O
Connor
T.C.J.:
These
appeals
were
heard
at
Toronto,
Ontario
on
June
4,
1997.
Subsequently,
the
hearing
was
re-opened
and,
on
November
18,
1997,
the
Appellant
introduced
Exhibits
A-8
to
A-10,
testimony
was
heard
and
further
submissions
were
made.
In
issue
are
the
Appellant’s
taxation
years
ending
March
31,
1986
and
March
31,
1988.
The
Statements
of
Agreed
Facts
for
each
year
read
as
follows:
Statement
of
Agreed
Facts
1986
Taxation
Year
1.
The
Appellant
is
a
Canadian-controlled
private
corporation.
2.
At
all
material
times,
the
business
of
the
Appellant
has
included
prosecuting
scientific
research
and
experimental
development
and
at
the
material
time
over
90%
of
its
revenue
has
been
from
the
prosecution
of.
scientific
research
and
experimental
development
or
the
sale
of
rights
in
or
arising
out
of
scientific
research
and
experimental
development
carried
on
by
it.
3.
The
Appellant’s
taxable
income
for
its
taxation
year
ended
March
31,
1985
together
with
the
taxable
incomes
of
all
corporations
with
which
it
was
associated
in
the
1986
taxation
year
for
their
taxation
years
ending
in
1986
did
not
exceed
the
aggregate
of
the
business
limits
of
the
Appellant
and
the
associated
corporations.
4.
The
Appellant
was
a
“qualifying
corporation”
for
its
taxation
year
ended
March
31,
1986
and
was
not
an
“excluded
corporation”.
5.
The
Appellant
raised
funds
in
its
1985
taxation
year
by
means
of
a
“quick
flip”
transaction
in
which
“investors”
advanced
funds
in
exchange
for
scientific
research
tax
credits
plus
a
promissory
note
from
the
Appellant.
Immediately
after
the
exchange
of
those
documents,
each
“investor”
made
a
demand
on
the
promissory
note(s)
and
the
Appellant
repaid
the
amount
of
the
note.
The
payments
made
by
the
Appellant
discharging
its
obligations
under
these
notes
totalled
$2,128,500.
6.
On
this
financing,
the
Appellant
raised
a
total
of
$2.2
million.
The
amount
of
$2,128,500,
which
included
the
amount
of
$893,500
was
the
total
amount
which
the
Appellant
repaid
to
investors
as
part
of
these
“quick
flip”
transactions.
7.
At
least
part
of
the
proceeds
of
this
financing
were
used
by
the
Appellant
to
carry
on
scientific
research
and
experimental
development
during
the
1986
taxation
year.
8.
The
Appellant
initially
sought
to
treat
this
amount
of
“financing
costs”
totalling
$893,500
as
“qualified
expenditures”
in
computing
its
Part
VIII
tax
refund
in
order
to
discharge
its
liability
for
Part
VIII
tax
for
the
1985
taxation
year
arising
out
of
the
“quick
flip”.
In
addition,
it
deducted
this
amount
of
$893,500
in
computing
its
income
for
purposes
of
Part
I
of
the
Income
Tax
Act
creating
a
non-capital
loss
of
$639,822
for
the
1985
taxation
year.
The
Appellant
deducted
a
portion
of
this
non-capital
loss
($356,987)
in
computing
its
taxable
income
for
the
1988
taxation
year.
9.
The
Appellant’s
claim
to
treat
the
amount
of
$893,500
as
expenditures
on
or
in
respect
of
scientific
research
and
experimental
development
(SR&ED)
was
denied
by
Revenue
Canada,
which
assessed
the
Appellant’s
Part
VIII
return
on
the
basis
that
there
was
no
SR&ED
being
carried
on
by
the
Appellant.
The
Appellant
appealed
this
assessment
to
the
Tax
Court
of
Canada.
10.
The
appeal
from
the
assessment
of
Part
VIII
tax
for
the
1985
taxation
year
was
settled
on
the
basis
that
the
Appellant
was
allowed
to
include
in
its
calculation
of
expenditures
on
or
in
respect
of
SR&ED
and
therefore,
in
its
calculation
of
“qualified
expenditures”,
a
portion
of
these
“financing
costs”
equal
to
$178,500.
The
Consent
to
Judgment
executed
by
counsel
for
the
Respondent
and
by
Mr.
Neil
Harris
of
Goodman
&
Goodman,
as
it
then
was,
counsel
for
the
Appellant,
is
attached
as
Exhibit
“A”
to
this
Statement
of
Agreed
Facts.
Correspondence
setting
out
the
calculations
in
arriving
at
the
amount
to
be
agreed
upon
as
“qualified
expenditures”
are
attached
as
Exhibit
“B”.
DATED
at
the
City
of
Toronto,
Ontario,
this
“4th”
day
of
June,
1997.
David
W.
Dolson
Counsel
for
the
Appellant
DATED
at
the
City
of
Toronto,
Ontario,
this
“3rd”
day
of
June,
1997.
George
Thomson
Deputy
Attorney
General
of
Canada
Per:
Alexandra
K.
Brown
Counsel
for
the
Respondent
Department
of
Justice
Exhibit
“A”
Consent
to
Judgment
The
parties,
by
their
solicitors,
hereby
consent
to
judgment,
allowing
the
appeal
for
the
Appellant’s
1985
taxation
year,
without
costs,
and
referring
the
matter
back
to
the
Minister
of
National
Revenue
for
reconsideration
and
reassessment
on
the
bases
that:
(a)
the
Appellant
was
carrying
on
qualifying
scientific
research
and
experimental
development
during
the
1985
taxation
year;
and
(b)
the
Appellant
incurred
a
total
of
$1,187,023.00
in
qualifying
expenditures
during
the
1985
taxation
year.
The
Appellant
is
not
entitled
to
any
further
relief.
Exhibit
B
February
17,
1993
Messrs.
Goodman
&
Goodman
Barristers
and
Solicitors
250
Yonge
Street
Box
24,
Suite
2400
Toronto,
Ontario
MSR
2M6
Attention:
Neil
Harris,
Esq.
Dear
Mr.
Harris:
Re:
Canadian
Solifuels
Inc.
v.
M.N.R.
Court
File
No.
89-2095(IT)
-
Our
File
No.
TO-173702
Canadian
Solifuels
Inc.
v.
H.M.Q.
Court
File
No.
91-1787(IT)
-
Our
File
No.
TO-189405
Further
to
our
telephone
conversation
in
which
I
advised
that
you
would
be
advised
by
Friday,
February
15th
of
the
results
of
the
recent
audit,
I
am
pleased
to
set
out
the
following.
The
Department
now
accepts
that
all
the
expenses
are
allowable
except
the
following:
1984
1.
Consultation
fee
in
the
amount
of
$156,500
was
paid
on
March
23,
1984
to
a
related
company
for
services
rendered
by
Dali
Bar.
It
was
found
that
the
amount
was
incurred
over
three
years,
two
of
which
were
in
respect
of
taxation
years
prior
to
April
19,
1983.
Furthermore,
it
appears
that
part
of
this
payment
was
for
the
administration
of
the
related
company.
An
allocation
is
required
for
the
purpose
of
clause
194(2)(a)(ii)(A).
2.
$67,010
of
the
1984
expenditures
was
made
in
the
fiscal
period
ended
March
31,
1983
and
carried
forward
to
the
1984
taxation
year.
This
amount
should
not
be
included
in
the
calculation
of
the
Part
VIII
refund
as
defined
in
subsection
194(2).
1985
1.
The
1985
opening
balance
of
expenditures
should
also
be
adjusted
as
per
item
(2)
above.
2.
The
broadcast
automation
system
project
in
the
amount
of
$1,300,000
was
contracted
out
to
a
related
company
to
do
research
on
the
project
over
three
phases.
The
full
amount
was
claimed
in
1985
before
completion.
It
was
found
that
the
first
phase
was
completed
in
1985
and
the
agreed
amount
of
$404,000
was
paid.
The
balance
of
$896,000
should
be
excluded
in
the
calculation
of
Part
VIII
refund
because
of
the
limitation
in
subsection
18(9).
3.
Financing
costs
of
$893,500
incurred
in
1985
should
be
excluded
in
the
Part
VIII
refund
calculation
since
it
was
a
prescribed
expenditure
as
defined
in
Reg.
2902(a)(i)(C).
4.
The
research
and
development
work
on
the
“micro
processor
control
unit
project”
was
contracted
out
to
an
unrelated
company
for
$355,000.
At
the
end
of
the
1985
fiscal
period,
only
$50,000
was
paid
and
the
contract
was
terminated.
The
incomplete
portion
of
$305,000
should
be
excluded
in
the
calculation
of
Part
VIII
refund
because
of
paragraph
18(1)(a).
Other
than
the
items
mentioned
above,
the
auditor
has
accepted
all
the
other
expenses.
I
would
be
pleased
to
meet
with
you
and
Mr.
Sherman
next
week
if
you
think
that
would
be
helpful.
I
look
forward
to
hearing
from
you.
Yours
very
truly,
“signature”
Alexandra
K
Brown
Counsel,
Tax
Litigation
March
5,
1993
Messrs.
Goodman
&
Goodman
Barristers
and
Solicitors
250
Yonge
Street
Box
24,
Suite
2400
Toronto,
Ontario
MSR
2M6
Attention:
Neil
Harris,
Esq.
Dear
Sirs:
Re:
Canadian
Solifuels
Inc.
v.
M.N.R.
Court
File
No.
89-2095(IT)
-
Our
File
No.
TO-173702
Canadian
Solifuels
Inc.
v.
H.M.Q.
Court
File
No.
91
-1787(IT)
-
Our
File
No.
TO-189405
I
have
now
received
instructions
from
the
Department
of
National
Revenue
and
am
authorized
to
make
the
following
proposal:
1.
The
adjustments
set
out
in
my
letter
of
February
15,
1993
[sic
-
should
be
February
17]
are
acceptable
to
both
parties
with
the
exceptions
set
out
below.
2.
Fifty
percent
of
the
claimed
consulting
fees
of
$156,000.00
are
eligible
while
the
other
fifty
percent
are
excluded.
3.
Financing
costs
are
not
eligible
as
claimed.
The
Department
proposes
that
for
the
1985
taxation
year,
the
amount
of
$178,500.00
be
allowed
comprised
as
follows:
7.5%
x
$2,200,000.00
-
$165,000.00
7,500.00
6,000.00
$178,500.00
4.
An
additional
$50,000
is
eligible
in
the
1984
taxation
year
as
financing
costs
actually
incurred
in
that
year
as
set
out
in
your
client’s
letter
of
January
25,
1993.
Finally,
I
should
draw
to
your
attention
the
fact
that
the
1986
and
1987
taxation
years
are
statue-barred.
However,
each
was
a
nil
assessment
and
the
1988
and
1989
taxation
years
are
open
and
are
currently
being
audited.
Thus,
your
client
is
not
denied
any
relief
which
may
be
available
for
subsequent
years.
I
will
need
to
have
your
response
to
this
proposal
by
Friday
of
this
week
in
order
that
I
am
able
to
prepare
for
trial
if
necessary.
I
look
forward
to
hearing
from
you.
Yours
very
truly,
“signature”
Alexandra
K
Brown
Counsel,
Tax
Litigation
March
9,
1993
Ms.
Alexandra
K.
Brown
Counsel,
Tax
Litigation
Department
of
Justice
Exchange
Tower
2
First
Canadian
Place
P.O.
Box
36,
Suite
3400
Toronto,
Ontario
MSX
1K6
Dear
Ms.
Brown,
Re:
Canadian
Solifuels
Inc.
Court
File
Nos.
89-2096
(IT)
&
91
-1787(IT)
As
requested,
I
am
enclosing
herewith
five
copies
of
a
Consent
to
Judgment
in
each
of
the
above-noted
matters
and
confirm
that
they
will
be
filed
with
the
Court
on
March
10,
1993.
Based
upon
these
Consents
to
Judgment,
we
confirm
that
the
Minister
of
National
Revenue
will
issue
reassessments
on
the
basis
that
the
Appellant
incurred
qualifying
scientific
research
and
experimental
development
expenses
of
$1,125,889
in
its
1984
taxation
year
and
$1,187,023
in
its
1985
taxation
year.
We
also
confirm
that
the
Minister
will
readjust
the
amount
of
qualifying
expenditures
incurred
by
the
Appellant
in
each
of
its
1986
and
1987
taxation
years
by:
a)
adding
the
amount
of
$667,924
to
the
balance
of
its
qualifying
expenditures
incurred
in
its
1986
taxation
year,
and
b)
adding
the
amounts
of
$228,076
and
$305,000
to
the
balance
of
its
qualifying
expenditures
in
its
1987
taxation
year.
We
further
confirm
that
because
of
the
above-noted
qualifying
expenditures,
the
Appellant
is
entitled
to
receive
a
refund
of
Part
I
tax
in
respect
of
its
1988
taxation
year
in
the
amount
of
approximately
$250,000
plus
interest.
We
would
appreciate
if
this
refund
could
be
forwarded
to
the
Appellant
as
soon
as
possible.
Yours
very
truly,
GOODMAN
&
GOODMAN
“signature”
Neil
H.
Harris
March
9,
1993
Messrs.
Goodman
&
Goodman
Barristers
and
Solicitors
250
Yonge
Street
Box
24,
Suite
2400
Toronto,
Ontario
MSB
2M6
Attention:
Neil
Harris,
Esq.
Re:
Canadian
Solifuels
Inc.
v.
M.N.R.
Court
File
No.
89-2095(IT)
-
Our
File
No.
TO-173702
Canadian
Solifuels
Inc.
v.
H.M.Q.
Court
File
No.
91-1787(IT)
-
Our
File
No.
TO-189405
This
will
confirm
our
understanding
that
the
Department
does
not
agree
to
make
any
specific
adjustments
to
your
client’s
accounts
for
the
1986
and
1987
taxation
years.
Any
adjustments
will
have
to
await
the
completion
of
the
audit
of
those
years.
The
same
is
true
for
the
1988
taxation
year.
It
is
on
this
basis
that
I
will
file
the
consents
to
judgment
tomorrow
with
the
Court.
Yours
very
truly,
Alexandra
K.
Brown
Counsel,
Tax
Litigation
Statement
of
Agreed
Facts
1988
Taxation
Year
1.
The
Appellant
is
a
Canadian-controlled
private
corporation.
2.
At
all
material
times,
the
Appellant
has
carried
on
business
prosecuting
scientific
research
and
experimental
development
and
at
the
material
time
over
90%
of
its
revenue
has
been
from
the
prosecution
of
scientific
research
and
experimental
development
or
the
sale
of
rights
in
or
arising
out
of
scientific
research
and
experimental
development
carried
on
by
it.
3.
The
Appellant’s
taxable
income
for
its
taxation
year
ended
March
31,
1988
together
with
the
taxable
incomes
of
all
corporations
with
which
it
was
associated
in
the
1988
taxation
year
for
their
taxation
years
ending
in
1987
did
not
exceed
the
aggregate
of
the
business
limits
of
the
Appellant
and
the
associated
corporations.
4.
The
Appellant
was
a
“qualifying
corporation”
for
its
taxation
year
ended
March
31,
1988
and
was
not
an
“excluded
corporation”.
5.
The
Appellant
was
a
member
of
a
partnership,
governed
by
the
Limited
Partnerships
Act
(Ontario),
known
as
COGEN
2
Limited
Partnership
(the
“Partnership”)
prior
to
and
at
December
31,
1987.
6.
The
Partnership’s
business
included
the
prosecution
of
scientific
research
and
experimental
development
related
to
the
scientific
research
and
experimental
development
which
constituted
the
business
of
the
Appellant.
7.
The
Appellant
took
an
active
part
in
the
management
of
the
business
of
the
Partnership
and
on
behalf
of
the
Partnership
supervised
and
conducted
the
research
of
the
Partnership.
8.
The
Appellant
was
not
a
“Limited
Partner”
as
its
liability
was
not
limited
...
by
virtue
of
the
provisions
of
the
Limited
Partnerships
Act
(Ontario).
9.
The
Appellant,
in
its
fiscal
period
ending
December
31,
1987,
incurred
expenditures
in
Ontario
that
would
be
“qualified
expenditures”
if
made
by
a
“taxpayer”
within
the
meaning
of
section
127(9)
in
the
aggregate
amount
of
$11,700,000.
10.
The
agreement
governing
the
Partnership
provided
that
the
Appellant
had
an
interest
in
the
profits,
losses,
and
expenditures
of
the
Partnership
of
15.23%
and
such
allocation
was
reasonable
in
all
the
circumstances.
11.
The
Appellant’s
reasonable
share
of
expenditures
of
the
Partnership
that
would
be
“qualified
expenditures”
is
$1,781,822.
12.
The
total
of
the
expenditures
described
in
paragraph
11
above,
plus
the
Appellant’s
qualified
expenditures
which
are
not
in
dispute
between
the
parties,
did
not
exceed
$2,000,000.
No
associated
corporation
had
any
qualified
expenditures.
13.
In
the
Appellant’s
income
tax
return
for
1988,
it
claimed
investment
tax
credits
calculated
at
35%
on
$1,781,822
of
“qualified
expenditures”
incurred
by
the
Partnership
and
a
refund
of
100%
of
such
amount.
14.
The
Appellant
filed
form
T2038
with
his
[sic]
1988
income
tax
return
to
claim
the
refund
of
such
amount.
15.
The
Minister
issued
a
Notice
of
Reassessment
of
December
8,
1993
thereby
reassessing
the
Appellant’s
1988
taxation
year
by
applying
a
rate
of
20%
to
the
qualified
expenditures
incurred
by
the
Partnership
and
applying
a
rate
of
refund
of
40%.
That
is,
the
Minister
assessed
on
the
basis
that
the
Appellant
was
not
entitled
to
claim
the
enhanced
investment
tax
credit
available
by
virtue
of
paragraph
(e)
of
the
definition
of
investment
tax
credit
in
subsection
127(9)
of
the
Income
Tax
Act.
16.
The
issue
for
decision
by
this
Honourable
Court
is
whether
the
Appellant
is
entitled
to
add
an
amount
computed
under
paragraph
(e)
of
the
definition
of
investment
tax
credit
in
computing
its
investment
tax
credit
arising
from
the
activity
of
the
Partnership.
DATED
at
the
City
of
Toronto,
Ontario,
this
“4th”
June,
1997.
David
W.
Dolson
Counsel
for
the
Appellant
DATED
at
the
City
of
Toronto,
Ontario,
this
“3rd”
day
of
June,
1997.
George
Thomson
Deputy
Attorney
General
of
Canada
Per:
Alexandra
K.
Brown
Counsel
for
the
Respondent
Department
of
Justice
In
addition
to
the
said
Agreed
Facts
further
factual
testimony
for
the
Appellant
(“taxpayer”)
was
given
by
Fredrick
Donald
Turack,
a
chartered
accountant
and
by
Dali
Bar,
president
of
the
taxpayer.
Counsel
for
the
Respondent
(“Minister”)
called
Neil
Howard
Harris
(“Harris”)
and
Mitchell
Jordan
Sherman
(“Sherman”),
attorneys
who
had
acted
for
the
taxpayer
in
relation
to
earlier
Tax
Court
proceedings
resulting
in
the
Consent
to
Judgment
quoted
above.
The
Minister
also
called
Mr.
Cheung,
an
appeals
officer
with
Revenue
Canada
concerned
with
the
matters
in
these
appeals.
All
witnesses
except
Harris
and
Sherman
were
also
heard
at
the
November
18,
1997
re-opening
of
the
original
hearing.
The
issue
in
the
appeal
for
the
1986
year
is
whether
or
not
the
$893,500
in
question
qualified
as
a
research
and
development
expense
which
therefore
should
have
been
included
in
the
calculation
of
the
taxpayer’s
investment
tax
credits.
The
issue
in
the
appeal
for
the
1988
year
is
whether
the
taxpayer
is
entitled
to
claim
the
enhanced
fully
refundable
investment
tax
credit
at
the
rate
of
35%
or
is
it
entitled
only
to
an
investment
tax
credit
at
the
rate
of
20%?
A
detailed
summary
of
the
legislative
history
related
to
SRTC
financing
and
quick
flips
is
set
out
in
a
decision
of
the
Federal
Court,
Trial
Division
in
Penner
v.
R.
(1994),
94
D.T.C.
6567
(Fed.
T.D.).
A
more
succinct
summary
is
set
forth
in
an
article
of
Geoffrey
G.
Briant
appearing
in
1985
Conference
Report,
page
589
and
following.
At
page
597
to
599,
the
author
states
as
follows:
SRTC
Financings
Short
term
(“Quick
Flip”)
SRTC
Instruments
The
April
19,
1983
amendments
to
the
Act
[SC
1983-84,
c.
1]
introduced
a
new
financing
mechanism
for
companies
carrying
on
scientific
research
in
Canada.
As
discussed
above,
this
legislation
made
it
possible
for
a
taxable
Canadian
corporation
to
transfer
the
benefit
of
various
tax
incentives
available
to
the
company
with
respect
to
expenditures
made
for
scientific
research
to
a
purchaser
of
shares,
debt
obligations,
or
royalty
interests.
Since
the
enactment
of
the
amendments
there
has
been
a
proliferation
of
research
and
development
debentures
and
promissory
notes
offered
for
sale.
Generally,
the
terms
of
these
transactions
provide
that
the
company
issues
a
debenture
to
the
purchaser
to
secure
a
stated
indebtedness
(the
“debenture
amount”)
but
the
debenture
is
issued
for
a
total
consideration
(the
“consideration”)
which
includes
a
premium
over
and
above
the
debenture
amount
(the
“premium”).
For
example,
a
debenture
securing
a
debenture
amount
of
$60
might
be
issued
for
the
consideration
of
$100.
The
consideration
thus
consists
of
the
$60
debenture
amount
plus
a
premium
of
$40.
The
terms
of
the
debenture
provide
that
the
purchaser
may
demand
repayment
of
the
debenture
amount
at
any
time
after
issuance.
The
premium
is
retained
by
the
issuing
company
for
its
own
use
and
without
any
tax
thereon.
The
transfer
of
the
tax
incentives
is
accomplished
by
the
issuing
company
designating,
pursuant
to
subsection
194(4)
of
the
Act,
an
amount
not
exceeding
the
consideration
as
the
consideration
received
by
the
company
for
the
issuance
of
the
debenture.
Pursuant
to
the
provisions
of
the
Act,
the
purchaser
of
the
debenture
is
entitled
to
an
SRTC,
which
is
generally
equal
to
50
per
cent
of
the
amount
designated
by
the
company.
The
issuing
company
incurs
a
Part
VIII
tax
liability
equal
to
50
per
cent
of
the
amount
designated
under
subsection
194(4).
The
company
may
obtain
a
refund
of
its
Part
VIII
tax
to
the
extent
of
50
per
cent
of
the
amount
of
expenditures
made
for
scientific
research
that
would
qualify
as
a
deduction
pursuant
to
paragraphs
37(1)(a)
or
37(1
)(b)
of
the
Act,
other
than
expenditures
prescribed
for
the
purposes
of
paragraph
127(10.1
)(c)
of
the
Act.
To
the
extent
the
expenditures
are
applied
to
reduce
its
Part
VIII
tax
liability,
the
company
must
renounce
its
rights
to
claim
the
research
expenditures
as
deductions
under
section
37
of
the
Act
[Subsection
194(2)].
Any
qualifying
expenditures
made
during
the
year
in
which
the
debenture
is
issued
may
be
used
to
reduce
the
company’s
Part
VIII
tax
liability
irrespective
of
whether
the
expenditures
were
incurred
before
or
after
the
issuance
of
the
debenture,
provided
such
expenditures
were
incurred
after
April
19,
1983
[Ibid].
Many
of
the
transactions
involving
research
and
development
debentures
have
been
in
the
form
of
a
“daylight
loan.”
At
the
closing
of
the
transaction,
the
company
issues
the
debenture
and
the
investor
pays
the
consideration.
Shortly
thereafter,
usually
on
the
same
day,
the
purchaser
delivers
a
demand
for
repayment
of
the
debenture
amount.
The
attraction
of
this
type
of
tax
shelter
is
that
an
investor
is
afforded
the
opportunity
to
eliminate
tax
payable
and
obtain
a
low
risk
return
on
his
investment.
The
result
of
the
debenture
issue
is
that
the
company
is
able
to
raise
funds
for
a
research
project
while
transferring
to
the
investor
the
benefit
of
tax
credits
flowing
from
the
expenditures
incurred
in
the
project.
Assuming
that
a
debenture
having
a
debenture
amount:
of
$60
is
issued
for
a
consideration
of
$100,
the
results
of
the
transaction
would
be
as
follows:
|
For
the
Purchaser
|
|
|
Consideration
paid
|
$100
|
|
Debenture
amount
-
returned
on
demand
|
|
|
Loss
before
tax
credit
|
(40)
|
|
Tax
credit
received
by
purchaser
|
50
|
|
Net
gain
to
purchaser
before
tax
|
$10
|
|
For
the
company
|
|
|
Amount
received
from
investor
|
$100
|
|
Amount
repaid
on
demand
|
60
|
|
Amount
retained
by
company
|
$40
|
With
respect
to
the
1986
year,
counsel
for
the
Minister
submits
that
the
issue
in
that
appeal
related
to
the
expenditure
of
$893,500
was
resolved
by
the
Consent
to
Judgment.
Alternatively,
counsel
for
the
Minister
submits
that
even
if
that
is
not
so,
the
amount
was
in
substance
a
repayment
of
a
debt
which
is
capital
in
nature
and
does
not
qualify
as
a
research
and
development
expenditure.
With
respect
to
the
Consent
to
Judgment,
the
taxpayer’s
president,
Mr.
Bar
submitted
that
he
signed
the
same
under
duress
and
it
was
his
view
that
the
said
Consent
did
not
totally
settle
the
issue
concerning
the
$893,500.
Mr.
Bar
claims
he
was
not
fully
advised
on
the
matter
by
Harris
and
Sherman.
He
thought
it
was
a
timing
issue
and
that
the
portion
of
the
$893,500
not
allowed
in
1985
could
be
used
in
subsequent
years.
Counsel
for
the
taxpayer
submits
further
that
based
on
the
evidence
of
Turack
and
Bar
it
was
clear
that
the
company
wanted/needed
as
close
as
possible
100¢
on
the
dollar
of
the
amounts
put
in
by
the
investors,
not
merely
40%
as
shown
in
the
example
above.
The
taxpayer
had
no
alternate
source
of
funds
and
a
plan
was
conceived
whereby
the
investors
acquired
shares
of
a
small
business
corporation
which,
in
turn,
acquired
shares
of
the
taxpayer,
thus
providing
total
funding
to
the
taxpayer
of
close
to
100¢
on
the
dollar
which
the
taxpayer
could
use
for
research
and
development.
It
was
submitted
that
since
the
funds
were
then
all
used
for
research
and
development
the
expenditure
of
$893,500
was
part
and
parcel
of
the
research
and
development
operation
and
should
be
allowed
as
a
financing
cost.
Analysis
In
my
opinion,
with
respect
to
the
1986
year,
the
Consent
to
Judgment
settled
the
entire
$893,500
issue.
It
is
clear
from
the
Agreed
Facts
and
the
exchange
of
correspondence
attached
thereto
that
the
$893,500.
was
an
issue,
and
as
appears
from
Harris’
and
Cheung’s
testimony
and
the
Agreed
Facts,
it
had
been
resolved
by
the
agreement
of
the
Minister
to
pay
a
sum
of
$178,500.
This
represented
7.5%
of
the
total
funds
raised
of
$2.2
million
and
the
Minister
considered
that
7.5%
was
a
reasonable
financing
cost.
Further,
the
Consent
states
that
the
Appellant
was
entitled
to
no
further
relief.
The
following
extracts
from
the
correspondence
establishes
that
the
$893,500
was
an
issue:
Letter
from
the
Minister
to
Harris
dated
February
17,
1993
3.
Financing
costs
of
$893,500
incurred
in
1985
should
be
excluded
in
the
Part
VIII
refund
calculation
since
it
was
a
prescribed
expenditure
as
defined
in
Reg.
2902(a)(i)(C).
Letter
from
Justice
to
Harris
dated
March
5,
1993
3.
“Financing
costs”
are
not
eligible
as
claimed.
The
Department
proposes
that
for
the
1985
taxation
year,
the
amount
of
$178,500.00
be
allowed
comprised
as
follows:
|
7.5%
x
$2,200,000.00
|
=
|
$165,000.00
|
|
7,500.00
|
|
|
6,000.00
|
|
|
$178,500.00
|
|
|
Letter
from
Harris
to
Justice
dated
March
9,
1993
|
|
As
requested,
I
am
enclosing
herewith
five
copies
of
a
Consent
to
Judgment
in
each
of
the
above-noted
matters
and
confirm
that
they
will
be
filed
with
the
Court
on
March
10,
1993.
Based
upon
these
Consents
to
Judgment,
we
confirm
that
the
Minister
of
National
Revenue
will
issue
reassessments
on
the
basis
that
the
Appellant
incurred
qualifying
scientific
research
and
experimental
development
expenses
of
$1,125,889
in
its
1984
taxation
year
and
$1,187,023
in
its
1985
taxation
year.
Admittedly,
the
appeal
which
was
ended
by
the
Consent
related
initially
to
the
Minister’s
position
that
the
Appellant
was
not
a
research
and
development
company
but
the
evidence
establishes
that
after
the
Minister
agreed
that
that
was
not
the
case
the
issues
boiled
down
to
calculating
the
amounts
to
be
allowed
including
the
amount
of
$893,500,
notwithstanding
that
the
Consent
does
not
specifically
refer
to
that
figure.
Furthermore,
even
if
counsel
for
the
taxpayer
had
been
successful
in
convincing
me
that
the
Consent
did
not
resolve
the
issue,
I
am
satisfied
that
the
amount
in
question
represented
repayment
of
a
debt,
that
it
is
capital
in
nature
and
is
not
a
qualified
expenditure.
In
this
regard
and
in
respect
to
the
apparent
incorrect
reference
to
Regulation
2909(a)(i)(C)
contained
in
Ms.
Brown’s
letter
of
February
17,
1993,
it
is
helpful
to
refer
to
Harris’
testimony
at
the
June
4,
1997
hearing.
He
stated:
Q.
As
part
of
the
settlement
discussions,
or
at
any
time,
did
you
advise
any
representative
of
the
government
that
$893,000
was,
in
fact,
the
repayment
of
the
principal
of
the
promissory
notes?
A.
No,
neither
was
I
asked.
Q.
Am
I
correct
that
you
didn’t
raise
it
because
you
understood
that
the
government’s
position
might
well
be
different
if
it,
in
fact,
was
fully
apprised
of
all
the
facts
and
that
there
wouldn’t
be
an
agreement
to
178,000
plus
the
50
in
1984?
A.
Yes.
Our
view
was
that
the
893,
as
the
testimony
you
are
hearing
today,
was
simply
a
repayment
of
a
promissory
note.
Somebody
lent
money
to
Canadian
Solifuels,
say,
$100.
This
is
the
repayment,
immediate
repayment,
instantaneous
repayment
on
this
amount
of
$893,000.
It
looked
to
us,
at
least,
that
an
argument
could
be
made
that
it
was
on
capital
account.
It
had
nothing
to
do
with
financing.
It
was
simply
a
repayment
of
capital.
We
were,
therefore,
concerned
that
if
the
matter
did
proceed
to
court,
there
could
be
a
finding
by
the
court
that
the
entire
thing
was
capital,
was
non-deductible
and,
therefore,
Mr.
Bar
would
not
receive
any
reward
for
those
monies.
...we
believed
that
this
was
a
good
settlement
in
that
we
believed
that
if
we
had
gone
to
court,
there
was
certainly
a
possibility
that
they
could
be
found
to
be
capital
and
not
income.
We
referred
to
the
regulations
of
the
Act
and
if
we
look
at
the
regulations,
we
were
talking
about
the
deduction,
Regulation
29.02.
It
is
quite
right
that
if
somebody
is
in
carrying
on
fully
R&D
activities,
then
that
allows
them
to
deduct
certain
amounts,
but
even
if
they
are
fully
carrying
on
R&D
activities,
the
only
financing
cost
that
they
were
allowed
under
the
Act
were
amounts
set
out
in
s.
21(c)
to
s.
21(i).
They
include
interest,
compound
interest,
brokerage
fees,
share
transfer
fees,
all
of
the
normal
interest-type
expenses.
When
we
approached
Mr.
Bar
to
ask
him
what
it
was,
his
testimony
today
was
the
same
as
his
testimony
was
three
years
ago.
They
are
not
interest.
They
are
not
brokerage
fees.
They
are
not
compound
interest.
They
are
simply
a
repayment
of
monies
that
Canadian
Solifuels
borrowed
and
an
instantaneous
repayment.
So,
in
our
views,
at
least
in
our
views,
that
they
were
not
on
income
account
and,
therefore,
they
would
not
be
deductible
and
when
the
facts
came
Out
in
a
courtroom,
it
would
be
clear
that
they
are
non
—
could
be
clear
that
they
are
non-deductible.
THE
COURT:
Mr.
Harris,
one
question.
In
reference
to
capitalizing
that
amount
and
spreading
it
over
five
years,
was
that
part
of
any
of
the
negotiations?
THE
WITNESS:
No,
Your
Honour.
From
an
accounting
point
of
view,
Mr.
Turack
had
certain
gap
requirements,
that
he
had
to
present
them
on
an
accounting
statement
basically
over
a
number
of
years,
but
this
was
—
this
893,
at
least
as
we
understood
it,
was
an
amount
paid
in
October
of
1984
and
simply,
as
Mr.
Bar
has
testified,
Canadian
Solifuels
received
$2.2
million
and
they
immediately
repaid
$2.1
million.
A
part
of
the
2.1
is
this
893.
It
was
an
instantaneous
repayment.
So,
it
was
clearly
an
amount,
at
least
repaid
to
the
investors,
in
the
1985
year.
So,
whether
there
was
some
accounting
practice
that
required
the
amounts
to
be
spread
over
a
number
of
fiscal
years,
it
was
clear,
to
me
at
least,
from
an
income
tax
point
of
view
that
the
amount
was
expended
in
1985
and,
therefore,
the
question
arises
in
respect
of
the
’85
taxation
year
of
Canadian
Solifuels.
THE
COURT:
Therefore,
you
were
quite
happy
to
accept
7.15
percent.
THE
WITNESS:
Absolutely,
Your
Honour.
THE
COURT:
Of
2.2
absolutely,
plus
the
50,000.
THE
WITNESS:
Right.
I
think
we
advised
Mr.
Bar
of
two
things.
We
advised
him
that
if
he
did
go
to
court,
there
would
be
at
least
a
question
raised
by
the
government
that
these
are
on
capital
account
and
regardless
of
Regulation
29.00,
29.01
or
29.02
and
regardless
of
the
activities
that
Mr.
Bar
carried
on
which
the
government
clearly
had
agreed
by
that
time
were
all
R&D
activities,
that
was
not
the
issue.
The
issue
was
simply
whether
or
not
these
amounts
were
amounts
within
21(c),
(d),
(e),
(f),
(g),
(h),
or
(i)
of
the
Income
Tax
Act.
We
could
not
tell
Mr.
Bar
that
we
had
a
very
strong
case
on
this
issue.
So,
we
said,
this
may
be
an
opportunity.
With
respect
to
the
1988
year,
counsel
for
both
the
taxpayer
and
the
Minister
were
well
aware
of
the
decision
of
the
Federal
Court
of
Appeal
in
Allcolour
Chemicals
Ltd.
v.
R.
(1993),
93
D.T.C.
1194
(T.C.C.)
[Court
of
Appeal
reported
[1997]
2
C.T.C.
356
(Fed.
C.A.)].
However,
counsel
for
the
taxpayer
submitted
that
since
the
taxpayer
itself
incurred
all
of
the
expenditures
and
only
got
reimbursed
by
submitting
receipts
to
a
law
firm
holding
the
partners’
monies
in
trust,
one
should
essentially
ignore
the
partnership
structure.
Counsel
pointed
out
that
the
testimony
confirmed
that
the
partnership
had
no
bank
account
and
that
all
payments
to
the
taxpayer
were
made
out
of
the
said
trust
monies.
In
my
opinion
it
is
clear
from
the
Notice
of
Appeal,
the
Reply
and
the
Statement
of
Agreed
Facts
for
1988
that
the
expenditures
were
definitely
made
on
behalf
of
the
partnership.
Neither
the
fact
that
the
taxpayer
carried
out
the
works
under
the
contract
dated
February
23,
1986
between
the
taxpayer
and
the
limited
partners
nor
the
method
by
which
the
taxpayer
was
reimbursed
for
expenditures
changes
this
position.
The
expenditures
were
those
of
the
partnership
and
the
decision
in
Allcolour
Chemicals
Ltd.applies
with
the
result
that
the
taxpayer
is
only
entitled
to
the
investment
tax
credit
at
the
rate
of
20%.
For
the
above
reasons,
the
appeals
are
dismissed
with
costs.
Admittedly,
the
reference
in
the
February
17,
1993
letter
to
Regulation
2902
is
inaccurate.
This
however
cannot
estop
the
Minister
from
disallowing
an
expenditure
because
it
does
not
fall
within
the
expenditures
permitted
by
paragraphs
20(c)
to
(i)
of
the
Income
Tax
Act.
Signed
at
Ottawa,
Canada,
this
11th
day
of
December,
1997.
Appeal
dismissed.
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