Paragraph 20(1)(c)

The taxpayer financed its inventory of used automobiles held for resale through unsecured loans from its shareholders, who were the three respective holding companies for the three Gervais brothers. The three loans total $6 million ($2 million each) and their interest of 10% p.a. had been set when they were first advanced and had remained unchanged since then. A secured credit line was available from the taxpayer’s bank (Desjardins) at a rate of 3.375%

When the ARQ reviewed the deductibility of the claimed interest deductions for the taxpayer’s 2013 to 2015 taxation years, the taxpayer provided a very brief letter from Desjardins stating that for an unsecured “cash flow” loan the interest rate in 2015 would fall in the range of 9% to 12%, and then a more detailed letter from its accountants (Deloitte) that, based on Moody’s metrics, concluded that an interest rate for such loans should fall in the range of 7.89% to 12.39%. The ARQ reassessed to deny the claimed interest in excess of 7.89%.

After referring to the Quebec equivalent of s. 67, and in finding that the taxpayer had not met its burden of establishing that such assessments were incorrect, Allen JCQ stated (at paras. 61-64, TaxInterpretations translation):

Although the Court does not doubt the credibility of Mr. Giguère [of Desjardins], it nonetheless remains that he did not present in any precise manner what were the specific elements to which he made reference in placing the range between 9% and 12%.

The report of the Deloittte expert relied on an analysis using the Moody’s method which was much more detailed and convincing. That report explained the use of the Moody’s method , and the methodology and analysis by which Deloitte concluded that a financing rate would fall between 7.89% and 12.39%.

How can the plaintiff challenge the presumption of correctness of the notices of assessment where the 7.89% rate, considered to be reasonable and adopted by the defendant, falls within the range that its own expert considered to be a reasonable rate based on the current rates in the market for obligations with similar considerations and risks during the period in litigation?

Doubtless, the rate of 7.89% corresponds to the lowest rate in the range, but it nonetheless is within that range and cannot be considered to be prima facie unreasonable.

As part of a complex set of transactions, a predecessor of the taxpayer agreed to assume a $225M loan that was due in perhaps 43-years’ time and that was non-interest-bearing (except in the remote event of oil production from the Beaufort Sea) in consideration inter alia for the payment to it of $17.5 million by the debtor. The predecessor treated the $207.5M difference between these two amounts as an amount which, although conceded not to be interest in form, was interest in substance and therefore could be treated as being recharacterized as interest under s. 16(1): the economic substance of the situation was that it received $17.5 million as the present value of $225 million.

Nadon JA confirmed the rejection by Hogan J of this argument given that it was clear that the $207.5M difference could not be reasonably regarded as interest to the creditor, stating (para. 90):

[I]nterest is an amount paid by one person to another as the cost of using the other person’s money. Hence, symmetry is the essence of interest and consequently there cannot be interest if no amount is paid or payable by one person to another. Thus it is because interest is, by its nature, symmetrical that the Judge was correct in interpreting subsection 16(1) in the way that he did. In other words, an amount is not interest if it does not have the character of interest to both the recipient and the payor.

The typical loan agreement for a loan (a “Loan”) by ClearFlow to Solar Power Network (“SPN”) provided for a base interest rate of 12% p.a. compounded and calculated monthly, an administration fee that was charged when the Loan was initially advanced, and if it was not paid off, again each time it renewed (either 1.81% or 3.55% of the balance, depending on the terms of the specific Loan Documents), and a “discount fee” of 0.003% of the outstanding principal of the Loan which was calculated on a daily basis for every day that the Loan was outstanding. The application judge had found that the discount fee (albeit, not the administration fee) constituted interest. As such “interest” was not expressed as a numerical annual rate, s. 4 of the Interest Act was not complied with, so that all interest under the Loan was capped at 5% p.a.

After confirming the finding below that the administration fee was not interest, Sharpe J.A. also went on to confirm that the discount fee was interest, stating (at paras. 42-43):

[McEwen J] found that the discount fee was not linked to the creation or renewal of a loan, the amount of the fee did not vary according to the administrative work required by the loan as in the case of the administrative fee, and the fee was charged at a daily fixed rate unrelated to any ongoing or specific events… and concluded that “[t]he layering of an additional charge, accruing day-to-day without any demonstrable link to the actual management of the Loan, cannot reasonably be described as a fee”.

It was open to [him] to conclude that the discount fee bore all the hallmarks of the test for interest: it was consideration or compensation for the use of money, it related to the principal amount, and it accrued over time.

However, Sharpe J.A. went on to find that the disclosure of the “rate” of such interest through the provision of a simple formula complied with s. 4, and also found (at para. 83) that s. 4 merely “imposes a 5% annual cap on non-annualized interest but does not affect an interest rate that is already less than 5% when annualized.”

The typical loan agreement for a loan (a “Loan”) by the respondent (“ClearFlow”) to the applicant (“SPN”) provided for a base interest rate of 12% p.a. compounded and calculated monthly, an administration fee (the “Administration Fee”) that was charged when the Loan was initially advanced, and if it was not paid off, again each time it renewed (either 1.81% or 3.55% of the balance, depending on the terms of the specific Loan Documents), and a “discount fee” of 0.003% of the outstanding principal of the Loan which was calculated on a daily basis for every day that the Loan was outstanding (the “Discount Fee”). After having defaulted, SPN submitted that the Administrative Fee and the Discount Fee were in fact interest charges and, since these fees were not annualized, they violated s. 4 of the Interest Act.

In finding that the Administration Fee was not interest, McEwen J stated (at paras 35 36 and 39):

…[T]he higher rates [higher Administration Fee charged for Promissory Notes (3.55%) as opposed to under the Loan Agreement (1.81%)] were directly linked to the greater amount of administrative work that was required for the riskier Loans.

… [T]he Administration Fee was charged on a one-time only basis and would only be charged if a Loan was not repaid within the specific time frame. It therefore did not necessarily accrue over time, since there would be no accrual if the Loan was repaid in the designated time frame.

… I find that the Administration Fee was compensation for the considerable costs incurred to negotiate, conduct due diligence, set-up, and administer the Loans, and was not simply compensation for ClearFlow not having the use of the money.

However, after stating (at para. 22) that he accepted the conclusion in Sherway Centre that “an amount paid as compensation for the use of money for a stipulated period can be said to accrue day-to-day,” McEwen J found that the Discount Fee constituted interest, stating (at para. 45):

… [I]t is my view … the Discount Fee meets the three … elements of interest: it is consideration or compensation for the use or retention of money owed to ClearFlow; it related to the principal amount; and, it accrued over time (literally day-to-day). ClearFlow viewed the Discount Fee as providing an incentive for SPN to pay down the Loans as quickly as possible. Unlike the Administration Fee, the Discount Fee meets all of the criteria of interest without any reasonable commercial explanation to the contrary.

On this basis, the Loan Documents did not comply with s. 4 (so that all interest was capped at 5% p.a.). First, the Discount Fee was not expressed as an annual interest rate. A clause that effectively provided a verbal formula indicating that the stipulated rate was to be multiplied by 365 (or 366, as applicable) did not suffice. In this regard, he stated (at para. 53):

Formulas can be confusing and even misleading. … The requirement of an express statement does away with this type of dispute and uncertainty, particularly where in this case there are multiple loans, which may roll-over.

Second, the formula was defective in that it excluded the effect of compounding.

A family corporation (“Ontario”) used proceeds of a daylight loan to redeem shares of Holdco, which used those proceeds to purchase a life insurance policy (or, to be more precise, to purchase an annuity to fund the premiums on the acquired policy) from an accommodating offshore insurance company, with those funds making their way back, through a series of equally accommodating intermediaries, to the sole individual shareholder of Holdco (“Paul Sr.”) as a loan. This “Metropac” loan was guaranteed by Holdco, with the guarantee secured by Holdco’s life insurance policy. The loan terms limited the lender’s recourse thereunder (including to accrued but unpaid interest) to realization of such security.

C. Miller J found that the 8% interest on the Metropac loan (which he appeared to consider to be in excess of a reasonable rate of 5.5%) was deductible in full, but that there was an offsetting shareholder benefit to the extent this interest was capitalized, so that Paul Sr. only received a net interest deduction for the portion of the interest (equivalent to about a 1.33% rate) paid by him in cash. He stated (at paras. 129, 137):

What would happen on a yearly basis then is that Paul Sr. would deduct the interest payable on the Metropac loan, but coincidently would have to bring in as a taxable benefit the interest portion ultimately absorbed by [Holdco]. So, apart from his $80,000 cash payment, the inclusion and deduction would offset one another. It is therefore immaterial whether the rate is 5.5% or 8%. I conclude Paul Sr. is entitled to his $80,000 interest deduction, prorated for the 2008 taxation year. …

Given my finding of an offset, the rate is immaterial, however, if such a determination was necessary, I determine the interest rate should be 5.5%, being the rate suggested by the expert.

Enmax Energy Corporation (“EEC”) was a wholly owned subsidiary of Enmax Corporation (“EC”), which in turn was wholly-owned by the City of Calgary. EEC distributed electricity to residential and commercial customers in the Calgary area. The Payment in Lieu of Tax Regulations made under Alberta’s Electric Utilities Act provided for payments by various government-owned entities to the provincial government equal to the amount that would have been payable by them as federal and provincial income tax if they had not been exempt. EEC had borrowed $497 million from EC pursuant to an unsecured subordinated note bearing interest at 11.5% (the “2004 note”), which resulted in EEC’s capitalization being 91% debt to 9% equity. EEC was reassessed by the Alberta Minister of Finance on the basis that interest on the 2004 note in excess of 5.42% was unreasonable. Also at issue were similar loans (bearing interest at 10.3% and 9.9%) made by EEC to a wholly-owned subsidiary of EEC in 2006 and 2007, which were treated by Poelman J similarly to the 2004 note.

Poelman J found (at para. 240) that the imputed credit rating of EEC (otherwise no higher than BB-) should not:

allow consideration of implicit support to influence opinions about reasonable interest rates… . The intercompany notes allow for no parental support, because the lender and the implicit supporter are the same.

He also accepted submissions that various qualitative “fundamental factors” and savings in transactions costs should increase the benchmark arm’s length interest rate by 50 and 44 basis points, respectively, so that an arm’s length interest rate for the 2004 note might fall in the range of 7.97% to 8.77%.

After having stated (at para. 264) a Gabco-derived test as to “whether no business would have contracted to pay that amount, having only its business considerations in mind and under the form of transaction pursuant to which the obligation was incurred,” Poelman J concluded (at para. 266) that the interest on the 2004 note (as well as the 2006 and 2007 notes) was fully deductible as having a reasonable amount notwithstanding that the rate exceeded “what the evidence shows would probably have been paid under a similar arm’s length transaction.” In this regard, he stated (at paras. 267-8):

There are many benefits to a borrower in having access to all its capital requirements from its parent, some of which are intangible and difficult to quantify.

…[I]ntercompany debt is not rated… . Further… the intercompany notes were burdened with a number of conditions, such as the level of debt and stripping of cash flow to the parent, which would have made them very difficult to sell on the market without significant changes. These observations reinforce the weakness of putting too much emphasis on artificially constructed arm’s length comparators in this case. Furthermore, none of the Crown’s experts expressed the opinion that bonds comparable to the intercompany notes, without parental support, could have been sold in the market at interest rates less than those set out in the notes.

Nortel proceedings under the Companies’ Creditors Arrangement Act (Canada) and Chapter 11 of the U.S. Bankruptcy Code had been on-going since January 2009. In addition to filing claims for principal and pre-filing interest of US$4.092 billion against each of the Canadian and U.S. Nortel estates, the appellant bondholders also claimed post-filing interest of US$1.6 billion. In rejecting the appellants’ submission (at para. 32) that “the CCAA filing does not affect the right to accrue interest; it only stays the collection of that interest,” so that the common law “interest stops” rule applied to deny their claim for the post-filing interest, Rouleau JA stated (at paras. 34, 37, 41):

[T]he same principles that underpin the conclusion that the interest stops rule is necessary in bankruptcy and winding-up proceedings – namely, the fair treatment of creditors and the orderly administration of an insolvent debtor’s estate - apply with equal force to CCAA proceedings. …

[I]f the interest stops rule were not to apply in CCAA proceedings, the creditors who do not have a contractual right to post-filing interest would…have “skewed incentives against reorganizing under the CCAA”… .

…[Conversely] creditors with an entitlement to post-filing interest may be less motivated to compromise… .

The ultimate parent of the taxpayer's group ("Wendy's International") made a US$147,654,000 loan to a US subsidiary ("Delcan") at 7% interest, which then lent the money at 7.125% interest to the taxpayer. The taxpayer used the funds to subscribe for common shares of its wholly owned subsidiary ("Tim's U.S."), and Tim's U.S., in turn, lent the money interest-free back to the parent. It was intended that this be replaced by an interest-bearing note but, due to delays, this did not occur until eight months later.

Pizzitelli J upheld the Minister's disallowance of the taxpayer's interest deductions under s. 20(1)(c) during the eight-month period.

Respecting the direct use of the borrowed funds, he concluded (at para. 32) that the taxpayer did not have "any reasonable expectation of earning non-exempt income of any kind, directly or indirectly, at the time of its purchase of additional shares in Tim's U.S.," in light of its loss history, the need for cash flow to be reinvested in business expansion, and a 10-year projection showing no dividends. He also suggested (at para. 27, see also para. 31: "or even increased capital gains") that the generation of capital gains also could satisfy the income-earning purpose test in s. 20(1)(c), but that purpose also was not demonstrated.

He further concluded (also at para.32) that "the evidence clearly and unambiguously only points to the sole purpose of the borrowed funds as being to facilitate an interest free loan to Wendy's while creating an interest deduction for the Appellant."

Respecting the relevance of having regard to this intended use by Tim's U.S. of the share subscription proceeds, he stated (at paras. 26, 29):

While Singleton made it clear that there was no room to consider a series of transactions in determining the "use" of the funds ... , the determination of the "purpose" for buying the shares does not preclude looking at the indirect use of the funds or any other relevant factor. All circumstances must be considered. ...

[I]t is clear that for the "purpose" test in paragraph 20(1)(c), the use of funds by the borrower subsidiaries can be considered as part of all the circumstances.

On December 31, 1993, the taxpayer and other parties to a joint venture acquired rights to exploit seismic data in consideration for $975,000 cash and a $5,525,000 promissory note (payable only out of 50% of net licensing revenues and 20% of any production cash flow generated out of any petroleum rights acquired by the joint venture) - which the Minister conceded was not a contingent liability.

All of the interest on his share of the note incurred by the taxpayer in his 1994 and 1995 taxation years was paid out of licensing revenues, and Favreau J found that the taxpayer was entitled to capitalize those expenses as Canadian exploration expenses. In 1998 and 1998, while licensing revenues of $53,800 were generated, interest of $242,600 and $262,500 was incurred. Total licensing revenues generated in 1997 to 2006 were close to $1 million. After reciting these facts, Favreau J stated (para. 71):

This shows that the Joint Venture, despite the fact that it had ceased its exploration activities in 1996, continued to earn licensing revenues from the Seismic Data until 2006. This justifies the deduction of the interest payable on the appellant's Promissory Note in the 1998 and 1999 taxation years.

Lamarre J dismissed the taxpayer's arguments that he should be able to deduct interest on tax arrears as a business expense. Such deductions were prohibited by s. 18(1)(t).

In any event, the interest payments would not have been deductible under s. 20(1)(c). There was no borrower-lender relationship with the Crown as CRA did not agree to lend money to the taxpayer and the taxpayer instead owed tax under the Act, and there was no contractual agreement between the two parties (paras. 13-14).

The taxpayers bought units in limited partnerships, each of which was to acquire a large yacht to be used for catered vacation charters. The purported business plan for the 36 partnerships represented a "Ponzi-like scheme [which] was set to collapse eventually" (para. 344, see also 356). The unit purchases were mostly financed by the taxpayers issuing interest-bearing promissory notes, to the partnerships which were falsely represented as being intended to act as security for loans arranged by the general partner to the partnership to finance its intended business.

Rossiter ACJ found (at para. 410):

No such loans existed, and the Limited Partnerships were never capitalized. The Appellants entered into the promissory notes based on fraudulent misrepresentations, and any contractual obligation to pay interest amounts is vitiated by fraud.

Although interest on the notes thus did not satisfy the test that "there must be a legal obligation to pay interest on the amount paid or payable," the other three tests for interest-deductibility were satisfied, including the income –producing purpose test, as to which he stated (at para. 409):

[D]espite the fact that the Appellants were defrauded of their interest payments, they had a reasonable expectation of income at the time of their investment... . The Appellants' expectation of income was only in the long-term and was an ancillary purpose of an otherwise tax-motivated investment, but it nonetheless qualifies... . [emphasis in original]

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.

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). Accordingly, the interest was not deductible under s. 9.

Nor could the taxpayer deduct the interest under s. 20(1)(c)(ii). This was not "an exceptional fact situation" such as in Penn Ventilator, which justified a finding of a qualifying indirect use of the shares purchased for cancellation (para. 71). Instead, the taxpayer's stated capital and retained earnings were nominal, and there was no evidence that the settled dispute had threatened its sources of income.

The taxpayers owed approximately $2.7 million on mortgage loans including substantial amounts of interest that previously had been agreed to be deferred and added to the amount of the mortgage. The mortgage loan was restructured so that the taxpayers became obligated to make annual minimum interest payments of $20,000 for each of the first 15 years following the restructuring and had the right at any time within the 15-year period to discharge all amounts on the loan by the payment of the sum of $100,000 plus all of the unpaid interest payments of $20,000 per annum. The restructuring of the loan was stated to be in the form of a refinancing of a portion of the previous mortgage debt on the terms indicated above, with a statement that these amendments did not have the effect of discharging or novating the previous mortgage obligation. For the taxation years in question following the restructuring, the taxpayers sought to deduct unpaid interest amounts that continued to be added to the original amount of the mortgage loan, namely, $154,373, $160,254 and $168,782. In finding that these amounts were not deductible by the taxpayers in computing their income, so that the taxpayers were only entitled to deduct the $20,00 annual interest payments actually made by them, V.A. Miller, J. found that these deferred interest amounts were not "payable". She stated (at para. 29):

"I interpret the word 'payable' in paragraph 20(1)(c) to mean that the interest must be 'required to be paid' or 'due' as opposed to owing. Interest is 'payable' when there is an obligation to pay in the present as opposed to an obligation to pay in the future'."

She also indicated (at para. 38) that the amount of such interest that the taxpayer sought to deduct was not "reasonable", stating, (at para. 38):

"How could the amount of 'interest' be 'a reasonable amount in respect thereof' when it was not an amount that was paid nor was it an amount that had to be paid in the years under appeal?"

The taxpayer was unable to deduct interest on an alleged deferred obligation to subscribe for further shares in a company in which it had made an initial subscription for shares given that the only evidence of any legal obligation was a blank subscription agreement and given that (in light of the principle that interest is deductible only when it is payable, the alleged obligation to pay interest on the obligation did not arise until December 31 of a subsequent taxation year.

Interest on money borrowed by the taxpayers to invest in a real estate partnership was found, in reliance on the decision in Moufarrège v. Quebec (Dep. Min. of Rev.), 2005 SCC 53, [2005] 2 S.C.R. 598, to not be deductible in taxation years following the sale through power of sale by the mortgagee of the real estate, on the basis that the source of income thereby had disappeared.

The taxpayer's wife ("Jordanna") borrowed $562,500 from the Bank of Montreal to fund the purchase of shares of a family company from the taxpayer for $562,500. A day later, the taxpayer and Jordanna borrowed, on a joint and several basis, $562,000 from the Bank secured by a mortgage on a new personal residence that they had just purchased, with the proceeds of that loan being used to pay off the loan the Bank had made to Jordanna. The taxpayer used the share sale proceeds to pay the vendor of the residence. The taxpayer filed his return on the basis that the inter-spousal rollover applied to the share sale and that s. 74.1(1) attributed to him the loss sustained by Jordanna resulting from the deduction of the interest expense on the mortgage loan from the dividend income she received on her purchased shares.

Before going on to find that the GAAR applied to deny the deduction of the interest on the home loan, Bowman C.J. noted that if he had not reached this finding it would not have been necessary, in order to find the interest deductible, that Jordanna had paid the interest notwithstanding that the money to pay the interest came out of a joint account between her and the taxpayer, and also that Jordanna's purpose was to earn income from the shares when at the same time the purpose of the arrangement was that the income on the shares would be deemed to be the taxpayer's for tax purposes.

The taxpayer, which consistently had filed for income tax purposes using the cash basis for computing its deductible interest, was permitted to follow this method for purposes of the Act. The Terra Mining Exploration case (84 DTC 6185) did not give effect to the express language of the Act permitting the taxpayer to follow the cash basis and was not consistent with subsequent decisions finding that there is no unexpressed legislative intention for conformity with generally accepted accounting principles.

Interest on loans incurred to purchase real property and shares of a company was not deductible under s. 160(a) of the Taxation Act (Quebec) (which provided that interest paid on a loan used to earn income from a business or property was deductible) given that in the taxation year in question the real property had been sold, and the company was bankrupt. Accordingly, the sources of income had disappeared.

The taxpayer paid a fee to a financial advisor, calculated as 0.7% of the market value of its equity and of the amount of its long-term debt net of working capital, in consideration for advice provided in connection with considering alternatives to maximize shareholders' value, with an emphasis on merger possibilities. The transaction ultimately implemented entailed the taxpayer's shareholders selling their shares, pursuant to a plan of arrangement, to another publicly-traded oil and gas company in consideration for treasury shares of that purchaser.

After finding that the fee was deductible in computing the taxpayer's income, Bowman A.C.J. went on to indicate that he found "attractive" the argument that the word "sale" in s. 20(1)(e)(i) did not refer to a sale by the taxpayer company itself (as such an event was covered by the word "issuance") and that "therefore 'sale' must imply something else and the only thing it can refer to is a sale by the shareholders in the course of a corporate transaction of the type involved here where the interests of the corporation are affected".

Under a non-recourse loan owing by the taxpayer and other tenants of an office building to the non-resident landlord, 90% of the cash flow was applied first to the payment of interest and then designated and paid as rent. If the interest expense (which had been reduced to a 10% rate in the taxation years in question) exceeded the cash flow, the taxpayer could request in writing that the landlord advance the excess to him as an addition to principal, with such excess interest also being added to the principal if no such request was made. By the taxation years in question, the principal had accumulated to well over twice the value of the property.

Miller T.C.J. found that under the terms of the mortgage, the mortgagee could sue for excess interest (i.e., the difference between cash flow and the stipulated interest for the year), and the existence of the taxpayer's liability to pay the excess interest was not contingent on any future event. Accordingly, the excess interest was not contingent.

Furthermore, the payment of accumulated interest in December 1995 with such payment being advanced to the taxpayer as required under the mortgage did not result in any portion of the 1996 and 1997 excess interest being compound interest.

A profitable Canadian corporation ("Novopharm") acquired losses approximating $20 million of an arm's-length corporation ("Lossco") through a complicated series of transactions, which in simplified form were as follows:

1. two special-purpose subsidiaries of Lossco formed a limited partnership ("Millbank") which borrowed $195 million from First Marathon Capital Corporation ("FMCC") and lent $195 million to First Marathon Inc. ("FMI") with FMI then immediately paying $20 million to Millbank as a prepayment of one year's interest and Millbank utilizing $20 million to pay down the principal of loan owing by it to FMCC to $175 million;
2. Lossco acquired a 99.99% limited partnership in Millbank shortly thereafter (and immediately prior to the first fiscal year end of Millbank) thereby resulting in $20 million of income of Millbank being allocated to it, which eliminated its losses;
3. the 99.99% partnership interest was transferred for nominal consideration by Lossco to an indirect special purpose subsidiary of Lossco ("540") and 540 then was sold to Novopharm;
4. FMCC lent $175 million to Novopharm which used those proceeds to subscribe for shares of 540; 540 made a capital contribution of the same amount to Millbank, which paid off the $175 million loan owing by it to FMCC;
5. a year later after $20 million of interest had accrued on the loan owing by Novopharm to FMCC, FMI repaid the $195 million principal amount owing by it to Millbank, Millbank distributed this sum to its partners (substantially 540), 540 purchased for cancellation most of the shares of Novopharm and 540 for $195 million (giving rise to a deemed dividend of $20 million), and Novopharm used the $195 million to discharge the amount owing by it to FMCC (including the $20 million of interest).

Bowie T.C.J. found that what distinguished this case and the Mark Resources and Canwest cases from Shell, Ludco and Singleton was that in each of the former cases "an elaborate series of transactions was carried out for no other reason than to create an interest deduction in the profitable corporation, while ensuring that the corresponding yield from the borrowed funds became income of the loss company, which then passed into the hands of the profitable company as an intercorporate dividend, free of taxation".

Notwithstanding that Novopharm received a deemed dividend (see 5 above) on its investment of the borrowed funds in 540, it did not borrow those funds (see 4 above) for an income-producing purpose, and the $20 million of interest was not deductible by it.

In order to effect a settlement of litigation brought by some of its shareholders, the taxpayer purchased for cancellation a portion of its common shares for cash and for an interest-bearing promissory note. The principal amount of the note did not exceed the aggregate of the paid-up capital and retained earnings of the taxpayer.

In finding that interest on the note was deductible, Lamarre Proulx T.C.J. indicated that although the promissory note did not represent borrowed money as required by s. 20(1)(c)(i), the test under s. 20(1)(c)(ii) was satisfied on the basis that the shares had been acquired for the purpose of gaining or producing income from the business of the taxpayer given that the promissory note replaced the paid-up capital and retained earnings that were used in the business.

Two financial institutions purchased commercial paper in the form of discount notes which had a maturity date subsequent to the date of a winding-up date with respect to the issuer ("Confederation Life"). The note discounts were found to be interest, so that the purchasers could only claim the portion that had accrued up to the date of the winding-up order. Blair J stated (at para. 32):

Accordingly, their claims are for monies loaned to Confederation Life, plus an amount in excess of the monies advanced to reflect a consideration for the use of the monies advanced to the due date. Such a return, or consideration, is normally called "interest".

Bowman A.C.J. affirmed a reassessment of the Minister which denied 15% of the interest on a loan used to renovate a tourist guest home based on the fact that 15% of the area of the home was used as personal living quarters of the family operating the home.

A number of properties of the taxpayer were sold by the mortgagees under power of sale for less than the amounts owing. The mortgagees required the taxpayer to place new mortgages on his remaining rental property for the balance owing by him to them. The interest on these new loans was non-deductible because its source of income had been lost when the properties were sold.

The taxpayer was permitted to follow the cash method in computing his interest deductions because this method had always been followed by him.

The taxpayer argued that by borrowing to purchase her home, she was able to retain a rental property. In rejecting this argument and finding that the interest on that borrowing was non-deductible, Bowman TCJ. noted that a similar argument had been rejected in Bronfman and indicated (at p. 1450) that even if the Singleton decision "supported the appellant's position I would be obliged to follow Bronfman with which Singleton is impossible to reconcile".

Bowman TCJ. indicated (at p. 849) that the fact that interest payments were made on money borrowed through non-recourse loans that were secured by an assignment of shares owned by the taxpayer was stated to be irrelevant.

The taxpayer borrowed approximately $1.9 million from a Canadian bank and used the proceeds to subscribe for preferred shares of a company ("Meager") that used the funds to acquire the shares of the two controlling shareholders of the taxpayer. Sarchuk TCJ. found (at p. 843) that:

"There could be no realistic expectation of dividend income from the preferred shares because Meager had no income source of substance independent of the existence of C.R.B.'s business ... . In essence, CRB financed its own acquisition."

Accordingly, the interest on the bank loan was non-deductible.

Sarchuk TCJ. also noted that any income source to which the loan might have related disappeared when the preferred shares were redeemed.

After a bank crystallized two floating debentures for debts owing by a land development company and its parent, the taxpayer used borrowed money to make a payment of $2.1 million pursuant to its obligation under a guarantee and received, in return, the two debentures. In finding that the interest on the borrowed money was deductible, Teskey TCJ. stated (at p. 259) that the taxpayer "believed the value of the properties was there and based on that, made business decisions that ought not to be second guessed".

The taxpayer gifted a portion of his common shares of a family small business corporation to a trust for his children utilizing the rollover provisions of former s. 73(5) and then, approximately one month later, repurchased the shares in consideration for an interest-bearing promissory note. The trustee then issued a direction to him "to reinvest the interest payments due to the undersigned with respect to the Promissory Notes as you shall deem fit in the names of each of the children". the taxpayer was able to demonstrate that various expenditures he made on his children exceeded the amount of the interest on the notes.

In finding that no interest had been paid on the notes, Mogan TCJ. stated (at p. 155):

"In the absence of any evidence of accounting by Douglas to the trustee whereby the trustee could be satisfied that the annual interest payments had, in fact, been made and reinvested (whatever that word means) for the benefit of the children, I am not prepared to conclude that Douglas paid any interest ... ."

In any event, given that the dividends received on the shares that he repurchased were only a small fraction of the interest payable on the notes, the taxpayer was found to have repurchased the shares for the purpose of an estate plan rather than for an income-producing purpose.

The taxpayer borrowed money in order to acquire shares of a private mortgage investment corporation which, some years later, redeemed the shares, with the taxpayer using the proceeds to acquire mortgages from the corporation. Sobier TCJ. found that interest on the borrowed money continued to be deductible notwithstanding that the interest received on the mortgages was less that the interest on the borrowed money, given that the time of the redemption, the taxpayer had every right to believe that there would be sufficient income to more than cover the interest.

Although he would have decided the appeal on a different basis if not bound by authority, Bonner TCJ. applied the finding in the Shell Canada case to a similar set of facts in concluding that the true interest payable by the taxpayer should be an amount that represented an amortization of the gain to be realized under the forward currency purchase, and on the basis that the reasonableness limitation in s. 20(1)(c) was to be measured by reference to a reasonable rate of interest for the borrower to pay and not the rate which was reasonable for a lender to charge.

After finding that it was not proper of the Tax Court Judge to apply s. 67 to disallow a portion of the interest expense incurred by the taxpayer on the ground that the taxpayer had acquired a rental property with 100% debt financing, Robertson J.A. stated (at p. 5510):

"Certainly, the fact that a property was acquired with full financing is not a bar to deducting a rental loss, nor a ground for reducing the amount of interest that is deductible."

Before going on to find that interest accrued by the taxpayer was an expenditure for purposes of ss.194 and 37, Bonner TCJ. stated (at p. 1261):

"Firstly a transaction may be a loan even though lender and borrower do not deal with each other at arm's length. Secondly neither the presence of a high risk of default nor an actual default will convert a transaction which begins as a loan into something else or free the borrower from the obligation to pay interest under the loan agreement. Thirdly the recognition by a lender in its books of account that a receivable has become worthless does not free the debtor from its obligations under the loan agreement."

During a three-day period in 1985 the taxpayer, who was a partner in a law firm, withdrew $100,000 from his capital account, purchased a private residence for $113,500 in cash, mortgaged the residence for $100,000, and used the mortgage proceeds to restore his capital account. On January 31, 1988, he used $25,000 that he had obtained on further mortgaging his residence to make a contribution of capital to his firm while, at the same time, withdrawing $25,000 from the firm in order to make renovations to the residence.

In finding that the interest on both loans was not deductible, Dussault TCJ. stated (at p. 1292) that "investment in the law firm already existed and the purpose of the loans was only to reimburse money withdrawn and used for personal purposes a few days earlier in 1985 and on the same day in 1988".

The taxpayer financed the purchase of "distressed" properties from the Royal Bank through non-recourse loans received from the Royal Bank which provided that to the extent that net operating revenue from each property was insufficient to cover the interest payable in that year, it was entitled to defer payment of the interest until the earlier of the maturity of the loan or the sale of the property. The interest whose payment, in fact, was deferred under these arrangements was not deducted by the taxpayer in its financial statements.

In affirming the denial by Revenue Canada of the deduction of the deferred interest, Margeson TCJ. found that there was uncertainty as to whether payment of the deferred interest ever would occur and that the deferred interest liability was contingent rather than a binding future liability.

The taxpayer borrowed money in order to pay a dividend to a recent corporate purchaser of its shares which, in turn, used those monies to pay the purchase price for the shares to the individual vendors. Bowman TCJ. found that the Minister, by disallowing interest deductions by the taxpayer only to the extent that the borrowed money exceed the retained earnings of the taxpayer, had "adopted an approach that was very fair to the taxpayer".

The taxpayer accessed the non-capital losses of a group of arm's length corporations in financial difficulty ("FCPL") by engaging in a series of complicated transactions that resulted in the taxpayer incurring additional interest expense of $4.4 million and receiving an equal amount of preferred share dividends. McArthur TCJ. found that the purpose of the series of transactions (including the borrowing giving rise to the desired interest deduction) was reducing the taxpayer's taxes through accessing the losses of FCPL, rather than producing income. Accordingly, the interest was non-deductible.

Part of the consideration given by the taxpayer for the purchase by it of a partnership interest was the assumption by it of a portion of the obligations of the vendor under a debenture of the partnership containing a specific covenant to pay interest on the principal amount thereof and on accumulated unpaid interest but containing a stipulation that payments of accumulated interest, current interest and principal were payable only out of 50% of the net cash flow of the partnership. In finding that the taxpayer was not entitled to any interest deduction on the debenture for the subsequent three taxation years (in which the partnership did not have any net cash flow, as defined), Rip J. noted that the word "payable" means "a sum of money that is to be paid or is falling due" or "a sum of money when someone is obliged to pay it" (p. 1218) and that here, because the obligation to pay interest was contingent on a condition being satisfied (the earning of net cash flow), it could not be said that there was a liability in those taxation years for payment of an ascertained amount of interest.

The pleadings of the taxpayer, which referred to the retroactivity of the December 21, 1991 draft legislation on interest to 1972 and "submitted that this extraordinary retroactivity is due to the fact that the Draft Legislation does not change, but merely clarifies existing law", were struck out because the "Draft Legislation represented the tentative views of the Government of Canada in December 1991 and nothing more".

The taxpayer was found to have advanced money to an associated corporation as an interest-free loan rather than as proceeds for the redemption of preference shares held by that corporation given that the advance was recorded in this manner in its financial statement and given the relative absence of corroborative evidence (such as contemporaneous corporate resolutions) supporting characterization of the advance as redemption proceeds. Accordingly, interest on money borrowed in order to make the advance was not deductible.

In 1987, the taxpayer borrowed a substantial sum from a supplier of a Canadian company ("Seven-Up") to acquire 100 common shares of Seven-Up under a secured loan. The taxpayer did not pay interest on the loan until an action in respect of his failure to do so was settled in 1992 when the shares were redeemed.

In finding that the taxpayer was entitled to deduct interest on an accrual basis, Sobier TCJ. noted that the taxpayer was entitled to treat different sources (i.e., his employment, his bank daily interest savings account and his leveraged investment in Seven-Up) differently in this regard.

The plaintiff held a mortgage which, in addition to providing for blended payments of principal and interest, also provided for the payment after each year (for which there was revenue in excess of $950,000) of an additional amount equal to 25% of the mortgagor's adjusted annual cash flow (defined as 56% of its gross revenue for the year minus its annual blended payments under the mortgage for the year). The mortgagor refused to pay the additional amounts on the grounds that they were interest and the provisions of the Interest Act had not been complied with.

In finding that the additional amounts were not interest, Scott J noted that they were only payable in a lump sum 60 days after the year if the revenue threshold for the year was exceeded (so that they did not accrue from day to day) and the fact that the blended payments of principal and interest entered into their calculation was not sufficient to establish that they bore a relation to the capital advanced. Furthermoe, a mortgage (such as the one here) need not specify expressly that additional payments thereunder are in addition to interest and principal in order for the payments not to constitute interest.

In finding that interest costs incurred by the taxpayer to finance the payroll cost of its R & D personnel were described in s. 20(1)(c), Kempo, TCJ. stated (p. 1478):

"That no income was or could have been gained or produced at that time from the property being researched and developed is not determinative because the purpose and direct use of the borrowed funds were focused to that end and no issues were raised concerning the efficacy of the projects under research."

In order to utilize the losses of its U.S. subsidiary, the taxpayer borrowed funds in Canada from an arm's length bank and made a capital contribution of those funds to the U.S. subsidiary. The U.S. subsidiary purchased a term deposit from the bank bearing a lower rate of interest than that charged on the bank loan to the taxpayer and pledged the deposit to the bank as security for that loan. The interest generated by the term deposit was paid as a dividend to the taxpayer.

The interest paid to the bank was non-deductible because the absorption of business losses of the U.S. subsidiary was not a "purpose of earning income". However, Bowman J. rejected the Crown's submission that "income" in s. 20(1)(c) referred to net income as essentially defined in s. 9 of the Act. "Amounts of income such as dividends which must be included in income under paragraphs 12(1)(j) and (k) do not cease to be income merely because they are exceeded by the cost of their production."

The taxpayer was given the opportunity to purchase 10.25% of the shares of a private company ("Choisy") for which he worked. He accomplished this by taking out a personal loan for $83,000 at 10.75% interest, using the proceeds to subscribe for Class E redeemable shares of a corporation formed by him ("Gestion") bearing a 10% non-cumulative dividend, and having Gestion subscribe for 10.25% of the shares of Choisy. In finding that the interest on the $83,000 loan was deductible by the taxpayer, notwithstanding that no dividends were paid on the Class E shares, Tremblay J, noted inter alia that his holding of Class E shares was potentially profitable after taking into account the dividend tax credit.

The taxpayer, who carried on a commercial litigation practice in partnership with another lawyer, was denied the deduction of interest which Revenue Canada alleged related to partnership drawings in excess of the profit reported in the computation of income for purposes of the Act. The taxpayer was successful in characterizing the alleged excess borrowings as relating to the financing of work in progress of the partnership.

In obiter dicta, Brulé J. defined the word "interest".

The taxpayer borrowed money at prime plus 1/2% to acquire a mortgage in default which, after negotiation with the controlling shareholders of the mortgagor corporation, had its interest rate increased to prime plus 3%. The taxpayer was able to deduct his interest expense because he had a reasonable expectation of profit. However, when the mortgage was extinguished by virtue of the acquisition of the mortgaged property by a numbered company controlled by the taxpayer (which was financed through a non-interest bearing note owing to the taxpayer), the interest on the taxpayer's bank borrowing ceased to be deductible.

In a number of instances the taxpayer incorporated a real estate principal business corporation, arranged long-term construction bank financing for it, borrowed money from the corporation which it financed on a daylight loan basis and used the loan proceeds to subscribe for shares. Beaubier J. found that the taxpayer was entitled to deduct the interest on the loans given that the shares were purchased for the purpose of earning income by way of dividends from the shares, and given that the parties intended to create and did create a legal obligation for the taxpayer to pay interest on the borrowed money. However, interest was not deductible on loans received by him from the corporations to acquire shares to the extent that the shares were not validly issued to him.

Interest on money borrowed by the taxpayer to honour his personal guarantee of his corporation's indebtedness was non-deductible. "Paying off a guarantee does not qualify as money borrowed to earn income" (p. 1106).

Unpaid management fees owing to the taxpayer by a company in which he had an interest were found not to be a loan by him to the company in the absence of any intention on his part for the unpaid amounts to represent a loan.

Interest on money which the taxpayer had borrowed in order to invest in a corporation was non-deductible given that the corporation had been dissolved in a year preceding that in which the interest accrued. "If the business in respect of which the borrowed money was used for the purpose of earning income is terminated, the source is thereby eliminated and with it the right to deduct interest paid on that money in computing income" (p. 433).

The partners of a partnership were denied the deduction of interest on money borrowed in order to make an interest-free advance to a corporation in financial difficulty which needed the advance to enable it to pay a bank loan which was guaranteed by the partners.

Notwithstanding a comingling of funds, the taxpayer was able to establish that only a portion of borrowed money was used to pay dividends, and that the balance of the borrowed funds were used for eligible purposes. Accordingly, a portion of the interest expense was deductible.

The taxpayer was entitled to deduct interest on a $40,000 bank loan which he on-lent to his brother for the period of time that there was a prospect of receiving back the $40,000 lent by him plus a "bonus" (on income account) of an additional $40,000.

Interest of 20% on a second loan of $10,000 to his brother in consideration for a promise to repay a total of $11,000 was non-deductible because the $1,000 interest income portion of the promised repayment was lower than the interest expense.

Under a divorce settlement, the taxpayer's wife otherwise would have been entitled to shares of a company ("Taja") and other income-producing assets. In exchange for his wife releasing any interest that she might have in such assets, the taxpayer issued an interest-bearing promissory note for $300,000 to his wife, secured by a mortgage granted by Taja. The interest paid by the taxpayer was deductible under s. 20(1)(c)(ii) because "his purpose in paying the interest and eventually the principal sum of $300,000 was to secure his wife's interest in the shares of Taja ... for the purpose of gaining or producing income for himself therefrom" (p. 1747).

Only 1/8 of the interest on a vendor take-back mortgage used to finance the taxpayer's acquisition of a motel, 15.38% of the total available square footage of which was used as the taxpayer's personal residence, was non-deductible in the light of the fact that the business use of the land (e.g., for use as a driveway, parking area and swimming pool) was disproportionately higher than the square footage percentages would suggest.

The taxpayer was not entitled to deduct interest on borrowed money which he had on-lent on a non-interest bearing basis to two corporations of which he was a shareholder, which corporations used the funds to generate business income. In addition, the policy in IT-445 did not apply because the taxpayer enjoyed a distinct tax advantage in the form of using the interest expense to offset other sources of income.

The taxpayer used borrowed money to acquire additional shares of its subsidiary, which the taxpayer immediately wound-up in the process of which a piece of rural land (the subsidiary's only significant asset) was conveyed to the taxpayer. The interest was not deductible because it could not be realistically said that the borrowed money was used for the purpose of acquiring the shares, and the land would not be said to have been acquired for the purpose of producing income in light of the fact that its acquisition cost far exceeded its fair market value.

Christie A.C.J. stated (p. 1419) that "the fact that repayment of money that is borrowed is secured by a mortgage on the borrower's personal residence does not, of itself, preclude the interest payable on that mortgage being deductible ...".

It was held that borrowed money was paid by the taxpayer for the purchase of shares of a company rather than for the acquisition of a management agreement which the taxpayer intended to enter into with the company. Deductions of interest accordingly were denied because dividends on the acquired shares were exempt income.

A corporation issued 3% and 3.5% debentures at discounts which resulted in effecte rates of 4.765 and 5.02% at a time whnen the prime rate of teh Bank of Nova Scotia was in the range of 5.25% to 5.5%. At isssue was whether the discounts should be deducted in calculating the corporation's undistributed income on hand account as an "expense incurred or disbursement made."

In finding that the discounts could be so deducted, Collier J found that they represented a form of prepaid interest, and Barfried did not indicate that discounts of this kind could not be a form of interest.

A mortgage provided for blended payments of principal and interest at 8.5%, and provided that "it is further covenanted and agreed" that until the principal was fully repaid the mortgagor would pay annually an amount equal to 10% of its annual revenues from the mortgaged property in excess of $135,000.

The annual participation payments were not interest for purposes of the Interest Act, because the language of the mortgage was clear that "any such payment is in addition to the payments of interest and principal. The payment is not a percentage of, or in any way related to, the principal sum." Singer v. Goldhar was distinguished on the ground that in that case "the Court had no assistance from the language of the mortgage and therefore had recourse to the principle that interest is the compensation for the use or retention of money."

The taxpayer, which was entitled to a long lease of land in consideration of developing the land, assigned its ultimate rights to the lands to a bank, which paid £1,500,000 to the taxpayer and was required to grant a long underlease of the lands to the taxpayer at a rack rent upon completion and in the mean time to make payments (which the taxpayer was not obligated to repay), to the taxpayer to finance development of the lands. When the aggregate of these payments reached £2,135,000, the taxpayer was required to pay "interest" on the aggregate amount until the granting of the underlease.

The "interest" did not qualify as "interest of money" for the purpose of a source deduction requirement.

The payments to be made are not payments made for the use of the money of another, but payments made because the Company has not proceeded fast enough with its obligations to complete the development and enter into an agreement for the grant of the sub-underlease. The payments are not compensation for delay in payment but for delay in the performance of other obligations.

The pith and substance of The Unconscionable Transactions Relief Act (Ontario), which permitted a court to re-open a money-lending transaction where it found that "the cost of the loan is excessive and that the transaction is harsh and unconscionable", was not concerned with interest, and the statute accordingly was not ultra vires.

With respect to the definition of "cost of the loan", which included "discount, subscription, premium, dues, bonus, commission, brokerage fees and charges," Judson J., after quoting a statement in Halsbury's that "interest accrues de die in diem even if payable only at intervals, and is, therefore, apportionable in point of time between persons entitled in succession to the principal," stated (at p. 575):

"The day-to-day accrual of interest seems to me to be an essential characteristic. All the other items mentioned in The Unconscionable Transactions Relief Act except discount lack this characteristic. They are not interest. In most of these unconscionable schemes of lending the vice is the bonus."

In 1938, the taxpayer, which was in financial difficulty, replaced 70% of its preference shares by income stock which stipulated for the payment of 5% interest thereon, provided that the interest was payable only to the extent that the cumulative net profits of the taxpayer earned after September 1937 were sufficient to pay the interest.

Interest paid on the income stock in 1948, including some arrears of interest, qualified as deductible interest notwithstanding the prohibition against deducting "any payment of dividend or distribution of profits." "[H]olders of income stock are in the position of people who have lent money to the Company, and they are not proprietors nor sharers in the profits as such."

In finding that annual amounts described in various resolutions of the taxpayer as "interest" in fact were guarantee payments, Locke J. stated (p. 515):

"Interest is paid by a borrower to a lender: a sum paid to a third person as the consideration for guaranteeing a loan cannot be so described."

The taxpayer drew sight bills on an acceptance house which, after accepting the bills, discounted them in the market as agent for the taxpayer and remitted the proceeds to the taxpayer. The funds so received by the taxpayer did not constitute "borrowed money". Tucker L.J. stated (p. 486):

"I find it difficult, if not impossible, to appreciate how there can be borrowed money unless the legal relationship of lender and borrower exists. ..."

Section 6 of the Farm Security Act 1944 (Saskatchewan) provided that in the event of a crop failure, the principal of a mortgage on a farm would be automaticallyl reduced by 4%, but that notwithstanding such reduction, interest would continue to be payable as if the principal had not been reduced. In finding that section 6 was ultra vires as being provincial legislation in relation to interest, Rand J stated (at p. 412) that "the statute works a change of rate as the principal is diminished which...is legislation in relation to interest...." Earlier in his reasons he stated (at pp. 411-412):

Interest is, in general terms, the return or consideration or compensation for the use or retention by one person of a sum of money, belonging to in a colloquial sense, or owed to, another....

[I]nterest is referrable to a principal in money or an obligation to pay money. Without that relational structure in fact and whatever the basis of calculating or determining the amount, no obligation to pay money or property can be deemed an obligation to pay interest.

A holder of preferred shares of the taxpayer was entitled to fixed dividends and to have the shares redeemed 15 years after the date of their issuance if they had not previously been redeemed by the taxpayer out of a sinking fund that was protected from the taxpayer and its creditors. Before finding that the dividend paid by the taxpayer on the preferred shares did not qualify as interest on "borrowed capital" for purposes of s. 3(4) of the Income War Tax Act, Audette J. noted that the preferred shares were part of the authorized capital of the company, the dividends were payable out of profits only and could be passed (whereas a bond holder always had the privilege to receive the interest), in the case of the taxpayer making default in paying dividends, the preferred shareholders could not wind-up the company without the common shareholders joining in such resolution, and on a winding-up the preferred shareholders would be liable to pay the balance of any unsubscribed capital.

A partnership borrowed £4,000 from the executors of an estate pursuant to a loan agreement which provided that the consideration for the loan consisted of "the sum of £200 per annum payable half-yearly ... and further a three-twentieth part of the profits in excess of £1,000 per annum up to but not in respect of any profits exceeding £3,000 per annum." The agreement further stated that there was no partnership between the lenders and the borrower.

Rowlatt, J., after referring to the £200 annual payments as "5 per cent interest," went on to characterize the 15% participation in profits between £1,000 and £3,000 as "simply a share of the profits." The participation payment accordingly was a non-deductible "distribution of profits" rather than deductible "interest on money" for purposes of the relevant provision.