T-4105-73; T-4106-73; T-4107-73
Canadian Pacific Limited (Plaintiff)
v.
The Queen (Defendant)
Trial Division, Walsh J.—Montreal, February 24,
25, 26; Ottawa, March 17, 1976.
Income tax—Income calculation—Whether income received
by plaintiff on bonds of non-resident companies which it
controlled is dividend income under s. 8(3), or interest
income—If not dividend income, whether plaintiff entitled to
foreign tax credit in respect of "per diem" receipts for use of
its cars on U.S. railroads—Whether plaintiff entitled to capi
tal cost allowance on properties classified as donations and
grants in accord with Uniform Classification of Accounts—
Income Tax Act, R.S.C. 1952, c. 148, ss. 8(3), 12(1)(f),
20(6)(h), 28(1)(d), 84A, 139(1)(t); S.C. 1970-71-72, c. 63, s.
15(3)—Canada-United States of America Tax Convention
Act, 1943, S.C. 1943-44, c. 21, Art. I, II, XV(1), Protocol, ss.
3(7, 6(a).
(1) Plaintiff had a controlling interest in three railway com
panies which merged in 1960, and received payments under
income bonds held in the three companies. The payor corpora
tion paid plaintiff annual or other periodic amounts for the
years in question within section 8(3) of the Act, and deducted
the amount of interest so paid for U.S. tax purposes.
(2) The foreign tax credit claim, which exists only if the
payments on the bonds are treated as interest income, is for tax
collected by the U.S. government on plaintiff's U.S. income, of
which $255,225 relates to receipts of "per diem" from U.S.
railways arising out of use of its cars on U.S. railways. Plaintiff
had a permanent establishment in the U.S. within section 3(J)
of the Protocol, and such "per diem" receipts are not allocable
to it. In 1965, Canadian tax was paid on the "per diem"
amounts in an amount at least equal to U.S. tax paid. The U.S.
Treasury treated the "per diem" sums as rental income effec
tively connected to plaintiff's U.S. business.
(3) The amounts of capital cost allowance claimed are for
properties owned by plaintiff where an amount was paid to
plaintiff by another, payment being recorded as "donations and
grants" as used in the "Uniform Classification of Accounts".
The claims are of three categories:
(I) Outlays to perform work on property owned by plaintiff
where an amount was paid to plaintiff by another
(a) outlays at the request of a "government, municipal or
other public authority" (section 20(6)(h)) or
(b) a corporation or individual other than those in (a);
(II) Amounts added by plaintiff to capital cost allowance
with concurrent credit to "donations and grants" upon sur
render to plaintiff of perishable components of a private
siding by a party to a siding agreement; and
(III) Amounts previously carried in capital cost allowance
base and authorized as plaintiff's improvements to property
leased by plaintiff which were transferred to category of its
own property with concurrent transfer from "donations and
grants—leased lines" to "donations and grants—owned
lines" in 1956 because certain properties previously leased
had become vested in plaintiff under various Acts of
Parliament.
Held, (1) Plantiff can treat income from bonds as dividend
income under section 8(3). Defendant contended that section
8(3) stands alone, and that it is unnecessary to consider section
12(1)(f); alternatively, defendant claimed that the Soo Line
could have deducted amounts paid, and C.P. could not claim
them as dividend income within section 8(3). This argument
would extend the meaning of "debtor" in section 12(1)(f) to
include the predecessor companies, and is wrong. It is not the
Soo Corporation which was in difficulty, and "debtor" must
refer to the corporation paying the interest on the bonds. The
old companies were not paying the interest in 1965, 1966 and
1967. Nor were the bonds issued "in place of" the old fixed
interest bonds, within section 12(1)(J)(ii). Thus, the paying
corporation (section 12(1)(f)) would not qualify to deduct the
payments if it were a taxpayer in Canada, and C.P., as the
receiving taxpayer, is not, as a result of section 8(3), prevented
from applying the section and claiming the sums as dividend
income. Another of defendant's alternative arguments was that
if "corporation" in section 8(3) is limited to those subject to
Canada's tax laws, since some interest received by C.P. was
from a non-resident U.S. company, it cannot be deemed a
dividend under section 8(3). Yet defendant has contended in its
main argument that "corporation" in section 8(3) does apply to
a non-resident corporation. Finally, defendant argued that
"entitled to" and "in computing its income" (section 8(3)) have
no limiting significance. While it is true in the case of two
Canadian corporations that the purpose of section 8(3) is to
provide equal tax treatment on inter-corporate capital transfers
in the nature of dividends and that the payor should not have a
deduction as well as the receiving corporation obtain the
amount tax-free, the fact that the payor was not subject to such
tax, but gained the deduction in the U.S. and that C.P., as
owner of the majority interest of the payor benefited indirectly
thereby is not enough to prevent it treating the amounts as
dividend income under section 8(3) and obtaining the Canadian
benefits resulting from section 28(1)(d). In response to plain
tiff's subordinate arguments, although the Minister is not
bound by the fact that previously he accepted the interest as a
dividend, nor by Interpretation Bulletins which confirm that
this was the proper way to proceed, and although no inference
can be drawn from amendments to the new Act which closed
the loophole by which both the Soo Line and C.P. could claim
deductions these arguments all lend some support to the
conclusion.
(2) Canadian Pacific paid U.S. tax of $255,225-on the "per
diem" sums as rental income "effectively connected" with its
"permanent establishment" in the U.S. Defendant claimed that
receipts should have been considered as "industrial and com
mercial profits" under Article I of the Convention, and not
taxable in U.S. as not "allocable" to its "permanent establish
ment" there. While the rentals may not properly be "allo-
cable", the U.S. Treasury used the words "effectively connect
ed", which do not appear in the Convention. The receipts have
aspects of both "industrial and commercial profits" and rentals,
but, as C.P. did nothing to advance or promote this source of
revenue, there is not the compelling reason necessary to con
clude that the U.S. interpretation of the Convention is errone
ous. While it is possible to agree that mere use of cars in the
U.S. by other railroads does not constitute a permanent estab
lishment, within the meaning of section 3(J) of the Protocol,
this conclusion does not affect plaintiffs right to claim the
credit.
(3) Plaintiff is entitled to capital cost allowance on amounts
posted in its donations and grants account, except those in
category III. No distinction should be made as to who actually
did the work or incurred the initial expenditure, since recon
structed facilities became C.P.'s property, cost being borne by
the Seaway Authority. Nor can "expenditure" in section
84A(3) of the Act be taken to mean "net expenditure". And,
looking at section 20(6)(h), it is doubtful whether sums
received by C.P. from public authorities were "for the purpose
of advancing or sustaining [its] technological capability." Also,
the payments cannot be considered "a grant, subsidy or other
assistance" to induce plaintiff to undertake something for
public benefit. As for category III property, since C.P. only
acquired ownership in 1956, subsection 84A(1) has no applica
tion, but subsection 84A(2) must refer not only to subsection
84A(1), but to the whole section. And, at the end of 1955, the
property was leased; therefore, by virtue of subsection (2) "no
amount shall be included ...". This appears broad enough not
only to refer to amounts arising from capital cost of the
property carried in the books of the former owner, but to
amounts relating thereto carried in C.P.'s books for improve
ments made by it to the leased property.
Van Schaick v. McCarthy 116 F. 2d 987; Baker v. Gold
Seal Liquors, Inc. (1974) 94 S.Ct. 2504, 417 US 468 and
Lea-Don Canada Limited v. M.N.R. [1971] S.C.R. 95,
discussed. Stickel v. M.N.R. [1972] F.C. 672; The King v.
Consolidated Lithographing Manufacturing Company,
Limited [1934] S.C.R. 298; St. John Dry Dock and Ship
building Co. Ltd. v. M.N.R. [1944] Ex.C.R. 186; Bir-
mingham v. Barnes (1935) 19 T.C. 195; Ottawa Valley
Power Company v. M.N.R. [1969] 2 Ex.C.R. 64; Parting-
ton v. Attorney General (1869) L.R. 4 H.L. 100; United
Geophysical Company of Canada v. M.N.R. [1961]
Ex.C.R. 283; M.N.R. v. Massawippi Valley Railway
Company [1961] Ex.C.R. 191 and G.T.E. Sylvania
Canada Limited v. The Queen [1974] 1 F.C. 726, upheld
by [1974] 2 F.C. 212, applied. Saunders v. M.N.R. (1954)
11 Tax A.B.C. 399, agreed with. Okalta Oils Limited v.
M.N.R. [1955] Ex.C.R. 66, distinguished. Detroit Edison
Co. v. Commissioner of Internal Revenue (1942) 319 US
98, disagreed with.
INCOME tax appeal.
COUNSEL:
G. S. Bistrisky and E. T. Brown for plaintiff.
N. W. Nichols for defendant.
SOLICITORS:
Bistrisky and Brown, Montreal, for plaintiff.
Deputy Attorney General of Canada for
defendant.
The following are the reasons for judgment
rendered in English by
WALSH J.: These three cases were heard to
gether on common evidence and relate to plain
tiffs taxation years ending December 31, 1965,
December 31, 1966 and December 31, 1967
respectively. As a result of various re-assessments,
the last one having been made on July 23, 1973,
only three matters now remain in dispute between
the parties. Plaintiffs taxable income for the year
ending December 31, 1965, was assessed at
$56,158,093 on which tax at $26,119,368.69 was
levied which reflected a reduction in interest of
$10,482.84 on the decrease in tax previously
assessed. For the year ending December 31, 1966,
plaintiff's taxable income was assessed at
$87,387,215 on which tax of $40,759,391.24 was
levied and for the year ending December 31, 1967,
plaintiff's taxable income was assessed at
$47,473,815 on which tax of $21,965,574.08 was
levied.
The three areas remaining in dispute are as
follows:
1. Whether plaintiff is entitled to treat the income
received on certain income bonds of the Duluth
South Shore & Atlantic Railroad, Minneapolis,
St. Paul & Sault Ste. Marie Railway Company,
and Wisconsin Central Railroad Company, which
merged in 1960 into the Soo Line in all of which
non-resident companies plaintiff held a controlling
interest, as dividend income under section 8(3) of
the Income Tax Act in effect at the time' and
hence to reduce the tax paid under the provisions
of section 28(1)(d) of the Act or whether it should
be considered as interest income. The amounts
involved for the 1965 taxation year were $841,871
on which the deduction claimed was $404,893, for
the 1966 taxation year, $833,346 on which the
deduction claimed was $388,930 and for the 1967
taxation year, $828,637 on which the deduction
claimed was $383,912.
2. Subsidiarily and in the event that such deduc
tions are disallowed then plaintiff claims that it is
entitled to a foreign tax credit of $260,866 for the
1965 taxation year of which amount defendant
concedes that to the extent of $5,641 it would be
entitled to a foreign tax credit, but for the balance
of $255,225 relating to receipts of what is known
as "per diem" arising out of the use of its rail cars
on lines of United States Railroads, defendant
does not dispute the figure but denies that plaintiff
is entitled to this credit. This only applies to the
1965 taxation year since in the 1966 and 1967
taxation years no such credit is claimed as plaintiff
did not pay United States income tax on these
receipts in either of those years.
R.S.C. 1952, c. 148 as amended.
3. Whether plaintiff is entitled to capital cost
allowances on certain properties classified as dona
tions and grants in accordance with the Uniform
Classification of Accounts prescribed by the
Canadian Transport Commission but disallowed
by the Minister which amounted to $66,177 in the
1965 taxation year which resulted in a reduction in
income tax paid in the amount of $31,827, $63,614
in the 1966 taxation year which resulted in a
reduction in income tax paid in the amount of
$29,689 and $66,507 in the 1967 taxation year
which resulted in a reduction in income tax paid of
$30,812.
When a decision is made in principle on each of
the three issues involved, the parties can then no
doubt agree on the final revised figures.
Much of the evidence was introduced into the
record by means of 'a statement of agreed facts
which it is desirable to quote in extenso.
STATEMENT OF AGREED FACTS
Part 1
Statement of Agreed Facts on Income Bonds
1. The Taxation years in question are the Plaintiff company's
taxation years ending on December 31, 1965, December 31,
1966 and December 31, 1967.
Minneapolis
2. In years prior to 1944, Plaintiff held the following securities
of, and had the following claims against the Minneapolis, St.
Paul and Sault Ste. Marie Railway Company ("Minneapolis
Railway"):
Preferred Stock, Common Stock, 4% and 5% First Con
solidated Mortgage Bonds, 4% Second Mortgage Bonds,
5 1 / 2 % First Refunding Mortgage Bonds, 25 year Secured
Gold Notes, Leased Line Certificates, Reconstruction
Finance Corporation Notes, Railroad Credit Corporation
Notes, Cash Advances, Matured Bond Interest and Guaran
teed Interest.
3. Minneapolis Railway was incorporated under the laws of the
States of Michigan, Wisconsin and the Territory of Dakota, in
the United States of America.
4. Prior to the year 1937, Minneapolis Railway encountered
financial difficulties and, in 1937, entered bankruptcy under
the provisions of Section 77 of the United States Bankruptcy
Act, by which its assets were placed in the hands of Trustees
approved by the United States Court.
5. A "Plan of Reorganization" of the Minneapolis Railway
was approved by the Interstate Commerce Commission of the
United States ("I.C.C.") in January 1943 under its Finance
Docket 11897, and was approved by the District Court of the
United States in August, 1944 under its order No. 100.
6. In 1944, a Company was incorporated under the name of
Minneapolis, St. Paul & Sault Ste. Marie Railroad Company
("Minneapolis Railroad Company").
7. An Indenture of Mortgage and Deed of Trust dated as of
January 1, 1944 created the General Mortgage 4% Series A
Income Bonds of the Minneapolis Railroad Company.
8. Pursuant to the Plan of Reorganization, the Plaintiff
received a number of the General Mortgage 4% Series A
Income Bonds of the Minneapolis Railroad Company along
with capital stock in the Minneapolis Railroad Company and
an amount of cash and a number of the Wisconsin Central
Railway Company First and Refunding bonds described in
paragraph 18.
9. Pursuant to the Plan of Reorganization, the Plaintiffs claim
under the First Consolidated Mortgage Bonds of Minneapolis
Railway, the bankrupt company, were extinguished and the
Plaintiff surrendered the bond certificates.
Duluth
10. In years prior to 1949, Plaintiff held the following securi
ties in, and had the following claims against, the Duluth, South
Shore & Atlantic Railway Company ("Duluth Railway") and
the Mineral Range Railroad Company ("Mineral Range").
Duluth Railway
Preferred Stock, Common Stock, Income Certificates, 4%
First Consolidated Mortgage Bonds, 6% Mortgage Bonds of
Marquette, Houghton and Ontonagon Railroad Company
and 5% First Mortgage Bonds.
Mineral Range
4% _ First Mortgage Bonds, 4% Consolidated Mortgage
Bonds, 5% Consolidated Mortgage Bonds of Hancock and
Calumet Railroad Company and Cash Advances.
11. Duluth Railway was incorporated and organized under the
laws of the States of Wisconsin and Michigan, in the United
States of America. Mineral Range was a company incorporated
and organized under the laws of the State of Michigan, and in
the years prior to 1949, Mineral Range was a wholly owned
subsidiary of Duluth Railway.
12. Prior to the year 1937, Duluth Railway and Mineral Range
encountered financial difficulties and in 1937, the two compa
nies entered bankruptcy under Section 77 of the United States
Bankruptcy Act, by which their assets were placed in the hands
of trustees approved by the United States Court.
13. A "Plan of Reorganization" of Duluth Railway and Miner
al Range was approved by the I.C.C. in December 1948, under
its Finance Docket Number 11484, and was approved by the
District Court of the United States in October 1949 by its order
No. 27.
14. In 1949, a company was incorporated under the name of
Duluth, South Shore and Atlantic Railroad Company ("Duluth
Railroad Company").
15. An Indenture of Mortgage and Deed of Trust dated as of
January 1, 1949 created the First Mortgage 4% 50 year Income
Bonds of the Duluth Railroad Company.
16. Pursuant to the Plan of Reorganization, the Plaintiff
received a number of the First Mortgage 4% 50 year income
bonds of the Duluth Railroad Company along with capital
stock in the Duluth Railroad Company and an amount of cash.
17. Pursuant to the Plan or Reorganization, the Plaintiff's
claims under the First Mortgage Bonds of Duluth Railway and
the Consolidated Mortgage bonds of Mineral Range, the bank
rupt companies, were extinguished and the Plaintiff surren
dered the bond certificates.
Wisconsin
18. In years prior to 1954 the Plaintiff held the following
securities in, and had the following claims against the Wiscon-
sin Central Railway Company ("Wisconsin Railway"):
Preferred Stock, Common Stock, Superior and Duluth Divi
sion 4% First Mortgage Bonds, First and Refunding Mort
gage Bonds 4% and First and Refunding Mortgage
Bonds 5%.
19. Wisconsin Railway was incorporated under the laws of the
State of Wisconsin, in the United States of America.
20. Prior to the year 1932, Wisconsin Railway encountered
financial difficulties, and in 1932, entered a federal equity
receivership. In 1944, that receivership was converted into a
bankruptcy under Section 77 of the United States Bankruptcy
Act, whereby its assets were placed in the hands of trustees
approved by the United States Court.
21. A "Plan of Reorganization" of the Wisconsin Railway was
approved by the Interstate Commerce Commission in June
1953 under its Finance Docket Number 14720, and was
approved by the United District Court in February 1954, in its
order Number 17104.
22. In 1954, a company was incorporated under the name of
Wisconsin Central Railroad Company ("Wisconsin Railroad
Company").
23. An Indenture of Mortgage and Deed of Trust dated as of
January 1, 1954 created the General Mortgage 4% bonds of
Wisconsin Railroad Company.
24. Pursuant to the Plan of Reorganization, the Plaintiff
received a number of the General Mortgage 4 1 / 2 % bonds of the
Wisconsin Railroad Company along with capital stock in the
Wisconsin Railroad Company and an amount of cash.
25. Pursuant to the Plan of Reorganization, the Plaintiff's
claims under the Superior and Duluth Division First Mortgage
bonds and First and Refunding Mortgage bonds of Wisconsin
Railway, the bankrupt company were extinguished and the
Plaintiff surrendered the bond certificates.
26. In each of the three reorganizations, the assets of the
bankrupt companies were transferred and conveyed to the
companies incorporated pursuant to each of the reorganizations
free and clear of all rights, claims, interests, liens and encum
brances of the creditors of the bankrupt companies.
Soo Line
27. In 1960, Duluth Railroad Company changed its name to
"Soo Line Railroad Company".
28. In 1960, Minneapolis Railroad Company was merged with
Soo Line Railroad Company and Wisconsin Central Railroad
Company to form a Company with the name Soo Line Railroad
Company, ("Soo Line") and the income bonds continued in
force as obligations of Soo Line.
29. In the taxation years in question, Soo Line was a U.S.
resident corporation and was not resident in Canada and did
not carry on business in Canada and did not file income tax
returns under the Canada Income Tax Act.
30. The payments received by the Plaintiff in the years 1965,
1966 and 1967 from Soo Line Railroad Company were received
under the respective Income Bonds, namely General Mortgage
4% Series A Income Bonds of the Minneapolis Railroad Com
pany, First Mortgage 4% 50 year Income Bonds of the Duluth
Railroad Company and General Mortgage 4 1 /% Income Bonds
of the Wisconsin Railroad Company.
31. At all material times, Plaintiff was the beneficial holder of
the following bonds which are income bonds within the mean
ing of paragraph 139(1)(t) of subsection 8(3) of the Income
Tax Act:
Duluth, South Shore & Atlantic Railroad 4%-1st Mort
gage Income Bonds
Minneapolis, St. Paul & Sault Ste. Marie Railway Company
4%—General Mortgage Income Bonds
Wisconsin Central Railroad Company 4 1 / 2 %—General Mort
gage Income Bonds
32. At all material times, Soo Line which was liable under the
above described income bonds (herein called the "payor
corporation")
(i) was a non-resident corporation, being resident in the United
States of America, more than 25% of the issued share capital of
which (having full voting rights under all circumstances)
belonged to the Plaintiff within the meaning of paragraph (d)
of subsection 28(1) of the Income Tax Act, the particulars of
such ownership being as follows:
a) Soo Line Railroad Company: 56.4%
b) Plaintiff's ownership of shares in corporations prior to
1960 merger into Soo Line:
A) Minneapolis, St. Paul and Sault Ste.
Marie Railroad: 50.26%
B) Wisconsin Central Railroad: 56.79%
C) Duluth South Shore & Atlantic Railroad: 100%
(ii) paid interest to Plaintiff as described in the following
amounts, such being an annual or other periodic amount paid
by the payor corporation within Section 8(3) of the Income Tax
Act:
1965—$841,871
1966—$833,346
1967—$828,637
(iii) was entitled to deduct and in fact did deduct the amount
of interest so paid to Plaintiff on the income bonds in comput
ing income for United States income tax purposes;
(iv) at all material times the payor corporation
a) was other than personal corporation
b) paid the interest on the income bonds which had been
issued since 1930.
Part 2
Statement of Agreed Facts on Foreign Tax Credit
1. The Plaintiffs claim of $260,866 for foreign tax credit for
the taxation year 1965 exists only if the payments received on
the income bonds are treated as interest income for Canadian
tax purposes.
2. The foreign tax credit claim of $260,866 is for income tax
collected by the government of the United States of America on
the Plaintiffs U.S. income of which $255,225 relates to receipts
of "per diem" from Railways in the United States; the amount
of $255,225 is not in dispute but the entitlement to that credit
is in dispute. The Parties are in agreement that in respect of the
balance of $5,641.00, the Plaintiff is entitled to a foreign tax
credit.
3. In the taxation year 1965, "per diem" was a term used to
describe payments for the use of railway rolling stock, which
payments were made to the "owner" railway company by the
"user" railway company.
4. The obligation on a railway company using railway rolling
stock to pay "per diem" for such use to the owner thereof is
created by a series of agreements between railway companies:
i) Agreements between and among railroads under section
5a of the Interstate Commerce Act dated April 1, 1950,
February 1, 1958 and April 1, 1965;
ii) Car Service and Per Diem Agreement executed by the
Plaintiff on February 11, 1938;
iii) Code of Per Diem Rules—Freight.
5. On a monthly basis, each railway company that is a signato
ry to the agreements and Rules described in 4 above makes an
accounting of all freight cars (owned by other railways that are
also signatories to said agreements and Rules) that spent any
time on its tracks during the preceding month. From said Code
of Per Diem rules the appropriate rental rates per day are
ascertained for each type of rolling stock and the appropriate
rental rate is multiplied by the number of days of use. Based on
this calculation payments of "per diem" are made to the
owning road.
6. When the Plaintiff delivers the railway rolling stock to the
lines of a U.S. railway company, there is no further business
activity required of the Plaintiff to collect the per diem pay
ments, and the Plaintiff receives no freight carriage revenues
for the traffic moving on the U.S. railway.
7. The Plaintiff has a "permanent establishment" in the States
of Maine and Vermont in the United States of America within
the definition of "permanent establishment" in Section 2(f)* of
the Protocol to the Canada-U.S. Tax Convention.
8. For the purposes of Articles I and II of the Canada-U.S.
Tax Convention, said receipts of per diem are not "allocable"
to Plaintiff's "permanent establishment" in the States of Maine
and Vermont.
9. The per diem income was part of Canadian Pacific's income
for Canadian tax purposes and in the taxation year 1965
Canadian tax was paid thereon in an amount at least equal to
the U.S. tax paid thereon.
10. The taxation by the United States of America of the
taxpayer's per diem income from sources in the United States
was based upon a conclusion of the United States Department
of the Treasury that the per diem income was rental income
and that it was "effectively connected to the (taxpayer's) trade
or business in the United States," as that opinion is stated in a
letter produced by the Plaintiff and dated the 19th of May,
1971, from the Acting Assistant Secretary of the Department
of the Treasury to J. Edward Day, a United States Counsel for
the Plaintiff.
Part III
Statement of Agreed Facts on Capital Cost Allowance in
Respect of Donations and Grants
1. For the taxation years in question, the Minister disallowed
the following amounts of capital cost allowance claimed by the
Plaintiff:
1965—$66,177
1966—$63,614
1967—$66,507
2. Said amounts were the capital cost allowance claimed in
respect of certain properties owned by the Plaintiff where an
amount was paid to the Plaintiff by another party, and where
such payment was recorded as "Donations and Grants" as that
expression is used in the Uniform Classification of Accounts
prescribed by the Board of Transport Commissioners of
Canada (now called "Canadian Transport Commission").
3. The various capital cost allowance claims in dispute for the
taxation years in question arose in respect of transactions in the
period 1956 to 1967, and for some purposes in this litigation
may be divided into three categories.
4. For greater certainty, the Defendant does not admit that the
whole amount of the "outlay" by the Plaintiff is equal to either
* This should read section 3(f).
the cost or the expenditure incurred for purposes of the Income
Tax Act, and the expression "outlay" is used herein to mean
the expenditure in fact made by the Plaintiff, and not such
"expenditure" in law, such being a question for determination
by this Honourable Court.
CATEGORY I
5.1 This category includes outlays by the Plaintiff to perform
work on property owned by the Plaintiff where an amount was
paid to the Plaintiff by another party.
5.2 In each instance, the Plaintiff received a request by the
other party that, to enable the other party to carry out a project
of its own, the Plaintiff would modify its railway or telecom
munications facilities, and a commitment was given by the
other party to reimburse the Plaintiff for all or part of the
outlay by the Plaintiff.
5.3 Upon construction, the property was, and continued to be,
the property of the Plaintiff.
SUB-CATEGORY Ia
5.4 This sub-category includes outlays by the Plaintiff where
the request was received from the federal government, a provin
cial government, a municipal government, an agency of the
federal government, an agency of a provincial government, or a
public industrial development authority, each of which is a
"government, municipality or other public authority" within
the meaning of paragraph 20(6)(h) of the Income Tax Act
applicable to the taxation years in question (which are herein
called the "authority").
5.5 Upon receiving the request, the Plaintiff advised the au
thority of the estimated total expenditure of materials and
labour to complete the work and the authority made a commit
ment to pay that amount, or a part thereof, to the Plaintiff, in
one of the following ways; either
(a) in instalments on a progress basis,
(b) after completion, or
(c) prior to construction.
5.6 The Plaintiff then conducted the work using its own forces
or retaining contractors, and presented invoices to the authority
for payment or as a receipt for pre-payment.
5.7 Category Ia items are contained in the examination for
discovery exhibits numbered 1, 2, 3, 4, 5, 10.1, 12, 13, 15, 20,
21, 21.1, 30, 34, 36, 38. For the purposes of this litigation only
items contained in the examination for discovery exhibits num
bered 2, 4, 10.1 and 21.1, and 15 are in evidence.
5.8 The parties hereby agree that for purposes of this litigation,
the decision respecting the items 2, 4, 10.1 and 21.1, and 15
insofar as such decision is uniform and applicable in principle,
will be applied to the remaining items, and they will be
disposed of accordingly.
SUB-CATEGORY Ib
6.1 This sub-category includes outlays where the request was
received from a corporation or individual other than those
described in sub-category Ia (which corporations or individuals
are referred to as "the Industry"). In these situations again, the
Plaintiff received a request from the Industry to perform work
on a property on lands of the Plaintiff which property would
become and remain the property of the Plaintiff. The Plaintiff
advised the Industry of the estimated total expenditure of
materials and labour to complete the construction and the
Industry made a commitment to reimburse the Plaintiff for
that amount or a part thereof, either
(a) in instalments on a progress basis, or
(b) after completion.
The Plaintiff then conducted the work using its own forces or
retaining contractors, and requested payment from the
Industry.
6.2 The Category Ib items are contained in Examination for
Discovery Exhibits 6, 7, 8, 9, 11, 14, 18, 19, 22, 23, 25, 28 and
38.1, 35, 40, 44, 45, 46, 47, 52, 54, 57, 59, 60. For the purposes
of this litigation only items 9, 28 and 38.1, and 44 are in
evidence.
6.3 The parties hereby agree that for the purpose of this
litigation the decision respecting the items 9, 28 and 38.1 and
44, insofar as such decision is uniform and applicable in
principle, will be applied to the remaining items in sub-category
Ib and they will be disposed of accordingly.
7.1 For the purposes of both subcategories, in the event the
findings are not uniform within each category, the parties agree
to apply the principals to the remaining items, and in the event
of disagreement each reserves the right to have such particular
item determined by this Honourable Court on notice of motion.
CATEGORY 2
8.1 This Category includes amounts added by the Plaintiff to
its capital cost allowance base with concurrent credit to "Dona-
tions and Grants" upon the surrender to the Plaintiff of the
perishable components of a private railway siding by a party to
a private railway siding agreement. Category 2 items are
contained in Examination for Discovery exhibits 10, 16, 26, 29,
39, 41, 42, 43, 48, 49, 50, 51, 53, 56. In each of these situations
the person (or industry) first requested the construction of a
private siding and agreed to reimburse the Plaintiff for the
actual costs relating to perishable materials and labour in its
construction. A private siding agreement was executed between
that person and the Plaintiff by which the person authorized
the construction, undertook this reimbursement and rented the
rail and track materials, for which no reimbursement of cost
was made. At the time that the person no longer required the
private siding, he surrendered it to the Plaintiff for the Plain
tiff's exclusive use. It was only at the time of such surrender
that the Plaintiff recorded a "donation and grant" under the
provisions of the Uniform Classification of Accounts. The
actual original cost of the perishable materials and the installa
tion labour for the private siding was debited to the Plaintiff's
property investment accounts to include this siding material as
part of the railway system of the Plaintiff. It was only at the
time that the property became the exclusive property of the
Plaintiff under the siding agreement that its cost was included
in the capital cost base under capital cost allowance regula
tions. The Defendant does not admit that the property surren
dered is the property of Plaintiff.
8.2 For the purpose of this litigation, only item is in
evidence.* The treatment of all items in this Category 2 will
abide the decision on that item.
CATEGORY 3
9.1 This Category includes amounts previously carried in the
capital cost base of the Plaintiff and categorized as Plaintiff's
improvements to property leased by the Plaintiff which were
transferred by the Plaintiff to the category of Plaintiff's owned
property with a concurrent transfer from "donations and
grants—leased lines" to "donations and grants—owned lines"
in the year 1956, by virtue of the fact that certain properties,
which had previously been leased by the Plaintiff from "leased
line railway companies", had become vested in the Plaintiff by
various Acts of Parliament. Category 3 items are contained in
Examination for Discovery exhibit 65.
10.1 The Uniform Classification of Accounts provides in part
that Additions, Replacements and Major Renewals to Railway
or Telecommunications property shall be accounted for in the
following manner.
7(B) Contributions. Where a portion of the funds expended
by or for the carrier has been obtained by appropriations
from government funds, or by contributions from individuals
or others, unless specific approval has been given by the
Board to some alternative procedure, the accounting shall be
as follows:
(i) Exclusive property. The cost of transportion [sic] prop
erty to which the carrier acquires exclusive title and
exclusive right of use shall be included in these accounts
without deduction on account of contributions received
from others.
Contributions for the construction of transportation
property shall be credited to account No. 799, "Donations
and grants—railway property", or No. 799 NR, "Dona-
tions and grants—railway property—United States lines."
Contributions for projects such as the reconstruction
and relocation of tracks and appurtenant facilities shall be
applied first to reduce, or cancel, the amounts which would
otherwise be charged to the accrued depreciation account,
and the remainder, if any, shall be credited to account No.
799, "Donations and grants—railway property", or No.
799NR, "Donations and grants—railway property—
United States lines."
11.1 No specific approval was given by the Board to adopt any
procedure as an alternative to that set out in Clause 7(B)(i).
12.1 The Uniform Classification of Accounts for Class 1
common carriers by railway which is produced in Examination
for Discovery as exhibit 64 and bears the certificate of the
Canadian Transport Commission was validly adopted and
made effective by the Board of Transport Commissioners for
Canada pursuant to the powers conferred upon the Board by
* Evidence was made with respect to item 50.
the Railway Act and governed the accounting procedure of the
Plaintiff during the taxation years in question.
13.1 The Uniform Classification of Accounts produced in
Examination for Discovery as exhibit 64 is the "Uniform
Classification" referred to in subsection 84A(3) of the Income
Tax Act.
14.1 Each property referred to in Categories 1, 2 and 3 was
"property" within the meaning assigned by sections 139 and
11(1)(a) of the applicable Income Tax Act.
15.1 In each of the instances in categories 1, 2 and 3, the
amount received by the Plaintiff did not exceed the amount
actually laid out by the Plaintiff to perform the work on the
property and there was no net revenue or profit realized by the
Plaintiff from the transaction.
The sections of the Income Tax Act which have
or may have some bearing on the determination of
the issues are as follows:
8. (3) An annual or other periodic amount paid by a corpo
ration to a taxpayer in respect of an income bond or income
debenture shall be deemed to have been received by the taxpay
er as a dividend unless the corporation is entitled to deduct the
amount so paid in computing its income.
(4) This section is applicable in computing the income of a
shareholder for the purposes of this Part whether or not the
corporation was resident or carried on business in Canada.
11. (1) Notwithstanding paragraphs (a),(b) and (h) of sub
section (1) of section 12, the following amounts may be deduct
ed in computing the income of a taxpayer for a taxation year:
(a) such part of the capital cost to the taxpayer of property,
or such amount in respect of the capital cost to the taxpayer
of property, if any, as is allowed by regulation;
28. (1) Where a corporation in a taxation year received a
dividend from a corporation that
(d) was a non-resident corporation more than 25% of the
issued share capital of which (having full voting rights under
all circumstances) belonged to the receiving corporation, ...
an amount equal to the dividend minus any amount deducted
under subsection (2) of section 11 in computing the receiving
corporation's income may be deducted from the income of that
corporation for the year for the purpose of determining its
taxable income.
12. (1) In computing income, no deduction shall be made in
respect of
(/) an amount paid by a corporation other than a personal
corporation as interest or otherwise to holders of its income
bonds or income debentures unless the bonds or debentures
have been issued or the income provisions thereof have been
adopted since 1930
(i) to afford relief to the debtor from financial difficulties,
and
(ii) in place of or as an amendment to bonds or debentures
that at the end of 1930 provided unconditionally for a
fixed rate of interest,
139. (1) In this Act,
(t) "income bond" or "income debenture" means a bond or
debenture in respect of which interest or dividends are pay
able only when the debtor company has made a profit before
taking into account the interest or dividend obligation;
MA. (3) Where any amount in respect of an expenditure
incurred by a taxpayer on or in respect of the repair, replace
ment, alteration or renovation of depreciable property of the
taxpayer of a class prescribed by regulations of the Governor in
Council made for the purposes of this section is, under any
uniform classification and system of accounts and returns
prescribed by the Canadian Transport Commission pursuant to
the Railway Act, required to be entered in the books of the
taxpayer otherwise than as an expense,
(a) no deduction may be made in respect of that expenditure
in computing the income of the taxpayer for a taxation year;
and
(b) for the purposes of section 20 and regulations made
under paragraph (a) of subsection (1) of section 11, the
taxpayer shall be deemed to have acquired, at the time the
expenditure was incurred, depreciable property of that class
at a capital cost equal to that amount.
Certain portions of the Canada-U.S. Tax Conven
tion and Protocol dated March 4, 1942, are also
applicable as follows:
CONVENTION
ARTICLE I
An enterprise of one of the contracting States is not subject
to taxation by the other contracting State in respect of its
industrial and commercial profits except in respect of such
profits allocable in accordance with the Articles of this Conven
tion to its permanent establishment in the latter State.
ARTICLE II
For the purposes of this Convention, the term "industrial and
commercial profits" shall not include income in the form of
rentals and royalties, interest, dividends, management charges,
or gains derived from the sale or exchange of capital assets.
Subject to the provisions of this Convention such items of
income shall be taxed separately or together with industrial and
commercial profits in accordance with the laws of the contract
ing States.
ARTICLE XV
As far as may be in accordance with the provisions of the
Income Tax Act, Canada agrees to allow as a deduction from
the Dominion income and excess profits taxes on any income
which was derived from sources within the United States of
America and was there taxed, the appropriate amount of such
taxes paid to the United States of America.
PROTOCOL
3. As used in this Convention:
(J) the term "permanent establishment" includes branches,
mines and oil wells, farms, timber lands, plantations, facto
ries, workshops, warehouses, offices, agencies and other fixed
places of business of an enterprise, but does not include a
subsidiary corporation. The use of substantial equipment or
machinery within one of the contracting States at any time in
any taxable year by an enterprise of the other contracting
State shall constitute a permanent establishment of such
enterprise in the former State for such taxable year.
6. (a) The term "rental and royalties" referred to in Article
II of this Convention shall include rentals or royalties arising
from leasing real or immovable, or personal or movable
property or from any interest in such property, including
rentals or royalties for the use of, or for the privilege of
using, patents, copyrights, secret processes and formulae,
good will, trade marks, trade brands, franchises and other
like property;
At the opening of the hearing paragraph 25A
was added to the agreed statement of facts stating
"The bonds of the corporations as listed in Para
graphs 2, 10 and 18, were all bonds that at the end
of 1930 provided unconditionally for a fixed rate
of interest". An amendment was made to para
graph 5.7 in Part III so as to remove numbers
10.1, 21.1 and 34 from sub-category la and put
them in paragraph 6.2 in sub-category lb, and also
to add item No. 61 to paragraph 5.7.
REVENUE FROM INCOME BONDS
Two experts on foreign law were called to deal
with an alternative argument on the treatment of
interest from the income bonds, arising out of the
application to it of section 12(1)(f). Robert T.
Beam, a lawyer from Chicago was called on behalf
of plaintiff, his affidavit being taken as if read. He
had acted as counsel in the corporate reorganiza-
tion of the Soo Line Railroad Company and its
constituent railroads and is familiar with their
corporate history as well as with the laws of the
United States respecting railroad reorganizations
and in particular section 77 of the United States
Bankruptcy Act. He explained that by virtue of
this an insolvent inter-state railroad may request a
reorganization. A trustee is appointed and a plan
of reorganization is filed before the Interstate
Commerce Commission for approval or for substi
tution of its own plan. Following this, the scheme
is ratified by the Court if it approves it and a
reorganization manager is appointed. The reorgan
ization can be done in one of two ways, either by
forming a new corporation resulting from a merger
of the old corporations or by a continuation of the
old corporations subject to the terms of the reor
ganization scheme. In the present case the Court
allowed either option but the reorganization
manager chose to form a new corporation as being
a simpler method of proceeding, avoiding confu
sion with securities of the old corporations, the old
names, different by-laws, and so forth. In the case
of the Minneapolis, St. Paul and Sault Ste. Marie
Railway Company, a new company was formed in
1944, although the old company, which had been
incorporated under the laws of several States
including Minnesota, Wisconsin, Illinois and what
was at the time of the original incorporation the
Territory of Dakota, was not dissolved but by deed
of conveyance and release the properties of the old
company were conveyed by the trustees to the new
company. The new company did not become liable
for the bonds of the old company but assumed
certain obligations such as taxes, tort claims and
outstanding cheques. In the witness's opinion the
bonds of the new company were not issued to
replace the bonds of the old company but con
stituted a new capital structure approved by the
Interstate Commerce Commission which took into
consideration, for example, that the new company
would be benefiting by the transfer of a traffic
agreement with Canadian Pacific without which
the reorganization would not have been approved.
In other words the value of all the rights of the old
bond holders was taken into consideration in their
entirety and the reorganization did not constitute a
one for one exchange of bonds. Holders of the old
bonds received income bonds of the new company,
cash, and common stock options.
In the case of the reorganization of the Wiscon-
sin Central Railroad Company which took place in
1954, the same procedure was followed, a new
company being formed and although the old com
pany was not dissolved its assets were all conveyed
to the new company. Holders of bonds of the old
company received contingent interest first mort
gage bonds, contingent interest general mortgage
bonds and common shares in the new company.
In the case of the reorganization of the Duluth
South Shore and Atlantic Railroad Company in
1949 which took place in Minnesota, the same
procedure was again followed but in this case there
were two old companies, the other being Mineral
Range Railroad Company wholly owned by the
Duluth. The old Duluth company was not dis
solved and again a conveyance of the assets of the
two old companies was made to the new company
and the bond holders of the old companies received
cash, income bonds and common stock. Again it
was made clear that the reorganization provided a
settlement of all claims by the distribution of a
new package of securities.
In cross-examination he admitted that the main
purpose of section 77 of the United States Bank
ruptcy Act is the rehabilitation of the debtor by
the reorganization of the company. It is not a
liquidation but a reorganization to preserve an
ongoing railroad in the public interest. The new
company was formed, since this method was
chosen, to relieve the bankrupt corporations from
the difficulties they had got into as a result of
fixed interest bonds when their earnings did not
generate enough income to cover these obligations,
by permitting instead the use of income bonds in
which the interest would not accumulate in periods
when the revenues were insufficient to cover the
interest payments. The end accomplished was to
relieve the bankrupt corporations and certainly not
to relieve the new corporations so formed. It was
only in the Duluth South Shore and Atlantic
Railroad reorganization that there was also includ
ed a compromise of certain claims against Canadi-
an Pacific.
Mr. Robert Ginnane, an attorney, was called as
an expert in this aspect of the case by defendant,
his letter of opinion as an expert, with accompany
ing certificate of defendant's counsel being taken
into the record as if read. He is counsel to a
Washington, D.C. law firm, a member of the
United States Supreme Court bar, and served as
general counsel to the Interstate Commerce Com
mission in that country from 1955 to 1970, so is
thoroughly familiar with the railroad reorganiza
tions. He testified that Canadian Pacific owned
fixed interest bonds in the three above railroad
corporations prior to 1930 and as a result of the
reorganization the holders of the fixed interest
bonds received income bonds and/or cash and/or
shares in lieu of same. For authority for this he
referred to the case of Van Schaick v. McCarthy 2 ,
at 992 where it is stated as follows:
Sec. 77 has for its main purpose the rehabilitation of the
debtor by a readjustment of its financial structure in the
interest of the debtor and its creditors and security holders,
under a fair and equitable plan of reorganization which shall so
modify or alter the rights of both secured and unsecured
creditors that the fixed charges shall be brought within the
probable future earnings available for the payment thereof.
He also referred to the case of Baker v. Gold Seal
Liquors, Inc.' which stated at pages 2506-7:
The problem of the bankruptcy Reorganization Court is
somewhat different. Liquidation is not the objective. Rather the
aim is by financial restructuring to put back into operation a
going concern. That entails two basic considerations:
2 116 F. 2d 987.
3 (1974) 94 S.Ct. 2504 [417 US 468 at pages 470-71].
First is the collection of amounts owed the bankrupt to keep
its cash inflow sufficient for operating purposes, at least at the
survival levels. The second is to design a plan which creditors
and other claimants will approve, which will pass scrutiny of
the Interstate Commerce Commission, which will meet the
fair-and-equitable standards required by the Act for Court
approval, and which will preserve an ongoing railroad in the
public interest.
He stated that this is what the reorganization
plans accomplished in this case and that it was the
holders of fixed interest bonds of the old company
which received the new income bonds as part of
the plan and not as a matter of choice, the new
corporation being merely a vehicle to accomplish
this end.
Expressing his opinion as to the application of
section 12(1)(f)(ii) of the Income Tax Act,
although he concedes that this is a matter for the
Canadian Court to interpret, he was less certain of
its applicability in the case of the Duluth South
Shore and Atlantic Railroad income bonds stating
in the last paragraph of his opinion:
As to quoted clause (ii) of section 12(1)(j), it seems clear
that the income bonds of Minneapolis and Wisconsin were
issued "in place" of bonds "that at the end of 1930 provided
unconditionally for a fixed rate of interest." In the case of
Duluth, the facts presently available to me are not sufficient to
permit me to express an opinion as to whether Duluth's income
bonds satisfy the condition of clause (ii).
It is defendant's contention that section 8(3)
stands by itself and that it is not necessary to
consider the effect of section 12(1)(f) but in the
event that the Court does not so conclude then as
an alternative argument defendant contends that
the Soo corporation could have deducted the
amounts paid to Canadian Pacific as holders of its
income bonds and hence Canadian Pacific could
not within the provisions of section 8(3) be deemed
to have received these payments as a dividend.
Since the evidence of the expert witnesses was
devoted to this alternative argument it would be
appropriate to deal with it at this time. If the Soo
corporation although non-resident is a corporation
within the meaning of section 12(1) (f) (and this
argument will be dealt with later) then, since it is
not a personal corporation, the section applies, so
that it could not deduct the payments made to
Canadian Pacific as holders of the income bonds
of the three companies who merged to form it in
1960 "unless the bonds or debentures have been
issued or the income provisions thereof have been
adopted since 1930" (which is the case)
(i) to afford relief to the debtor from financial difficulties,
and
(ii) in place of or as an amendment to bonds or debentures
that at the end of 1930 provided unconditionally for a fixed
rate of interest.
Applying the provisions of these two conditions
to the proof which has been submitted defendant's
argument would extend the meaning of the word
"debtor" in subparagraph (i) to include the prede
cessor companies of the Duluth South Shore and
Atlantic Railroad, Minneapolis, St. Paul and Sault
Ste. Marie Railway Company and Wisconsin Cen
tral Railroad Company which were relieved from
their financial difficulties by the issue of these
bonds. While this was undoubtedly the purpose of
the reorganizations, which could have been accom
plished without the formation of new companies I
cannot conclude that we can so extend the mean
ing of the word "debtor" in subparagraph (i) to
include the old companies without completely
ignoring fundamental principles of company law
relating to the separate corporate existence of the
newly formed corporations. It is not the newly
formed corporations which were in financial dif
ficulties but their predecessors and the word
"debtor" in subparagraph (i) must refer back to
the corporation paying the interest on the income
bonds, that is to say the new corporation. While
the old corporations remained in existence in the
sense that they did not surrender their charters it
was not they who were paying the interest on these
bonds to Canadian Pacific in 1965, 1966 and 1967.
Moreover, I do not find that the new income
bonds were issued "in place of" the fixed interest
bonds of the old corporations within the meaning
of subparagraph (ii) of section 12(1)(J). They were
issued together with certain sums of cash and
certain shares in exchange for the old bonds and
certain other considerations including in the case
of the Minneapolis, St. Paul and Sault Ste. Marie
Railway contracts with Canadian Pacific, and in
the case of Duluth South Shore and Atlantic
Railroad release of certain claims against Canadi-
an Pacific. While apparently the reorganization
plan approved by the Interstate Commerce Com
mission in each case and ratified by the Courts
considered that this was an equivalent consider
ation to protect as far as possible the creditors of
the old companies which had encountered financial
difficulties it would be an over-simplification to
say that the new income bonds were simply issued
"in place of" the old fixed interest bonds.
It follows therefore that the paying corporation
which is the corporation referred to in section
12(1)(f) would not qualify under that section to
make deduction for these payments in computing
its income if it were a taxpayer in Canada and that
Canadian Pacific as the receiving taxpayer is not
as a result of the concluding clause of section 8(3)
prevented from applying the said section and
claiming that these sums were received as dividend
income.
While this disposes of this alternative argument
in favour of plaintiff it does not by any means
dispose of the principal argument relating to treat
ment by plaintiff of this income as dividend
income under the provisions of section 8(3).
Defendant argues as another alternative argument
that if the word corporation as used in section 8(3)
is limited to corporations subject to the Income
Tax Act of Canada (with which contention
defendant does not agree) then since the interest
received by Canadian Pacific on these income
bonds was from a U.S. corporation not doing
business in Canada and not resident in Canada it
therefore cannot be deemed to be a dividend gov
erned by section 8(3) in the first place. Defendant
has contended in its principal argument relating to
income bonds, however, that the word "corpora-
tion" in section 8(3) is not limited to a corporation
resident in Canada and if this contention is sus
tained the second alternative argument fails. In
support of this contention reference is made to
section 8(4) (supra) which applies section 8 in
computing the income of a shareholder "whether
or not the corporation was resident or carried on
business in Canada". Section 8 has a heading
"Appropriation of Property to Shareholders" and
the word "shareholder" in section 8(4) is certainly
not limited to a corporate shareholder. The word
"corporation" in section 8(4) read in conjunction
with section 8(3) must mean the paying corpora
tion, which I have found is not entitled to deduct
the amounts so paid in computing its income. For
purposes of Canadian income tax this would
appear to be the case whether or not it was resi
dent or carried on business in Canada. The fact
that, as admitted in the agreed statement of facts,
the Soo Line as paying corporation was entitled to
deduct and in fact did deduct the amount of
interest so paid to plaintiff on the income bonds in
computing its income for United States income tax
purposes cannot affect this.
Further support for the conclusion that the word
"corporation" used in section 8(3) includes a non
resident corporation results from the fact that
section 139(1)(h) of the Act defining "corpora-
tion" states that it "includes an incorporated com
pany" and goes on to define "corporation incorpo
rated in Canada". If it had been the intent to limit
the application of section 8(3) to "a corporation
incorporated in Canada" this would have been the
proper phrase to use instead of merely "a
corporation".
Moreover, section 28(1)(d) by virtue of which
Canadian Pacific will benefit by including the
interest received on the income bonds as a dividend
under section 8(3) provides for a dividend having
been received from "a non-resident corporation"
more than 25% of the issued share capital of which
(having full voting rights under all circumstances)
belonged to the receiving "corporation", as was the
case here.
The fact that I have concluded that the word
"corporation" as used in section 8(3) applies to a
non-resident as well as to a Canadian corporation
does not necessarily lead to a decision of the issue
respecting the treatment by Canadian Pacific of
the interest received on the income bonds as divi-
dend income. Defendant contends that it could not
do so because the paying corporation, the Soo
Line, was entitled to deduct the amount so paid in
computing its income in the United States, and it
is with respect to this issue that the parties disa
gree, plaintiff contending that this is irrelevant and
that unless the paying corporation was entitled to
deduct the amount so paid in computing its income
in Canada, which was not the case, the exception
has no application. I have already found (supra)
that on a strict interpretation of section 12(1)(f) it
would not have been entitled to make the deduc
tion even if it had been a taxpayer in Canada,
because of the bonds having been issued by the
new companies and not in place of the original
fixed interest bonds, but since defendant contends
that section 8(3) should be interpreted by itself
without reference to section 12(1)(/) it is now
necessary to deal with this principal argument of
defendant. Defendant contends that the words
"entitled to" and the words "in computing its
income" in section 8(3) have no limiting signifi
cance implying that they have reference to income
taxable in Canada but are equally applicable to a
non-resident corporation. Plaintiff refers to the
case of Lea-Don Canada Limited v. M.N.R. 4 ,
which dealt with an entirely different section of
the Act but in which Hall J. rendering the unani
mous judgment of the Supreme Court stated at
page 99:
The argument that the provisions of the Income Tax Act
authorizing a deduction on account of the capital cost of
depreciable property are applicable to non-residents who are
not subject to assessment for income tax under Part I of the
Act because such deduction is from income is wholly untenable.
It is clear that s. 20(4) is concerned with taxpayers entitled to a
deduction, not with persons who are not subject to assessment
under Part I. A non-resident not carrying on business in
Canada is not a person entitled to such a deduction and
therefore s. 20(4) cannot properly be said to be "applicable" to
him.
It is unfortunately true that the result of this
interpretation does some injury to the scheme of
taxation as provided in the Act taken as a whole.
As counsel for defendant said in his written notes
with which I am in agreement on this point "the
4 [1971] S.C.R. 95.
purpose of section 8(3) is to provide equal tax
treatment on inter-corporate capital transfers in
the nature of dividends, deemed or actual. It is not
intended that the payer corporation should have a
deduction of the amount of interest paid and also
the receiving corporation obtain the interest tax
free." While this is quite true when one is dealing
with two Canadian corporations subject to income
tax in Canada, the fact that in this case the paying
corporation was not subject to such tax but never
theless gained the taxation benefit in the United
States resulting from deducting the interest so paid
on the income bonds, in computing its income for
United States income tax purposes and that
Canadian Pacific as owners of the majority inter
est in the paying corporation benefits indirectly
from this, is not in my view sufficient to prevent it
from treating the amounts so received as dividend
income within the clear provisions of section 8(3)
of the Act, and as a consequence obtaining the
taxation benefits in Canada resulting from the
application of section 28(1)(d).
Plaintiff made some subsidiary arguments in
support of its interpretation of section 8(3), which
arguments, although they cannot be sustained are
of some passing interest. In the first place it was
pointed out that for a number of years prior to the
1965 taxation year the income from these bonds
had always been declared by it as a dividend under
section 8(3) without any objection by defendant.
The principle that taxation authorities need not be
consistent in their treatment of a taxpayer's return
from year to year is so well established that it is
unnecessary to cite authorities for it. If defendant
made an error in its assessment of plaintiff on this
issue in prior years, as defendant would contend
was the case, this does not prevent the taxation of
such income in the manner now considered proper
for the taxation years in question. The second issue
is somewhat similar. Interpretation Bulletin IT-10
dated May 19, 1971, reads in part:
An amount received by a taxpayer in respect of an income
bond or debenture owned by him normally is deemed to have
been received by him as a dividend. The exception to this is
where the corporation making the payment is entitled to deduct
the amount so paid in computing its income. Section 12(1)(J)
sets out the circumstances in which a corporation is entitled to
such a deduction. The fact that the interest is deductible under
the law of a foreign jurisdiction in computing income subject to
tax in that jurisdiction will not affect the application of section
8(3). Accordingly, where a Canadian corporation receives in
terest on an income bond from a United States corporation
which is not subject to tax in Canada, section 8(3) will deem
that interest to be a dividend regardless of whether the U.S.
corporation may deduct the amount paid by it in computing its
income subject to tax in the United States.
This Bulletin was prior to the final notice of
re-assessment dated July 23rd, 1973. The new
Income Tax Act which went into effect on January
1st, 1972, has a section substantially similar to
section 8(3), namely section 15(3) which reads as
follows:
An annual or other periodic amount paid by a corporation
resident in Canada to a taxpayer in respect of an income bond
or income debenture shall be deemed to have been paid by the
corporation and received by the taxpayer as a dividend on a
share of the capital stock of the corporation, unless the corpora
tion is entitled to deduct the amount so paid in computing its
income.
Section 15(4) reads:
An annual or other periodic amount paid by a corporation
not resident in Canada to a taxpayer in respect of an income
bond or income debenture shall be deemed to have been
received by the taxpayer as a dividend unless the amount so
paid was, under the laws of the country in which the corpora
tion was resident, deductible in computing the amount for the
year on which the corporation was liable to pay income or
profits tax imposed by the government of that country.
It is to be noted that by virtue of these amend
ments Canadian Pacific can no longer claim the
interest received on these income bonds as a divi
dend. Subsequent to this a new interpretation
bulletin was issued, Bulletin IT-52 on June 16th,
1972, replacing Bulletin IT-10, which reads in
part:
Under the pre-1972 Act, whether such an amount was deemed
to be a dividend did not depend on whether it was deductible in
computing income in the foreign country. Instead, the test was
whether it would have qualified for a deduction under old
paragraph 12(1)(f) if the non-resident corporation had been
subject to tax in Canada. Unless the amount paid would have
been deductible in those circumstances, it was deemed to be a
dividend to the recipient.
In discussing the significance of interpretation
bulletins, my brother, Cattanach J. stated in the
case of Stickel v. M.N.R. 5 at page 684:
First Information Bulletin 41 is precisely what it is stated to
be, and that is an information bulletin issued by the Deputy
Minister of the Department of National Revenue. The Deputy
Minister does not have the power to legislate on this subject-
matter delegated to him. In reality, this information bulletin is
nothing more than the Department's interpretation of Article
VIII A of the Treaty for departmental purposes.
In answer to the argument based on the Inter
pretation Bulletins defendant's counsel could only
state that he does not agree with them and consid
ers them to be wrong. Certainly the Act has to be
interpreted by the Court and not by rulings of
departmental officers so defendant is not estopped
in the present proceedings from refusing to apply
these Interpretation Bulletins.
Plaintiff also argues that the fact that the law
had to be amended so as to prevent the treatment
of such payments as dividends when paid by a
non-resident corporation which has deducted same
in paying its taxes in the United States indicates
that before these amendments the law could not be
so interpreted. In answer to this argument counsel
for defendant invokes the Interpretation Act 6 , sec
tions 37(2),(3) and (4) which read as follows:
37. (2) The amendment of an enactment shall not be
deemed to be or to involve a declaration that the law under
such enactment was or was considered by Parliament or other
body or person by whom the enactment was enacted to have
been different from the law as it is under the enactment as
amended.
(3) The repeal or amendment of an enactment in whole or in
part shall not be deemed to be or to involve any declaration as
to the previous state of the law.
(4) A re-enactment, revision, consolidation or amendment of
an enactment shall not be deemed to be or to involve an
adoption of the construction that has by judicial decision or
otherwise been placed upon the language used in the enactment
or upon similar language.
In other words it is not permissible to construe an
Act to which the Interpretation Act applies by
reference to a subsequent Act unless such subse
quent Act directs how the prior Act is to be
5 [ 1972] F.C. 672.
6 R.S.C. 1970, c. I-23.
interpreted (See Home Oil Company Limited v.
M.N.R. [1954] Ex.C.R. 622 at 627).
Although the Minister is in no way bound there
fore by the manner in which he has permitted the
amounts received by plaintiff as interest on these
income bonds to be dealt with under section 8(3)
in preceding taxation years, nor by the departmen
tal Interpretation Bulletins which confirm that this
was the proper way to deal with these receipts, and
although no inference can be drawn from the
amendments in the new Income Tax Act changing
the wording of sections 8(3) and 8(4) so as to close
the loophole by virtue of which the Soo Line, not a
taxpayer in Canada, was able to deduct the inter
est payments in computing its taxable income in
the United States while at the same time Canadian
Pacific could by virtue of sections 8(3) and
28(1)(d) deduct these receipts from its own tax
able income, all these arguments lend some sup
port to the conclusion already reached that plain
tiff is entitled to make these deductions
notwithstanding the consequences which may seem
contrary to the scheme of the Act. See in this
connection The King v. Consolidated Lithograph
ing Manufacturing Company, Limited' where
Hughes J. refers with approval to the statement of
Lord Cairns in Partington v. Attorney General
(1869) L.R. 4 H.L. 100 at page 122 in which he
said:
I am not at all sure that, in a case of this kind—a fiscal
case—form is not amply sufficient; because, as I understand
the principle of all fiscal legislation, it is this: if the person
sought to be taxed comes within the letter of the law he must be
taxed, however great the hardship may appear to the judicial
mind to be. On the other hand, if the Crown, seeking to recover
the tax, cannot bring the subject within the letter of the law,
the subject is free, however apparently within the spirit of the
law the case might otherwise appear to be.
FOREIGN TAX CREDIT
In view of the conclusion which I have reached
respecting the treatment by plaintiff as dividends
of the payments received as interest on the income
bonds it is perhaps not necessary to deal with this
second argument of plaintiff which only applies, in
7 [1934] S.C.R. 298 at 302.
any event, to the 1965 taxation year, but as it was
fully argued by both parties, and since there is a
possibility that my conclusions on the first issue
might not be sustained in appeal it is desirable to
deal with this argument.
The witness John Clough, Controller of Canadi-
an Pacific, testified as to the meaning of "per
diem" receipts saying that they are rentals paid by
one railroad to another for the use of its equip
ment, especially freight cars on foreign lines.
These agreements are made under the supervision
of the Interstate Commerce Commission. Canadi-
an Pacific has some of its own lines in Maine and
Vermont so there would be no question of "per
diem" rentals while its cars are on those lines.
However, while goods are going from Canada to
the United States, for example, the tariff charges
are divided between the various railroads on whose
tracks the cars travel, on a mileage basis. Canadi-
an Pacific would receive no freight revenue for any
movement of its cars on foreign lines. It does
receive a "per diem" amount based on the age and
type of the cars and other factors and especially on
the length of time during which the cars remain on
each of these other lines. In North America there
is, of course, a very extensive interchange of cars
from one railroad line to another and reports of
movements are eventually assembled and the
adjustments made. Canadian Pacific also has some
freight sales offices in the United States to induce
the use of Canadian Pacific routes in Canada as
well as operating the lines it owns in Maine and
Vermont and therefore has an establishment in the
United States on which United States taxation is
paid, but the witness stated that this has nothing to
do with the "per diem" charges which are paid
directly to the company in Canada by the various
railroads which owe them. "Per diem" rates are
supposed to be equivalent to the owner's expenses
for maintaining the cars. They are not intended to
yield a profit. The receipts are credited to the
equipment rentals account. The aggregate of the
"per diem" receipts are credited to the income
account and the aggregate of expenses for mainte
nance of the cars are debited there, the intention
being that they should balance. As a result of
Interstate Commerce Commission studies, how
ever, the railroads are deemed to profit to the
extent of 4% of the gross "per diem" receipts,
which amount is taxable as income. In 1966 and
1967, Canadian Pacific's loss on its Maine and
Vermont operations amounted to more than this
income from "per diem" receipts. This was not the
case in 1965, when United States income tax was
paid in the amount of $260,866, of which $255,225
related to "per diem" receipts.
On May 19, 1971, the Department of the Trea
sury in Washington, advised counsel for Canadian
Pacific that "The Internal Revenue Service has
now advised us of its conclusion that the 'per diem'
payments at issue in the case (payments from the
United States carriers for the use of railroad cars
in the United States) constitute rental income to
Canadian Pacific as defined in Para. 6(a) of the
Protocol to the Income Tax Convention between
the United States and Canada and are not to be
treated as industrial and commercial profits within
the meaning of Article II to the Convention. The
Service has further concluded, however, that such
income is effectively connected with the conduct
by Canadian Pacific of its trade or business within
the United States. We see no basis for Treasury
disagreeing with these conclusions. The result is
that while the payments will be taxed by the
United States, the tax will be on the net rather
than the gross basis."
The company did not appeal this "effectively
connected" ruling and as a result of not doing so it
was able to avoid tax liability in the United States
in the 1966 and 1967 tax years. Plaintiff contends
that the United States Treasury Department's
interpretation of the nature of these receipts is
correct, and that the "per diem" receipts are in the
nature of rental for use of their freight cars.
It would appear that the term "rental and royal
ties" as defined in section 6(a) of the Protocol to
the Convention can be given a broad interpreta
tion. Some problem in interpretation arises from
the fact that the net revenue derived from rentals
would normally be considered to constitute "indus-
trial and commercial profits", but by virtue of
Article II (supra) rentals are excluded from this
classification. Plaintiff contends that since it is not
in the business of leasing its freight cars, rental
income could not be considered as commercial
income even in the ordinary business sense. The
said Article II provides that such items of income
(i.e. rentals) "shall be taxed separately or together
with industrial and commercial profits". Accord
ing to the Department of the Treasury ruling they
were found to constitute rental income, and they
were taxed together with industrial and commer
cial profits of Canadian Pacific resulting from the
operation of its lines in Maine and Vermont.
Considerable discussion took place respecting
the meaning of the word "rental" as used in
section 6(a) of the Protocol to the Convention
(supra). It is true that the regulations respecting
payment by railway companies for the use of cars
of other railways while on their tracks lack some of
the elements found in normal rental agreements in
that no term is fixed for the duration of the lease,
and it cannot be terminated at will by the com
pany which owns the cars, as long as the railway
which is using them is not in default in its pay
ments which are based on an ascertainable daily
rate, or is not otherwise in default in respect of the
length of time it is retaining them or the use it is
making of them in accordance with regulations the
details of which do not concern us here. The
payments constitute a charge for use of the cars
and the duration of the use is primarily in the
control of the user. The fact that the rates fixed
are not intended to yield a profit does not prevent
the amounts received from being considered as
rental as profit is not an essential ingredient of a
rental contract. Section 106(1)(d)(iii)(B) of the
Income Tax Act excluded from the 15% withhold
ing tax levied in Canada on payments to non-resi
dents of "rent, royalty or similar payment"
... a payment in respect of the use by a railway company of
railway rolling stock as defined in paragraph (25) of section 2
of the Railway Act;
This relates to payments to American railways of
"per diem" income due to them from use of their
cars in Canada.
I do not believe however that this section is
authority for the interpretation of the words "rent-
al and royalties" in section 6(a) of the Protocol to
the Tax Convention. Moreover, the assessment of
Canadian Pacific's "per diem" income in the
United States was not based on a flat 15% with
holding tax on the "per diem" rental receipts but
was based on the deemed profit on them calculated
at 4%, which was held to be income "effectively
connected with" the conduct of Canadian Pacific's
business in the United States. In interpreting sec
tion 106(1)(d) in a case not dealing with "per
diem" rentals for railroad cars Justice Thurlow, as
he then was, stated in United Geophysical Com
pany of Canada v. M.N.R. 8 :
It seems to me, therefore, that s. 106(1)(d) includes any
payment which is similar to rent but which is payable in respect
of personal property. Moreover, in its ordinary usage, as
opposed to its technical legal meaning, the word "rent", besides
referring to returns of that nature from real property, is broad
enough to include a payment for the hire of personal property.
Thus the Shorter Oxford Dictionary gives as one of the mean
ings of the word, "The sum paid for the use of machinery, etc.
for a certain time." In this definition, there are but two
characteristics of the sum, namely it is for the use of ma
chinery, etc., and it is paid for that use for a certain time.
In the present case of course the time is not certain
but I do not consider that this difference is suf
ficiently critical to lead to a conclusion that the
"per diem" revenues cannot be considered as
rental, as the duration of use of each car can be
and is calculable so as to determine the amount
due.
What we have to interpret in deciding whether
this tax credit should be allowed are the terms of
the Convention and Protocol itself, and not of the
Income Tax Act. The parties are in agreement
8 [1961] Ex.C.R. 283 at 295.
that the terms of a treaty will override an Act and
that it should be construed more liberally. A good
expression of this principle is found in the case of
Saunders v. M.N.R. 9 , in which R.S.W. Fordham,
Q.C. of the Tax Appeal Board stated at page 402:
The accepted principle appears to be that a taxing Act must
be construed against either the Crown or the person sought to
be charged, with perfect strictness—so far as the intention of
Parliament is discoverable. Where a tax convention is involved,
however, the situation is different and a liberal interpretation is
usual, in the interests of the comity of nations. Tax conventions
are negotiated primarily to remedy a subject's tax position by
the avoidance of double taxation rather than to make it more
burdensome. This fact is indicated in the preamble to the
Convention. Accordingly, it is undesirable to look beyond the
four corners of the Convention and Protocol when seeking to
ascertain the exact meaning of a particular phrase or word
therein.
In the present case Canadian Pacific was required
to pay United States income tax in the amount of
$255,225 for 1965 on these "per diem" receipts on
the basis that this was rental income effectively
connected with its permanent establishment in the
United States. It is agreed in paragraph 9 of Part
II of the agreed statement of facts that "the per
diem income was part of Canadian Pacific's
income for Canadian tax purposes and in the
taxation year 1965 Canadian tax was paid thereon
in an amount at least equal to the U.S. tax paid
thereon". Unless the credit is allowed, therefore,
there would be double taxation on this amount,
contrary to the intention of the Tax Convention.
Defendant's argument really amounts to contend
ing that the interpretation made by the United
States taxing authorities was wrong and that these
receipts should have been considered as industrial
and commercial profits within the meaning of
Article I of the Convention and hence not taxable
in the United States, as said profits were not
"allocable" to its permanent establishment there.
(See paragraph 8 of agreed statement of facts
(supra))
While it is true that this Court has the right to
interpret the Canada-U.S. Tax Convention and
Protocol itself and is in no way bound by the
9 (1954) 11 Tax A.B.C. 399.
interpretation given to it by the United States
Treasury, the result would be unfortunate if it
were interpreted differently in the two countries
when this would lead to double taxation. Unless
therefore it can be concluded that the interpreta
tion given in the United States was manifestly
erroneous it is not desirable to reach a different
conclusion, and I find no compelling reason for
doing so. While it may well be that the "per diem"
rentals are not properly "allocable" to the perma
nent establishment of Canadian Pacific in the
United States, this was not the term used by the
ruling of the United States Treasury Department,
which instead uses the words "effectively connect
ed" as a basis for taxation, which words do not
appear in the Tax Convention. The defendant in
order to succeed in Her argument has to satisfy
the Court that these receipts were "industrial and
commercial profits" within the meaning of Article
I rather than rentals. While these receipts have
certain aspects of both, as already stated, Canadi-
an Pacific did nothing to advance or promote this
source of revenue, which is the usual badge of a
commercial or industrial enterprise; on the con
trary it would like to get its cars back sooner and
the "per diem" charges are not fixed at a rate
intended to yield profit although for taxation pur
poses they are deemed to yield a net profit of 4%
on the gross revenue so received.
I conclude therefore that there is no compelling
reason for disagreeing with the treatment given
this source of revenue by the United States Trea
sury, and in the event that plaintiff were not
allowed to include as dividend income by virtue of
section 8(3) of the Income Tax Act the amount of
$841,871 received in 1965 as interest on the
income bonds it should in the alternative be
allowed to claim a foreign tax credit of $260,866
which includes $255,225 resulting from "per
diem" receipts in the United States by virtue of
the provisions of the Canada-U.S. Tax Convention
and Protocol thereto.
In view of this conclusion it is unnecessary to
deal with the alternative argument raised by plain
tiff resulting from section 3(f) of the protocol
which in defining "permanent establishment" goes
on to say "the use of substantial equipment or
machinery within one of the contracting States at
any time in any taxable year by an enterprise of
the other contracting State shall constitute a per
manent establishment of such enterprise in the
former State for such taxable year". By virtue of
this plaintiff argues that even if the revenues
derived from the "per diem" receipts should not
have been considered to be "effectively connected"
with its permanent establishment in the United
States the mere use of its freight cars there is itself
of sufficient importance to constitute a permanent
establishment in itself. Defendant contests this
argument by stating that the use by the American
railroads of Canadian Pacific freight cars in the
United States is not equivalent to the use of this
equipment by Canadian Pacific itself because
Canadian Pacific makes no use of this equipment
once it passes onto the line of another railroad, and
even the freight revenue derived from the mer
chandise carried therein is only allocated to
Canadian Pacific in proportion to the distance in
which this merchandise is carried on its own lines.
While I am inclined to agree with defendant on
this point, therefore, and conclude that the mere
use of the freight cars in the United States by
other railroads does not itself constitute a perma
nent establishment of Canadian Pacific there
within the meaning of section 3(f), this conclusion
does not affect the principal conclusion already
made respecting the right of plaintiff, Canadian
Pacific, to, if necessary, claim this foreign tax
credit in the 1965 taxation year.
CAPITAL COST ALLOWANCE CLAIMS
The witness John Clough, Controller of Canadi-
an Pacific testified at length respecting the speci
men examples the parties agreed to use in the
consideration of the various categories of capital
cost allowance claims in accordance with the
agreed statement of facts. As indicated therein
there are three categories, the first being broken
down into sub-categories. Category I deals with
outlays by plaintiff to perform work on property
owned by it at the request of another party with an
amount being paid by the other party as a contri
bution toward the cost, the first sub-category being
cases where the payment was made by some gov
ernment, municipal or other public authority,
whereas the second sub-category deals with cases
where the payment was made by another corpora
tion or individual. Category II deals with capital
cost allowance claims upon the surrender to plain
tiff of perishable components of private railway
sidings when same are abandoned by the party for
whom they were constructed and who had paid for
these materials and labour at the time of construc
tion. Category III deals with claims for improve
ments to property leased by plaintiff which proper
ties became vested in plaintiff in 1956 by an Act of
Parliament.
Category I(a)
Dealing first with sub-category I(a), Item 2,
witness explained that this item arose out of a
relocation of certain Canadian Pacific Telegraph
lines in Nova Scotia required by the Government
in 1957 as the result of the construction of the
Canso Causeway. These lines had to be diverted
and some attached to poles belonging to the
Canadian National Railways and the Maritime
Telegraph Company. The cost involved for the
work all of which was done by Canadian Pacific
employees was $28,100 for which Canadian Pacif
ic was reimbursed. Out of this amount, $8,690 was
applied to cancel the charge to the depreciation
reserve account respecting these lines, the balance
of $19,410 being set up in what is called the
Donations and Grants Account as required by the
Uniform Classification of Accounts of the Canadi-
an Transport Commission, or the Board of Trans
port Commissioners of Canada, as it was known at
the time. These classifications are reviewed by the
internal auditors of the company as well as its
external auditors and the field auditors of the
Canadian Transport Commission. In this item as
in all items in all three categories, the amount
received by the plaintiff did not exceed the amount
it laid out to perform the work on the properties so
that there was no net revenue or profit realized by
it. (See 15.1 of agreed statement of facts (supra))
The poles to which the new lines were attached
were not necessarily erected on Canadian Pacific
property but in cases where the lines were attached
to C.N.R. poles the cross bars and wires would
nevertheless belong to Canadian Pacific, and the
same applies in the case of lines attached to Mari
time Telegraph poles. The attribution of the
amount of $8,690 to cancel the charge in deprecia
tion reserve account for the lines so moved is in
accordance with the third paragraph of Article
7(B) of the Uniform Classification of Accounts
quoted in 10.1 of the agreed statement of facts
(supra).
Dealing with Item 4, the witness explained that
this was a conversion done at the request of
Ontario Hydro in 1958 as a result of the change
over from 25 to 60 cycle power. The total cost was
$35,500 of which Ontario Hydro agreed to pay
40% or $14,200. This involved the cost of a new
rectifier which was capitalized over a 5 year
period. One-fifth was charged in the 1958 year or
$7,100 with the Hydro proportion of 40% of this or
$2,840 being entered in the Donations and Grants
Account. The documents indicate that this was the
fourth of 5 instalments which were so treated.
Apparently no disallowance has been made of the
capital cost claim for the other four instalments,
three of which appear to have been in preceding
years, as there is a note on one of the documents
filed as an exhibit that no details were required of
the fifth contribution made in 1959. As in the case
of all items in all three categories, no disallowance
was made until the 1965 taxation year. This work
was actually for improvements to the Grand River
Railway which was leased to Canadian Pacific.
Item 15 concerns extensive relocation of lines
which was necessary as a result of the construction
of the St. Lawrence Seaway involving aggregate
expenditures of $2,200,000. The only amount dis
allowed, however, was $314,852 entered in Dona
tions and Grants in 1961, representing the value of
certain work done on the Ontario and Quebec
Railway and Atlantic and Northwest Railway
both operated by Canadian Pacific under perpetu
al leases. This work was paid for by the St. Law-
rence Seaway Authority. Here again the devia
tions to the lines were not requested by Canadian
Pacific which was satisfied with the former loca
tion but were necessitated by the Seaway construc
tion. In the case of M.N.R. v. Massawippi Valley
Railway Company 10 , Mr. Justice Dumoulin had
occasion to examine the leases of the Ontario and
Quebec Railway and Quebec Central Railways to
Canadian Pacific in perpetuity in the light of the
provisions of the Quebec Civil Code which the
parties agreed was applicable with respect to these
emphyteutic leases and he concluded that for all
material purposes the lessor companies were little
more than mere corporate designations and in
effect the lessee, the Canadian Pacific took over all
their obligations.
Category I(b)
Turning to grants from private corporations,
Items 10.1 and 21.1 both concern grants from
Alberta Mining Corporation for the construction
of a speer line to provide service for an industrial
development. The capital expenditure involved was
about $100,000 and the payments were actually
made by Athabaska Valley Development Corpora
tion to whom Alberta Mining Corporation trans
ferred its rights in its agreement with Canadian
Pacific. The amounts disallowed were $24,793 in
1960 and $15,949 in 1962. Canadian Pacific
owned the track and did not share the ownership
with Alberta Mining Corporation or Athabaska
even though some of it ran over Alberta Mining
Corporation land.
Item 9 dealt with rearranging, extending and
transposing some copper wires at the request of the
Bell Telephone Company in 1959 so as to provide
telephone service between White Fish Falls and
Little Current. The cost was $29,000 of which
$8,100 was capital cost and the Bell Telephone
10 [1961] Ex.C.R. 191.
Company contributed $4,000 as well as rental of
$1,520 a year for a minimum of 5 years. The
$4,000 item entered in Donations and Grants was
disallowed.
Items 28 and 38.1 concern the replacement of a
loading platform in two new locations, in 1963 and
1964, relocating an overhead crane and rearrang
ing yard trackage at the request of United Grain
Growers, to clear an area for the construction of a
new grain elevator. The total cost was $14,000, of
which $9,329 was eventually charged to Donations
and Grants.
Item 44 concerns a similar grant from Federal
Grain Company in the 1965 taxation year to cover
the estimated cost of $4,800 for rearranging track-
age and extending siding tracks to accommodate a
grain elevator. The amount of the contribution
charged to Donations and Grants and disallowed
was $2,141.
Category II
Item 50 was chosen as a typical specimen case
dealing with private siding agreements. The wit
ness Clough explained that when a client ap
proaches a railway to build a siding, the railroad
provides at its expense all non-perishable materials
such as tracks for which the lessee pays rental. In
addition to this the lessee pays for what are con
sidered as perishable items which include, ties,
grading, gravel as well as the work done for instal
lation. When the siding is no longer required the
railway company is then entitled to rip it up and
recover whatever they wish, billing the former
lessee for the cost of this. In some rare cases the
railway prefers to retain the siding for its own use.
When the siding agreement is cancelled the rail
road then records the perishable materials as a
capital asset with a concurrent credit to the Dona
tions and Grants Account. In the example chosen
the amount involved was $2,851 for the year
ending December 31, 1966, when the labour and
perishable materials reverted to Canadian Pacific
upon cancellation of the private siding agreement.
Part of the track is of course on the land belonging
to the lessee but the lease agreement clearly pro
vides that on termination of the lease the railway,
company may remove these materials from any
portion of the siding outside its property or on the
premises of the other party.
Category III
Item 65 was chosen as a specimen case under
the third category dealing with improvements to
leased properties. By S.C. 1956, c. 55, proclaimed
to take effect from October 18, 1956, the assets of
these formerly leased railways became vested in
Canadian Pacific and an entry was made in its
books transferring these improvements from the
Donations and Grants Leased Lines Accounts to
Donations and Grants Owned Lines. This was
done in accordance with the provisions of the
Uniform Classification of Accounts and the
amount shown as increases between 1955 and
1956 which was disallowed is $107,639. It was
emphasized by Canadian Pacific that it is only
claiming for the improvements made by it to the
property which had formerly been leased and not
for the value of the original property, on the basis
that these improvements were Canadian Pacific
property both before and after the vesting.
I have set out the above facts brought out in
evidence concerning the specimen examples dealt
with by the parties in each of the three categories
before reaching any conclusions as to whether
these additions to plaintiff's capital cost base
should have been allowed or disallowed for the
taxation years in question, in any given category,
since many of the arguments and much of the
jurisprudence submitted by the parties on this
issue is applicable to one or more of the categories.
During the course of this argument two further
sections of the Income Tax Act were referred to
which it might be convenient to quote here:
84A. (1) Notwithstanding subsection (3) of section 84,
where property of the following description, namely:
(a) railway track or railway track grading, or
(b) a crossing as defined in subsection (9) of section 265 of
the Railway Act,
has, prior to 1956, been acquired by a taxpayer, that property
shall, for the purposes of section 20 and regulations made under
paragraph (a) of subsection (1) of section 11, be deemed to
have been acquired at a capital cost equal to the amount that,
according to the books of the taxpayer, was its value at the end
of 1955.
(2) For the purposes of this section, in determining the
amount that, according to the books of the taxpayer, was the
value of any property at the end of 1955, no amount shall be
included in respect of property that, at that time, was leased
from any other person.
and section 20(6)(h) which reads:
20. (6) For the purpose of this section and regulations made
under paragraph (a) of subsection (1) of section 11, the follow
ing rules apply:
(h) where a taxpayer has received or is entitled to receive
from a government, municipality or other public authority, in
respect of or for the acquisition of property, a grant, subsidy
or other assistance other than an amount authorized to be
paid under an Appropriation Act and on terms and condi
tions approved by the Treasury Board for the purpose of
advancing or sustaining the technological capability of
Canadian manufacturing or other industry, the capital cost
of the property shall be deemed to be the capital cost thereof
to the taxpayer minus the amount of the grant, subsidy or
other assistance;
As counsel for defendant points out the fact that
the items have been properly recorded in accord
ance with the Uniform Classification of Accounts
as required by section 328 of the Railway Act"
and the regulations of the Canadian Transport
Commission does not bind the Minister of Nation
al Revenue with respect to the tax treatment of
same unless the expenditure on which capital costs
is claimed can be brought strictly within the provi
sions of section 84A(3) (supra). Plaintiff, however,
contends that even if these items cannot be
claimed within section 84A(3) they can still be
brought within section 11(1) (a) dealing with capi
tal costs allowed to any taxpayer. I do not believe
that anything turns on this distinction in the
present case, however.
Counsel for defendant suggests that these ex
penditures were not all incurred "in respect of the
repair, replacement, alteration, or renovation of
depreciable property of the taxpayer" in the words
of the said section. I cannot agree with this argu
ment. Aside from the fact that in some of the
" R.S.C. 1970, c. R-2.
agreements the actual word "replacement" was
used, the words appear to me to be broad enough
to cover relocation that was done in the typical
cases dealt with. There might be some slight doubt
with respect to category II which dealt with the
capitalization in the Donations and Grants
Account of perishable materials, and labour costs
arising out of the construction of private sidings
when these were surrendered to plaintiff for its
exclusive use, but the removal of a siding is cer
tainly analogous to the replacement or alteration
thereof. With regard to the other categories relo
cation is certainly equivalent to a replacement or
alteration.
Both parties agree that the word "deemed" in
section 84A(3)(b) means in this context "conclu-
sively presumed". Counsel for defendant raised an
alternative argument with respect to item 15 in
category I, suggesting that since not all of the
work in connection with the deviation and altera
tion of tracks and other works resulting from the
St. Lawrence Seaway project was done by the
Canadian Pacific but some of it was done by the
St. Lawrence Seaway Authority itself for the
Canadian Pacific a distinction should be made
because not all of this work was "an expenditure
incurred by a taxpayer". Since the agreement
provides that all expenses were to be borne by the
Seaway Authority, in any event, in order to restore
railway facilities as altered so as to be substantial
ly equivalent to the existing facilities and merely
provided that some of the work could be done by
the railway when this could be done more expedi
tiously and billed to the Seaway Authority, while
other work would be done by the Seaway Author
ity itself, it would appear to be ignoring the com
mercial realities of the situation to make a distinc
tion based on the precise wording of section
84A(3). In this connection I would refer to a
judgment of Jackett P. as he then was in Ottawa
Valley Power Company v. M.N.R. 12 , in which at
pages 76-77 he stated:
12 [1969] 2 Ex.C.R. 64.
The next question is whether, assuming that I am right in
concluding that the appellant would have been entitled to
capital cost allowance if it had received the cash from Hydro
and expended it on the capital additions and improvements
itself, it is in any different position because the bargain took the
form of Hydro undertaking to make the expenditures in such a
way that the additions and improvements would be made to the
appellant's assets and belong to the appellant.
The transaction that actually took place and the transaction
that might have taken place (under which the appellant would
have been entitled to capital cost) come to the same thing from
a commercial point of view. The question is whether this is a
case where the result from a tax point of view depends on the
way in which the result was achieved. I find it very difficult to
reach a conclusion on that question where one has the com
plication of an existing supply contract that is to continue for a
term being amended in consideration of a transfer of assets to
be used as capital assets in the supplier's business.
In the present case there is no complication arising
out of any existing supply contract between
Canadian Pacific and the St. Lawrence Seaway
Authority. I would therefore make no distinction
based on the question of who actually did the work
or incurred the initial expenditure since in all the
cases in question the reconstructed facilities
became the property of Canadian Pacific with the
cost being borne by the Seaway Authority.
While the question was not argued before me I
have given some consideration to whether the word
"expenditure" as used in section 84A(3) should be
interpreted so as to mean "net expenditure" so as
to deduct from any such expenditure sums
received by third parties as a contribution thereto,
but I have reached the conclusion that this cannot
validly be done, although it would solve the prob
lem and lead to a more equitable result from the
point of view of the Minister of National Revenue,
since the strict wording of section 84A(3) and the
application of section 7(B) of the Uniform Clas
sification of Accounts (supra) results in the sums
received not being taken into income and taxed
accordingly, but (except to the extent that they are
applied to reduce or cancel the amounts otherwise
charged to accrued depreciation account) being
entered in the Donations and Grants Account and
forming part of shareholders' equity. There is no
suggestion in the proceedings in the present case
that contributions should be treated in any other
manner and it would not appear to be appropriate
by mere interpretation of the word "expenditure"
in section 84A(3) to deduct them from the amount
actually expended by or on behalf of the taxpayer
with respect to the repair, replacement, alteration
or renovation of depreciable property which is to
be added to its cost base for capital cost allowance
purposes pursuant to section 84A(3)(b). Reference
was made to the judgment of Cameron J. in the
case of Okalta Oils Limited v. M.N.R. 13 , in which
he stated at page 72:
While it may perhaps be said that from one point of view the
appellant "incurred" the costs by becoming liable and paying
the costs of labour and material, it cannot be said in the light of
what occurred that it suffered or was put to any loss or that on
the operation it was out-of-pocket. I find it impossible to put
upon the subsection such a construction as would enable a
corporation which is not out-of-pocket on its operation, but on
the contrary has had all its expenses paid for by another
party—in this case a Crown corporation—to be repaid for such
expenses out of taxes which would otherwise accrue to the
Crown. To do so would mean that the legislation was intended
to confer not only indemnity for such losses, but also an
additional bonus of a like amount, an interpretation which I
think Parliament did not contemplate.
Plaintiff distinguishes this case, however, on the
basis that it dealt with section 8(6) of the Income
War Tax Act which was designed to encourage oil
exploration by enabling a taxpayer who had
incurred costs in drilling an oil well which proved
unproductive to recover out-of-pocket expenses by
means of tax deductions which is an entirely dif
ferent issue from the present case.
Defendant's counsel further contended that if
the net cost argument cannot be accepted then we
must look at section 20(6)(h) at least with respect
to the items in category I(a). The question that
arises is whether Canadian Pacific received or was
entitled to receive, "from a government, munici
pality, or other public authority, in respect of or
for the acquisition of property, a grant, subsidy, or
other assistance ... for the purposes of advancing
or sustaining the technological capability of
Canadian manufacturing or other industry".
Although the argument was not raised before me I
would seriously doubt whether the sums which
Canadian Pacific received from public authorities
for the relocation of railway tracks or telecom
munication lines were "for the purpose of advanc
ing or sustaining [its] technological capability"
13 [1955] Ex.C.R. 66.
since in each case the evidence indicated that it
was satisfied with the lines as they were and
merely moved them to accommodate the public
authority in question. In any event, I do not find
that these payments can be considered as "a grant,
subsidy, or other assistance". This section has been
dealt with in a number of cases. In the case of
G.T.E. Sylvania Canada Limited v. The Queen 14 ,
my brother Justice Cattanach, states at page 736:
Again referring to the dictionary meanings of the words
"grant" and "subsidy" there is one common thread throughout,
that is a gift or assignment of money by government or public
authority out of public funds to a private or individual or
commercial enterprise deemed to be beneficial to the public
interest. Subject to minor refinements the words "grant" and
"subsidy" appear from their dictionary meanings to be almost
synonymous.
He goes on to apply the "ejusdem generis" doc
trine of construction and concludes at pages
736-737:
The fact is that the general words "or other assistance" can
hardly avoid being ancillary in nature to the words "grant" and
"subsidy". It seems to me that where there are ancillary words
of this nature it is a sound rule not to give such a construction
to the ancillary words as will wipe out the significance of the
particular words which antecede them.
As I have said before, the constant and dominating feature in
the words "grant" and "subsidy" is that each contemplates the
gift of money from a fund by government to a person for the
public weal. Something concrete and tangible is to be bestowed.
For the reasons I have expressed the general words "or other
assistance" must be coloured by the meaning of those words.
This decision was upheld in appea1 15 although
Chief Justice Jackett was careful to state in a
footnote at page 214 that he wished to reserve
consideration of the portion of the judgment based
on the application of the "ejusdem generis" rule.
In the case of Ottawa Valley Power Company v.
M.N.R. (supra) President Jackett, as he then was,
stated at pages 71-72:
I do not think that the words in paragraph (h)—"grant, subsidy
or other assistance from a ... public authority"—have any
application to an ordinary business contract negotiated by both
parties to the contract for business reasons. If Ontario Hydro
were used by the legislature to carry out some legislative
scheme of distributing grants to encourage those engaged in
business to embark on certain classes of enterprise, then I
14 [1974] 1 F.C. 726.
15 [1974] 2 F.C. 212.
would have no difficulty in applying the words of paragraph (h)
to grants so made. Here, however, as it seems to me, the
legislature merely authorized Ontario Hydro to do certain
things deemed expedient to carry out successfully certain
changes in its method of carrying on its business and the things
that it was so authorized to do were of the same character as
those that any other person carrying on such a business and
faced with the necessity of making similar changes might find
it expedient to do. I cannot regard what is done in such
circumstances as being "assistance" given by a public authority
as a public authority. In my view section 20(6)(h) has no
application to the circumstances of this case.
See also St. John Dry Dock and Shipbuilding
Co. Ltd. v. M.N.R. 16 , at page 193, in which Thor-
son J. stated:
The fact that an amount is described as a Government
subsidy does not of itself determine its character in the hands of
the recipient for taxation purposes. In each case the true
character of the subsidy must be ascertained and in so doing
the purpose for which it was granted may properly be
considered.
In the present case although the relocation of
the tracks or telecommunication lines was done to
enable works to be undertaken which may have
been for the public benefit it cannot be said that
the contributions by the governmental authorities
to plaintiff to reimburse it for the cost of these
works are in the nature of grants or subsidies to
induce plaintiff to undertake something which in
itself was for the public benefit. I conclude that
section 20(6)(h) does not apply in the present case.
Some of the reasoning applied by Chief Justice
Jackett in the Ottawa Valley Power case is of
interest in reaching a conclusion on the issue
raised in the present case although it must be
remembered that that case did not deal with sec
tion 84A(3) and furthermore was complicated by
the fact that there were also certain contracts
involved which formed part of the consideration, a
factor which is absent in the present case. At page
74, he states:
The respondent says, with great force, that an analysis of the
appellant's position before and after the change-over shows that
the additions and improvements to its plant that enabled it to
produce 60 cycle power instead of 25 cycle power cost it exactly
nothing. The respondent might have added that this view is
reinforced by the appellant's treatment of the acquisition on its
own books. I find it very difficult to escape either the logic or
the justice of the respondent's contention. The appellant did not
have to make an expenditure of a single cent on capital account
in connection with the change-over.
16 [1944] Ex.C.R. 186.
He goes on to consider the effect the supply con
tract might have had however, had this issue been
raised, pointing out that had Ontario Hydro paid
this sum to the appellant for the desired amend
ment to the supply contract the appellant, Ottawa
Valley Power, would have then incurred the capi
tal cost of the additions and improvements even
though it had in effect been reimbursed by Hydro,
and it would have been entitled to capital cost
allowance in respect of the capital cost so incurred.
In reaching this conclusion he follows the case of
Corporation of Birmingham v. Barnes'', which
plaintiff also relies on in the present case, in which
the appellant corporation had entered into an
agreement with the company to lay a tramway
track to the company's works in return for which
they received a specified sum and also received a
grant from the Unemployment Grants Committee
for sums it had expended on the renewal of its
tramway tracks. It was held that the payment by
the company and the grant from the Unemploy
ment Grants Committee could not be taken into
account in ascertaining the "actual cost" to the
Corporation of the tramway tracks in question for
the purpose of computing the allowance due for
wear and tear of such tracks, i.e. depreciation. At
page 217 in his judgment, Lord Atkin states:
What a man pays for construction or for the purchase of a work
seems to me to be the cost to him; and that whether someone
has given him the money to construct or purchase for himself,
or before the event has promised to give him the money after he
has paid for the work, or after the event has promised or given
the money which recoups him what he has spent.
This case is relevant to my decision not to
interpret the word "expenditure" in section 84A(3)
as "net expenditure".
In reaching his conclusion Chief Justice Jackett
distinguished in a footnote [at page 76] the Ameri-
can case of Detroit Edison Co. v. Commissioner of
Internal Revenue", which made a contrary find
ing, stating that this decision seems to have been
based on the fact that the payments received were
not taken into revenue, and concluding that "If the
payments had been taken into revenue, it would
17 (1935) 19 T.C. 195
'I (1942) 319 US 98.
seem that the Court might have reached the oppo
site result". In the present case, of course, the
receipts were not taken into revenue either as a
result of the requirements of the Uniform Classifi
cation of Accounts. In the Detroit Edison case it
was stated at page 102:
But we think the statutory provision that the "basis of
property shall be the cost of such property" normally means,
and that in this case the Commissioner was justified in applying
it to mean, cost to the taxpayer.
and again at page 103:
But it does not follow that the Company must be permitted
to recoup through untaxed depreciation accruals an investment
it has refused to make. The Commissioner was warranted in
adjusting the depreciation base to represent the taxpayer's net
investment.
This would be in line with the reasoning in the
Okalta case (supra) but it is doubtful that it can
be applied to the interpretation of section 84A(3)
of the Income Tax Act. It was dealing with the
words "cost of such property", the Birmingham
case was dealing with the words "actual cost"
while we are dealing in section 84A(3)(b) with the
word "expenditure" and "capital cost". I should
have thought that the words "actual cost" as used
in the Birmingham case would have had a more
limited meaning than the words used in the
Income Tax Act or the American statute and
would have provided greater justification for
taking into consideration in reduction of such
"actual cost" any grants or payments received, but
despite this the said case concluded otherwise.
To summarize, therefore, I have found (1) that
no distinction should be made between the items
classified in category I(a) and category I(b), and
(2) that all these items, together with those classi
fied in category II were properly dealt with by
plaintiff in its tax returns since capital cost allow
ance can be claimed on the amounts shown in the
Donations and Grants Account despite the contri
bution made by governmental authorities or corpo
rate or individual third persons to Canadian Pacif
ic to relocate or construct these facilities. There
remains for consideration category III dealing
with improvements to property formerly leased on
long term emphyteutic leases, but since 1956
owned by plaintiff. These improvements made
throughout Canada by Canadian Pacific during
the period when these lines were leased by it, all on
long term leases, and before it took over ownership
of these lines in 1956, were transferred in that year
from the account entitled Donations and Grants
Leased Lines to Donations and Grants Owned
Lines. As indicated previously, dealing with two
such cases in the Province of Quebec, Mr. Justice
Dumoülin, in the case of M.N.R. v. Massawippi
Valley Railway Company (supra) concluded that
since they were in the nature of emphyteutic leases
the obligations of the lessor were really those of
the lessee, Canadian Pacific, and although he was
dealing with interest on bonds, and not with
improvements made by Canadian Pacific to such
properties, the same reasoning would appear to be
applicable. Whether or not this same reasoning
would apply to long term leases of railway lines
elsewhere in Canada was not argued before me,
and I do not believe it is necessary for me to
express an opinion on that question in order to
decide this issue. Defendant relies on the provi
sions of section 84A(1) and (2) which indicate that
notwithstanding section 84A(3), where the taxpay
er has acquired property prior to 1956 it shall be
carried in the taxpayer's books at a capital cost
equal to its value at the end of 1955 and that for
this purpose no amount shall be included in respect
of property which was at that time leased from any
other person. Since ownership of this property was
only acquired by Canadian Pacific in 1956 it
cannot be said to have been acquired by it prior to
1956. Section 84A(1) therefore has no application
but section 84A(2) must have reference not only to
section 84A(1) but to the whole of section 84A
since it uses the words "For the purposes of this
section" and not "for the purposes of subsection
(1)". At the end of 1955, the property was leased
property and therefore by virtue of the said subsec
tion (2) "no amount shall be included in respect of
property that, at that time, was leased from any
other person".
Plaintiff woula make a distinction between the
capital cost claims arising out of the value of the
leased property so acquired, and the present claim
which is limited only to the capital cost which
plaintiff claims for improvements made by it to the
leased property during the time it was under lease
which it contends it has always been entitled to
claim just as if these improvements had been made
to its own property. I am of the view that the
express wording of section 84A(2) must override
the argument which can be made arising out of the
juridical significance of long term leases and their
effect on the capital cost treatment by the lessee of
improvements made on such property. Section
84A(2) states categorically "no amount shall be
included". This would appear to be broad enough
not only to refer to amounts arising from the
capital costs of the property carried in the books of
the former owner but also to any amounts relating
thereto carried in the books of Canadian Pacific
for improvements made by it to the said leased
property. Plaintiff's appeal fails on this issue
therefore.
To summarize, I have concluded the various
issues raised as follows:
1. Plaintiff is entitled to treat the interest received
on income bonds as dividend income under section
8(3) of the Income Tax Act and therefore to the
deduction of $404,893 claimed for taxation in its
1965 taxation year, $388,930 claimed for its 1966
taxation year and $383,912 claimed for its 1967
taxation year.
2. Alternatively, in the event that such deduction
is disallowed plaintiff is entitled to claim foreign
tax credit in the amount of $260,866 for its 1965
taxation year.
3. Plaintiff is entitled to capital cost allowance on
amounts posted in its Donations and Grants
Account and classified by the parties to the pro
ceedings under categories I(a), I(b) and II but is
not entitled to such allowances on the amounts
classified under category III.
Plaintiff's tax re-assessment for each of the
years 1965, 1966 and 1967 is referred back to the
Minister for further re-assessment in accordance
with these reasons, with costs in favour of plaintiff.
You are being directed to the most recent version of the statute which may not be the version considered at the time of the judgment.