Norton v. The Queen

Norton v. The Queen
Court (s) Database
Tax Court of Canada Judgments
Date
2010-02-02
Neutral citation
2010 TCC 62
File numbers
2008-1019(IT)I
Judges and Taxing Officers
Wyman W. Webb
Subjects
Income Tax Act
Decision Content
Docket: 2008-1019(IT)I
BETWEEN:
LOUISE C. NORTON,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
____________________________________________________________________
Appeals heard together on common evidence with the appeals of
Gregory W. Norton (2008-1020(IT)I)
on May 27 and 29, June 1, and December 1 and 2, 2009
at Halifax, Nova Scotia
Before: The Honourable Justice Wyman W. Webb
Appearances:
Counsel for the Appellant:
Joseph M. J. Cooper
Counsel for the Respondent:
Toks C. Omisade
____________________________________________________________________
JUDGMENT
The appeals from the reassessments made under the Income Tax Act (the “Act”) in relation to the Appellant’s 2001, 2002, 2003 and 2004 taxation years are allowed, with costs, and the matter is referred back to the Minister of National Revenue for reconsideration and reassessment on the basis that:
(a) the income, for the years under appeal, of the partnership between the Appellant and Gregory Norton is to be reduced by the following amounts:
Description
2001
2002
2003
2004
Amount allowed by agreement:
$2,434
$1,588
$6,006
$1,888
Nets, traps and related material:
$2,768
$5,521
$12,082
$11,376
Reels and related materials:
$3,600
$7,578
$4,386
$3,855
Appraisal and water test:
$8
$8
$8
$8
Interest for 2003 re 2000 Ford Explorer debt (25% of $1,354):
$338
All Terrain Vehicles – repairs and new tires
$267
Tolls:
$302
$231
$38
$39
Rental of Stone Roller:
$80
Total:
$9,112
$15,006
$23,125
$17,166
and
(b) the $215.04 spent by the Appellant and Gregory Norton to acquire a police scanner in 2002 is to be added to the undepreciated capital cost of the Class 8 assets of the partnership.
It is further ordered that the filing fee of $100 be refunded to the Appellant.
Signed at Ottawa, Canada, this 2nd day of February, 2010.
“Wyman W. Webb”
Webb J.
Docket: 2008-1020(IT)I
BETWEEN:
GREGORY W. NORTON,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
____________________________________________________________________
Appeals heard together on common evidence with the appeals of
Louise C. Norton (2008-1019(IT)I)
on May 27 and 29, June 1, and December 1 and 2, 2009
at Halifax, Nova Scotia
Before: The Honourable Justice Wyman W. Webb
Appearances:
Counsel for the Appellant:
Joseph M. J. Cooper
Counsel for the Respondent:
Toks C. Omisade
____________________________________________________________________
JUDGMENT
The appeals from the reassessments made under the Income Tax Act (the “Act”) in relation to the Appellant’s 2001, 2002, 2003 and 2004 taxation years are allowed, with costs, and the matter is referred back to the Minister of National Revenue for reconsideration and reassessment on the basis that:
(a) the income, for the years under appeal, of the partnership between the Appellant and Louise Norton is to be reduced by the following amounts:
Description
2001
2002
2003
2004
Amount allowed by agreement:
$2,434
$1,588
$6,006
$1,888
Nets, traps and related material:
$2,768
$5,521
$12,082
$11,376
Reels and related materials:
$3,600
$7,578
$4,386
$3,855
Appraisal and water test:
$8
$8
$8
$8
Interest for 2003 re 2000 Ford Explorer debt (25% of $1,354):
$338
All Terrain Vehicles – repairs and new tires
$267
Tolls:
$302
$231
$38
$39
Rental of Stone Roller:
$80
Total:
$9,112
$15,006
$23,125
$17,166
(b) the $215.04 spent by the Appellant and Louise Norton to acquire a police scanner in 2002 is to be added to the undepreciated capital cost of the Class 8 assets of the partnership; and
(c) the proceeds of disposition related to the sale by the Appellant of his lobster licence in 2002 were $75,000 and not $100,000.
It is further ordered that the filing fee of $100 be refunded to the Appellant.
Signed at Ottawa, Canada, this 2nd day of February, 2010.
“Wyman W. Webb”
Webb J.
Citation: 2010TCC62
Date: 20100202
Docket: 2008-1019(IT)I
BETWEEN:
LOUISE C. NORTON,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent,
Docket: 2008-1020(IT)I
AND BETWEEN:
GREGORY W. NORTON,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
REASONS FOR JUDGMENT
Webb J.
[1] The Appellants, who are married to each other, were carrying on a fishing business as a partnership throughout 2001, 2002, 2003 and 2004. It was agreed by the parties that 50.5% of the profits (or losses) of the partnership should be allocated to Gregory Norton and 49.5% of such profits (or losses) should be allocated to Louise Norton. As a result of a very thorough audit by the Canada Revenue Agency (“CRA”), the Appellants were reassessed:
(a) to deny some of the amounts claimed as expenses on the basis that such expenditures had not been incurred or were personal expenditures;
(b) to reclassify other amounts claimed as expenses as capital expenditures;
(c) to reduce the percentage of business use of the automobiles (which resulted in a reduction in the amount allowed as automobile expenses); and
(d) to reduce the percentage that the home was used for business purposes (which resulted in a reduction in the amount allowed as business use of the home expenses).
There were also some acquisitions of capital assets and disposition of capital assets that had not been taken into account when the tax returns for the Appellants were prepared and filed.
[2] The assumptions made by the Minister in determining the Appellants’ tax liability for 2001, 2002, 2003 and 2004 are set out in paragraph 9 of the thirty-four page Reply (which included six pages of Schedules). There are 81 subparagraphs of paragraph 9 designated by letters (from (a) to (cccc)) with several subparagraphs being further divided into separate clauses. Several subparagraphs or clauses include tables with several different amounts. Needless to say the hearing took longer than the one day that was originally scheduled for the hearing.
[3] There was a significant gap in time between the conclusion of the Appellants’ case on June 1, 2009 and the opening of the Crown’s case on December 1, 2009. During that time the parties were able to complete and execute a Partial Agreed Statement of Facts which consolidated a list of the matters that the Appellants were no longer pursuing and a list of the items that were being allowed by the Respondent. Since the matters that the Appellants are no longer pursuing will not change the reassessments, there is no need to list those matters.
[4] The following table lists the amounts that the Respondent has agreed to allow as a deduction in computing the income of the partnership:
Paragraph in the Reply:
Description:
Amount Allowed:
2001
2002
2003
2004
9(h)
Crew shares
$1,570.63
9(j)
Boat Fuel
$442.06
9(k)
Line
$674.28
9(k)
Rope
$754.11
9(l)
Line
$440.54
9(m)
Line
$523.65
9(m)
Rope
$1,133.80
9(m)
Bait bags
$265.00
9(o)
Line
$928.40
9(o)
Rope
$702.00
9(y)(i)
Lamp etc.
$65.98
9(y)(iii)
Line
$325.15
9(hh)(i)
Insurance
$535.50
9(oo)(ii)
Line
$284.85
9(pp)(iii)
Line
$679.14
9(tt)
Outboard motor
$408.46
9(ggg)(iii)
Property taxes
$493.42
9(ggg)(iii)
Barbeque
$69.99
9(iii)
Property taxes
$471.12
9(kkk)
Property taxes
$519.74
9(kkk)
Hunting ammo, fan
$230.53
9(kkk)
Hotel in Yarmouth
$139.32
9(lll)
Meal
$16.35
9(lll)
Cape Cod Colony Motel
$50.00
9(lll)
Property taxes
$131.30
9(lll)
Credit Notes
$60.00
Total:
$2,433.86
$1,587.64
$6,005.77
$1,888.05
[5] The Respondent also agreed that the $215.04 spent by the Appellants to acquire a police scanner in 2002 should be added to the undepreciated capital cost of the Class 8 assets of the partnership.
[6] As part of the reassessment of Gregory Norton, the Minister had assumed that he sold his lobster licence for $100,000 in 2002. The Respondent has agreed that the proceeds of disposition for this licence were $75,000 not $100,000, which will affect the balance of the cumulative eligible capital of Gregory Norton as of the end of 2002.
[7] There are a number of matters that were not resolved between the parties. Counsel for the Appellants in his closing arguments identified the items that the Appellants were still disputing and these will be dealt with in these reasons. The number and letter references are to the subparagraphs of the Reply.
9(h) – Crew Shares
[8] The assumption made by the Minister was that $8,071 claimed by the Appellants as crew shares in 2003 had not been incurred. As part of the Partial Agreed Statement of Facts the Respondent agreed that $1,571 of this amount should be allowed as a deduction leaving a balance that was denied of $6,500. During closing arguments counsel for the Appellants stated that the Appellants should be allowed to deduct $1,060 of this $6,500 amount (and therefore the Appellants were no longer claiming that they were entitled to deduct $5,440[1]).
[9] The Appellants called three witnesses – the two Appellants and their bookkeeper. The only witness for the Appellants who had any knowledge of this claim was the bookkeeper. The total amount claimed as crew shares in 2003 was $13,571. Since the Minister had denied a claim for $8,071, the amount that had been allowed (at the time of the reassessment) was $5,500. The bookkeeper stated during her testimony that the $5,500 (that had been allowed) related to the tuna wages or share paid to Chance Norton (who is the Appellants’ son). The additional claim now being made by the Appellants is that Chance Norton was paid an additional amount of $1,060 in 2003 by two cheques – one for $660 dated July 3, 2003 and the other for $400 dated December 19, 2003. As a result the total amount paid to Chance Norton, as alleged by the Appellants, in 2003 would be $6,560.
[10] The auditor for the CRA also testified during the hearing. She stated that she had reviewed the tax return that Chance Norton had filed for 2003 and that he had only reported $5,500 as his income from crew shares in 2003. Chance Norton did not testify at the hearing. In the Law of Evidence in Canada, second edition, by Sopinka, Lederman and Bryant, it is stated at p. 297 that:
In civil cases, an unfavourable inference can be drawn when, in the absence of an explanation, a party litigant does not testify, or fails to provide affidavit evidence on an application, or fails to call a witness who would have knowledge of the facts and would be assumed to be willing to assist that party.
[11] Chance Norton would have knowledge of the amount that he was paid in 2003 and, since he is the Appellants’ son, would presumably be willing to assist the Appellants, if his testimony would have assisted them[2]. Without hearing from Chance Norton to confirm the amount that he was paid in 2003 and to explain why, if he had been paid $6,560 as crew shares in 2003, he only reported $5,500 in his tax return, the Appellants cannot succeed on this issue. The additional amount of $1,060 that the Appellants claim was paid to Chance Norton in 2003 (in addition to the $5,500) is not allowed as a deduction in computing the income of the Appellants.
9(k),(l),(m) and (o) – Anchors, nets, traps, reels and related materials
[12] The following amounts had been claimed as expenses by the Appellants but were reclassified by the auditor for the CRA as capital expenditures (and added to the Class 8 assets of the partnership as additions):
2001
2002
2003
2004
Anchors, nets, traps and related materials
$2,767.72
Nets, traps and related materials
$5,520.83
$12,081.78
$11,376.10
Reels and related materials
$3,600.20
$7,577.69
$4,386.38
$3,854.90
Total:
$6,367.92
$13,098.52
$16,468.16
$15,231.00
[13] The bookkeeper testified that these amounts had been included in the amount claimed as “gear” and were claimed as expenses in computing the income of the Appellants for these years. The amounts that were claimed as “gear” in determining the income of the partnership for 2001 to 2004 were the following amounts:
2001
2002
2003
2004
Gear:
$13,204.57
$16,119.60
$25,665.51
$24,054.66
[14] It also appears that in some of the years prior to the years under appeal, the amount spent on traps was treated as a capital expenditure. It appears that Gregory Norton was claiming an investment tax credit in relation to the traps. Investment tax credits are determined by multiplying the capital cost of qualifying property, which pursuant to the provisions of section 4600 of the Income Tax Regulations, are restricted to depreciable property of the classes as set out in that section of the Regulations, by the applicable percentage. Therefore in order to claim an investment tax credit in relation to the traps, the traps would have to be capital property.
[15] The issue in this case is whether the amount spent on traps and nets during 2001 to 2004 should be treated as a deductible expense or as a capital expenditure. Not only was this not an easy matter for the Appellants to resolve (who, in some years, treated the amounts spent on traps as capital expenditures and for the years under appeal, as an expense), it also appears that the CRA is not taking a definitive position that the amounts spent must be treated as capital expenditures.
[16] In the fishing income guide published by the CRA (T4004), it is stated in relation to Line 9137 -- Nets and traps in part as follows:
Nets and traps include lines, hooks, buoys, anchors, and radar reflectors.
Generally, you cannot deduct the entire cost of nets and traps you bought in the year. Instead, there are two methods you can use to deduct these costs.
Method 1 – Capital cost allowance (CCA) method
Capitalize the cost of nets and traps and claim CCA.
See Chapter 3 for details on CCA.
Method 2 – Inventory method
Include in inventory the cost of nets and traps and deduct the loss in value, as shown in the following example:
Example
Value of nets, traps, twine, etc., on hand at the
end of your 2007 fiscal period .................................. $ 750
Add: Cost of nets and traps you bought
in your 2008 fiscal period........................ $200
Cost of twine and other net and
trap materials you bought in your
2008 fiscal period (do not include
the value of your own labour)....……………. 125 325*
Subtotal................................................................. $1,075
Minus: Value of nets, traps, twine, etc.,
on hand at the end of your
2008 fiscal period................ ….….…................$700**
Proceeds from the sale of nets, traps,
twine, etc.................................... .. ..…… 150 850
Loss on nets and traps ............................................... $ 225
* If you use the inventory method, do not deduct this
amount as an expense.
** The value of nets and traps on hand is the amount you
would receive if you sold them to another fisher who
was not related to you.
If you just started fishing, choose one of the two methods. If you have been fishing for several years and each year you claim the cost of replacing nets and traps, you can keep on doing so. However, you can choose to change to either the CCA or the inventory method. If you choose to do this in 2008, the value of nets and traps on hand at the end of 2007 will be zero since you have deducted their value in previous years.
You can change from the inventory method to the CCA method. However, you cannot change from the CCA method to the inventory method
[17] In the report of the auditor for the CRA, a copy of which was introduced as an exhibit, the auditor stated as follows:
Capitalization of assets: One of the most offensive practices of this REP is her accounting for capital purchases. Because she considers nets, traps, lines, buoys, fishing equipment to be “gear” (it is common among fishermen to refer to their equipment as gear) she expenses all such capital acquisitions as “gear”. Our fishing guide defines gear as clothing and small tools and explains that these items can be expensed.
Nets and Traps are defined in the guide as: nets, traps, lines, hooks, buoys, anchors, radar reflectors. Nets and traps are afforded a special treatment, although it is by policy, not by virtue of the act. Basically, for those fishermen who have used cost replacement method (that is they expense 100% of the cost) prior to 1988, and have always continued to do so, for their nets and traps, they may continue with this practice. In 1988, section 28 of the ITA was added and from that point on, new fisherpersons, or those who had never used cost replacement method, could no longer elect this method. Nets and traps were, from that point onwards, considered class 8 capital assets; however, as a matter of policy, we do allow fishermen to use an inventory method to expense nets and traps. The inventory and capital methods are the only 2 methods available, and once a fisherman elects the capital method, he cannot change to inventory method.
[18] Inventory is defined in section 248 of the Income Tax Act (the “Act”) as follows:
“inventory” means a description of property the cost or value of which is relevant in computing a taxpayer's income from a business for a taxation year or would have been so relevant if the income from the business had not been computed in accordance with the cash method and, with respect to a farming business, includes all of the livestock held in the course of carrying on the business;
[19] The definition of inventory is very broad and refers to a description of property the cost or value of which is relevant in computing income. If the word “inventory” is given a literal interpretation, what property of a business would not be included as property the cost of which is relevant in computing income? It does not state that the cost must be deductible, only that the cost is relevant.
[20] The Supreme Court of Canada in The Queen v. Canada Trustco Mortgage Company, 2005 SCC 54, 2005 DTC 5523 (Eng.), [2005] 5 C.T.C. 215, 340 N.R. 1, 259 D.L.R. (4th) 193, [2005] 2 S.C.R. 601, stated that:
10 It has been long established as a matter of statutory interpretation that “the words of an Act are to be read in their entire context and in their grammatical and ordinary sense harmoniously with the scheme of the Act, the object of the Act, and the intention of Parliament”: see 65302 British Columbia Ltd. v. R., [1999] 3 S.C.R. 804 (S.C.C.), at para. 50. The interpretation of a statutory provision must be made according to a textual, contextual and purposive analysis to find a meaning that is harmonious with the Act as a whole. When the words of a provision are precise and unequivocal, the ordinary meaning of the words play a dominant role in the interpretive process. On the other hand, where the words can support more than one reasonable meaning, the ordinary meaning of the words plays a lesser role. The relative effects of ordinary meaning, context and purpose on the interpretive process may vary, but in all cases the court must seek to read the provisions of an Act as a harmonious whole.
[21] It seems to me that the words used in defining inventory are not precise and unequivocal. Edwin C. Harris, Q.C. in his text Canadian Income Taxation, fourth edition, stated at pages 443 – 445 as follows:
Any business that, in the usual course, sells goods (whether or not manufactured by it) or land will normally maintain an inventory, i.e., a stock of things held for sale. This inventory may be in finished form, or in progress as part of a manufacturing or processing operation, or in the form of raw materials awaiting manufacturing or processing. Many such businesses will also maintain an inventory of supplies that will be consumed during the production process….
…
The Act defines “inventory” as “a description of property the cost or value of which is relevant in computing a taxpayer’s income from a business for a taxation year. This definition is too broad and too vague to be of much help. It is interesting, however, that the definition refers to the description or list of property, rather than to the property itself – which is the more usual meaning of “inventory”. Subject it to this difference, which does not appear to have any important consequences, “inventory” for tax purposes generally has the same meaning as it does in accounting practice. It includes not merely any assets in which the taxpayer deals but also any asset that he acquires and subsequently disposes of, even in an isolated transaction, through an “adventure in nature of trade” (see 7.02(3) (g)). As well, it includes most kinds of consumable supplies.
(emphasis added)
(The above text also included several footnote references that can be found at the bottom of pages 444 and 445 of the text.)
[22] Justice Major, writing on behalf of the majority of the Justices of the Supreme Court of Canada in Friesen v. The Queen, [1995] 2 C.T.C. 369, 95 DTC 5551, stated as follows:
31 In order to take advantage of the valuation method in subsection 10(1), a taxpayer must also establish that the property in question is inventory. A definition of “inventory” is contained in subsection 248(1) of the Act:
”inventory” means a description of property the cost or value of which is relevant in computing a taxpayer's income from a business for a taxation year;
32 The first point to note about this definition of inventory is that property is not required to contribute directly to income in a taxation year in order to qualify as inventory. Provided that the cost or value of an item of property is relevant in computing business income in a year that property will qualify as inventory. Generally the cost or value of an item of property will appear as an expense (and the sale price as revenue) in the computation of income.
33 Reduced to its simplest terms, the income or profit from the sale of a single item of inventory by a sales business is the ordinary tracing formula calculated by subtracting the purchase cost of the item from the proceeds of sale. This is the basic formula which applies to the calculation of profit before the value of inventory is taken into account, as is made clear by Abbott J. in Minister of National Revenue v. Irwin, [1964] S.C.R. 662, [1964] C.T.C. 362, 64 D.T.C. 5227 at page 664-665 (C.T.C. 364, D.T.C. 5228):
The law is clear therefore that for income tax purposes gross profit, in the case of a business which consists of acquiring property and reselling it, is the excess of sale price over cost, subject only to any modification effected by the “cost or market, whichever is lower” rule.
34 Thus, for any particular item:
Income = Profit = Sale Price - Purchase Cost.
35 It is clear from the formula above that the cost of an item of property sold by a business is relevant in computing the income from the business in the taxation year in which it is sold. As discussed above, an adventure in the nature of trade constitutes a business under the Act. Therefore, an item of property sold as part of an adventure in the nature of trade is relevant to the computation of the taxpayer's income from a business in the taxation year of disposition and so is inventory according to the plain language of the definition in subsection 248(1).
36 … The plain meaning of the definition in subsection 248(1) is that an item of property need only be relevant to business income in a single year to qualify as inventory: “relevant in computing the taxpayer's income from a business for a taxation year”. In this respect the definition of inventory in the Income Tax Act is consistent with the ordinary meaning of the word. In the normal sense, inventory is property which a business holds for sale and this term applies to that property both in the year of sale and in years where the property remains as yet unsold by a business.
(emphasis added)
[23] Therefore it seems to me that inventory for the purposes of the Act will mean property as described by the Supreme Court of Canada above and by Edwin C. Harris, Q.C. in his text, together with the specific items added by the Act. “Inventory” for the purposes of the Act will therefore mean property held for sale, raw materials that will be used to make property for sale, supplies consumed during the production process, livestock held in relation to a farming business and any property described in subsection 10(5) of the Act (that would not otherwise be included as inventory)[3]. The lobsters caught by the Appellants would be part of their inventory until they were sold to the buyer. It does not appear to me, however, that the traps and nets would be part of their inventory. The nets and traps were not held by the Appellants for sale and although they were damaged or destroyed, would not be consumed during the production process. As a result I do not find that the inventory method as outlined in the Fishing Guide referred to above is in accordance with the provisions of the Act.
[24] Although the auditor clearly stated during her testimony that it was the policy of the CRA, as outlined in the Fishing Guide referred to above, that nets and traps had to be treated as either inventory or capital property, neither counsel for the Appellants nor counsel for the Respondent submitted any arguments that the Appellants had to choose either the inventory method as described above or the capital cost allowance (CCA) method as described above. The arguments were only based on whether the amounts spent in each year under appeal (2001, 2002, 2003 and 2004) in relation to the nets and traps should be treated a capital expenditure incurred in that year or should be allowed as a deduction in computing income for that year.
[25] The Supreme Court of Canada in Johns-Manville Canada Inc. v. The Queen, [1985] 85 DTC 5373, [1985] 2 S.C.R. 46 dealt with the issue of whether amounts spent on the acquisition of land to allow an open-pit mine to continue operating were on account of capital or were current expenditures. Justice Estey, writing on behalf of the Supreme Court of Canada stated as follows:
13 When one turns to the appropriate principles of law to apply to the determination of the classification of an expenditure as being either expense or capital, an unnerving starting place is the comment of the Master of the Rolls, Sir Wilfred Greene in British Salmson Aero Engines Ltd v. CIR (1938), 22 TC 29, at 43:
... there have been ... many cases where this matter of capital or income has been debated. There have been many cases which fall upon the borderline: indeed, in many cases it is almost true to say that the spin of a coin would decide the matter almost as satisfactorily as an attempt to find reasons. ...
…
20 At one time, the test applied by the courts in discriminating as between revenue and capital was the “once and for all” test. This test was adopted by Viscount Cave, LC in British Insulated and Helsby Cables v. Atherton, [1926] A.C. 205 at 213. Viscount Cave observed that the finding of revenue or capital was a question of fact, but then concerned himself with the answer to the question because of an imprecise finding below. The test he adopted at 213 was “... to say that capital expenditure is a thing that is going to be spent once and for all, and income expenditure is a thing that is going to recur every year”, although he recognized that this test was not “to be a decisive one in every case”. Later on the same page the Lord Chancellor elaborated:
... [W]hen an expenditure is made not only once and for all, but with a view to bringing into existence an asset or an advantage for the enduring benefit of a trade, I think that is a very good reason (in the absence of special circumstances leading to an opposite conclusion) for treating such an expenditure as properly attributable not to revenue but to capital.
In this the Court relied upon the earlier decision of Vallambrosa Rubber Co Ltd v. Farmer, [1910] SC 519 at 525. A few years later in Ounsworth v. Vickers Ltd, [1915] 3 K.B. 267 at 273, Rowlatt, LJ interpreted this test as not requiring that expenditures be made on an annual basis in order to qualify them as a deduction from revenue but rather than the expenditures be “pursuant to a continuous demand”.
21 This discussion of authorities takes one full circle to the words of Lord Reid in Regent Oil v. CIR, [1966] A.C. 295, at 313:
So it is not surprising that no one test or principle or rule of thumb is paramount. The question is ultimately a question of law for the court, but it is a question which must be answered in the light of all the circumstances which it is reasonable to take into account and the weight which must be given to a particular circumstance in a particular case must depend rather on common sense than on strict application of any single legal principle. [Emphasis added by Justice Estey]
22 It is of little help, in my respectful opinion, to attempt to classify the character of the expenditure according to the subject of that expenditure.
…
40 In applying the law to the above stated observations, one is thrown back to the pronouncement by Lord Wilberforce in Tucker v. Granada Motorway Services, [1979] 2 All E.R. 801, where he said at 804:
It is common in cases which raise the question whether a payment is to be treated as a revenue or as a capital payment for indicia to point different ways. In the end the courts can do little better than form an opinion which way the balance lies. There are a number of tests which have been stated in reported cases which it is useful to apply, but we have been warned more than once not to seek automatically to apply to one case words or formulae which have been found useful in another.... Nevertheless reported cases are the best tools that we have, even if they may sometimes be blunt instruments. [Emphasis added by Justice Estey.]
41 We must also remember the previously cited words of Lord Pearce in BP Australia, supra, at 264: “It is a commonsense appreciation of all the guiding features which must provide the ultimate answer.”
42 If we were to apply the three-step test adopted by the Australian court in Sun Newspapers, supra, these expenditures would qualify as expenses rather than being capital in nature. The character of the advantage sought is that of an advantage in the current operations of the taxpayer. The practice was recurring and the manner in which the object of the expenditures was applied was directly incorporated into the mining operations of the taxpayer. Finally, the means adopted by the taxpayer to gain this advantage was the periodic outlay of its funds which would formerly have been classified, in the vocabulary of that day, as circulating capital. In the words of Dixon, J, as he then was, in Sun Newspapers, supra, at 362, we are here concerned with an expenditure of a revenue nature because:
... its purpose brings it within the very wide class of things which in the aggregate form the constant demand which must be answered out of the returns of a trade or its circulating capital and that actual recurrence of the specific thing need not take place or be expected as likely.
The same judge in Hallstroms Pty Ltd, supra, at 648, reminds us that the classification of such expenditures “... depends on what the expenditure is calculated to effect from a practical and business point of view rather than upon the juristic classification of legal rights ...”, supra. The old rule of “once and for all” as well as the “common sense” test, supra, lead us to a result favourable to the taxpayer's contention.
43 The characterization in taxation law of an expenditure is, in the final analysis (unless the statute is explicit which this one is not), one of policy….
[26] In ATCO Electric Limited v. The Queen, 2007 TCC 243, 2007 DTC 974, [2007] 4 C.T.C. 2297, Justice Sheridan held that the costs of replacing transformers were deductible as a current expense. Justice Sheridan stated as follows:
60 The case law for determining whether an expense is current or capital in nature are well established.* In Rainbow Pipe Line Co. v. R.*, Mogan, J. set out the relevant considerations:
1. whether the expense was recurring or non-recurring;
2. whether the expense was a major repair;
3. whether the expense brought into existence an asset for the enduring benefit of the appellant's business; and
4. whether the expense was substantial in relation to the book value of the property, other expenses and annual profits.
…
62 How do transformers fit into the Appellant's electricity manufacturing business? Electricity is generated at the Appellant's generating stations and makes its way to Alberta consumers through a series of substations, wires, poles and transformers. A transformer is a device that allows for the transfer of electricity from one circuit to another: the voltage can be either increased or decreased depending on what is required for the movement of electricity at any particular point in the network. There are approximately 83,000 transformers in the Appellant's system varying in capacity, size and price: from the “10kVA” (10,000 volts), about the size of a garbage can* at a unit price of $300 to $350 to the “3MVA” (3 million volts), the size of a mini-van and worth approximately $50,000 each.
63 Because the smaller transformers are sealed units, it is more economical to replace than to repair them. I accept Mr. DeChamplain's evidence detailing his calculation that in 2000, the Appellant replaced 709 transformers ranging from 10 to 75 kMV at an average unit cost of $943.16*. Only about 2,000 of the Appellant's 83,000 transformers were 3MVA transformers. Unlike smaller transformers, in the case of malfunction they can be opened up and repaired; in 2000, however, five of the 3MVA's had to be replaced rather than repaired. Because of their greater value and the infrequency of their replacement, the Appellant classified such expenses as capital; thus, their cost was not included in the $622,990 at issue in this appeal.
64 Turning, then, to the Rainbow Pipe Line factors, the Respondent contends that the transformer replacement costs were “non-recurring” since the average life span of a transformer is 33 years. This submission might be persuasive if all of the transformers always lived up to such projections. The fact is, however, that each year 500 to 1,000 of the 83,000 transformers in the Appellant's distribution system become non-functional thanks to lightning strikes, “shorting-out” and vandalism* all of which are, by their nature, quite likely to continue to occur. In these circumstances, it is probable that the Appellant will always be and in 2000 was obliged to replace a certain percentage of its transformers. Accordingly, the expense of regular transformer replacement is recurring in nature.
65 The next consideration is whether the replacement expense was “major”. This, like the Minister's assumption that transformers are “large”* and “expensive”*, is a relative question. It is common ground that the Appellant's outlays were limited to the costs of replacing transformers which had been damaged; newly acquired transformers or upgraded models of existing transformers were not included in the Appellant's claim. The number of transformers and the cost per unit was small relative to the Appellant's overall distribution system, representing less than 1% of all of the transformers in the system and their replacement cost, less than 1% of the Appellant's revenues, expenses and profit for 2000.
66 In these circumstances, the replacement of a few transformers here and there in a multi-million dollar electrical system is akin to changing a few bulbs in an otherwise functioning string of Christmas tree lights*. Perhaps a better example is that of the spark plug, described in Interpretation Bulletin IT-128R:
(d) Relative value - The amount of the expenditure in relation to the value of the whole property or in relation to previous average maintenance and repair costs often may have to be weighed. This is particularly so when the replacement itself could be regarded as a separate, marketable asset. While a spark plug in an engine may be such an asset, one would never regard the cost of replacing it as anything but an expense; but where the engine itself is replaced, the expenditure not only is for a separate marketable asset but also is apt to be very substantial in relation to the total value of the property of which the engine forms a part, and, if so, the expenditure likely would be regarded as capital in nature.
67 In the circumstances of this appeal, the small transformers are the sparkplugs, rather than the engine, in the automobile that is the Appellant's electricity distribution system. Relative to the quantum of the expense in relation to the book value of the assets, other expenses and annual profits, the transformer replacement expense was not “major” in the sense contemplated by Rainbow Pipe Line.
68 It remains to consider whether the transformers constituted an “enduring benefit” to the Appellant's business. In support of the Respondent's position that their replacement was an enduring benefit, counsel for the Respondent argued that the transformers are an integral part of the electrical distribution system. As each one was replaced, the overall asset was enhanced by 33 years of use; thus, their replacement was a “betterment” that materially improved the distribution system beyond its original condition.
69 I am not persuaded this is so. The issue of the transformers' life expectancy has already been considered above. I accept that the transformers were “integral” to the Appellant's system in the sense that electricity could not be transmitted without them. Their replacement, however, did not enhance the system; it merely restored it to the state required to keep it functioning as intended….
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70 Thus, while any given transformer might remain useful for 33 years, at any given moment there will always be another, somewhere in the system, that needs to be replaced. In these circumstances, the benefit of replacing non-functional transformers is anything but enduring; rather, the effect of the replacement was simply to preserve the status quo of the original network.
71 For all of these reasons, I am persuaded by the Appellant's argument that the transformer replacement expenditures are analogous to the costs associated with the sort of on-going maintenance repairs which Mogan, J. concluded in Rainbow Pipe Line should be treated as current expenses. On the evidence before me, I am satisfied that the replacement of the transformers was a current expense.
(The footnote references have not been included but can be found with the original text.)
[27] While the decision of Justice Sheridan in ATCO Electric Limited was appealed to the Federal Court of Appeal (who dismissed the appeal), that part of Justice Sheridan’s decision that related to the deductibility of the amounts incurred in relation to the replacement of the transformers was not appealed.
[28] There was very little evidence in this case to assist in any determination of how long a lobster trap will last. Gregory Norton did not provide any evidence in relation to this issue on direct examination and was evasive when he was asked this question on cross examination:
Q. And how long ‑‑ so you used the nets and traps and they last you for a few years?
A. Oh, well if you have a storm you lose them all.
Q. So how long are they typically lasting?
A. There's no set time, sir. It could vary. Usually nets are repaired every year and the traps are repaired every year too but they're both built each year. There's new ones built each year.
Q. So you built them and then you used them and then you repaired them and the ‑‑ you ‑‑‑
A. Throughout the year if you use them and they get damaged a bit you'll repair them and try to get ‑‑ finish the year. And then you'll build new ones in the winter.
[29] There was no indication of the number of traps that the Appellants held at the beginning or end of any year or how many traps were built each year. A copy of the agreement of purchase and sale between Gerald Norton (Gregory No