23 April 1980 Income Tax Severed Letter

Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the CRA.
Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle de l'ARC.

April 23, 1980

H.A. Hiltz Corporate Rulings Directorate

XXXX 1975 and 1976 Notices of Objection

This is in reply to your memo of February 13, 1980.

XXXX

For the sake of simplicity it is assumed that each plant is comprised of a separator, a compressor and a dehydrator. The raw gas enters the inlet separator where free water is removed from the gas stream. Solid impurities, such as sand, are filtered from the gas stream. The gas is then compressed and cooled and passes to the dehydrator where water is removed from the saturated gas stream by an absorption process. The gas then enters the transmission pipeline. The plant does not separate liquid hydrocarbons or sulphur or sulphur products from the gas stream.

The taxpayer has classified the equipment as Class 8 property while the District Office has included the property in Class 10. It is also possible to include the assets in Class 2. If the property is to be included in Class 2 it may be included in Class 10 but may not be included in Class 8. If the property is not to be included in Class 2 it cannot be included in Class 10 and will be included in Class 8.

"Oil and gas well equipment" is defined by Regulation 1104(2) as including:

(i) equipment, structures and pipelines ... acquired to be used in an oil or gas field in the production therefrom of natural gas...

Prior to the decision in Texaco Exploration Company 75 DTC 5288 it was the stance of this Department that production ceased at the downstream side of the primary field separator. This was the point after which the effluent from a well had been separated into oil, gas and water. Thus, under this interpretation the separator, dehydrator and compressor would have been "used in an oil or gas field in the production therefrom of natural gas" and would not have been excluded therefrom by the following:

(iii) equipment or structures acquired for the refining of oil or the processing of natural gas including the separation therefrom of liquid hydrocarbons, sulphur or other joint products or by-products.

The exclusion was intended to apply to a gas plant which was located in a field.

The Texaco Exploration case held that production of gas ceased at the upstream side of any separator whether that separator was a field separator or an inlet separator of a gas plant.

If the decision in Texaco Exploration is applied to the instant case, the property in question cannot be included in Class 10 since it would not be considered to be "used in production". It will be Class 8 property unless it is to be included in Class 2. The relevant paragraphs of Class 2 are as follows:

(b) a pipeline, other than oil or gas equipment...

(d) manufacturing and distributing equipment and plant (including structures) acquired primarily for the production or distribution of gas, except

(i) a property included in Class 10...

(iii) a property acquired for the purpose of processing natural gas before delivery to a distribution system.

Absent the decision in Texaco Exploration the equipment in question would have been related to the production of gas and therefore would have been included in Class 2 were it not for the exception in (i) thereof.

If the decision is accepted the equipment will not be included in Class 2 unless it can be considered to be acquired primarily for the distribution of gas and not for the processing of natural gas before delivery to a distribution system. The equipment may be considered to be acquired for the transmission of gas but transmission does not constitute distribution. Therefore the equipment is not the type referred to in Class 2(d).

Therefore the issue is the applicability of the Texaco Exploration case. If it is taken to apply to the classification of capital cost, the equipment in question will be Class 8 property.

Collier, J. appears to have reached his conclusion that production ceases at the well head from the absence in paragraph 1201(5)(d) of the Regulations (as it read for the years 1964-1967) of a reference to "production of gas from or by means of gas plants." While it is difficult to impugn this conclusion by reference to the provisions of Regulation 1200 it is obviously inconsistent with the legislative intent of the definition of oil and gas well equipment in regulation 1104 which includes " ... equipment ... to be used in a gas or oil field in the production therefrom of natural gas or crude oil...". The reference to use "in a gas or oil field" is obviously redundant if production ceases at the well head.

In conclusion we recommend that this issue be resolved in a manner consistent with the legislative intent implicit in the definition of oil and gas well equipment. Production should be considered to include the separation required to put the effluent from the well in a marketable condition as that term is generally understood in the industry. On this basis the equipment in question will be oil and gas well equipment within the meaning of Regulation 1104 and must therefore be included in Class 10.

Director Corporate Rulings Directorate Legislation Branch