Financing Expenditures

Cases

Imperial Oil Ltd. v. Canada, 2004 DTC 6702, 2004 FCA 361, rev'd 2006 SCC 46

rev'd on other grounds 2006 SCC 46

Before going on to find that foreign exchange losses realized by the taxpayer on repaying its debentures were capital losses under subsection 39(2) LeBel J. stated (at para. 32):

"Similarly, any foreign exchange loss on the debentures would be a payment on account of capital because the characterization of a foreign exchange gain or loss generally follows the characterization of the underlying transaction ... ."

Gifford v. Canada, 2004 DTC 6120, 2004 SCC 15, [2004] 1 S.C.R. 411

In finding that interest paid by the taxpayer (an employed broker of an investment dealer) on a loan taken out by him in order to purchase the customer list of a departing employee was a payment "on account of capital", Major J. noted that in other jurisdictions, the question considered was whether interest payments were of a capital nature whereas in Canada, deduction was prohibited if a payment was "on account of capital" and stated (at p. 6127):

"This distinction means that under our Act it is only necessary to consider what the proceeds of the loan are to the borrower when they are received, and does not require an examination of what those loan proceeds are spent on. If the money adds to the capital then the payment of interest on that loan will be considered to be a payment 'on account of capital'. If the loan proceeds constitute the inventory of the borrower, as is the case with moneylenders, then the payment of interest would be deductible."

The Queen v. MerBan Capital Corp. Ltd., 89 DTC 5404 (FCA)

guarantee fees paid respecting bank loans made to subsidiaries were capital expenditures

The taxpayer, which was engaged in the business of merchant banking, but which treated its share investments as being on capital account, incorporated a single-purpose subsidiary ("MKH") which in turn incorporated another subsidiary ("Holdings"). MKH and Holdings borrowed money from a bank in order to help fund most of the purchase price for the acquisition by Holdings of the shares of a public company, and the taxpayer provided the bank an indemnity (which the Crown alleged was in substance a guarantee) in respect of the payment of interest on the loans.

Iacobucci, C.J. overturned the trial judge's finding that the taxpayer was the primary obligor with respect to the payment of the interest and accordingly found (at p. 5412) that such payments by the taxpayer pursuant to its obligation (irrespective of whether it was characterized as "a guarantee or indemniy or even a hybrid") were non-deductible capital expenditures:

[T]hey were payments to enable subsidiaries MKH and Holdings to make related loans and investments - in this context assets or advantages for an enduring benefit - and so represented costs of financing such subsidiaries which in a number of cases have been held to be capital in nature. (p. 5412)

Bowater Mersey Paper Co. Ltd. v. The Queen, 86 DTC 6293, [1986] 1 CTC 240 (FCTD), rev'd 87 DTC 5382, [1987] 2 CTC 159 (FCA)

Interest is a capital outlay the deduction of which is prohibited by s. 18(1)(b) unless its deduction is expressly permitted by some other provision of the Act.

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 165 - Subsection 165(7) 42

Emerson v. The Queen, 85 DTC 5236, [1985] 1 CTC 324 (FCTD), aff'd 86 DTC 6184, [1986] 1 CTC 422 (FCA)

Interest expenses would not be deductible in the absence of the express statutory allowance in s. 20(1)(c).

The Queen v. Marchand, 78 DTC 6507, [1978] CTC 763 (FCTD), aff'd [1979] CTC xvii (FCA)

The by-laws of a Quebec credit union required the taxpayer to pay to the credit union a non-refundable sum equal to 4 1/2% of the amount paid by him in subscribing for some of its shares. It was held that since he would never have to repeat this payment so long as he remained a shareholder, and he obtained by virtue of making the payment "the benefit of investing his capital and deriving an income from it for a good number of years," the payment was a capital expenditure.

Addy, J. stated "that a taxpayer can now deduct an amount from income only on two conditions: first, that it would be normal practice according to generally accepted accounting principles to deduct this sum from an income account, and secondly, that the prohibitory provisions of section 18(1) do not prevent such a deduction."

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 9 - Accounting Principles 52

Canada Permanent Mortgage Corp. v. MNR, 71 DTC 5409 (FCTD)

Finder's fees paid by the taxpayer to banks, lawyers, investment dealers and financial agents in connection with its periodic issuance of debentures were fully deductible expenese. Heald J. stated (at p. 5411):

...the taxpayer's business is borrowing money from the public and lending it out on the security of real estate morgages. In this business, the appellant's stock in trade is borrowed money. Surely any expense involved in acquring the Company's stock in trade is properly deductible.

Silverman v. MNR, 60 DTC 1212, [1960] CTC 262 (Ex Ct)

A partnership engaged in the business of buying and selling real estate purchased two properties in 1954, mortgaged the properties and in 1955 sold the properties for consideration that included the assumption by the purchasers of the amounts owing under the mortgages including bonus amounts that had been exacted by the mortgagees.

In both cases, the proceeds of disposition of the properties to the partnership included the full amount of the assumed mortgages including the bonuses payable on maturity. However, in the case of the first property (61 Beatrice Street), where the mortgage proceeds had been used by the partnership on its previous purchase of the property in funding that purchase, the amount of the bonus was deductible from the proceeds of the subsequent sale because the proceeds of the borrowing had been used to acquire an inventory asset and not to expand or add anything of a permanent nature to the assets employed as capital in the business, and because the borrowing was a temporary one given that the partnership did not expect to have the property for long. In the case of the second property (23 Cowan Avenue) the taxpayers failed to establish that the mortgage proceeds had been used by the partnership to acquire the property (a trading asset), so that the amount of the bonus on the assumed mortgage was not deductible.

Canada Safeway Ltd. V. Minister of National Revenue, 57 DTC 1239, [1957] CTC 335, [1957] S.C.R. 717

Rand J. stated (p. 1244):

"It is important to remember that in the absence of an express statutory allowance, interest payable on capital indebtedness is not deductible as an income expense. If a company has not the money capital to commence business, why should it be allowed to deduct the interest on borrowed money?"

Stock Exchange Building Corp. Ltd. v. Minister of National Revenue, [1955] S.C.R. 235, 55 DTC 1014, [1955] CTC 5

Interest payable on interest in default on a debenture of the taxpayer was a capital expenditure. The provision for the payment of such compound interest was "part of the consideration promised by the appellant in order to secure its capital."

Bennett and White v. The King, 49 DTC 514, [1949] CTC 1, [1949] S.C.R. 287

Substantial annual fees paid by a construction company to its shareholders or related individuals in consideration for their providing guarantees of bank loans used by the company to finance its construction work were payments on account of capital and, therefore, non-deductible. Estey J. stated (at p. 9 (CTC)) that "this was not a borrowing of money on a temporary or short-term basis such as is necessary and incidental to the ordinary and usual transactions in the course of the appellant's business..."

Montreal Coke and Manufacturing Co. v. MNR, [1944] A.C. 126, [1944] CTC 94 (P.C.)

The taxpayers incurred various expenditures in connection with retiring existing bonds before maturity and issuing replacement bonds at a lower rate of interest and with less onerous conditions as to payment, including the payment of redemption premiums, disbursements on account of exchange, discounts paid to the underwriters on the issuance of the new bonds, and legal and printing expenses. These expenditures were found to be non-deductible by virtue of s. 6(a) of the Income War Tax Act, although Lord Macmillan indicated (at p. 135) that "their Lordships in no way dissent from the view" that their deduction also was prohibited by virtue of s. 6(b). It was found that "the financial re-adjustment of their borrowed capital was an isolated episode, unconnected with the day to day conduct of their businesses" and that "expenditure incurred in relation to the financing of their businesses is not, in their Lordships' opinion, expenditure incurred in the earning of their income within the statutory meaning."

See Also

A.P. Toldo Holding Corporation v. The Queen, 2014 DTC 1042 [at 2787], 2013 TCC 416

no retained earnings or stated capital

The taxpayer was a holding company for various direct and indirect subsidiaries which carried on an operating business. To resolve a shareholder dispute, it purchased for cancellation the shares of a corporate shareholder holding 12.5% of its shares in 10 tranches, each occurring on the same day. The consideration for the first five tranches was paid in cash, and for the last five tranches was paid by the issuance of an interest-bearing $20 million promissory note. The promissory note was repaid, on its maturity one year later, in cash, some of which was borrowed money.

Before going on to find that this interest also did not qualify for deduction under s. 20(1)(c) (see summary), D'Arcy J found that the taxpayer had not established that the interest on the promissory note was "paid in respect of money borrowed in the course of a money-lending business" (para. 58) which, at a minimum, would have required evidence that the taxpayer "lent money on a regular and continuous basis" (whether to its subsidiaries or third parties) (paras. 40-41). Accordingly, the interest was not deductible under s. 9. Instead, the share repurchase "represented a large non-recurring expenditure...on account of capital" (para. 61).

Words and Phrases
money-lending business
Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 20 - Subsection 20(1) - Paragraph 20(1)(c) no retained earnings or stated capital 195

Wescast Industries Inc. v. The Queen, 2010 DTC 1364 [at 4432], 2010 TCC 538

The taxpayer and an unrelated corporation ("Linamar") captialized a joint (50/50) Ontario subsidiary with $105 million which in turn contributed that amount as capital to a wholly owned and newly incorporated Hungarian manufacturing subsidiary. Over the next three years, the taxpayer and Linamar jointly contributed substantial amounts to this indirect Hungarian subsidiary to fund the costs of human resources development, promotion and advertising, and technology development. Bowie J. found (at para. 23) that those contributions were "an integral part of the establishment of the Hungarian facility, and so enduring in their nature," and therefore a capital expenditures.

Bowie J. found (at para. 25) that the case was distinguishable from Valiant Cleaning Technology Inc. v. The Queen, 2008 DTC 5112, 2008 TCC 637, because "the payments here were not made to save the parent company from potential extinction resulting from loss of its reputation as a supplier as a result of imminent default by its subsidiary. It is concerned only with the provision of startup capital to a newly formed subsidiary."

SPG International Ltée v. The Queen, 98 DTC 1093 (TCC)

The taxpayer incorporated a U.S. subsidiary to facilitate the marketing of its goods in the U.S., and sold its goods to the subsidiary for on-sale to U.S. customers. Various expenses paid by the taxpayer including trade convention reservation fees, and travelling expenses incurred by the subsidiary's general manager, which were booked as advances by the taxpayer to the subsidiary, nonetheless were found to be currently deductible by the taxpayer since they were made for the purpose of promoting the sales of its products.

Wharf Properties Ltd. v. Commissioner of Inland Revenue (Hong Kong), [1997] BTC 173 (PC)

Interest paid by a Hong Kong property development company on short term loans that were used to fund the purchase price for property that was to be developed as a commercial complex, represented capital expenditures during the years that the property was held prior to becoming an income-earning capital asset. Accordingly, the prohibition in s. 17(1)(c) of the Inland Revenue Ordinance against the deduction of "any expenditure of a capital nature" was applicable. Lord Hoffman also stated (at p. 177) that "once the asset has been acquired or created and is producing income, the interest is part of the cost of generating that income and therefore a revenue expense".

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 13 - Subsection 13(21) - Undepreciated Capital Cost - A wages part of cost 40

Anderson v. MNR, 92 DTC 1778 (TCC)

Advances which the taxpayer made to a corporation controlled by her spouse's company ("DRAAL") in consideration for a right to 20% of its annual profits (as a bonus) and to a distribution of 1/3 of the shares of an investment management company which was to manage a fund which DRAAL was unsuccessfully attempting to establish, were capital expenditures and, therefore, non-deductible.

MNR v. Peninsular Investments Ltd., 63 DTC 1149 (Ex Ct)

The taxpayer, which was a non-resident-owned investment corporation that invested in shares and bonds, sought to deduct interest paid by it on a significant bank overdraft. That deduction was denied by s. 70(1) of the pre-1972 Act (now, s. 133(1)), which provided that "no deduction shall be made in respect of interest on its bonds, debentures, securities or other indebtedness."

Thurlow J. accepted (at p. 1153) that the indebtedness referred to in the quoted statutory phrase "ordinarily at least is indebtedness arising from the acquistion of capital assets or the raising of capital to be employed in its business rather than indebtedness of the kind incident to and incurred in the day-to-day trasactions of the business." Here, however, the taxpayer had not established that it "was engaged in a business as opposed to merely holding investments" (p. 1152), and even if it had a business, it would not have established that "the financing of its transactions was itself an integral part' of such business (p. 1154). Accordingly, the interest was not deductible.

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 133 - Subsection 133(1) 168

Scottish North American Trust, Ltd. v. Farmer (1911), 5 TC 693 (HL)

In finding that the taxpayer, which borrowed money on a fluctuating overdraft to finance its business of buying and selling foreign securities, was able to deduct its interest expense notwithstanding the prohibition, in Rule 3, for deductions for sums employed as capital, Lord Atkinson stated (at p. 707):

"The interest is, in truth, money paid for the use or hire of an instrument of their trade as much as is the rent paid for their office or the hire paid for a typewriting machine. It is an outgoing by means of which the Company procures the use of the thing by which it makes a profit, and like any similar outgoing should be deducted from the receipts ... ."

In the Court of Session, Lord Salvesen added (at p. 702):

"It would be just as reasonable to hold that a trader was not entitled to take into account, in arriving at his profits, the rent which he pays for the premises in which he carried on his business. Rent is just interest payable for the use of real property ... ."

Gresham Life Insurance Society v. Styles (1892), 3 TC 185 (HL)

The taxpayer, which carried on a life insurance business and sold annuities to the public, was entitled to deduct the amount paid by it under the annuities in computing its profits from its trade.

Administrative Policy

9 December 2013 External T.I. 2013-0507931E5 F - Financing fees

intragroup cash pool utilization fees are capital expenditures
Question

Three related corporations (Aco, Bco and Cco) are obligated to pay interest at 10% to a financial institution (the "bank") on the net consolidated balances (i.e., bank overdrafts minus cash balances) owing from time to time to the bank, with the company whose cash balance effectively is used by the others in this manner charging a financial services fee of 10% to the others. For example, suppose the respective balances of Aco, Bco and Cco with the bank were: Aco - $100,000 overdraft; Bco - $100,000 overdraft; Cco - $100,000 cash balance. The bank would charge $7,500 to each of Aco and Bco (computed as $150,000*10%*100,000/200,000). Aco would charge a financial services fee of $2,500 to each of Aco and Bco. Would the financial services fee be deductible to Aco and Bco?

Response

Before indicating that there "are arguments for claiming" deductibility under s. 20(1)(e.1), CRA stated (TaxInterpretations translation):

Subject to a detailed study of the agreements ... the expenses paid by the corporations to others in the same group, because the cash balance of the recipient served to diminish the interest expenses which would have been charged by a financial institution respecting bank overdrafts of the payers, come within paragraph 18(1)(b) in the same manner as such paragraph would apply respecting interest on the bank overdrafts.

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 20 - Subsection 20(1) - Paragraph 20(1)(e.1) annual internal cash pool utilization fees likely are deductible under s. 20(1)(e.1) 241
Tax Topics - Income Tax Act - Section 20 - Subsection 20(1) - Paragraph 20(1)(e) cash pool utilization fees could be deductible under s. 20(1)(e) 192

19 September 2008 Internal T.I. 2008-0272441I7 - GUILT LOCK DERIVATIVE

derivative that effectively locked in effective interest rate on proposed bond issuance on income account

Under a "gilt lock" hedge, the taxpayer, between the time of deciding to issue eurobonds and the time of actually issuing them, hedged against the change in price of the bonds in order to lock in its effective interest cost. For accounting purposes, it was permitted to amortize the payment made or received under such hedge over the term of the borrowing as an adjustment to the interest rate cost.

After stating that "the hedge follows the underlying transaction which...is to fix an interest rate to a particular bond that will be issued in the near future," the Directorate found that this accounting treatment also was appropriate for tax purposes.

2003 TEI Roundtable Q. 13, 2003-004856 -

Where a corporation to whom borrowed money constitutes stock in trade borrows money at a premium and then on-lends the same funds at a premium to a subsidiary, it would be the initial view of the Agency that the total amount paid to the subsidiary would be part of the cost of acquiring a debt instrument and there would be no separate amount that could be deducted by the payor.

1 March 2001 External T.I. 2001-006871 -

Assuming that borrowed money would not have been the taxpayer's stock-in-trade (as would be the case if it were not a moneylender), borrowings by it would be on account of capital.

Revenue Canada Round Table TEI, 16 May 1994, Q. 14 (C.T.O "Assumption of Debt")

A premium paid by a corporation, representing the excess of the amount paid by it to a third party to assume its debt over the principal amount of the assumed debt, will be on account of capital and will be non-deductible.

13 January 1993 T.I. 922191 (November 1993 Access Letter, p. 500, ¶C76-077)

Where a corporation refunds to an employee the interest paid by him on a mortgage on his principal residence, that outlay will be deductible to the corporation where the usual conditions for deductibility are otherwise satisfied.

93 C.P.T.J. - Q.36

Interest on accounts payable for service costs (e.g., professional accounts) are currently deductible expenses under s. 9. S.20(1)(c) does not apply because the accounts payable do not constitute borrowed money and do not form part of the acquisition cost of property.

92 C.M.TC - Q.4

Interest on accounts payable for service costs that are currently deductible expenses is deductible under s. 9.

10 July 1991 Decision Summary (Tax Window, No. 5, p. 2, ¶1345)

Interest on accounts payable for services (e.g., property taxes, bookkeeping services, janitorial services) are not deductible under s. 20(1)(c)(ii) but, rather, under s. 9.

10 May 1990 T.I. (October 1990 Access Letter, ¶1455)

Whether guarantee fees paid by a financial institution to its parent in respect of global guarantees of off-balance sheet commitments of the taxpayer (letters of credit, securities, acceptances, etc.) are capital expenditures would be a question of fact requiring an examination of the taxpayer's activities and the extent of the guarantee.

23 February 1990 T.I. (July 1990 Access Letter, ¶1317)

Legal expenses incurred by a corporation in financial difficulty in attempting to arrange new financing are not incurred in connection with income earning activities nor do they relate solely to the year in which they are incurred.

14 December 89 T.I. (May 1990 Access Letter, ¶1201)

An amount paid as pre-judgment interest on the principal amount of an award or settlement amount for wrongful dismissal of an employee will be deductible by the former employee provided s. 67 does not apply.

ATR-4 (29 Nov. 85)

X Inc. swaps its variable interest rate for a fixed stream of payments under an agreement with a Schedule I bank. The fixed amounts paid to the bank will be deductible by X Inc. provided that the variable interest is deductible by it under s. 20(1)(c) or (d).

81 C.R. - Q.46

A taxpayer will not be permitted to deduct a portion of a whole-life insurance premium even where the taxpayer can not obtain term insurance.

A premium paid on an insurance policy where the employee is a beneficiary (and where the amount of the premium is included in the employee's income) will be deductible.

80 C.R. - Q.35

The Coté-Reco case does not constitute a precedent because Equitable Acceptance was decided by a more senior court.

IT-104R "Deductibility of Fines or Penalties"

A penalty paid on prepayment of a mortgage is deductible if incurred in the course of carrying on a business (e.g., that of a trader in mortgages).

Articles

Ewens, "Proposed Amendments Affecting Debt and Equity Reorganizations", 1993 Canadian Petroleum Tax Journal, Vol. 6, No. 1, p. 49

In appropriate circumstances debt rescheduling or restructuring expenses should be characterized as current expenses rather than capital outlays.