its option . . . may assume all such risks.

Thus according to the agreements, ownership of the oil passed from Socal to Irvcal and from Irvcal to the plaintiff in less time than an eye-blink, if not instantaneously. It would be physically impossible to measure the time during which Irvcal owned the oil flowing into a ship’s permanent hose connection at a Middle East or other loading port, whereby Irvcal passed title to the plaintiff. So, Irvcal and the plaintiff enjoyed the very same 120-day credit period from each one’s simultaneous moment of ownership (the very instant in which Irvcal also divested itself) for payment for the oil. By the same token Socal's liability to insure against, or assume, all marine or war risks endured only for that immeasurably short instant, but such liability resided firmly with Irvcal throughout the voyage until the time of discharge of the cargo at Mispec.

It is surely principally, if not exclusively, that simultaneous acquisition and passing on of title to the oil on Irvcal’s part which causes the Minister's counsel in vigorous language to characterize Irvcal's very raison d'être and operations as a “sham”, an “accounting holding tank" and "a mere paper routing". Yet, because the law is no stranger to the already metaphysical concepts of ownership and title, colour of right and liability, as well as the notion of passing or transferring title or ownership as between corporations (themselves being nothing more than metaphysical notions) or natural persons, pejorative characterizations alone are not self-sustaining. It may be argued that such concepts and notions — purely fictitious inventions — are too pervasive in Western, and particularly Canadian jurisprudence, but this is not the occasion to do so. The Minister's pejorative characterizations, then, will have to meet the tests of statute law and the case law by which the former is interpreted.

Now, leaving aside the sham and other characterizations for later examination, the immediate question relates to the second-state agreements whereby the plaintiff acquired the crude oil which it bought for refining. The Minister's posture in this litigation has been remarkably, emphatically uninterested in whether the plaintiff was, during the material times, buying crude oil at a price, or prices, reasonably commensurate with the market price at which the same or highly similar crude oil could be bought on the market, in the same or similar conditions which pertained here. It is apparent that Socal's chief, Otto N. Miller, insisted upon selling crude oil into Canada or anywhere else at a competitive market price. (Transcript 14: pp. 3306-09.) However, there is more to this matter than Mr. Miller's credible testimony.

First, there is the Minister's indifference to market price and whether the plaintiff acquired crude oil at a reasonably close price. In the Minister's reassessments of the plaintiff's income tax, he declined, as will be seen, to express any assumption about the fair market value of the crude oil which the plaintiff bought. The Minister considered such market value to be simply irrelevant. Here is how Mr. Mulligan described the defendant's posture on discovery:

Q. Another way I guess of asking you the same question, are you saying that the price paid by the plaintiff to Irvcal was in excess of the fair market value of the goods purchased — inflated costs?

A. No sir, I am not saying in excess of fair market value, I’m saying it’s an inflated cost — the real cost of $2.25. Fair market value I just — I can't comment on it, I don't know what it was.

(Transcript 16: p. 3746)

Q. But it did not necessarily pay an excess of fair market value?

A. That's right.

Q. You consider fair market value relevant in this discussion?

A. No sir, I do not.

Q. I thought not. Are you going to assert fair market value in your case?

A. No.

(Transcript 16: p. 3747)

The issue of market price is not only logically relevant in regard to the Minister’s assumptions, but it is made an issue in this case because the plaintiff asserted it, and the defendant denied it in their respective pleadings. (Certified Record: declaration para. 20; defence para. 6.) However, the defendant's counsel assert in written argument:

14. The Deputy Attorney General of Canada submits that the issue raised by the assessments is the Plaintiff’s true cost of crude oil in light of the particular facts of this case, which issue, it is submitted is not dependent upon the price negotiated by others on their own particular facts. Given the allegation by the Plaintiff in para. 20 of its Declaration, the Deputy Attorney General of Canada further submits that the ONUS is on the Plaintiff to establish by a preponderance of evidence that $2.90 c.i.f. base price was a price which would have been agreed upon between arms- length parties engaged in same or similar transactions under the same or similar conditions, and further that such price (i.e. $2.90) was reasonable in the particular circumstances of this case.

Having acknowledged that the Irvings and Socal did, as the Court finds, negotiate at arm's length, and having assumed that the plaintiff artificially inflated its true cost of crude acquisitions, the defendant's posture in regard to real market prices is a curious one.

The Court finds that the price ($2.90 (U.S.)) paid by the plaintiff was reasonable in the circumstances.

Edward James Cahill, holder of an M.A. and an M.S., both in chemistry, from Stanford University and Massachusetts Institute of Technology respectively, but an expert less by formal education than by practical experience, according to his curriculum vitae, testified in such capacity without objection. His affidavit, with his C.V. attached as Exhibit "A" and his substantive report referred to as Exhibit “B”, was received in evidence at trial as Exhibit 18. Mr. Cahill was engaged by the plaintiff's solicitors “in 1986" as he deposed, "to provide [his] opinion as to whether the prices paid by Irving Oil Limited (and its predecessors) to [Irvcal], for purchases of crude oil during the period from August 9, 1971, to December 31, 1975, were reasonable in comparison to the prices paid during this period between arm's length vendors and purchasers.” His opinion bears on the matter of fair or competitive market prices. Mr. Cahill’s background and working experience over two decades approximately in the economics department of Chevron Corp, provided him with credible expertise to formulate such an opinion. He was cross-examined very extensively by the defendant's counsel and emerged with his credibility unimpaired.

Mr. Cahill’s report (Exhibit 18B) is voluminous, prepared with evident care and informatively illustrated with graphs. The Court accepts Mr. Cahill’s conclusions which are expressed at pages 7 through 9, immediately following the introductory passages of his report. Mr. Cahill’s first conclusion, without its explanatory passages, relates to the free world oil industry in 1970 to 1975, thus:

Conclusion:

By early 1971, perception of the oil industry outlook was changing. The earlier outlook for ample future supply and for low or, at least, stable crude oil prices no longer seemed certain, and rapidly increasing prices and even sporadic supply shortfalls became a distinct possibility if not yet a probability.

(Exhibit 18B, p. 7)

Mr. Cahill’s next two conclusions deserve the companionship of his accompanying explanatory passages. He refers to a report of the Restrictive Trade Practices Commission (RCTP) called "Competition in the Canadian Petroleum Industry" dated May 16, 1986. It was tendered as Exhibit 20, but was referred to in Mr. Cahill’s cross-examination simply to elicit from him whether he had read certain passages. He had read some, maybe some more and not others. The exhibit has little significance in the trial evidence, for it was not supported by testimony from the Commission itself or, indeed, anyone else, but provided grist for some further cross-examination. The cypher DOE in Mr. Cahill’s report refers to the U.S. Department of Energy. AFRA means Average Freight Rate Assessment, found and explained in Mr. Cahill’s appendix B, Glossary of Terms. Here are his other major conclusions:

With respect to Irving Oil's prices for imported crude oil:

Conclusion:

Irving's prices for imported crude oil were well within the range of industry-wide prices. The Irving supply contract did, in fact, protect Irving from excessive price increases during the late 1973 to 1974 period.

Irving’s FOB prices for imported crude oil were, on an annual average basis, above the FOB prices that SOCAL (Chevron Oil Trading) received for third-party sales of Persian Gulf crude oils by from $0.10 to $0.12/Bb1 from August, 1971 through September, 1973 but then dropped to $0.05/Bb1 below in late 1973. Irving ranged from $0.19/Bb1 below to $0.12 above in the first nine months of 1974, averaging $0.05/Bb1 above for the entire year. Irving averaged $0.20/Bb1 above SOCAL's prices in 1975. The Irving supply contract, however, was of very long duration and assured Irving of timely supply and of freedom from FOB price increases in excess of increased costs of production.

Irving’s FOB prices for imported crude oil, when compared with the industry monthly average FOB prices for third-party sales of Persian Gulf crude oils ranged from $0.01 to $0.18/Bb1 above the industry in 1971-1972 and then dropped to an average of $0.02 below the industry for the first nine months of 1973 and well over $1.00 below in late 1973. For the year 1974 Irving averaged $0.79/Bbl below in 1974, rising to $0.19/Bbl above in 1975. For the entire period from August, 1971 through 1975, Irving averaged $0.15 lower than the industry. It should be observed, however, that through much of this period — certainly from late 1973 through much of 1975 — upset conditions prevailed. As a result, industry price ranges were wide, and, for example, Irving’s FOB prices in 1974 were, on the average, $2.15/Bbl below the industry maximum price and $0.93 above the industry minimum price.

The conclusion that Irving’s FOB prices were well within the range of industrywide prices is also supported by comparison with data on third-party prices for Arabian Light, Iranian Light and other Persian Gulf crudes shown in the RTPC report, "Competition in the Canadian Petroleum Industry", Appendix F. These data include spot and term third-party prices and the US DOE “Representative Prices". Comparison of Irving's prices with these data show similar patterns to those of the trade literature comparisons described above although individual values vary.

Comparison with third-party FOB prices for Venezuelan crudes (using Irving's reported CIF price and making quality (gravity) and transportation adjustments to the third-party and DOE prices FOB Venezuela shown in the RTPC Report) also confirms the general pattern described above, although with some differences (as discussed in the text) principally in 1972 and 1974.

Additional strong support for this conclusion is provided by comparison of Irving's FOB prices with the US Internal Revenue Service (IRS) "settlement prices" for Arabian and Iranian Light crude oils imported into the US by SOCAL. Throughout the period, August, 1971 through 1975, Irving's prices lie very close to those used by the IRS for both periods, with Irving’s prices being a little lower in late 1973 and early 1974 and a little higher in late 1974 and 1975.

Comparison of Irving's CIF prices with the CIF Portland prices reported by Mur- phy/Spur and accepted by Revenue Canada (with approval by the Federal Court of Canada) [sic] provides strong support for this conclusion and also for the Irving CIF prices as such. Irving's prices lie below the Murphy/Spur prices in all but nine months during the period from August, 1971 through 1975.

With respect to Irving Oil's Marine Transportation Charges:

Conclusion:

The marine transportation charges paid by Irving for imported crude oil were consistent with the long term supply requirements of the Irving contract.

The transportation charges established by the Irving crude oil supply contract are based on AFRA, which is a representative measure of all competitive charter rates in effect at any given time. At the time the contract was signed (August, 1971), the tanker fleet — for both SOCAL and the total industry — was deficient in the availability of VLCC's, and therefore, LR-2 size ships were being used in trades which physically could have accommodated VLCC's. This condition continued through late 1973. Furthermore, in 1971 LR-2's were the largest ships for which AFRA rates were published. Therefore, the Irving contract was based on the use of AFRA for LR-2 size tankers. Through 1973, the use of LR-2 AFRA was certainly justified; in 1974 and 1975 a shift to VLCC AFRA might be arguable, but with the uncertain supply situation facing the oil industry from late 1973 through at least 1974, reopening the supply contract might well have appeared ill-advised.

(Exhibit 18B: pp. 7 through 9)

At Transcript 4: pages 933 and 934, Mr. Cahill explained why he emphasized f.o.b. sales comparisons. He said:

Secondly, if one had included cif sales one would have been faced with the literally insoluble problem of translating prices from one destination to another, to another, to another, to make them fairly comparable, so I restricted it to the fob. That is where the competitive market really is.

The Court accepts also as valid the conclusions of Morris Albert Adelman, to whose qualifications of expertise the defendant's counsel had no objection. Professor Adelman, whose field is economics at the Massachusetts Institute of Technology, was asked to determine whether the prices paid by Irving for crude oil delivered at St. John, during August 9,1971 to December 31, 1975, were equal to, or reasonable in comparison with, prices on arm's length transactions. He deposed that “delivered prices" are the sum of (a) fob prices and (b) maritime freight rates. In the Court's finding, the extensive cross-examination administered to Prof. Adelman did not dilute the validity of his conclusions. Prof. Adelman's affidavit, Exhibit 21, deals with f.0.b. prices, with attention to transaction costs and security of supply, and with tanker rates. It is an opus which does not need to be recited in full here. Principal paragraphs of his opinion, Exhibit 21B, are:

3. I have examined the tabulations made by Mr. Cahill, and see no reason to doubt their accuracy. I agree with his method, which I have used in my own work: to assemble published and unpublished data on arm's length prices as a standard against which to measure the prices on a particular set of transactions.

4. The price data set appears to be internally consistent. The prices are not identical, first, because no two transactions are precisely the same; second, because of varied methods of reporting.

5. The most relevant comparison is to third-party sales by Chevron to others. They can be put into exactly the same form : minimum, maximum, and average. Furthermore, I believe them to be the most complete data sets available, with no gaps in time.

10. I conclude, in agreement with the Cahill report, that the f.o.b. prices charged Irving were not significantly different from those charged to third parties.

16. Conclusion: tanker rates. There is no one competitively determined price of transport service but a whole structure of rates. It is a matter of luck and skill to find the cheapest rate within the structure over a given time period.

The contract naming the LR2 AFRA rate gave Irving a better deal than using the spot rate, and better than using average time charter rates during the first three quarters of 1971, before the contract was signed. The result was certainly within the range of competitive market rates.

17. Conclusion: delivered prices. The prices paid by Irving were the sum of an f.o.b. price within the range of competitively determined arm's-length prices (of course over and above the floor fixed by the OPEC nations), and of a tanker rate within the range of competitively determined rates. The delivered prices, taken as a whole, comprise a sample of an arm's-length transaction, and are within the range of competitive market prices.

Leonard Waverman, a professor of economics at the University of Toronto, to whose qualifications of expertise the defendant's counsel made no objection, tendered his opinion by deposition which was received as Exhibit 24. Prof. Waverman was asked to determine whether the prices paid by the plaintiff were consistent with arm's length third-party prices for crude oil during the period August 1971 to December 1975. Prof. Waverman also examined Mr. Cahill's report, Exhibit 18B, and made appropriate comparisons of FOB prices paid by Irving and others for crude oil at the Persian Gulf, as well as comparisons the plaintiff's actual transportation costs with cost estimates made by the RTPC. Prof. Waverman was rigourously cross-examined by the defendant's counsel, but, as the Court finds, without impairment of the validity of the former's conclusions upon his task as reported in his expert opinion, Exhibit 24. Without recital of Prof. Waverman's whole text, his conclusions may be extracted thus:

Conclusion — FOB Price Data Contained in Cahill Report

Based on my review of the Cahill Report and the additional analyses of the Cahill data . . ., I fully support Cahill’s conclusion that: “Irving’s FOB prices were well within the range of industry-wide prices".

Conclusion — "FOB Netback” Price Comparison

I have compared the FOB prices for Persian Gulf crude oil paid by Irv with FOB prices calculated by netting back to the Persian Gulf arm's length spot market product prices. This comparison shows that the FOB prices by Irv for Persian Gulf crudes were well within the bounds of the FOB market prices for crude so calculated.

Conclusion — Transport Costs

The only proper test to examine the reasonableness of Irv's payments is to put oneself into the position Irv faced at the time of writing the contract. Hindsight will always enable better deals to have been made; hindsight always enables an observer to outperform any market. Based on the state of the market in July/ August 1971, and Cahill’s careful analyses, I agree with Cahill’s conclusion that Irv's transport costs were comparable to "reasonable market-determined rates". This conclusion is buttressed by a comparison of Irv's actual transport costs and the third party transport rates relied upon by the RTPC.

In light of the evidence, both documentary and oral, the Court finds that the plaintiff paid for its supply of crude oil the competitive fair market value of the same, or so little less or more as not to strain the notion of reasonableness, at all material times, and especially that is so if the plaintiff's costs therefor be averaged over the period of time. The facts found here are extremely relevant to, and contradictory of, the Minister’s assumption (e).

The Minister’s assumption (e) includes the assertion that the creation of Irvcal and its place in the chain of acquisition of crude oil by the plaintiff through Irvcal in turn from Socal constitute a sham. Canadian jurisprudence has accepted the definition of "sham" from the reasons of Lord Diplock in Snook v. London & West Riding Investments, Ltd., [1967] 1 All E.R. 518 at 528; [1967] 2 Q.B. 786 at 802 thus:

. . . acts done or documents executed by the parties to the "sham" which are intended by them to give to third parties or to the court the appearance of creating between the parties legal rights and obligations different from the actual legal rights and obligations (if any) which the parties intend to create.

And further:

. . . for acts or documents to be a “sham”, with whatever legal consequences follow from this, all the parties thereto must have a common intention that the acts or documents are not to create the legal rights and obligations which they give the appearance of creating.

This description of a “sham” was adopted by, inter alia, the Supreme Court of Canada in Stubart Investments Limited v. The Queen, [1984] 1 S.C.R. 536 at 572; [1984] C.T.C. 294 at 313; 84 D.T.C. 6305 at 6320. In a very similar situation in regard to the present case, that of Spur Oil Ltd. v. The Queen, [1982] 2 F.C. 113; [1981] C.T.C. 336 Mr. Justice Heald writing for a unanimous bench of this Court's Appeal Division considered that no sham could be made out there under Lord Diplock’s definition.

The facts in the present case are more favourable to the plaintiff's true avoidance of participating in a sham than were those in the Spur Oil case, of which, more later herein. The acts of the parties and the documents which they executed, that is, the crude oil acquisition contracts (Exhibit 17) between Socal and Irvcal and between Irvcal and the plaintiff are clearly not shams as understood in the Snook, Stubart and Spur Oil decisions.

Irvcal's management and operations are largely shown in paragraphs 48 through 73 of the PASF, Exhibit 17. There is before this Court an ample sample of the documentation in regard to the crude oil transactions, including the verifiable and true payments made by the plaintiff to Irvcal for the oil the former received, and by Irvcal to Socal for the oil Irvcal received and sold to the plaintiff. The transactions, being the transportation of the crude oil and the money paid over for it, are all consistent with the terms of the exhibited documentary agreements.

Irvcal operated, and its president, Martin McKee resided and worked, entirely outside of Canada during the material times. Mr. McKee always evinced complete ethical integrity and business ability, attracting Socal's trust and confidence. (Transcript 11: Savage, pp. 2453-56; transcript 14: Miller, pp. 3317-18.) None of Irvcal's directors was resident in Canada. Exhibit 17 (ASF 25) illustrates Irvcal's transactions. Illustrative of the plaintiff's lack of control over Irvcal is the evidence of frequent disputes between them over demurrage charges arising from ships' laytimes. (Transcript 11: Savage, pp. 2468-70, 2474-76, 2478-79; transcript 15: Irving, pp. 3457-58.) Irvcal's directors never permitted dividends to be paid until cash became available and never in order to enable the plaintiff to pay Irvcal for crude oil supplied under their supply contract. Indeed, Irvcal did not even time its dividend payments to the plaintiff so as to help the plaintiff to make its payments to Irvcal for crude oil deliveries. (Transcript 12: Savage, pp. 2545-49; transcript 15: Irving, p. 3450; transcript 16: Mulligan on discovery, pp. 3784-85.) Irvcal’s surplus funds were invested in eurodollars by Mr. McKee to whom the directors accorded broad authority to do so, and he kept a diary of his activities, Exhibit 3, and his original for 1972, being Exhibit 28. (Transcript 12: Savage, pp. 2549-2579.)

Clearly then, the actions of the parties and the documents executed by them do not mask, but correspond with, the very legal rights and obligations upon which the parties embarked. They give no false appearance to third parties including the Minister or to the Court, and moreover, there is no evidence to show deceit, nor any intention to create any false appearance. The Court finds no sham as alleged by the Minister.

The defendant refers to that passage in the Stubart decision in which Mr. Justice Estey (at page 565 S.C.R.; 309 C.T.C.) considered Dominion Bridge Company v. The Queen, [1975] C.T.C. 263; 75 D.T.C. 5150. Estey, J. paraphrasing the trial judge's reasons in the latter case noted that he had

found that the fixing of prices by the parent for purchases by it from the subsidiary was a device to transfer income from the taxpayer to its agent, the subsidiary, in a closed inter-company sales transaction in which the agent subsidiary in fact performed no function.. . . The Federal Court of Appeal in 77 D.T.C. 5367 held that there was no reason to interfere with the findings of fact by the trial judge. The concept of 'bona fide’ business purpose played no part in the final outcome. Rather this case falls into the 'sham' category.

Here the evidence discloses that Irvcal did perform the functions for which it was created by serving to garner the non-Canadian profits of production and transportation of the crude oil in question. It also did a minor amount of business outside of its contractual affairs with the plaintiff. It sold crude oil to the plaintiff at competitive, fair market prices. It disputed demurrage with the plaintiff, and operated at arm's length from the plaintiff. It cannot be regarded as the plaintiff's agent in carrying out its business operations, described more fully above. Furthermore, not only is the Dominion Bridge case factually dissimilar from the case at bar, but it was decided before the Spur Oil case, which is much more factually similar to the case at bar. No finding of subsidiary agency was found by the Court in Spur Oil and, perforce, no such finding is made here.

The right and obligations created between the parties here, as earlier above noted, accord with the form of the transactions and the documentation. In any event the Court is obliged to regard the substance where it differs from form so as not to be deceived by a "sham", which does not arise here. The principle is stated in Bronfman Trust v. The Queen, [1987] 1S.C.R. 32; [1987] 1 C.T.C. 117, by Chief Justice Dickson at page 52 (C.T.C. 128):

I acknowledge, however, that just as there has been a recent trend away from strict construction of taxation statutes (see Stubart Investments Ltd. v. The Queen, [1984] 1 S.C.R. 536, at pp. 573-79, and The Queen v. Golden, [1986] 1 S.C.R. 209, at pp. 214-15), so too has the recent trend in tax cases been towards attempting to ascertain the true commercial and practical nature of the taxpayer's transactions. There has been, in this country and elsewhere, a movement away from tests based on the form of transactions and towards tests based on what Lord Pearce has referred to as a "common sense appreciation of all the guiding features" of the events in question: B.P. Australia Ltd. v. Commissioner of Taxation of Australia, [1966] A.C. 224 (P.C.), at p. 264.

and at page 55 (C.T.C. 129):

. . . the principle that the courts must deal with what the taxpayer actually did, and not what he might have done: Matheson v. The Queen, 74 D.T.C. 6176 (F.C.T.D.), per Mahoney J., at p. 6179.

The Minister further assumed and alleged that the agreements for supplying the plaintiff's crude oil requirements lacked a bona fide business purpose. This is a consideration quite apart from the notion of sham: Stubart, (pp. 566-67; C.T.C. 309-10). The Court's view of all of the evidence in this case and even beyond that which is specifically considered in these reasons, does not negate a bona fide business purpose. The exhibited agreements between Socal and Irvcal, and between Irvcal and the plaintiff were required to induce Socal to share non-Canadian profits, veritably generated outside of Canada. Such agreements were the plaintiff's means of obtaining a share of those non-Canadian profits. Whether one trades in oil or in chickens, the ultimate necessity and, therefore, the objective or purpose of all business is to realize profits. There is no commercial point in doing unprofitable business. The plaintiff's purpose was unquestionably bona fide.

Even if the foregoing were not so, there is, nevertheless, no general “business purpose" test recognized, in these circumstances of time and place, by the law exacting that transactions are to be disregarded for tax purposes just because they are bereft of independent business purposes. So wrote Estey, J. in the Stubart Investments decision. Indeed, in this regard, in Stubart itself he invoked that passage in Inland Revenue Commissioners v. Duke of Westminster, [1936] A.C. 1; 19 T.C. 490 (H.L.), which asserts the principle that everyone is entitled to arrange his or her affairs so as to minimize taxes. Since there is nothing sinister in that principle, but rather it is in accordance with legality, the agreements between Socal, Irvcal and the plaintiff are not to be just disregarded for tax purposes. This especially so because of that fact of seemingly universal and pervasive relevance in this case: the plaintiff bought and paid for the crude oil always at competitive fair market prices.

In this assumption (e) the Minister further asserted redundantly that “in fact and substance the purchase and sale of crude oil was [sic] between the plaintiff and Socal”. Since it is found that the agreements and transactions were no sham, and that they do evince a bona fide business purpose, this assertion cannot be sustained.

In the result, assumption (e) is, on the evidence, not made out: it is, in fact, demolished.

The Minister’s assumptions continue.

Assumption (f):

(f) The profits reported by Irvcal from its purported sales to the plaintiff, including any interest earned thereon, were in substance the profits of the plaintiff, which were transferred to Irvcal by way of inflated costs of goods sold to be returned to the plaintiff by Irvcal as tax-free dividends.

That all-pervasive fact of the plaintiff's paying competitive market prices for its crude oil takes the field immediately to contradict the Minister's now discredited assumption about "inflated costs of goods". It is true that the plaintiff's share of dividends from Irvcal was tax free, because Irvcal’s dividends were generated in a state, Bermuda, whose legislature does not levy taxes on such dividends. But, the point is that the profits and any interest earned thereon, whence came the dividends, were generated in Bermuda where the plaintiff did not transfer them to Irvcal. Far from it. Those profits were realized by Irvcal outside of Canada before the plaintiff could do anything with or about them. Irvcal, not the plaintiff, earned the profits, despite the metaphysically sequential, even if apparently simultaneous, shifts of ownership "at ship’s permanent hose connections at the loading port".

The Minister persists in asserting that the true transactions were between Socal and the plaintiff, at the base prices of $2.10 and $2.24 (both U.S.) which were significantly below the competitive and fair market price of crude oil. Such prices would have precipitated a rapid descent to serious loss, if not bankruptcy for Socal, which is, of course, of no concern here. What is of concern here is the fact, so found by the Court, that the plaintiff in buying crude oil at $2.90 (U.S.) per barrel, and, as later on necessarily adjusted, bought crude oil of the same quality at prices for which it might have bought crude oil from other arm's length suppliers in the market. Such a price can hardly be held to be inflated. The preponderance of evidence here defeats the Minister's assumption (f).

Assumption (g):

(g) Part of the tax-free dividends received by the plaintiff from Irvcal was utilized by the plaintiff as payments on account of purported crude oil purchases.

This may be so, but if so, it was not by means of a contra-accounting on paper. In any event there is no preponderant evidence to support assumption (g). It has already been noted in regard to the Minister’s allegation of sham that Irvcal's directors did not permit dividends to be paid until cash became available and did not pay dividends in order to enable the plaintiff to pay for crude oil purchases. The plaintiff was able to pay for the crude oil supplied to it by Irvcal without relying on dividend payments.

It is true that the plaintiff, as parent company, did expect dividends to be paid on a fairly current basis, but the dividends were utilized to help the financing of its refinery expansions. (Transcript 12: Savage, pp. 2545-49; transcript 15: Irving, p. 3450.) Even though the plaintiff received the benefit of Socal’s licensed technological help without royalty payments in the operation of its refinery processes, it evidently needed dividend funds to pay for physical expansion of the refinery plant.

The preponderance of evidence overcomes the Minister’s assumption (g).

Assumption (h):

(h) Irvcal acted as a mere paper routing intermediary between the plaintiff and Socal.

In light of the evidence reviewed and the findings made throughout the earlier passages of these reasons, this assumption (h) is without basis. Irvcal’s operations, business purpose, services, its manifestations of independence and in effect its very raison d'être, lift it far out of, and above, the insubstantial pejorative by which the Minister characterizes it. Assumption

(h) falls under the weight of evidence.

Assumption (i):

(i) Irvcal's financial statement reported amounts as illustrated in Schedule A [to the statement of defence], as resulting from its purported sale of crude oil to the plaintiff.

Assumption (j):

(j) that the attached Schedules B, C and D illustrate the cost and expenses disallowed by the Minister of National Revenue upon reassessment.

Given the agreement in paragraphs 64, 65 and 66 of the PASF (Exhibit 17), and the statement of counsel at trial to the effect that "there is no factual dispute between the parties as to the mathematical calculation of the amounts relating to the crude cost deductions disallowed by the Minister” (transcript 1: p. 90), assumptions (i) and (j) are undisputed and therefore they stand.

Assumption (k)(i):

(k) The amounts disallowed on reassessment were:

(i) outlays or expenses not made or incurred for the purpose of earning income within the meaning of section 12(1)(a) of the former Income Tax Act and section 18(1)(a) of the amended Income Tax Act;

The amended Act follows the provision of paragraph 12(1)(a) of the former Act but with (additional) words which bolster and clarify the former paragraph. A composite of the legislation would be:

12(1) In computing (the) income (of a taxpayer from a business or property) (18)((1)) no deduction shall be made in respect of

(a) an outlay or expense except to the extent that it was made or

((a)) incurred by the taxpayer for the purpose of gaining or producing income from (the) property (business or property) or a business of the taxpayer.

This assumption (k)(i) misses the point, for the plaintiff's expense for acquisition of crude oil was initially $2.90 (U.S.) c.i.f. per barrel with later, commensurate adjustments, a sum which the Court finds to be a competitive price which would have been agreed upon between arm's length parties engaged in the same or similar transactions under the same or similar conditions. Furthermore the evidence leads to no other conclusion but that the price was reasonable in the particular circumstances in which the parties were operating their respective business enterprises. The paying of that reasonable price, or those later adjusted prices, can be nothing less than an outlay or expense incurred by the plaintiff for the purpose of gaining or producing income from the refinery property and business. In persisting in regarding the rates of $2.10 and $2.24 (U.S.) per barrel, which Irvcal paid to Socal, as the plaintiff's true price of crude oil, the Minister purposely disregards the reasonable market price of $2.90 (U.S.) c.i.f. which the plaintiff paid for its supply of crude oil at Mispec.

The Minister’s assumption (k)(i), based as it is on the former paragraph 12(1)(a) and the amended paragraph 18(1)(a) of the Act, also falls under the preponderance of evidence in this case.

Assumption (k)(ii):

(k) The amounts disallowed on reassessment were:

(ii) outlays or expenses in the circumstances within the meaning of section 12(2) of the former Income Tax Act and section 67 of the amended Income Tax Act.

The former provision invoked in assumption (k)(ii) runs as follows:

12. (2) In computing income, no deduction shall be made in respect of an outlay or expense otherwise deductible except to the extent that the outlay or expense was reasonable in the circumstances.

That provision of the Act as amended by S.C. 1970-71-72, Chap. 63, s. 1, which the Minister invokes in assumption (k)(ii), is much the same as the above recited provision, but bolstered and clarified by a few extra words emphasized in the following text:

67. In computing income, no deduction shall be made in respect of an outlay or expense in respect of which any amount is otherwise deductible under this Act, except to the extent that the outlay or expense was reasonable in the circumstances.

Now in both provisions of the legislation invoked by the Minister in assumption (k)(ii), the pregnant question is whether the outlay or expense be “reasonable in the circumstances". This Court has already found, and does find that the plaintiff's payment of $2.90 (U.S.), c.i.f. for its acquisition of crude oil was indeed reasonable in the circumstances.

What could be more reasonable than to pay the “going rate" in the market? Had the plaintiff paid double that rate and then deceitfully accepted some of the paid double price back under the table from the supplier, the provisions above recited would surely come into play. Had the plaintiff paid double the price in order to “gain security of supply", or to obtain the favourable 120-day payment term, or to be able to exploit the patented technology free of royalties, or indeed all of the foregoing, then the recited subsection 12(2) or section 67 would surely come into play. The deceitful transaction could hardly be characterized as reasonable, but the agreement with the benefits as consideration would surely precipitate an enquiry as to whether it was reasonable or not. However a fair, competitive market price or one within the reasonable range, whether f.o.b. or c.i.f. is the quintessence of what is “reasonable in the circumstances" of the real world. That expression in the two invoked provisions of the Act surely exacts an enquiry of the real market price — or range of prices — a matter which the Minister steadfastly regards as irrelevant! Assumption (k)(ii) fails.

Assumption (k)(iii)

(k) The amounts disallowed on reassessment were:

(iii) disbursements or expenses that, if allowed, would unduly or artificially reduce the income of the plaintiff within the meaning of section 137(1) of the former Income Tax Act and section 245(1) of the amended Income Tax Act.

The two invoked provisions are identical in their expression, which is recited in part in assumption (k)(iii). The identical expression is:

(l) In computing income for the purposes of this Act, no deduction may be made in respect of a disbursement or expense made or incurred in respect of a transaction or operation that, if allowed, would unduly or artificially reduce the income.

This provision had generated much litigation. It expresses a concept which everyone can understand, but in words, “unduly” and “artificially”, which invite litigation. The Court, having found that the purpose, creation, role and operations of Irvcal were not without a business purpose, nevertheless accepts, as did Mr. Justice Urie in The Queen v. Parsons, [1984] 2 F.C. 909 at 915-16; [1984] C.T.C. 354 at 357-58, that such purpose is not crucial to a taxpayer's avoidance of tax. Urie, J. went on to reflect upon the reasons of Estey, J. in the Stubart case (above cited), writing this:

Mr. Justice Estey in the Stubart case, after discussing the three House of Lords decisions in W.T. Ramsay Ltd. . . . Burmah Oil. . . and Furniss (Inspector of Taxes) v. Dawson . . . as they related to the necessity for a transaction to have a “business purpose" if it is, perhaps, successfully to survive scrutiny in tax avoidance schemes, put the issue in the Canadian context in this passage from his reasons for judgment at page 564: [[1984] 1 1S.C.R.]

Section 137 might arguably apply on the grounds that the transaction falls within the reach of the expression “artificial transaction” but the taxing authority has not advanced this position in support of the tax claim here made. However, there remains the larger issue as to whether Canadian law recognizes, as a principle of interpretation, that the conduct of the taxpayer, not dictated by a genuine commercial or business purpose, and being designed wholly for the avoidance of tax otherwise impacting under the statute, can be set aside on the basis of Furniss, supra, or Helvering, supra, as though the transaction were, in fact and in law, a "sham".

After a thorough analysis of applicable case law from the United Kingdom, the United States, Australia and Canada, Mr. Justice Estey concluded at page 575 that:

I would therefore reject the proposition that a transaction may be disregarded for tax purposes solely on the basis that it was entered into by a taxpayer without an independent or bona fide business purpose . . .

Later on, in the guidelines he propounded for the use of courts in such cases, Estey J. said that where the facts record no bona fide business purpose for a transaction, section 137 may be found to be applicable. That section was not relied upon by the appellant in these appeals.

Crown counsel is relying on that section, now subsection 245(1), in this appeal.

Crown counsel argues cogently that Parliament, in subsection 245(1) of the Act, expresses in plain language two qualifiers (counsel's emphasis) which are a clear direction to the Courts that a disbursement or expense in respect of a transaction which would (i) unduly or (ii) artificially reduce the income is prohibited. Counsel further notes that in regard to subsection 245(1) "artificiality" means "unnatural" opposed to "natural" or not in accordance "normality". “Accordingly, the test becomes whether the disbursement arises from an “artificial” transaction, i.e., a transaction which is unnatural or not in accordance with normality”. Counsel cites Shulman v. M.N.R., [1961] Ex. C.R. 410 at 425; [1961] C.T.C. 385 at 399-400 per Richie, D.J.; affirmed on appeal by the Supreme Court of Canada without reasons [1962] S.C.R. viii; 62 D.T.C. 1166 for the interpretation in other words of the provision's plain language. Crown counsel here places broader reliance on the case of Consolidated-Bathurst Ltd. v. The Queen, [1987] 2 F.C. 3; [1987] 1 C.T.C. 55; 87 D.T.C. 5001 (F.C.A.) than just the interpretation of the words "unduly" and "artificially", but also argues that the Spur Oil case, earlier mentioned, differs in fact from the present case. Spur Oil also differs so significantly from the Consolidated Bathurst case that Mr. Justice Stone, who expressed the Court's unanimous decision in the last mentioned case, took pains therein (at page 15 F.C.; 62-63 C.T.C.; 5006 D.T.C.) to distinguish it on more than one plane from Spur Oil. In fact the Spur Oil case most closely resembles the present case. No artificiality or lack of normality was found there by the Appeal Division of this Court. Therefore, authoritative interpretation of the legislative provision itself must be considered to determine what, if any, application of it bears on the circumstances herein.

In the Stubart case, Estey, J. explained the policy, purpose and effect of subsection 245(1) [or 137(1)] of the Act, thus:

The arrival of these provisions in the statute may also have heralded the extension of the Income Tax Act from a mere tool for the carving of the cost of government out of the community, to an instrument of economic and fiscal policy for the regulation of commerce and industry of the country through fiscal intervention by government. Whatever the source or explanation, measures such as s. 137 are instructions from Parliament to the community on the individual member's liability for taxes, expressed in general terms. This instruction is, like the balance of the Act, introduced as well for the guidance of the courts in applying the scheme of the Act throughout the country. (page 573-74, S.C.R.; 313-14 C.T.C.; 6321 D.T.C.)

The scheme of the Act certainly does not decry the conduct of paying a competitive, fair market price for anything including crude oil, as the plaintiff did pay. Section 69 of the Act establishes fair market value as a norm, for example. It is, indeed, quite normal for a purchaser of any product to expect to pay the prices set according to fair market value in order to acquire such product. There is nothing artificial about that: it is everywhere, including the present case, quintessentially “in accordance with normality".

The profits realized by Irvcal outside of Canada were plainly generated by non-Canadian production and transportation of crude oil, in the main. Again, the notion of normality equably contemplates the realization of such profits outside of Canada.

A recent case in which subsection 245(1) [or 137(1)] of the Act was applied is Indalex Limited v. The Queen, (A-43-86) in which the Appeal Division of this Court rendered its unanimous judgment on December 21, 1987. [Reported at [1988] 1 C.T.C. 60; 88 D.T.C. 6053.] There, the appellant, an extruder of aluminum, purchased its requirements of aluminum billet from an associated Bermuda corporation. It paid that corporation, according to the reasons written for the Court by Mr. Justice Mahoney, the price which had been paid to the primary supplier Alcan, a Canadian corporation which made the aluminum billet in Canada. It would have been normal for the original seller, Alcan, and the ultimate buyer, Indalex, to deal together on the market price of billet established in North America, and the Court agreed with the trial judge, Madam Justice Reed, that the arrangements carried out by the Bermuda company (Pillar International) were artificial transactions. That appears to be a quite straightforward application of subsection 245(1), even though the case evinces many more complexities and considerations than are apparent from the short critical path through them which is expressed above.

The present case is plainly different, despite superficial appearances, from the Indalex case. Pillar in Bermuda sold billets not so much into Canada as in Canada at prices higher than fair market value. In Indalex, the profits realized by Pillar were Canadian profits, not non-Canadian profits. Alcan being a Canadian supplier of billet, its prices to Pillar generated profits on Canadian production. The only non-Canadian activities to which Pillar's profits could be attributed would be Pillar’s own minimal and artificial trading activities, a circumstance hardly in accordance with normality. Another not inconsequential difference from the present case resides in the freedom from high rates of foreign income tax which the income associated with Pillar's minimal “trading activities” enjoyed.

In the present case, no finding of artificial or undue reduction of the plaintiff's income is justified on the evidence and the inferences to be drawn from it. Here consideration has been, and is, given to the evidence of, and adduced by, the taxpayer, the transactions individually and collectively and to the general circumstances in which the transactions arose. (Sigma Explorations Ltd. v. The Queen, [1975] C.T.C. 215; 75 D.T.C. 5121, F.C.T.D.).

Kenneth Colin Irving terminated his residence in Canada before the end of December 1971. (Transcript 15: Irving, p. 3477.) He moved to Bermuda. Prior to becoming a non-resident, K.C. Irving was the undisputed directing mind of the plaintiff. He played his part in the plaintiff's arrangements and agreement to acquire crude oil from Irvcal (then Bomag) in 1971, and, before the year was out, he left Canada and took up residence in Bermuda. So it was that before the end of 1971, all the shares of the plaintiff were owned indirectly by K.C. Irving and Socal, both non-residents of Canada. So it was that the earnings of both the plaintiff and Socal ultimately accrued to the benefit of those non-residents. In all this there is nothing shown in the evidence to suggest that the plaintiff's conduct was designed to thwart the will of Parliament as revealed in the particular provisions and the scheme of the Income Tax Act.

The plaintiff openly acknowledges, and the evidence confirms, that Socal and Irving sought to share the non-Canadian profits realized by Irvcal in which Socal and Irving indirectly held roughly equal equity interests. This they did by having Socal sell crude oil to Irvcal at Socal’s cost and, then, by having Irvcal sell it to the plaintiff at a price within, but not exceeding, the range of the fair market value.

The plaintiff argues that the use of Irvcal to realize non-Canadian production and transportation profits is consistent with the scheme of the Act regarding the treatment of non-Canadian profits as reflected in the foreign affiliate rules, the foreign tax credit rules and the treatment of non-residents such as Irvcal. The Court does not disagree with those contentions.

The plaintiff's expenditures, for crude oil at market price, were indeed incurred for the purpose of earning income. Since the plaintiff did not pay in excess of fair market value, it did not unduly or artificially reduce its income. Subsection 245(1) does not come into play here. The Minister’s assumption (k)(iii) is defeated.

Spur Oil Ltd. v. The Queen

The plaintiff rejoiced in the Spur Oil case, [1982] 2 F.C. 113; [1981] C.T.C. 336, and the defendant minimized it. The Court considers that the Spur Oil case is practically indistinguishable from the case here at bar, and therefore whatever the validity of all the foregoing reasons, stare decisis exacts that the Appeal Division’s unanimous decision in, and disposition of, Spur Oil must be followed here. That decision is buttressed by reason of the Crown's application in Spur Oil, for leave to appeal to the Supreme Court of Canada having been refused with costs, [1981] 1 1S.C.R. xi.

The plaintiff's counsel asserts a compelling list of both numerous and strikingly close similarities between Spur Oil and the present case. Counsel also, having regard to the Minister's assumptions and the other arguments and allegations on the part of the defendant's counsel, has compiled a list of persuasive points whereby the facts of this case are more favourable to the taxpayer than those revealed in the Spur Oil case. Counsel's lists are too long to recite here, fascinating as they are. The first paragraph of the headnote for the Spur Oil case is illustrative, thus:

Appeal from a judgment of the Trial Division dismissing part of an appeal from a tax assessment for the 1970 taxation year. The Minister disallowed a deduction equal to $0.27 per barrel of crude oil purchased by the appellant from Tepwin on account of expenses. The appellant purchased oil for $1.9876 per barrel from a company owned by the same U.S. parent company pursuant to a "Quotation Letter" until February 1, 1970, at which time it agreed to purchase crude oil for $2.25 per barrel from an affiliated off-shore Bermuda corporation (Tepwin). The Trial Judge found that the agreement to purchase oil for $1.9876 per barrel was a valid and subsisting contract and that the agreement to purchase oil for $2.25 per barrel was artificial. Consequently he found that the $0.27 per barrel was not an allowable expense. The appellant alleges that the Trial Judge erred in failing to find that the fair market value of the crude oil purchased in 1970 from Tepwin was equal to or in excess of $2.25 per barrel paid to Tepwin and in finding that the Quotation Letter was a valid and subsisting contract.

Now the defendant's counsel reading of Spur Oil reveals only that the ratio, as stated by Mr. Justice Heald, was:

The appellant's submission is that the question as to whether or not the "Quotation Letter" supra is a contract creating enforceable rights for the respective parties thereto is a matter of law. I agree with that submission. (p. 121; C.T.C. 341)

There is a much wider world of ratio decidendi in the Spur Oil case than that which the defendant's counsel perceived. Here is what Heald, J. wrote as published on pages 126-27; C.T.C. 344-45:

However, even if one were to assume that on this record, a proper finding would be that the February 1, 1970 Tepwin contract was a "sham" thereby vitiating it, then Murphy Trading itself as the vendor of the crude to the appellant could have increased its price to the appellant to $2.25 U.S. per barrel effective February 1, 1970 on terms corresponding to those of the Tepwin contract. I say this because that price was slightly below fair market value and therefore could not be construed as a transaction prohibited by subsection 137(1) supra. Thus, it is my opinion, that in the circumstances of this case, the question as to whether or not the Tepwin contract is valid is irrelevant to a final determination of the issue in this appeal. Subsection 137(1) supra, does not, in my view, prevent someone in the position of either Murphy Trading or Tepwin, from generating the same profit from a transaction with an affiliate like the appellant as it would from a similar transaction with a third party with whom it was dealing at arm's length. Such a transaction would, I think, only attract the prohibition of subsection 137(1) supra, when appellant's cost of crude oil supply, by reason of an act of the appellant, or those controlling it, increased above the cost prevailing in the industry at the same time and under similar circumstances. Such an event did not occur in this case.

Be it remembered that Mr. Justice Heald was a member of the unanimous bench in the Indalex appeal. The learned judge of appeal wrote nothing there to repudiate or dilute his opinion from the Court in Spur Oil.

If, as the Crown maintains, the matter of the Quotation Letter is a ratio of the case, then there are two such, for the immediately above recited pronouncement on paying the cost of crude oil prevailing in the industry is surely an important ratio, if not the more important of them. Now, it is trite law that where a Court gives two or more reasons for allowing an appeal, each reason is binding and forms part of the ratio of the decision. The plaintiff, in support of this proposition, cites: Jacobs v. London County Council, [1950] A.C. 361 at 369; London Jewellers Ltd. v. Attenborough, [1934] 2 K.B. 206 at 222; Behrens v. Bertram Mills Circus Ltd., [1957] 2 Q.B. 1 at 24; and Cane v. Royal College of Music, [1961] 2 Q.B. 89 at 114.

What was said by Heald, J. in the Spur Oil case about the transactions attracting the prohibition of subsection 137(1) [or 245(1)] only when the taxpayer's cost of crude oil supply, by reason of the taxpayer's own deed, or that of those controlling the taxpayer, increase above the cost prevailing in the industry, or market, at the same time and under similar circumstances, cannot be doubted. Heald, J. was of course referring to a reasonable, or fair, or competitive market price, or value. In the instant case, also, Irving Oil escapes the prohibitions of the Act because it was genuinely, and without sham or other artifice, incurring its expenses for crude oil at the market price, a factor which the Minister considers irrelevant!

When the Minister applied for leave to appeal to the Supreme Court of Canada from the Appeal Division’s unanimous judgment in Spur Oil, the Deputy Attorney-General in the memorandum of argument filed therein, Part Il, paragraph 15(c), indicated that the following question would be argued if leave to appeal were granted:

(c) whether the Federal Court of Appeal erred in finding as a matter of law that transactions did not attract the prohibition of section 137(1) of the Income Tax Act, so long as they did not result in costs of purchases above fair market value,

[Emphasis not in original text]

As earlier noted, the Deputy Attorney-General's application for leave to appeal was refused. It was refused by a panel composed of Messrs. Justices Beetz, McIntyre and Chouinard, only three years before the Supreme Court's decision in Stubart Investments Limited v. The Queen. One might note that in the Stubart case, Beetz and McIntyre, JJ. concurred in the reasons which Estey, J. wrote for the majority of the Court. The late Chief Justice Laskin is recorded in the foreword to volume 1 (1980) Supreme Court Law Review, at pp. vii & viii, as having written:

Although the refusal to grant leave to appeal does not necessarily connote full accord with the decision below, such refusals (no reasons being given .. .) are part of the jurisprudence of the Court and may be worth noting according to the nature of the issues disposed of in the Courts below.

The defendant's position here is that the Supreme Court of Canada, in the Stubart judgment, impliedly overruled the Spur Oil decision. The proposi- tion expressed by the Appeal Division earlier referred to herein as the more important ratio of Spur Oil was certainly attacked vigorously by the Deputy Attorney-General in seeking leave to appeal Spur, as shown further in Part III, paragraph 21, of his memorandum:

21. Furthermore, in holding as a matter of law that transactions did not attract the prohibition of section 137(1) of the Income Tax Act so long as they did not result in costs of purchases above fair market value, the Federal Court of Appeal put a further severe limitation on the application of that section, not only with respect to artificial reductions of income, but, in view of its grafting on section 137(1) the requirement of "sham", also with respect to the meaning of sham. In so doing the Federal Court of Appeal not only overruled its own previous ruling that (the post-1971 equivalent of) section 137(1) is of universal application, but established a rule of interpretation which is not supported by the jurisprudence. In view of its fundamental importance to the entire scheme of the Income Tax Act, and in particular, to the question of transfer pricing among related multinational corporations trading between Canada and foreign countries, the Attorney General of Canada submits that it is of public importance for the Supreme Court of Canada to decide whether the Federal Court of Appeal was correct in so ruling.

See: The Queen v. Alberta and Southern Gas Co. Ltd., [1978] 1 F.C. 454 (F.C.A.), at 459-460, affd. on other grounds in [1979] 1 S.C.R. 36.

[Emphasis not in original text]

Not only, as noted, was the defendant's application for leave to appeal refused, but nothing in Mr. Justice Estey's reasons in Stubart can be perceived to repudiate or overrule the firm proposition enunciated by Heald, J. in Spur Oil to the clear effect that transactions effected at costs of purchase within, or less than, fair market value do not attract the prohibition of subsection 137(1), [or 245(1)], of the Income Tax Act, because the costs involved in such transactions do not unduly or artificially reduce the taxpayer's income. The propositions enunciated in the Spur Oil case are sound expressions of the law, which this Court follows. The Court therefore finds that in the chain of the plaintiff's acquisition of crude oil during the years 1971 through 1975, the plaintiff did not unduly or artificially reduce its income through the prices it paid to Irvcal for such crude oil.

No doubt the sum of some $141 millions with interest would be a welcome realization by the Department of National Revenue and would be seen as helping to lighten the tax burden of poor taxpayers or those of modest means; but those are strictly not the Court's concern in interpreting and applying the law regarding any particular appellant taxpayer. For some, that strict limitation of the Court's concern may be a matter of regret, but even that is not the Court's concern, for the Court does not interfere with the proper political roles of Parliament or of the executive government. Equity does not enter into tax law. Furthermore, if Parliament were ever to will that a Canadian plaintiff, as here, be taxed on its offshore subsidiary’s nonCanadian profits from supplying goods at fair market value, it is not beyond Parliament's constitutional competence to devise such a law. Here, put bluntly, taxation of those profits from 1971 through 1975 was simply none of the Minister’s business as demonstrated in the Spur Oil case.

Nil Assessment Notice No. 284386

In argument the plaintiff's counsel reiterated the plaintiff's remarkable pleadings in paragraphs 35 and 36 of its declaration (statement of claim):

35. In addition to the above statements which apply with equal force to the taxation year ending December 31, 1974, the Plaintiff reiterates its appeal to the Court to have the "assessment" in respect of that year vacated, notwithstanding the fact that the Notice of Reassessment numbered 284386, issued by the Minister, states that the amount of tax owing by the Plaintiff is “NIL”.

36. The "assessment" that the Plaintiff appeals from in paragraph 35 is the operation, the process whereby its tax liability has been computed, namely the disallowance of the crude oil costs, and not the issuance of the notice of reassessment. Authority for this distinction can be found in Pure Spring Company Limited v. M.N.R., 1946 C.T.C. 169, where the President of the Exchequer Court, Mr. Justice Thorson, stated at page 198:

The assessment is different from the notice of assessment; the one is an operation, the other a piece of paper. The nature of the assessment operation was Clearly stated by the Chief Justice of Australia, Isaacs A.C.J., in Federal Commissioner of Taxation v. Clarke, (1927) 40 C.L.R. 246 at p. 277:

"An assessment is only the ascertainment and fixation of liability,”

a definition which he had previously elaborated in The King v. Deputy Federal Commissioner of Taxation (S.A.); ex parte Hooper, (1926) 37 C.L.R. 368 at p. 373:

An "assessment" is not a piece of paper: it is an official act or operation; it is the Commissioner's ascertainment, on consideration of all relevant circumstances, including sometimes his own opinion, of the amount of tax chargeable to a given taxpayer. When he has completed his ascertainment of the amount he sends by post a notification thereof called “a notice of assessment" . . . But neither the paper sent nor the notification it gives is the "assessment". That is and remains the act or operation of the Commissioner.

It is the opinion as formed, and not the material on which it was based, that is one of the circumstances relevant to the assessment. The assessment, as I see it, is the summation of all the factors representing tax liability, ascertained in a variety of ways, and the fixation of the total after all the necessary computations have been made.

Once again, the distinction between the metaphysical and the physical is raised in the late President Thorson's distinction between the "assessment" which is pure thought, and the piece of paper upon which the thought is recorded.

Normally, an assessment of nil tax owing is exactly what the taxpayer hopes for. Had all the Minister’s reassessments here been for “nil” this litigation would never have arisen. The piece of paper, No. 284386, recorded the Minister’s thought that there was no tax owing or payable for the plaintiff's taxation year ending December 31, 1974. Unless the taxpayer seeks to pay more tax, or make a gift to the Crown which may be done voluntarily, there is nothing to appeal from the Minister's recorded thought of no tax owing.

The locus classicus in this regard is the decision of this Court’s Appeal Division in the case of The Queen v. Garry Bowl Limited, [1974] C.T.C. 457; 74 D.T.C. 6401, a unanimous decision written in 1974 by the present Chief Justice Thurlow. Two brief passages from Mr. Justice Thurlow's reasons will suffice for present purposes:

In the present case as it was admitted that the respondent's appeal to the Tax Review Board was from nil assessments for the years 1967, 1968 and 1969 the question arises whether in view of the decision of the Supreme Court of Canada in Okalta Oils Ltd. v. M.N.R., [1955] S.C.R. 824; [1955] C.T.C. 271; 55 D.T.C. 1176, there is any serious or fairly arguable question of law remaining to be argued as to the respondent's right to appeal therefrom. In my opinion there is not.

(p. 459 C.T.C.; 6402 D.T.C.)

The Board having decided the objection in the present case and rejected it and having allowed the appeal and referred the matter back for reconsideration and reassessment it seems to me that its judgment must be regarded as a decision on an appeal under section 59 within the meaning of section 60. The Trial Division in my opinion accordingly had jurisdiction to entertain the Minister’s appeal to it from the decision of the Tax Review Board and to hear and maintain the objection that the respondent had no right of appeal from the “nil assessments".

(p. 460 C.T.C.; 6403 D.T.C.)

Probably there could be no harm, and there is to be no prejudice or detriment to the taxpayer or the Minister, one way or another, whether the “nil assessment" be vacated or not.

However it is authoritatively stated in the Garry Bowl case that the taxpayer has no right of appeal from a “nil assessment", including, of course, a reassessment. In light of such authority, the taxpayer is not about to be purportedly accorded such a right in the present case. In truth, despite the expression, "nil assessment" in the Garry Bowl case, it appears that there is no such thing. Subsection 152(4) of the Act indicates that the Minister may assess tax, interest or penalties . .. or notify in writing . . . that no tax is payable for the taxation year . . . . If a compressed expression be needed, the latter instrument ought really to be called a “nil notification” since the Minister does not assess tax thereby. There is no right of appeal from a "nil notification”. The Minister causes confusion by persisting in overusing "Notice of Assessment" forms for what subsection 152(4) of the Act indicates is a mere “nil notification”. Such persistance might some day redound in costs, but does not help the plaintiff nor hinder the defendant in this case. This leitmotif in and among the plaintiff's several pleadings is dismissed.

General Conclusions

Apart from that above resolved question about appealing “nil assessment", the Court finds the arguments submitted by the plaintiff's counsel, which have all been carefully perused as have the defendant's counsel's arguments, to be persuasive generally on all issues. Whether specifically mentioned herein or not every issue raised by the parties has been considered by the Court and the Court at the very least accepts, if it does not also adopt and ratify, the arguments expressed by the plaintiff's counsel on all those remaining issues. There ought not to be any misunderstanding on that score, or on the meaning of these reasons. The ultimate, if not precisely the bottom, line in this case, in so far as the Trial Division is concerned, is that the plaintiff's expenses or outlays for the crude oil it acquired from Irvcal during the material times are properly allowable deductions and did not unduly or artificially reduce the plaintiff's income which income does not include the investment income earned by Irvcal; and the dividends which the plaintiff received or could receive from Irvcal’s non-Canadian profits at the relevant times are not taxable under the "former" or the "amended" Income Tax Act.

The reassessments enumerated in the parties' pleadings, except “nil” notice No. 284386, are to be vacated, because they are unfounded in fact or in law. The defendant is to pay the plaintiff's party-and-party costs, after taxation thereof.

Now, the plaintiff's prayer for relief in paragraph 37 of its unamended statement of claim seeks several modes of relief which are not provided by the Income Tax Act. However in post-trial argument the plaintiff's counsel seeks only to have the Minister's reassessments vacated, apart from costs. The latter request conforms exactly with the Court's statutory powers of disposal of an appeal, provided in subparagraph 177(b)(i), allowing the appeal and “vacating the assessment”.

The Court proposes to pronounce the judgment called for by preparing a separate document which will provide that the Court orders and adjudges that:

— the plaintiff's appeal be allowed;

— the following notices of reassessment issued against the plaintiff on April 3, 1979, by the Minister of National Revenue, that is:

284380 with respect to the plaintiff's taxation year ending December

31, 1971,

284381 with respect to the plaintiff's taxation year ending December

31, 1972,

284382 with respect to the plaintiff's taxation year ending May 31, 1973,

284385 with respect to the plaintiff's taxation year ending May 31, 1974,

and

284387 with respect to the plaintiff's taxation year ending December

31,1975,

be vacated; and

— the defendant shall pay the plaintiff's party-and-party costs of, and incidental to, this litigation, after taxation thereof.

Inundated by paper from the parties, the Court may have overlooked some fundamental factor in the above draft. The parties’ solicitors may submit written critiques containing suggestions for improvement of the above proposed judgment, in conformity with these reasons, at any appropriate time before the close of business in the Court's registry on March 18, 1988, after which judgment will be pronounced in the terms expressed above or in such other terms as the court may consider to be appropriate.

Appeal allowed.