Tax I – David Duff – Spring 2009 – Audrey Lim & Gina Wu -------- 1
TAXATION LAW – DAVID DUFF – SPRING 2009
I. INTRODUCTION ............................................................................................................................................................ 5
(1) Introduction to the Income Tax ............................................................................................................................. 5
(2) Statutory Interpretation ........................................................................................................................................ 5
(a) Interpretation Considerations/Elements ........................................................................................................... 5
(b) Interpretive Doctrines ....................................................................................................................................... 5
(3) Introduction to Tax Avoidance .............................................................................................................................. 5
(a) Judicial Anti-Avoidance Doctrines ..................................................................................................................... 5
(b) General Anti-Avoidance Rule (GAAR) ................................................................................................................ 6
(i) GAAR – Avoidance Transaction (AT) ............................................................................................................... 6
(ii) GAAR – Misuse or Abuse ............................................................................................................................... 7
(iii) GAAR – Tax Consequences............................................................................................................................ 7
II. INCOME OR LOSS FROM AN OFFICE OR EMPLOYMENT ............................................................................................. 7
(1) Characterization.................................................................................................................................................... 7
(2) Inclusions in O/E (governed by S.5-8) .................................................................................................................... 7
(a) Inclusions in O/E - Remuneration ...................................................................................................................... 8
(i) Inclusions in O/E – Inducement Payments, s.6(3)(c) ...................................................................................... 8
(ii) Inclusions in O/E – Tort Damages for Injury/Death ....................................................................................... 8
(iii) Inclusions in O/E – Gratuitous Payments ...................................................................................................... 8
(iv) Inclusions in O/E – Strike Pay ........................................................................................................................ 8
(v) Inclusions – Retiring Allowances – s.56(1)(a)(ii) ............................................................................................ 9
(vi) Inclusions – Payments in Respect of Loss of an O/E ..................................................................................... 9
(b) Inclusions in O/E – General Benefits ................................................................................................................. 9
(i) Characterization as Benefit ............................................................................................................................. 9
(ii) Benefits – Relationship to O/E – Causation ................................................................................................. 10
(iii) Benefits – Valuation .................................................................................................................................... 10
(c) Inclusions in Income from O/E - Other Benefits .............................................................................................. 10
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(i) O/E Income – Reimbursement for Housing Loss .......................................................................................... 10
(ii) O/E Income – Interest-free & Low-interest Loans ....................................................................................... 10
(iii) O/E Income – Insurance Benefits ................................................................................................................ 11
(d) Income from O/E - Allowances ........................................................................................................................ 11
(i) Characterization of Allowances .................................................................................................................... 11
(ii) Allowances – Exceptions, s.6(1)(b) .............................................................................................................. 11
(e) Income from O/E – Statutory Exclusions ......................................................................................................... 12
(i) Statutory Exclusions – Employment @ Special Work Site ............................................................................ 12
(ii) Statutory Exclusions – Employment @ Remote Work Location .................................................................. 12
(3) Deductions from O/E – S.8 .................................................................................................................................. 12
(a) Deductions from O/E – Traveling Expenses .................................................................................................... 12
(b) Deductions from O/E - Meals .......................................................................................................................... 13
(c) Deductions from O/E – Moving Expenses........................................................................................................ 13
(i) Deducting Moving Expenses – Eligible Expenses.......................................................................................... 13
(ii) Deducting Moving Expenses – Eligible Relocation ...................................................................................... 14
(iii) Deducting Moving Expenses – Limitations on Deductibility, s.6(1) ............................................................ 14
III. INCOME OR LOSS FROM A B/P & OTHER INCOME .................................................................................................. 15
(1) Characterization of Income/Loss from B/P & Other Income .............................................................................. 15
(a) Characterzation of Income - Business ............................................................................................................. 15
(i) Ordinary Meaning of “Business”................................................................................................................... 15
(ii) Extended Meaning of “Business” by s.248(1) .............................................................................................. 15
(b) Reasonable Expectation of Profit (REOP) ........................................................................................................ 16
(2) Inclusions – S.12-17 ............................................................................................................................................. 16
(a) Inclusions - Gains from Illegal Activities .......................................................................................................... 16
(b) Inclusions - Damages & Other Compensation ................................................................................................. 16
(c) Inclusions - Voluntary Payments ...................................................................................................................... 17
(d) Inclusions - Prizes & Awards ............................................................................................................................ 17
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(e) Inclusions - Annuity Pmts................................................................................................................................. 18
(f) Inclusions - Interest .......................................................................................................................................... 18
(i) Inclusions – Characterization of Interest ...................................................................................................... 18
(ii) Inclusions – Payments of Interest & Capital Combines ............................................................................... 18
(iii) Inclusions – Discounts & Premiums ............................................................................................................ 19
(3) Deductions ........................................................................................................................................................... 19
(a) Deduction of Illegal Payments ......................................................................................................................... 19
(b) Deduction of Damages Payments.................................................................................................................... 20
(c) Deduction of Fines & Penalties ........................................................................................................................ 20
(d) Deduction of Recreation, Meal, & Entertainment Expenses ........................................................................... 21
(i) Deduction of Recreational Expenses - Yacht ................................................................................................ 22
(ii) Deduction of Recreational Expenses – Camp or Lodge ............................................................................... 22
(iii) Deduction of Recreational Expenses – Golf Course/Facility ....................................................................... 22
(iv) Deduction of Recreational Expenses – Meals & Entertainment ................................................................. 22
(d) Deduction of Clothing Expenses ...................................................................................................................... 23
(f) Deduction of Home Office Expenses ................................................................................................................ 23
(g) Deduction of Travel Expenses .......................................................................................................................... 23
(h) Deduction of Interest Expenses ....................................................................................................................... 23
(4) Timing Issues........................................................................................................................................................ 24
(a) Timing Issues – Inclusions ................................................................................................................................ 24
(i) MAIN RULES .................................................................................................................................................. 24
(ii) Special Interest Rules ................................................................................................................................... 24
(b) Timing Issues – Deductions ............................................................................................................................. 25
(i) When to Deduct: Amounts Payable.............................................................................................................. 25
(ii) When to Deduct: Inventory Costs................................................................................................................ 25
(iii) When to Deduct: Running Expenses ........................................................................................................... 26
(iv) When to Deduct: Prepaid Expenses ............................................................................................................ 26
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(v) When to Deduct: Capital Expenditures........................................................................................................ 26
(vi) When to Deduct: Capital Cost Allowances.................................................................................................. 26
(c) Timing Issues – Allocation of Proceeds ............................................................................................................ 28
IV. TAXABLE CAPITAL GAINS & ALLOWABLE CAPITAL LOSSES ...................................................................................... 28
(1) Characterization of Taxable Capital Gain (TCG) & Allowable Capital Losses (ACL) ............................................. 28
(a) General............................................................................................................................................................. 29
(b) Real Property/Immovables – Capital? ............................................................................................................. 29
(c) Corporate Shares – Capital?............................................................................................................................. 29
(d) Canadian Securities – Capital? ......................................................................................................................... 30
V. NON-ARM’S LENGTH TRANSFERS & ATTRIBUTION RULES ....................................................................................... 30
(1) Non-Arm’s Length (NAL) Transfers ...................................................................................................................... 30
(a) NAL Concept .................................................................................................................................................... 30
(b) NAL Transfers................................................................................................................................................... 30
(2) Attribution Rules.................................................................................................................................................. 31
(a) Basic Rules ....................................................................................................................................................... 31
(b) Special Rules .................................................................................................................................................... 31
(c) Lipson Decision................................................................................................................................................. 31
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I. INTRODUCTION
(1) Introduction to the Income Tax
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S.150(1)(d) When individuals should file tax returns. Exceptions in S.150(1.1)
3 functions of gov’t: (1) Allocation, (2) Distribution, (3) Stabilization  can use tax to achieve certain objective. Eg) Correct for mrkt
failures, usage of progressive taxes, tax diff things, etc.
Basic elements of any tax:
o
What is being taxed?

TAX BASE

Taxable income
o
What is the rate of the tax? 
RATE

Progressive? Flat? (s.117(2))
o
Who is being taxed?

TAX UNIT

TP in Canada
o
Time frame of taxation?

ACCOUNTING PERIOD

Taxation year
o
Also, in Canada, non-refundable or refundable

TAX CREDITS
S.2(1) Tax base: taxable income
248(1) def’n: “taxable income”  s.2(2) = income for the year (s.3 in Div B) +/- Div C.
S.3 Income for the taxation year = (a) + (b) – (c) – (d)
o (a) income from all sources (that’s not (b))
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Ss.(a) from O/E  Employee/Officer (O/E) or independent contractor (B/P)?
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Ss(.b) from B/Ppy
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Ss.(d) other sources
o (b) TCG/ACL  Capital ppy (TCG/ACL) or inventory (income)? Ss.(c)  s.38 1/2 taxable.
o (c) deductions in Ss.(e) (Eg. S.62 moving expenses) not already accounted for in (a)
o (d) losses from sources or allowable investment loss.
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Note: Certain exemptions never enter income computation in the 1st place.
(2) Statutory Interpretation
(a) Interpretation Considerations/Elements
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Words of the statute: attention to the text (not in isolation). Eg) s.56(1) amount was “prize”?
Context (internal & external to ITA) of the words: contributes to the text’s meaning
Scheme of statute: consider other provisions of ITA.
o Principle of implied exception: apply the more specific of the 2 conflicting provisions.
o Principle of implied exclusion: conclude the legislature intended to exclude something where it expressly included something else
similar to the excluded item (least reliable).
Object of the statute: purpose (look at preamble & circumstances of the ITA’s enactment).
Legislative intent: Interpretation Act, legislative history/bulletins, external context, presumptions based on values & norms (see.p.106107 text)
(b) Interpretive Doctrines
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Strict Construction (used in the past) – statutory language is construed literally; ambiguities decided favourably towards the TP. No
room for intent or equity?
o MacInnes (1954, Ex Ct): Used strict construction to find that “ppy substituted therefore” in Income War Tax Act (IWTA) did not
include substitutes of substitutes – legislature would have expressly drafted so; exclusion by non-incorporation.
Modern Rule – read provision in its entire context & in grammatical & ordinary sense harmoniously w/ scheme & object of the Act &
intention of Parliament. (Stubard)
Dominant approaches: 1984-1990: purposive approach – Bronfman Trust (1987)
o 1994-2001: plain meaning approach
o Now: a more moderate approach - textual, contextual & purposive approach.
(3) Introduction to Tax Avoidance
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≠ Tax evasion (illegal breach of specific stat duties; eg. failing to file return or falsifying info).

Tax avoidance is legal - effort to minimize tax.

Ways ITA tries to prevent income splitting:
o Attribution rules – s.74.1-75.1
o Non-arms length transfers – s.69
(a) Judicial Anti-Avoidance Doctrines
 Constructive receipt – s.56(2)
 Kiddie Tax – s.120.4
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(i) Anti-Avoidance Doctrines – US Approach
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Doctrine of liberal construction - adopt critical/stricter approach to tax avoidance & considers the economic reality of transactions.
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Gregory v Helvering (1935): The substance of what happened (although a form of reorganization) is that a dividend was paid to TP, so
we should tax her on that basis  substance over form. Here, the operation had no business purpose (BP test) - just a device to conceal
the real purpose.
o TP entered into series of tax-motivated transactions to obtain the benefit of a provision governing corporate reorganizations.
(ii) Anti-Avoidance Doctrines – Anglo-Canadian Approach
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Doctrine of strict construction - look at words of statute & the real legal relationships established.

(1) Form & Substance
o Duke of Westminster (1936, HL): Application of substance doctrine  must ascertain the Duke & gardener’s rights & liabilities
under the deed to determine the "substance" of the transaction b/t them (Doesn’t matter than name is given to the transaction).
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Pmts made by the Duke found to be deductible, not remuneration.
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Rejected economic/commercial substance over form; prefer legal substance over form. Prof: Sometimes the broader
economic substance may be better.
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But in Canada v Antosko (1994, SCC), although courts must consider economic context, it can't alter the result where the
legal + practical effect of the transaction is undisputed.

(2) Sham Doctrine
o Characterize transactions on basis of the legal rights actually created by the parties than those that they've purported to create
o Not bona fide transactions, used to conceal a different transaction (Duke of Westminster).
o Recently in Canada, SCC suggests broader "sham" doctrine more akin to business purpose test or commercial substance-over-form
doctrine

(3) Ineffective Transactions Doctrine
o Atinco Paper Products v MNR (1978 FCA): Are transactions legally correct & real?
o If conclude that transaction is legally ineffective or incomplete, assess tax on basis of transactions actually entered into & the legal
relationships actually created.
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Like sham doctrine, also builds on general principle from Duke of Westminster.
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(4) Business Purpose Test
o Stubart Inv Ltd. v Canada (1984, SCC): Rejected bona fide BP test; consider the “object & spirit” of the allowance or benefit
deduction to reduce a complex transaction.
(b) General Anti-Avoidance Rule (GAAR)
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New GAAR enacted in ‘88 "to prevent artificial tax avoidance arrangements" (3 elements below)
Includes a BP test and a step transaction concept into ITA, attempted to overrule Stubart.
S.245(1) has definitions.
o (2) Charging provision: Where it's an avoidance transaction, the tax consequences shall be determined as is reasonable in the
circumstances in order to deny a tax benefit that... would otherwise (w/o this rule) result indirectly/directly from (series of)
transactions
o (3) defines "avoidance transaction"
o (4) stipulates that (2) applies only if the transaction can reasonably be thought to (a) result in a misuse of the ITA, or (b) result in
abuse of such provisions
(i) GAAR – Avoidance Transaction (AT)
245(1): “transaction” includes “an arrangement or event”
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245(3)(a): AT is any transaction or series of transactions that would result in a tax benefit, UNLESS it's arrange primarily for bona fide

non-tax purposes (other than to obtain tax benefit).
1. Tax Benefit

o 245(1): a reduction, avoidance or deferral of tax, or an increase in tax refunds
o Scope of GAAR virtually unlimited - very broadly defined!
o Canada Trustco: Then a deduction always results in a tax benefit; seems inconsistent w/ structure/purpose of GAAR to prevent
artificial tax avoidance arrangements.
2. Non-Tax Purpose Test

o 245(3): "expanded version of the BP test", but can also include legitimate, non-business reasons.
o Test: Transaction WON'T be characterized as avoidance if it may be reasonably considered to have been undertaken or arranged
primarily for bona fide purposes other than to obtain a tax benefit. Objectively, what would've been the perceived purpose?

Must provide a rational basis for the transaction under consideration (McNichol v Canad)
o NB: "primarily" mean incidental tax benefits don't count.
3. Series of Transactions

o 245(3)(b) AT even if it's only part of a series of transactions that collectively result in tax benefit.
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o
o
o
Also AT if any individual step in the series can't reasonably be considered to be undertaken primarily for bona fid non-tax purposes,
even if the series as a whole may reasonably be for bona fide non-tax purposes.
To avoid AT, each step in such a series must be carried out primarily for bona fide non-tax purposes = step transaction concept.
248(1): "series of transactions or events" deemed to include any related transactions or events completed in contemplation of the
series.
(ii) GAAR – Misuse or Abuse
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245(4): GAAR doesn’t apply if it could reasonably be considered that the AT would NOT result directly/indirectly in a misuse/abuse of
the Act  broad policy view.
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Determination: (1) ID relevant policy of provisions of Act as a whole & (2) assess the facts to determine whether the avoidance
transaction constituted a misuse/abuse having regard to the identified policy (OSFC Holdings v Canada).

Canada Trustco endorses above 2-stage analytical process; GAAR should apply only when the abusive nature of the transaction is clear.
(iii) GAAR – Tax Consequences
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Nullify the tax benefit
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245(1) "tax consequences" = the amount of income, taxable income, tax payable
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245(2) Where it's an AT, the tax consequences to the person shall be determined as is reasonable in the circumstances in order to deny
the tax benefit = basic remedial rule
o Powers of authorities to determine tax consequences of an AT are limited: (i) must be "reasonable" tax consequences & (ii) must
be determined to deny the tax benefit.
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245(2) & (5) authorize adjustments to ANY amount relevant to TP's current/future tax liability. Also, applies to "any person", even one
who was only indirectly/marginally involved.
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245(5)(a) GAAR can be used to adjust deductions in computing TP's income from a source, s.3 (net income from all sources), s.2(2), &
s.117(2) (tax credits available to reduce fed tax).
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245(5)(b) GAAR can be used as an attribution rule to allocate any deduction, income, loss or other amount "to any person."

245(5)(c) Authorizes CCRA & courts to re-characterize nature of any pmt or other amount
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245(5)(d) Ignore tax effects that would otherwise result from application of any other provisions.
II. INCOME OR LOSS FROM AN OFFICE OR EMPLOYMENT
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S.3(a) Income from O/E (s.5-8)  issues:
o Characterization: employee/officer (s.3(a)(a)) or independent contractor (s.3(a)(b))?

If it’s from capital assets, then it’s in s.3(b) – TCG/ACL.
o Inclusions (& exemptions from inclusion)
o Deductions: If O/E, limited to deductions allowed in s.8; if B/P more deductions available.
o Timing – when do you include/deduct an amount?
(1) Characterization
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S.248 “Office” = position that entitles an indiv to a fixed/ascertainable stipend/remuneration.
o CL: subsisting, permanent, substantive position which exists independently of person who fills it.
S.248 “Employment” =
Employees vs Independent Contractors (IC) – Q of fact
o Judicial test in Wiebe Door (1986, FCA) – total relationship test: consider all factors.

Degree of supervision & control: The power to select or dismiss/suspend the person who renders the service; mode & time
of pmt; evaluation of the work method & performance.
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Location of the Economic Risk: Employee: guaranteed income no matter what as long as you work; IC: may or may not make
$; prospect of loss (not getting paid) for proprietor
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Ownership of the tools of trade: Own your own tools  more likely IC

Integration – Function essential to the core business? If very integrated  more likely employee
o May also want to consider:

Intention of parties (Royal Winnipeg Ballet) – consider terms of the K & parties’ conduct.
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Specific results test (Alexander v MNR) or Denning’s organization test: K of service = employee (work is integral to business);
K for service = IC (work is only accessory to business)
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Opportunities for outside employment
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Method of remuneration for services & arrangements for holidays, leave & medical coverage
(2) Inclusions in O/E (governed by S.5-8)
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S.5(1) TP’s income from O/E is “the salary, wages & other remuneration, including gratuities”
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S.5(2) Loss – when deductions > inclusions (very unlikely for employment income).
S.6 – includes many other things into O/E income.
o S.6(1)(c) requires TP to include “director’s or other fees rcved…in respect of, in the course of, or by virtue of an O/E”  “in respect
of” leads to a broad inclusion of income.

“Fees” generally refers to fixed pmts in respect of an office.
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“Salaries” & “wages” generally describe regular pmts to employees.
o S.6(1)(a) includes the “value of board, lodging & other benefits of any kind whatever received or enjoyed by the TP”. Exceptions in
ss.(i)-(v).
o S.6(1)(b) includes all amounts received as an allowance for personal or living expenses or for any other purpose. Exceptions in
ss.(i)-(ix).
(a) Inclusions in O/E - Remuneration
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More general concept, included in income bc of s.6(1)(c) + s.5(1).
S.6(3) deems a pmt to be remuneration for services rendered as an officer or during a period of employment where pmt is rcved
o (a) during period while payee was an officer or employee of the payer; OR
o (b) in lieu of pmt or in satisfaction of an obligation immediately before/during/after period that payee was an officer or employee
of the payor.
o AND (c) inducement; (d) remuneration; or (e) covenant.
o Need (a) or (b) PLUS (c), (d), or (e) – drafted as a specific anti-avoidance rule to expand scope of TP income from O/E to include all
amounts connected to O/E.
(i) Inclusions in O/E – Inducement Payments, s.6(3)(c)

Curran v M.N.R (1959, SCC): May still be an inducement pmt if it wasn’t paid by TP’s eventual employer. TP negotiated pmt from Brown
to quite current job to go work for Home Oil (one of Brown’s Co).
o SCC: Pmt is taxable; nature of the agreement is to acquire TP’s skills & services.

Form (compensation for giving up benefits & rights) & substance.
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Prof: Didn’t really link conclusion (that it’s income) to a provision in the ITA. Under s.3?
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Also include pmts for “services to be rendered” (McInnis v MNR).
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Courts rejected arguments that pmt was rcved in consideration for disposition of rights under previous employment K (Greiner v MNR)
or was mere compensation for capital loss on sale of former resident to move for his new employment (Volpe v MNR)
(ii) Inclusions in O/E – Tort Damages for Injury/Death
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Cirella v Canada (1978, FCTD): court damages NOT taxable.

TP got in auto accident & had to leave job – sued & got damages, of which $14.5K was for special damages or loss of income  taxable
under s.5(1), 9(1) or other under 3(a)?
o Court: NO. This is a capital pmt bc it’s compensation for the loss of future income-earning capacity (a capital asset), but doesn’t go
so far as to say damages are a TCG.

No follow up cases – up to Parliament to change this result.

Policy: Damages being non-taxable means ppl paying them don’t have to pay as much.
(iii) Inclusions in O/E – Gratuitous Payments

S.5(1) also includes “gratuities” as income.
o TPs often argue pmt is a gift or windfall, & not remuneration for services provided.

Goldman v M.N.R (1953, SCC): pmts intended to be rcved as remuneration & connected to TP’s O/E is taxable.
o TP’s request for $75K to cover reorganization legal fees & remuneration for the committee (which TP was part of) was rejected by
Co; was given $20K instead. Pmt was remuneration for services performed  taxable.

Pmts paid was a tribute or testimonial , not connected to remuneration or a pmt for services, is not taxable income (Cowan v Seymour)

Pmt as honorarium for serving on a prov commission of inquiry was found to be a “gratuity”, - connected to services  taxable (Mr. C v
MNR).
(iv) Inclusions in O/E – Strike Pay

Canada v Fries (1989, FCA): income from strike pay is not from a source  NOT taxable.
o Income from a source under s.3(1) is from O/E, B/P, ss.(d) or an un-enumerated source.
o This income is paid from the Strike Fund (a collective fund, NOT been previously taxed)
o Court’s considerations:

Regular/periodic pmt - more like income. If irregular &lump sum - more like TCG.

The only source of income to TP - more like income.

Is this a gift? Income for services?
o SCC: Not satisfied it’s income from a source; benefit of the doubt given to TP (residual from strict construction approach actually
abandoned in Stubart)  NOT taxable.
o Policy considerations:
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
Strike pay is usually very low/nominal, should not tax it or TP wouldn’t be taxed much (or at all) under progressive tax
system anyway.
However, incentive to form unions & just get strike pay if it’s not taxable – tax avoidance!
(v) Inclusions – Retiring Allowances – s.56(1)(a)(ii)

At termination of employment, the employer sometimes asks the employee to leave right away & pay $ in lieu of notice (like severance).

Previously, termination pmts are not taxable under s.5(1), s.6(1)(a), or s.6(3) or s.3 (Atkins).

Later SCC indicates possibility that it can be taxable (Jack Cewe Ltd. v. Jorgenson).

NOW: Legislature added S.56(1)(a)(ii) to make amount rcved by TP “as, on account or in lieu of pmt of, or in satisfaction of” a retiring
allowance taxable.

S.248(1) “retiring allowance” = amount (other than superannuation or pension benefit or pmt rcved due to death of employee or
benefit under 6(1)(a)(iv)) rcved:
o (a) on or after retirement of TP from O/E in recognition of TP’s long service; or
o (b) in respect to loss of O/E whether or not rcved in lieu of pmts of damages or pursuant to order/judgment of competent tribunal
(see below).
(vi) Inclusions – Payments in Respect of Loss of an O/E

s.248(1) “retiring allowance” requires pmt to be “in respect of” the TP’s loss of an O/E & TP must have suffered a loss of an O/E.

Relationship to O/E
o Mendes-Roux v. Canada (1997, TCC): Lawyer TP terminated bc she couldn’t move to new work location (department moved while
she was on mat leave) & rcved $25K for wrongful dismissal claim.

Though “in respect of” is interpreted broadly, still need to distinguish b/t (1) the amount paid in respects to the loss of the
O/E (taxable as retired allowance) & (2) the amount paid re the way TP lost her employment (like pain/suffering, not
taxable).

Require a causal link b/t amount paid & compensation for the loss itself.
o The Queen v Savage (1983): “in respect of” ought to be given the widest scope.
o Merrins v MNR (1994, FCTD): $60K grievance settlement found taxable bc TP sought grievance to be reinstated to job; pmt is
connected to loss of O/E.
o Niles v MNR (1991, TCC): Settlement pmt of human rights complaint following termination of TP’s employment is taxable.
o Stolte v MNR (1996, TCC): Portion of termination settlement pmt allotted for damages for mental & physical injuries sustained by
TP prior to job-termination not taxable.
o Fournier v Canada (1999, TCC): grievance & human rights complaint for physical & sexual harassment lump-sum settlement pmt 
non-taxable damages arising from injury “against the person of the TP”.

Loss of O/E
o Schwartz v Canada (1996, SCC): Go to more specific provision (here, s.56(1)(a)(ii)) before turning to the general provision (S.3(a)).
TP got $360K in damages bc its employment K was breached (K rescinded before TP started working).

Concluded s.56(1)(a)(ii) does NOT apply – TP was never employed (found TP lost the K, not his employment).

Parliament didn’t expressly draft to tax loss of potential employment.

Prof: The decision might’ve been different if SCC had gone back to s.3(a)!
(b) Inclusions in O/E – General Benefits



Back to 3(a), look at amounts paid not in cash, but in kind.
s.6(1)(a) 3 requirements for benefit to be taxable:
o 1. Benefit – “benefits of any kind whatever” rcved & enjoyed by the employee TP.
o 2. Linkage to employment - “in respect of, in the course of, or by virtue of an O/E”.
o 3. Value of the benefit
S.6(1)(a)(i)-(v) set out exceptions to taxable benefits. Eg) MSP, CPP, under a retirement compensation arrangement, in respect to use of
automobile, counseling services, etc.
(i) Characterization as Benefit

Lowe v Canada (1996, FCA): If personal enjoyment is only incidental to primarily business purpose  NOT taxable. TP & wife required to
attend all expenses paid, fully planned out business trips. Benefits here went entirely to the employer.
o Here, day was fully planned w/ talks, meetings & conferences & TP was required to go.

Improving employee TP’s working conditions is not a taxable benefit to TP (Sorin).

Huffman (1988, FCTD): Police officer TP gets plain clothes allowance to get baggier clothes  NOT taxable. Required to accommodate
the on-duty equipment & more frequent wear & tear; TP was simply being restored to economic situation prior to incurring those
expenses.

Phillips (1994, FCA): Relocation benefit to reimburse higher living cost is taxable.

Cutmore (1986, TCC): If it creates a benefit to TP, it’s taxable even if TP is forced to do it.
Tax I – David Duff – Spring 2009 – Audrey Lim & Gina Wu -------- 10



Dietch (1989, TCC): Insurance paid for by TP’s law practice  taxable benefit even though the insurance was legally required.
Dunlop (1998, TCC): TPs required to attend Christmas party  taxable.
Later, Parliament steps in & limits business expense deductions for Cos. (see below)
(ii) Benefits – Relationship to O/E – Causation

R v Savage (1983, SCC): Causal connection to O/E interpreted broadly, 6(1)(a) can include incidental/collateral agreements conferring
benefit. TP rcved $300 from employer for completing 3 optional & difficult courses.
o Not compensation for her services, but not just a gift either. Even if it did fall under 6(1)(a), amount is exempt under 56(1)(n) $500
exemption for prizes/scholarships.

Prof: prizes rcved in respect of O/E are taxable as income from O/E under 6(1)(a), not 56(1)(n).
(iii) Benefits – Valuation
Detchon v Canada (1995, TCC) (UK equivalent - Pepper v Hart): Consider “sense of justice” when choosing cost for valuation. Here,

marginal, average, alternative or tuition cost?
o 2 teachers’ children attended the (under capacity) school they taught at for free.
o Prof: Seems like the court thought the tuition cost was too high & marginal cost was too low so they just picked the middle one.
Taylor (1995, TCC): Co purchased a yacht to be available for TP at all times; TCC disagreed that yacht should only be taxed when TP is

using it; yacht is always available to TP (like he owned it) – taxed at rate of return of $175K (the cost of the yacht).
(c) Inclusions in Income from O/E - Other Benefits
(i) O/E Income – Reimbursement for Housing Loss

Ransom (1967, Ex Ct): reimbursement for housing loss is NOT a taxable benefit bc this was an out of pocket expense incurred by reasons
of employment – not regarded as renumeration.

Subsequently, courts started to limit Ransom decision. Now, s.6(20) the first $15K is tax free & any reimbursement > $15K is 1/2 taxable.
o S.6(19) benefit relating to an amount paid in respect of a housing loss is taxable.
o S.6(21) Defines “housing loss” as different b/t cost of house & selling price).
o S.6(20) Valuation rule (see above)

Applies only to an “eligible housing loss” – defined in s.6(22) as housing loss in respect of an “eligible housing relocation”.

s. 248(1) “eligible housing relocation” = a work related relocation of > 40km.

If it’s not an “eligible housing loss”, then it’s all fully taxable.

Splane v MNR (1991, FCA): Compensation by employer for increased mrtg interest pmts on new residence NOT taxable under 6(1)(a) bc
no economic benefit of any significant value was conferred on TP, who suffered a loss due request of employer to move.
o TP was simply restored to previous economic situation.

Same in Canada v Hoefele (aka Krull) (1995, FCA): No economic gain to TP as result of increased mrtg rate subsidy  net worth was not
increased; fundamental requirement of 6(1)(a) not fulfilled.
(ii) O/E Income – Interest-free & Low-interest Loans

S.6(9) doesn’t do much on its own; just refers TP to s.80.4(1) (SubDiv F of ITA).

S.80.4(1) Where a TP receives a loan/debt "bc of or consequence of" previous, current or intended O/E, it’s a deemed taxable benefit
equal to the difference b/t:
o (a) Total of all interest computed at "prescribed rate" (deemed interest)
o (c) Total of interest paid on loan/debt (actual interest)

S.80.4(3) states s.80.4(1) doesn’t apply where interest rate of loan/debt ≧ commercial rates & paid by TP OR where it’s included in TP’s
income already.
o Can apply to loans included as part of salary or included under s.6(15) on forgiveness of loan/debt (Archer).

Canada v Hoefele (aka Krull): 80.4 language: “bc of”, “by virtue of”, “as consequence of” interpreted narrowly to required strong causal
link b/t E/O & loan/debt.
o Here, TP incurred loan NOT bc of the O/E, did it to retain ownership of new house.

Siwik v Canada (1996, TCC): Interest-free loan rcved by TP to assist in acquisition of new home when she was transferred – followed
Hoefele, not taxable under s.80.4(1) or s.6(9); found that employer foregoing the interest on the loan was like making a pmt to the
employee as a non-taxable reimbursement.
o Prof: Legislation were frustrated by above cases; response: enacted S.80.4(1.1) & s.6(23).

S.80.4(1.1) Deems causation (that the loan/debt is rcved bc of O/E) where it’s reasonable to conclude that, but for the O/E (from
s.80.4(1)), (a) the terms would have differed, or (b) loan wouldn’t have been rcved or debt incurred.

S.6(23) Employer-provided housing subsidy is a taxable benefit rcved by TP bc of O/E.
o Now, any housing assistance is a benefit.

S.80.4(7) “Home purchase loan” = basically, loan to buy a residence for personal habitation.

S.80.4(4) Locks in the rate determined under 80.4(1)(a); limited by S.80.4(6) to a 5-yr term; after which it’s deemed a new loan; must to
look at the prescribed rate at that time.

S.110(1)(j) Deduction that effectively exempts the first $25,000 on the loan.
Tax I – David Duff – Spring 2009 – Audrey Lim & Gina Wu -------- 11
o
o
o
o
Example: Gets a $100K interest-free loan from employer to relocate to new work location. Prescribe interest rate of 5%,
unchanged over next 5 yrs.
Prescribed benefit/ inclusion under s.80.4: $100K x 0.05 = $5,000.
Amount deductible under s.110(1)(j): $25K x 0.05 = $1,250.
So need to report $5,000-$1,250 = $3,750 taxable benefit  net inclusion.
(iii) O/E Income – Insurance Benefits

Exception to general inclusion under s.6(1)(a), ss.(i) excludes benefits derived from the contributions of the TP’s employer to or under a:
o Group sickness or accident insurance plan; BUT still taxable under S.6(1)(f)
o Group term life insurance policy; BUT still taxable under s.6(4)
o Private health services plan – defined in s.248(1)  fully exempt.

Any contribution by employer taints the plan (makes it a taxable benefit).

Tsiaprailis v The Queen (2005, SCC): Distinguish b/t portions of lump sum settlements to determine if any is taxable under 6(1)(f). TP
rcved $105K lump sum pmt for signing a release to Manulife Insurance from past or future obligations & related legal costs when she
sued for disability insurance  not taxable.
o S.6(1)(f) sets out 2 relevant requirements: (1) Amount must be "payable to the TP on a periodic basis", AND (2)Amount must be
paid "pursuant to" a disability insurance plan.
o Surrogatum principle: If TP rcvs an amount pursuant to a legal right as compensation for failure to rcv some other amount
(substitution principle), then the amount rcved should be taxed the same way as
o What is the damage or settlement pmt intended to replace? (Cnd National Railway v R)  It is a factual inquiry (Prince Rupert
Hotel (1957) Ltd. v R).
(d) Income from O/E - Allowances



S.6(1)(b) include in income allowances for personal/living expenses or for any other purpose.
o Exceptions to inclusion of certain allowances in ss.(i)-(ix).
“Allowance” not defined in ITA Dictionary: “$ paid to cover special expenses”.
S.8(10) requires employers to certify expense was required as part of employment.
(i) Characterization of Allowances

MacDonald v Canada (AG) (1994, FCA): $700/mo housing subsidy paid to TP who transferred from to Toronto included as income under
6(1)(b).
o S.5 doesn’t cover ALL pmts from employer to employee since it can’t all be considered as remuneration; that’s why there are other
provisions, eg. s.6.
o Purpose of S.6(1)(a) & (b) is to include gains/advantages arising from TP’s employment.
o Ransom v MNR (1967): Allowance implies an amount paid in respect of some possible expense w/out any obligation to account;
NOT a reimbursement of an expense actually incurred in the course of the employment.
o Splane: TP actually had to present receipts to employer so it’s NOT an allowance.

Elements of an allowance (MacDonald):
o Arbitrary amount – not normally calculated to cover a specific expense.
o Amount is predetermined w/out regard to exact amount of particular actual expense or cost, even if the figure
o Can be determined w/ reference to a projected or average cost
o Usually for a specific purpose.
o Recipient need not account for the expenditure of the funds towards an actual cost.

Taxable under 6(1)(b):
o “Isolation bonus” of $700/mo for a TP sent to Republic of Guinea (Lepine v MNR)
o Transfer allowance for each time TP (member of RCMP) was transferred from NS to PEI & back (Oster v Canada).

Canada v Demers (1980, FCTD): “Cost of living adjustment” paid to TP taxable as remuneration under s.5(1) & s.6(3), not as an
“allowance” that may have otherwise been exempt in s.6(6).

Cote v MNR (1990, TCC): – Pmt of 4 wks salary to TP who was relocated to Montreal was characterized as reimbursement of moving
expenses; NOT taxable.
(ii) Allowances – Exceptions, s.6(1)(b)

Exceptions found in s.6(1)(b)(i)-(ix). Most important are reasonable allowances for:
o (v)/(vii) Travel expenses
o (vii.1) Motor vehicle

All involve allowance for “travel expenses” incurred by employee on employer’s behalf and/or “traveling” by the employee in the
performance of duties of their O/E.

Blackman v MNR (1967, TAB): Allowance paid to TP to lessen living costs incurred of moving TP from one place to another for the
convenience of its operations were NOT in the nature of traveling expenses; they were personal/living expenses  Taxable.
o “Traveling” is not defined in ITA. Common meaning: to be on a journey, move back & forth w/in a short period of time,; NOT
sojourning (living temporarily) somewhere.
Tax I – David Duff – Spring 2009 – Audrey Lim & Gina Wu -------- 12

S.81(3.1) Reasonable allowance or reimbursement for travel expenses incurred in respect of part-time employment.
o Overturned Bouchard which disallowed travel expenses bc TP had 2 jobs.
(e) Income from O/E – Statutory Exclusions


ITA specifies 2 rules excluding certain benefits & allowances:
o S.6(6) Benefits rcved by TP employed at a “special work site” or remote location.
o S.6(16) Disability-related benefits or allowances.
S.6(6) applies where employee’s duties at special work site or remote location require employee to be there or away from principal
place of residence for >36 hrs.
o (a) exempts value of reasonable allowance for expenses TP incurred for board/lodging.
o (b) exempts benefits/allowance for transportation b/t a special work site & principal place of residence or another location.
(i) Statutory Exclusions – Employment @ Special Work Site

S.6(6)(a)(i) “special work site” defined as location where duties performed by TP were of a temporary nature if TP maintained elsewhere
a self-contained domestic establishment as TP’s principal place of residence
o (A) that’s available to TP’s occupancy & not rented to another person thoughout the period, AND (B) to which, by reason of
distance, TP could not reasonable be expected to have retuned daily from the special work site.

S.248(1) “self-contained domestic establishment” = dwelling house, apartment or other similar place of residence where person sleeps
& eats.

Guilbert v MNR (1990, TCC): Newspaper’s premises in Qc City are not a “special work site”.
o TP accepted temporary position (which actually lasted ~ 3yrs) & lived in a 6-room apt provided by employer in Qc City, but
maintained his principal residence back home.

Intention of legl reform is to apply to construction workers working on remotes sites.

Harle v MNR (1976, TRB): Provincial legislative building in Edmonton NOT a special work site.

Middleton v MNR (1979, TRB): “Living-out allowances” qualified TP for exemption under s.6(6)(a)(i). TP maintained a self-contained
domestic establishment 200 miles where he worked, could be fired any time, has worked on 7 diff work sites 50-700 miles from each
other over 10 years & had to drive 400 miles sometimes to visit his family.

Barrett v Canada (1997, TCC): Residence of TP’s separated spouse did not qualify as his principle place of residence; was NOT
“throughout the period, available for his occupancy.”

Smith v Canada(1998, TCC): Working 60km away did not qualify under s.6(6) exemption; not uncommon in Canada for ppl to commute
60km to work.

Charun v Canada(1983, TCC): Don’t use strict & literal interpretation of “by reason of distance” in s.6(6)(a)(i)(B). Must consider distance
of the trip, hrs worked, type of road to travel, time of day TP must travel & general physical & mental health of the TP.
(ii) Statutory Exclusions – Employment @ Remote Work Location

S.6(6)(a)(ii) refers to a location, by virtue of its remoteness from any established community, where TP could not reasonably be
expected to establish & maintain a SCDE.

Dionne v Canada (1996, TCC): Doesn’t matter how small the village; if TP has moved into a lodge where ht eats & sleeps over many
month, enough to ‘establish’ & ‘maintain’ a SCDE.
(3) Deductions from O/E – S.8

Note limitation on deductions (s.8(2)) & requirement for certificate for some deductions (s.8(10)).
(a) Deductions from O/E – Traveling Expenses




Would be included under 6(1)(b), but is exempt under 6(1)(b)(v)-(vii).
S.8(1)(h) allows Tp to deduct amounts expended by TP in the yr (other than motor vehicle expenses, which is deducted in (h.1)) for
traveling in the course of the O/E.
o S.8(10) Requires employer to certify above expenses are incurred for O/E.
S.8(1)(k) allows TP to deduct interest pmts & CCA to acquire motor vehicle used to perform duties of TP’s O/E.
Requirements to qualify for deductions in 8(1)(h) & (h.1):
o 1. Ordinarily Required to Carry On Duties Away from Employer’s Place of Business or in Different Place
o 2. Required Under Employment K to Pay Travel Expenses
o 3. Not in Receipt of Reasonable Travel Allowance
o 4. Travel in the Course of O/E

Luks v MNR (1958, Ex Ct): Something that is practical to do does not make it part of the duties of his employment. TP
traveling b/t home & work in the truck he stored his tools in were done before or after his employment duties – didn’t
provide his employer any benefit.

Chrapko (1988): Deduction allowed only for expenses incurred in traveling to a work place away from places where TP
usually works.
Tax I – David Duff – Spring 2009 – Audrey Lim & Gina Wu -------- 13


Merten (1990, FCTD): TP can deduct expenses for traveling from his home to a work place he doesn’t ‘usually’ work at. Luks
rationale also no longer applies to exclude all deductibility where traveling itself is not a performance of a service for
employer.
Evans (1998, TCC): Found cost of transportation by automobile holding the voluminous amounts of paper & materials for
work back & forth each day is was a necessary expense incurred in performing TP’s duties.
(b) Deductions from O/E - Meals

Usually “traveling expenses” in 8(1)(h) includes transportation, accommodation & meals consumed during period of travel, BUT 8(4)
adds additional requirement for TPs seeking to deduct cost of meals under 8(1)(h) or 8(1)(f) (general deduction for sales person):
o Meal was consumed during period TP was required by employment duties to be away
o For a period of > 12 hrs
o From TP’s usual work place for metropolitan area where TP’s usual work place is.
(c) Deductions from O/E – Moving Expenses


S.62 moving expenses are deductible for employees if moving >40km to a new residence from previous residence to work at a new work
location.
o S.62(1) TP can deduct, from their income computation, “amounts paid by the TP as or on account of moving expenses incurred in
respect of an eligible relocation.
o “Eligible relocation” defined in s.248(1) (see below)
S.62(3) sets out some inclusions for moving expenses - “includes”, so it’s not exhaustive; (a)-(e) were original rules, (f)-(h) were added
over time.
o Limitations to the deduction in s.62(1)(a)-(d).
o Amount can be deducted against income from new employment, business, or higher education (unlimited carry-forward).
o Move has to be connected to commencement of new employment, business, or studies.
o Moving expenses includes travel expenses, up to 2 wks of hotel, legal fees for getting out of a lease, etc. Need receipts!
o Does NOT include just moving closer to your current employer at the same work site.
(i) Deducting Moving Expenses – Eligible Expenses

Storrow v Canada (1978, FCTD): Narrow interpretation of moving expenses; deduction allowed only for ordinary & natural expenses
(mainly travel & storage costs), not just any costs occasioned to the move.
o Note that the land transfer fees disallowed is now allowed under 62(3)(f).
o Webb decision that disallowed cost to change drivers license also reversed by 62(3)(h) which allow deduction of cost of changing
legal documents.

S.62(3)(a) Travel costs for the household – who is included in the household?
o Dogs are included in the household (Critchley v MNR).

S.62(3)(b) Cost of moving/storage of household effects
o Costs of moving a horse not included bc it’s not a household effect (Yaeger v MNR)
o Not extended to cover costs of damage/lost stored goods ( Rath v Canada)

S.62(3)(c) Meals & lodging in 15 days. S.67 limits all deductions to a reasonable amount.

S.62(3)(d) Cost of cancelling a lease
o Does NOT include losses from subletting (Patry v MNR)

S.62(3)(e) Selling costs  broad language.
o Deduction allowed for higher mrtg rate TP entered into to avoid an interest penalty for mrtf of old home (Pollard v MNR)
o Look at TP’s direct & immediate object in making a pmt; if it’s to effect the sale of his home, then qualifies as selling cost (MNR v
Collin)
o Cusson v. The Queen (2007, TCC) - TP moved in Apr 2002, had 2 friends advertise that old residence was for sale from Apr – Oct
2002, hired a real estate agent in Oct 2002, & sold the old residence in Dec 2002 w/ closing date in Jan 2003.

Court: Ads was a “reasonable efforts” to sell the old residence - deduction of carrying costs in respect of the old residence
from Apr ‘02 – Jan ’03 allowed.

Fact that TP chose to call first on his friends instead of a broker to sell his old residence does not diminish the reasonable
nature of the efforts made. Depending on theTP’s knowledge, in the circumstances, it can be an appropriate and diligent
way of selling his old residence.

S.62(3)(f) Legal & transfer/registration of title to new residence costs
o Disallowed deduction of fees paid to the Canada Mortgage and Housing Corp (CMHC) (Knapik v The Queen)

S.62(3)(g) Interest, ppy taxes, insurance premiums & costs of heating & utilities < $5K of old house where (i) hold residence is not
occupied by TP or person who ordinarily resides there, and (ii) reasonable efforts have been made to sell the old residence.
o Only telling family & friends ppy was for sale isn’t reasonable efforts to sell old residence (Lowe v. The Queen)
o Disallowed the deductions bc TP’s son continued to live in the old residence after TP moved & did not make reasonable efforts to
sell (Rosa v. The Queen)

S.62(3)(h) Cost of revising & replacing legal documents & connecting/disconnecting utilities.
o Cable TV may be a “utility”, but equipment and installation charges are not included in its connection/disconnection costs (Cusson
v The Queen).
Tax I – David Duff – Spring 2009 – Audrey Lim & Gina Wu -------- 14
(ii) Deducting Moving Expenses – Eligible Relocation

S.248(1) eligible relocation is a relocation of a TP where
o (a) purpose of the relocation - enables TP to

(i) carry on a business or be employed at new work location

(ii) to be a student at post secondary institution (attend full time)
o (b) TP moving from old residence to new residence – BOTH are in Canada
o (c) Distance b/t old residence to new work place & new residence to new work place is >40km (move >40km closer to the new
work location)

Pre-1997, TP had to have started work at new work location before moving. Current s.248(1) allows deduction for moving to find new
employment or start new business (Abrahamsen).

(a) Purpose of Relocation
o Beyette (1990, TCC) & Beaudoin (2005, TCC): TP can determine the timing of the move (can delay the move). TP isn’t claiming
double deduction so deduction allowed.
o Howlett v Canada (1998, TCC): Deduction disallowed for TP moving to be closer to one of 2 work locations; not a new work
location.

Followed in Broydell v The Queen (2005, TCC) where TP moved from closer to his current work location @ employer’s
request.

(b) Residences Before & After Relocation – Where TP ordinarily resides.
o Rennie v MNR (1989, TCC): TP cannot be ordinarily residing in 2 separate residences. TP moved from Montreal to Edmonton to
Victoria. Not allowed to deduct moving expenses from both Montreal & Edmonton to Victoria

Prof: TP isnt’ double deducting anything, did what was reasonable. Here, court takes too narrow a view of relocation(looking
only at a point in time, not over the 3 yrs).
o Ringham v Canada (2000, TCC): Counted 2 moves (where job for 1st move was delayed so TP moved for another job) into 1 –
“there was realistically only one move”. Allowed deduction of selling costs of original home.
o Calvano v. The Queen (2004, TCC): TP can be ordinarily resident on a temporary basis. The concept of ordinarily resident has more
to do w/ the settled, ordinary routine of life than the permanence of the arrangement. TP was no longer ordinarily residing at old
house when it was sold – disallowed deduction for selling costs.

Considerations to determine “ordinarily resident”:
 TP & family moved & left behind significant attachments (school, sport, family),
 All belongings were moved – nothing significant stored,
 IDs & bank accounts all moved.
 Original ppy became income-producing ppy – rented out,
 For the 19mo, TP & family ate, slept & lived in Coquitlam home.
o Conversely, Neville (1979, TRB): Allowed deduction though TP actually moved to Winnipeg (rented residence) 2 yrs before
purchasing a home there & selling old home.
o Turnbull v Canada (1998, TCC): Disallowed deduction of moving expenses to & from BC bc TP was at all times ordinarily resident in
Nfl. TP Kept Nfl as place of residence on tax return & returned there every year.
o Cavalier v Canada (2001, TCC): Allowed moving expenses for TP who moved from BC to Fort McMurray to teach. TP’s wife
continued to live in BC home & TP still had mail sent to BC & didn’t change his bank accounts.

Purpose of s.62 ITA is to encourage work force mobility  supported by S.6 Charter
o Persaud v The Queen (2007, TCC): Students who leave home to attend university on a full-time basis are considered to be
ordinarily resident at the university (or other location) even if it’s only temporary.
o Jaggers (1997, TCC): Allowed deduction of selling costs of former residence 2 yrs after purchase of new home; TP allowed to retain
old home to ensure new job will work out.
o Pitchford (1997, TCC): Found TP had not settled down or ordinarily resided anywhere while TP & family had no settled routine of
life where they regularly, normally or customarily lived; furniture were all still in storage.

(c) Distance of Relocation
o Giannakopoulos v MNR (1995, FCA): “Straight line method” is illogical; need to measure the distance moved using real routes of
travel, but not just route TP would normally take (don’t want it to be subjective).
o Nagy v The Queen (2007, TCC): “Realistic” & “normal” imply that reason & common sense helps to determine the distance. Route
w/ different types of roads & tons of turns is not commonsensical nor realistic, even if it’s the shortest route to work distance wise.
(iii) Deducting Moving Expenses – Limitations on Deductibility, s.6(1)

S.6(1)(a) - Moving expenses not deductible if they are “paid on the TP’s behalf in respect of, in the course of or bc of, the TP’s O/E”.
o (b) Gives effectively an unlimited carry-forward, if it can’t be deducted this year due to (c).
o (c) Limits amount deducted for the taxation year to TP’s income for the year from carrying business or employment at new work
location
o (d) Deduction disallowed if reimbursement or allowances rcv by TP for moving expenses are not included in computing TP’s income.

Hippola v The Queen (2002, TCC): TP moved to start his own business, but ended up getting hired by another Co after moving. Since the
move was start a business (intent) that TP never started, income from the business is $0 so TP cannot deduct any moving expenses.
Tax I – David Duff – Spring 2009 – Audrey Lim & Gina Wu -------- 15
III. INCOME OR LOSS FROM A B/P & OTHER INCOME
(1) Characterization of Income/Loss from B/P & Other Income







Dealt w/ in Subdivision B (s.9-s.37) – Starting points for computation: s.9(1) & (2)
S.3(a) ITA identifies “business” & “ppy” in addition to O/E as sources of income in computing TP’s net income. S.3(d) permits TP to
deduct losses from B/P.
S.9(1) Income from business/ppy is profit from B/P.
o ITA taxes on a net basis. Profit = excess of revenues over expenses in the taxation year.
o ITA does not require income to be computed in accordance w/ GAAP.
o Expenses – s.18(1)(a). Proof of expense is key – need receipts! (Muller's Meats v MNR)
S.9(2) loss – when costs > revenues.
o Subject to s.31 special rule dealing w/ farming losses (loss from this source is limited).
S.9(3) Income/loss from ppy does NOT include capital gain/loss from ppy.
Calculations in s.9 are done on a business-by-business or ppy-by-ppy basis. Determine all the incomes/profits (s.9(1)) & losses (s.9(2))
which then goes into s.3(a) & s.3(d) respectively to determine TP’s total taxable income.
S.10-11 Deals w/ timing issues; S.12-17 Inclusions; S.18-21 Deductions
(a) Characterzation of Income - Business
(i) Ordinary Meaning of “Business”

Organized activity carried on for the purpose of profit.
o Gambling cases (Morden); Treasure-seeking cases (MacEachern, Tobias).
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Smith v Anderson (1880): business is anything which occupies the time & attention & labour of a man (organized activity) for the
purpose of making a profit.
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MNR v Morden (1961, Ex Ct): TP was a gambler. From ’42-48, TP’s gambling was extensively organized & occupied so may be taxed.
Post ’48, it was just a hobby, not business.
o Lala Indra Sen (1940): Consider TP’s own dominant object: income from business or just indulgences in hobby/recreation.

Elements of a “business” ((Smith v Anderson, Morden):
o Profit-making purpose (commercial vs personal)
o Means of livelihood
o Organized activity (after finding there is a personal aspect, apply REOP test)

Graham v Green (1925, UK): Even if TP has a subjective intention to profit, an activity like gambling may not constitute a business if the
activity is not susceptible of making a profit.
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MacEachern v MNR (1977, TRB): TP found buried treasure, had always intended to profit from sale of treasure recovered  Organized
activity (invest time, money, & equipment); taxable.

Cameron v MNR (1971, TAB): TP caught & sold killer whale to aquarium twice – still count as windfall. If he does it one more time,
maybe review the case.
(ii) Extended Meaning of “Business” by s.248(1)

S.248(1) includes “a profession, calling, trade, manufacture or undertaking of any kind whatever and … an adventure or concern in the
nature or trade” & excludes O/E.
o Adventure/concern in nature or trade (ACINT) is most contested – income from business or capital receipt?

MNR v Taylor (1956, Ex Ct.): Nature & quantity of subject matter AND manner of dealing test.
o TP got permission from Co to purchase a lot of lead (takes on risks himself) & ends up selling it to the Co at a profit when lead
prices skyrocket  taxable as ACINT.
o ACINT considerations: **Intention to profit

(1) Nature of trade & quantity: character & circumstances of the particular venture.

(2) Manner of dealing: Whether operations involved in are the same & carried out the same way as a trader in that business
would operate. (Livingston, Rutledge)

3 categories of ppy:
o Investment ppy – disposition gives rise to capital gain & loss.
o Personal use ppy – disposition gives rise to capital gain, but no loss.
o Inventory ppy – holding ppy for ACINT, taxable as income from business.

Stringam Farms Ltd v. MNR (1977, TRB): TP’s purchase & sale of future Ks in cattle & feed found it to be ACINT; commodity futures are
by-nature short-termed & speculative & to make a profit, can’t conceive to be long-term investment (so not capital/investment ppy).

Regal Heights v MNR (1960, SCC): Income from sale is business income from ACINT bc TP had “secondary intention” to resell ppy.
Tax I – David Duff – Spring 2009 – Audrey Lim & Gina Wu -------- 16

Anderson Logging Co v BC (1917-27, SCC): Presumption that activities consistent w/ stated objects of a Co were necessarily carried out
in the course of Co’s business.
(b) Reasonable Expectation of Profit (REOP)
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Limited to activities/situations with a personal element.
Idea that when TP is engaged in something partially personal which is consistently incurring losses, TP may be just calling it a “business”
to deduct personal expenses.
o Currently REOP test still exists, but plays a subsidiary role.
REOP test: to have a “source of income”, TP must have a profit or REOP (Moldowan)
Allen v The Queen (2000, FCA): REOP test has no application where there is no personal element & there exists a genuine business.
Stewart v Canada (2002, SCC): REOP is not a requirement for business income. Allowed deduction of losses incurred by TP bc of high
interest expenses from highly leveraged condos.
o 2-Step Approach to “Source of Income”:
o (1) Is the activity of the TP undertaken in pursuit of profit or a personal endeavor? (Whether source of income exists)

Distinguish b/t commercial & personal activities

Even where TP’s venture contains elements suggesting a hobby or personal pursuit, if it’s undertaken in a sufficiently
commercial manner, venture will be considered a source of income for ITA.

Objective factors to consider (not exhaustive): Profit & loss experienced in last years, TP’s training & intended course of
action, capability of venture to profit.
o (2) If it’s NOT a personal endeavor, is the source of income a business or ppy? (Categorizes sources as business or ppy)

S.18(1)(a) requires deductions be attributed to particular business or ppy source.

S.18(1)(h) specifically disallows deduction of personal/living expenses of TP.
o Here, TP engaged in ppy rental activities. No personal element here (no personal use, all rented at arm’s length) so it’s a
commercial activity. No need to apply REOP test here  rental activities = source of income from business.
o Also, TP borrowed $ to engage in a bone fide investment in condos so interest charges also deductible under s.20(1)(c)(i).
REOP test remains relevant to statutory definition of “personal or living expenses” in s.248(1), the deduction prohibited by s.18(1)(h).
Walls v Canada (2002, SCC) Allowed deduction of losses from TP’s investment in Ltd Partnership (structured as tax shelter to generate
losses investors can use to offset income from other sources) bc Partnership was maintained as an ongoing commercial operation.
Quebec v Lipson (1979, SCC): Disallowed loss deduction; bc purpose of the transaction was not a genuine business purpose “to make a
profit”, but purely tax-motivated to “create a deductible loss by means of a disadvantageous K”.
Dallos v MNR (1985, TCC): Rental losses disallowed bc TP built ppy to use during his retirement, not for investment purposes. While
McNeill v Canada (1989, FCTD): Condo rental losses allowed bc TP had REOP even though condo was originally acquired for personal
use.
Morris v Canada (2004, FCA): Losses from activities w/ very substantial personal element & can’t be seriously described as businesslike
will be disallowed.
(2) Inclusions – S.12-17

Some inclusions are based on "profit" from 9(1); others depend on specific stat provisions in s.12.
(a) Inclusions - Gains from Illegal Activities

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Gains from illegal activities are taxable.
No. 275 v MNR (1955 TAB): Not concerned w/ source or means taken to obtain the income, but merely whether the income is liable to
tax under the provisions of the taxing statute; not going to judge the activity, only looking at the economic consequence. Found
prostitution earnings to be taxable.
Smith v AG of Canada (1924): Needn’t look at source of income; TP can't claim that revenue is exempt from taxation bc it was illegally
obtained.
Smith v Minister of Finance (1917-27): Parliament did not intend to exclude people who obtain income illegally; would increase the
burden on Cdns whose businesses were lawful.
Mann v Nash (1932): Taxing illegal gains does NOT mean gov’t is profiting from or participating in its illegality.
(b) Inclusions - Damages & Other Compensation


Canada v Manley (1985 FCA): Damages for breach of warranty of authority are taxable bc they’re compensation for the taxable finder’s
fee TP would’ve gotten if K not breached.
London & Thames Haven Oil v Attwool (1967): Damages for negligence.
o Surrogatum TEST: "Where, pursuant to a legal right, a trader rcvs from another compensation for the trader's failure to rcv a sum
of $ which, if it had been rcved, would've been credited to amount of profits, the compensation is to be treated for income tax
purposes in the same way as the sum of $ would've been treated if it had been rcved instead of the compensation."
o Elements: (1) Amount rcved pursuant to a legal right & (2) if the amount that it replaced would have been taxed as income.
Tax I – David Duff – Spring 2009 – Audrey Lim & Gina Wu -------- 17
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Burmah Steamship Co v CIR: Distinguish b/t injury to profit/loss (damaging the chartered boat) versus injury to capital asset (sinking the
boat).
Damage pmts characterized as business income:
o Compensation for lost profits
o Business income from ACINT for compensation for expropriation of land (Bellingham) & compensation for purchaser's failure to
complete sale of land (Zygocki v Canada).
Damage pmts characterized as capital receipts: (not taxable as income
o Compensation for lost assets, including loss of a separate business or long-term K constituting a capital asset of an enduring nature
effectively terminating a separate business of TP (HA Roberts Ltd.)
o Characterization of business as separate business depends on on degree of interconnection. Factors to consider:

Presence of common factors present: processes, products, customers, services, types of inventories, employees,
equipment, etc.

Same premises? Different fiscal year-ends? Same accounting systems?

If one operation exists to supply the other  same business
o Compensation for expropriation of leasehold interest in premises where TP carried on business (Cdn Automobile Equipment Ltd.)
& of farmland part of which was used for business of gravel extraction, b/c payment was for land, not gravel (Farrell v MNR).
o BC Fir and Cedar Co v MNR (1929 Ex Ct): Insurance proceeds rcved after plant destroyed by fire is taxable income bc the insurance
for lost profits replaced net profits TP would've presumably earned.
Damage pmts characterized non-taxable receipt
o Punitive damages: Non-taxable windfall for punitive pmts awarded to ensure proper commercial behaviour (Bellingham) or
settlement of copyright infringement claim (Cartwrights & Sons Ltd.)
(c) Inclusions - Voluntary Payments
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Difference from damages. Here, recipient has no legal entitlement
Distinction b/t gifts (Federal Farms) & compensation for services (Campbell).
Federal Farms Ltd v MNR (1959 Ex Ct): Relief Fund rcved no contribution from TP, so TP had no legal right to any $ from Fund; Monies
rcved were voluntary personal gift & nothing more.
o Voluntary pmts may still be included in income if paid for services rendered via employment or trading transactions (Goldman v
MNR, Cowan v Seymour)
o The size of the gift doesn't affect the true nature of the payment.
Campbell v MRN (1958 TAB): Voluntary payment is taxable income here bc pmts were for services rendered bc of employment. TP (pro
swimmer) had K w/ newspaper to swim across Lake Ontario for $. She almost finished, but newspaper still awarded her the full amount.
Interpretation Bulletin: "Government Assistance" (2000)
o Pmts for personal losses/expenses incurred as a result of a disaster = not taxable
o Compensation for loss/damage to personal-use property = not taxable
o But assistance for capital ppy (business or personal) is ordinarily netted against cost of repairs or reduces capital cost of ppy that is
acquired to replace the lost ppy.
o Assistance for damaged inventory = taxable under 12(1)(x)
McMillan v MNR (1982, TRB): $50K pmt was not a finder’s fee, but a gratuitous pmts for which TP had no legal expectation  nontaxable windfall.
Canada v Cranswick (1982, FCA): Non-taxable windfall where TP had "no enforceable claim", "no organized effort" that was neither
sought after nor expected by TP, & had "no foreseeable element of recurrence."
Mohawk Oil v MNR (1992, FCA): Found pmt re negligent construction was partly in recognition of lost profits, & party on account of
capital (construction of plant).
Frank Beban Logging Ltd v Canada (1998 TCC): TP received $800K from gov’t when their operations added after area made into
national park = non-taxable windfall, b/c TP had no legal/statutory right, made out of goodwill.
(d) Inclusions - Prizes & Awards
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
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No legal entitlement, but sometimes recipient may have provided valuable consideration.
Prizes from lucky draws not taxable (Abraham, Poirier).
Prizes in competitions may be taxable as business income (Rother or Watts?)
o Abraham v MNR (1960 TAB): $ won from draw by pure chance is not taxable.
o Poirier v MNR (1968 TAB): TP, having met sales quota, entered into & won a lucky draw (a trip). Benefit was NOT conferred on TP
in his capacity as employee or SH, so not taxable.
o Rother v MNR (1955 TAB): Architect received $2K as 1/6 participants in design competition = non-taxable. TP didn't rcv money for
services rendered nor as a fee, or as a purchase price of the design submitted.
o Conversely, Watts (1966, Ex Ct) characterized CMHC’s design competition as taxable income from a “contractual relationship” that
had been created b/t the TP & CMHC by virtue of TP entering into the competition & the filing of drawings pursuant to it.
Where employee rcvs prize/award by virtue of his O/E, value is taxable as remuneration under 5(1) or as a benefit under 6(1)(a).
(i) Inclusions – Prize for Achievement
Tax I – David Duff – Spring 2009 – Audrey Lim & Gina Wu -------- 18
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Prizes NOT rcved in the course of B/O/E may be taxable under 56(1)(n), less $500 exemption provided in 56(3)(a), IF they are “for
achievement in a field of endeavour ordinarily carried on by the TP” (Turcotte). If NOT, it’s not taxable.
Canada v Savage (1983 SCC): TP rcved $300 from employer on successfully completing 3 courses. 56(1)(n) only taxed amount of prize >
$500. (also see above)
o Broader definition of "prize”: award or recompense for some valuable act done, anything to be striven for
o If prize >$500 is taxable under 56(1)(n), &prize <$500 is taxable under s.3, then $500 exemption would never be used!
o Savage reversed by 56(1)(n) amendments (took out "amounts received in course of B/O/E." So any work-related awards/prizes do
NOT qualify for $500 exemption.
(ii) Inclusions – Prescribed Prizes
Prizes >$500 rcved in the course of B/O/E is fully taxable as income, unless it's a "prescribed prize" (then it's explicitly exempt from tax).

56(1)(n)(ii): "prescribed prize" defined in Regulation 7700 = any prize recognized by general public + is awarded for meritorious

achievements & NOT compensation for services rendered. I.e. Nobel Prize
Foulds v Canada (1997 TCC): Considered the public recognition & weight/criteria of contest of 2 music prizes rcved by TP & found

"meritorious achievement in the arts"  not taxable.
Labelle v The Queen (1994 TCC): Allowed TP’s appeal to finding that his prize was taxable under 56(1)(n), not a prescribed prize bc it

wasn't "recognized by the general public." Onus on MNR to explain why the prize is not recognized by the general public.
(e) Inclusions - Annuity Pmts
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Rumack v MNR (1992 FCA): TP won "cash for life" lottery, paying $1K/mo, which has character & quality of income: periodic, regular,
certain, foreseeable, expected, enforceable  taxable income under 56(1)(d). Page 1184, Note 3.
(f) Inclusions - Interest

S.12(1)(c) specifically includes any amounts rcved or receivable by TP in the year “as, on account of, in lieu of pmt of or in satisfaction of,
interest” if it’s not included in computing TP’s income for a preceding tax year.
(i) Inclusions – Characterization of Interest
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“Interest” is not defined in ITA; Oxford dictionary: $ paid for the use of $ lent or for not exacting repayment of debt.

Elements of “legal interest”: (1) Compensation for use or retention of principal sum; (2) Referable to principal sum; (3) Day to day
accrual. Sherway Centre further expands concept of interest.
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Distinction b/t interest pmts referable to principal sum determined retroactively (Perini Estate, Miller) & pmts comprising an element of
compensation (Huston, Bellingham).
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Perini Estate v MNR (1982, FCA): Though the “interest pmts” were contingent, at the closing date of the K, the conditions were met
which determined the total sum of purchase price. The 7% “interest’ was for the delay of pmt of purchase price so TAXABLE as income.
o Name/label of a term is not conclusive of its nature (Inland Revenue v Wesleyan)
o There is no such thing as interest on principal which is non-existent (SK Farm Security)
o Parties to a K can give a contingent liability retroactive effect (Trollope & Colls v Atomic Power) such that it could qualify as a
principal sum to which interest could be referable.
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Miller v Canada (1985, FCTD): TP’s retroactive salary increase w/ “interest” payable from past periods is referable to a principal sum
even though amount of the principal to which interest related to was not determined before pmt  taxable.
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RG Huston et al (1962, Ex Crt): “Interest” pmts were actually grants bc TP “had no ppy or legal or equitable right of any kind in the
amount on which the alleged “interest” was computed”.
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Bellingham c Canada (1996, FCA): Pmt here more a punitive damage award than “interest”.
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Ahmad v Canada (2002, TCC): Pmt of pre-judgment interest after successful legal action against ON Hydro to TP not taxable bc there
was no principal amount to which interest could accrue until judgment determined TP was wronged & the amount of the loss suffered.
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Conversely, Coughlan v Canada (2001, TCC): Damages & pre-judgment interest on his legal fees from the Co to TP taxable bc he was
entitled to it under Co by-laws.
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Amounts rcved “in lieu of pmt of, or in satisfaction of, interest” is taxable (Hall v MNR, Greenington Group)

Sherway Centre Ltd v Canada (1998, FCA): Characteristic of interest: (1) TP’s entitlement to the interest must be ascertainable on a daily
basis & (2) be related to a principal amount.

CRA Interpretation Bulletin IT-396R “Interest Income” (May 29, 1984):
o After 1983, awards for damage by the court or in a settlement as interest on all or a portion of the award IS interest for purposes of
ITA.
o Idea that liability for damages is considered to originate on the date on which an injury occurred so there is an amount owing.
(ii) Inclusions – Payments of Interest & Capital Combines

S.16(1)(a) applies where under a K/arrangement, an amount can reasonably be regarded as being in part interest & in part an amount of
a capital nature.
o Anti-avoidance provision, enable courts to characterize a reasonable part of a pmt as interest where the full pmt can reasonably be
regarded as part capital & part interest. Interest part is deemed interest irrespective of K.
o Appears to determine tax consequences on economic/commercial substance basis of the K rather that its legal form.
Tax I – David Duff – Spring 2009 – Audrey Lim & Gina Wu -------- 19
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Groulx v MNR (1967, SCC): Factors to consider: Invariable/universal practice (at the time) to charge interest of 5-6%; Ppy was sold >
FMV (about $350K); Heated negotiations - TP able to sell at $395K by sacrificing the interest (intention to assure a higher capital price).
Vanwest Logging v MNR (1971, Ex Crt) – 4 considerations:
o (1) Terms of the agreement reached b/t parties
o (2) Course of negotiations b/t parties leading to agreement
o (3) Relationship of price paid to the apparent FMV of the ppy at the time
o (4) Common practice re pmt of interest of that ppy.
Rodmon Construction v Canada (1975, FCTD): Deems excess of price over FMC as interest.
Connor v Canada (1978, FCTD): FMV = highest price available in an open & unrestricted mrkt b/t informed, prudent parties acting at
arm’s length & under no compulsion to act.
S.16(4) says s.16(1) does not apply to any amount rcved by TP in a taxation year (a) as an annuity pmt or (b) in satisfaction of the TP’s
rights under an annuity K.
o Generally, annuity pmts are fully taxable under s.56(1)(d) w/ deduction available in s.60(a) for capital element of the pmt.
o Lump sum pmts in satisfaction of TP’s right under annuity K, gains are taxed under s.148(1) & losses deducted under s.20(20)(b).
(iii) Inclusions – Discounts & Premiums

Where debt obligation is acquired at price < principal amount payable on maturity, this “discount” = economic return in addition to any
interest payable.

To be “legal interest”, must not only compensate for use of borrowed money, but also refer to the principal amount & accrue day by
day (O’Neil).
o O’Neil v MNR (1992, TCC): Gov’t of Canada t-bills - difference b/t purchase price & maturity value is taxable under s.12(1)(c);
discount is in nature interest paid on $ invested.

Characterization turns on (Peter Dixon & Sons Ltd.): Term of the loan; Stipulated rate of interest; Capital risk; Extent to which risk is
taken into account in fixing terms of K.

Stipulated rate of interest payable not required.
o Gestion Guy Menard v Canada (1993, TCC): Gains from sale of t-bills a day before maturity still taxable under s.12(1)(c) (as
amounts rcved “in lieu of pmt of interest”).

Alternative characterization as business income (West Coast Parts) or capital gains.
o West Coast Parts v MNR (1964, Ex Crt): TP loaned $125K repayable in 2 years w/ 10% interest + bonus/premium of $56K. Bonus
was taxed as business income from ACINT, not regarded as interested w/in meaning of s.12(1)(c).
(3) Deductions



9(1): concept of profit is NET, authorizes deduction of legitimate expenses incurred in order to earn income from B/P; s.18(1)(a) limits
deduction.
Business Practice Test: "Whether it was made or incurred by TP in accordance w/ ordinary principles of commercial trading or well
accepted principles of business practice." Affirmed in Symes v Canada (1993 SCC).
o 18(1)(a) income producing purpose test: "made or incurred by TP for purpose of gaining or producing income from B/P"
o 18(1)(h): can't deduct TP’s personal/living expenses, EXCEPT travel expenses (see above)
o 67: (applies to computation of income from all sources) limits deductions to those that are "reasonable in the circumstances."
Specific rules:
o 18(12): limits amount in respect of a home office
o 18(1)(l)(ii): can't deduct membership fees for any dining/rec/sport clubs
o 20: allows numerous deductions (see later)
(a) Deduction of Illegal Payments
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Generally deductible (Espie Printing), except for bribes – S.67.5
Recall: Gains from illegal activities are included in computing TP's income (Smith v AG of Canada, Angle v MNR).
Epsie Printing Co v MNR (1960 Ex Ct): Illegality of the pmts has no bearing on the Q whether these wages were wholly & necessarily laid
out for the purpose of earning the income.
S.67.5 Prohibits deductions of pmts/bribes made to gov't officials (post July 1990) where it would violate Criminal Code.
o CC: S.119: bribery of judges, Parliament members; S.120: Bribery of police officers, justices, officers of juvenile court; S.121:
Payments to gov't officials to gain K or other benefit; S.123: attempts to influence municipal officials through bribes, threats, etc.;
S.426: Secret commissions to an agent
o Effectively overrules United Color and Chemicals (1992 TCC) which allowed deductions for secret commissions or kickbacks paid in
cash by TP bc they were standard in the industry + necessary for gaining income; TP had some records, although not detailed.
Neeb v Canada (1997 TCC): TP sought to deduct $6M of lost inventory (his marijuana was seized by gov’t), normally deductible, but
disallowed here bc (1) amount wasn't established w/ any degree of particularity, & (2) to allow deduction would contradict public policy.
o Drug dealer's forfeiture of illegal drugs should NOT be subsidized.
o SHOULD PUBLIC POLICY HAVE A ROLE TO PLAY IN FISCAL MATTERS?
Tax I – David Duff – Spring 2009 – Audrey Lim & Gina Wu -------- 20
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64302 BC v Canada (1999 SCC): SCC rejected the application of a public policy limitation to disallow the deduction of legislative imposed
fines/penalties.
(b) Deduction of Damages Payments
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Deductible where business purpose & income-producing purpose tests are satisfied (Imperial Oil); NOT deductible where it’s too
remote (Davis).
Avoidability & public policy tests rejected after 65302 BC Ltd. (McNeill).
Remoteness test questioned in 65302 BC Ltd.
Imperial Oil Limited v MNR (1947 Ex CT): TP incurred a substantial damage payment due to employee's negligence (shipping Co crashed
into another boat); damages deductible.
o Profits & gains must be estimated on ordinary principles of commercial trading (Usher's Wiltshire Brewery Ltd v Bruce). Collision is
ordinary hazard of shipping Co?

Strong & Co Ltd v Woodifield (1905 KB): Only losses that are incidental to the trade itself should be deducted. Must consider
nature of the trade; can’t be too remote.

When the nature of the operations is such that the risk of negligence on part of TP's servants in the course of their
duties/employment is really incidental to such operations, w/ its consequential liability to pay damages/costs, then such
amounts is properly included as part of the total cost of such operations.
Strong & Co of Romsey Ltd v Woodifield (1905 KB): Test for deductibility depends on extent to which the expense is connected w/ the
trade in the computation of the income.
Davis v MNR (1964 TAB): Pig farmer, want to deduct damages for car accident when going to inspect 2 boars his brother had bought 
disallowed; too remote.
o Can only deduct accidents found to be a hazard incidental to the usual & ordinary conduct of business.
McNeill v Canada (2000 FCA): Breach of restrictive covenant deductible under 18(1)(a).
o Relied on 65302 BC Ltd: Fines/penalties generally deductible from TP's income from B/P.
o If a fine/penalty for breach of law is deductible bc nothing in 18(1)(a) precludes it, then damages for breach of K should also be
deductible.
IT-467R2: "Damages, Settlements & Similar Payments" (Nov 2002)
o Tests for damages to be deductible: Outlay must

have been made for purpose of gaining income: 18(1)(a)
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not be on account of capital: 18(1)(b)

not be made for purpose of gaining exempt income: 18(1)(c)
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not be a personal expense: 18(1)(h)
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be reasonable in the circumstances: 67
(c) Deduction of Fines & Penalties
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
S.67.6 Post-March 22/04, NO deduction available wrt fine/penalty.
Traditionally disallowed bc (1) not incurred for earning income & (2) contrary to public policy.
o Horton Steel Works v MNR (1972 TRB): Penalty is not an outlay made for the purpose of producing income, & TP could've just NOT
broken the law.
o Penalty not connected w/ or arising out of trade, but imposed personally (CIR v Alexander von Glehn Co) or the penalized action
was "at most a remote circumstance" & not done in course of TP's business (MNR v EH Pooler & Co).
o Luscoe Products v MNR (1956 TAB): Deduction of fines for putting too much alcohol in medicine disallowed; don’t want to allow the
TP "to share equally w/ the public revenue the loss to which it was condemned by its own unlawful act."
Then, certain fines/penalties allowed if 2-fold test satisfied: (1) Penalties "resulted from day-to-day operation of its business & were a
necessary expense” (Day & Ross v Canada) & (2) TP's actions "were taken to earn income" (TNT Canada v Canada).
Additional "avoidability" test: Penalty must be seen as an unavoidable incident of carrying on the business (Amway of Canada Ltd v
Canada).
o Policy: Shouldn’t allow deduction of fine/penalty that is legally imposed w/ purpose of punishing/deterring those who (through
intention or lack of reasonable care) violate the law.
o Sunys Petroleum Inc v Canada (1996 TCC): Allowed deduction bc TP had relied on others when breaking the law, so "could not
reasonably have avoided" the failure to pay taxes.
o Port Colbourne Poultry Ltd v Canada (1997 TCC): Deduction disallowed if the decision which led to the unavoidable breach of law
was avoidable.
Judicial approach in 65302 BC Ltd. – downplayed business practices test under s.9(1), emphasizing only the income-producing test in
s.18(1)(a).
o Rejected avoidability & public purpose tests.
o Held: fines/penalties might be non-deductible where breach so “egregious or repulsive” that subsequent fine cannot be justified as
being incurred for the purpose of producing income.
65302 BC v Canada (1999 SCC): Held over-quota egg fines incurred by TP were deductible business expenses bc fines/penalties fall w/in
broad & clear language of 18(1)(a).
o 9(1) Net profit, authorizes deductions to the extent they are consistent w/ "well accepted business principles" (Symes v R).
Tax I – David Duff – Spring 2009 – Audrey Lim & Gina Wu -------- 21
o
o
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18(1)(a): Prohibits deductions for outlay/expense UNLESS it was incurred for the purpose of gaining income from B/P.
Statutory Interpretation and Public Policy: Pay attention to language, & acknowledge Act’s context, but courts should be reluctant to
embrace "unexpressed notions of policy/principle in the guise of statutory interpretation”; would introduce uncertainty!

Allowing deductions are consistent w/ tax neutrality & equity; up to Parliament to expressly prohibit certain deductions 
which it did by enacting s.67.6.
o Distinguish deductible & non-deductible pmts on a case-by-case basis.

Main factor: whether the primary purpose of the stat provision would be frustrated or undermined. Penal/deterrence vs.
compensatory.
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Fines for acts that are "so egregious and repulsive" cannot be justified as being incurred for the purpose of producing income.
Duff: "Deductibility of Fines & Penalties Under the ITA: Public Policy, Statutory Interpretation and the Scheme of the Act in 65302 BC Ltd"
(2001):
o 9(1) embraces "business practice" test (objective), while 18(1)(a) embraces the "income-earning purpose" test (subjective) (&
refusing to modify language of 18(1)(a) by using avoidability or public policy considerations).
o 65302 BC Ltd pretty much ignores the BP test & uses the IEP test. 2 problems:

(1) Symes: using IEP as authority is bad; ignores scheme of ITA & jurisprudence.

(2) Disregarding BP test overlooks the possibility that avoidability & public policy considerations may be relevant.

Remoteness test rejected in 65302 bc change in stat language from s.6(a) to s.18(1)(a) (dropped "wholly, exclusively.."). Then
again, previous cases didn't rely solely on the restrictive "wholly, exclusively" criteria  test not totally rejected.

Avoidability test (Amway v Canada) rejected bc this test is really concerned w/ BP test (9(1)) & not the IEP test (18(1)(a)) used
by court.
Interpretation Bulletin, IT-104R2: Deductibility of Fines or Penalties (1993)
o Fines/penalties for minor matters (like licensing infractions) can be deducted if:
(a) Fine/penalty can be shown to have been laid out for the purpose of earning income;
(b) Nature/circumstances of conduct, if deduction allowed, won't violate public policy;
(c) Incurring the particular type of fine/penalty is a normal risk of carrying on the business, & violation resulting in the fine is
inevitable & beyond the control of the TP;
(d) The breach of law doesn't result from negligence, ignorance or deliberate disobedience of the law & doesn't endanger
public safety; and
(e) Deduction of the expense isn't otherwise prohibited under the Act.
o 18(1)(t) (post’89) Prohibits deductions for amounts paid under ITA (taxes, interest & penalties)

Applied in Iogen Corp v Canada (1995 TCC) & Godsell v The Queen (1996 TCC).
(d) Deduction of Recreation, Meal, & Entertainment Expenses
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General principles set out in Royal Trust now subject to specific statutory provisions
The Royal Trust Co v MNR (1957, Ex Ct): Deduction of $ paid for social club memberships allowed b/c the expense is (1) made/incurred
by TP in accordance w/ principles of commercial trading/accepted business practice, and (2) for the purpose of gaining/producing
income from his business (NO LONGER GOOD LAW).
S.67.1: 50% limitation on otherwise deductible expenses for human consumption of food or beverages or enjoyment of entertainment
S.67.1(2) sets out exceptions to s.67.1(1): (a) Expenses in expectation of compensation in the OCOB; (b) fund-raising events; (c) for
which TP is specifically compensated, (d) for food & beverages that would be exempt under 6(6)(a), & (f) for < 6 special events in a
calendar year open to all employees at a particular place of business
S.18(1)(l)(ii) Membership fees in club the main purpose of which is to provide dining, recreation or sporting facilities to its members
NOT deductible.
S.18(1)(l)(i) Costs for use or maintenance of a yacht, camp, lodge, or golf course or facility (post’71) NOT deductible UNLESS TP incurred
expenses in his OCOB (ppy for hire/reward).
CCA also disallowed under paragraph 1102(1)(f) of the Regulations.
Use need not be exclusive (Sie-Mac Pipeline Contractors), & incidental expenses also non-deductible (Groupe Y Bourassa & Associés Inc
v Canada).
Cost to entertain business guests at personal parties non-deductible unless specifically identified as business guests (Roebuck, Fingold,
Grunbaum)
Food may be deductible as fuel (Scott) – does section 67.1 apply?
o Scott v Canada (1998, FCA): If couriers driving to deliver can deduct fuel, TP can deduct the additional food & water needed to fuel
his body while delivering on foot or by transit. Also policy: better for environment to encourage this.
Interpretation Bulletin IT-148R3 “Recreational Ppys & Club Dues”
o Pmt/reimbursement of club dues or membership fees by employer is generally taxable benefit to the employee UNLESS if the
required membership is principally for the employer’s advantage & not the employee’s

Use of in-house rec/fitness facility usually not taxable benefit to employee.
Deduction of membership fees paid by TP for promotional (Daman Developments Ltd n MNR) or entertainment purposes (No.308 v
MNR) disallowed.
Tax I – David Duff – Spring 2009 – Audrey Lim & Gina Wu -------- 22
(i) Deduction of Recreational Expenses - Yacht

John Barnard Photographers Ltd v MNR (1979, TRB): “Yacht” w/in meaning of s.18(1)(l)(i) isn’t just the physical vessel (bow, stem, hull,
cabin, etc), but must also consider “the use that is generally made”. Here, “yacht” was used to collect research for almanacs TP sold.

Conversely, MNR v CIP Inc. (1988, FCTC): Deduction for rental of tugboat for business entertainment allowed bc “tugbat” could only
accurately be described as such if generally used as personal residence by its owners & only occasionally for recreational purpose.

West Hill Redevelopment Co (1986, TCC): Expenses to operate a yacht used in OCOB “for hire or reward” deductible nws TP’s primary
OCOB was construction & sale of condos.
(ii) Deduction of Recreational Expenses – Camp or Lodge

Fehrenbach v MNR (1994, TCC): Meaning of lodge or camp cannot be stretched to include a condo, BUT condo expenses here were
unreasonable w/in meaning of s.67 & weren’t incurred for purpose of gaining/producing income  deduction disallowed.

Interpretation Bulletin IT-148R3 (“Camp” & “lodge” not defined in ITA).
o Generally, “lodge” = inn or resort hotel, particularly one that’s a centre for recreational activities & dwelling occupied on seasonal
basis. (Q of fact)
o Factors: Location of hotel/inn; Operation on seasonal or year-round basis; Type of facilities offered & if they’re offered primarily or
incidentally to hotel/inn.
o Small cottage generally not “lodge/camp” if primarily for restricted use of single family.
o Cost of renting a fishing lodge to entertain clients (Canada v Jaddaco Anderson Ltd) or to hold BOD meeting (Duramold Ltd v MNR)
or annual meeting (Adams v Canada) disallowed.
(iii) Deduction of Recreational Expenses – Golf Course/Facility

Groupe Y Bourassa & Associés Inc (1998, TCC): Green fees = direct use of gold course/facility; cost of meals consumed @ golf club &
prizes = incidental expenses all prohibited!
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Adaskin (1953, TAB): Deduction by radio show producer TP of expense hosting parties for cast members after a performance disallowed
bc it was not incurred for purpose of gaining/producing income (already finished the show).
o Irrelevant that it’s essential to show appreciation & cement good relations.

Reobuck (1961, TAB): Deduction of proportional expenses (business vs regular guests) of lawyer TP’s daughter’s bat mitzvah disallowed
bc expenses were not in accordance w/ principles of commercial trading or accepted business practices, not to produce income.
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Fingold (1992, TCC): Purpose of expense is either personal or business related (can’t be concurrent). No evidence that business guests
were aware they were guests of Co, not TP.
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Grunbaun v Canada (1994, TCC): – Deduction of proportionate expenses of TP’s (Co’s president & primary SH) daughter’s wedding
reception allowed bc expenses were proportionate & invitations were sent through the Co & IDed the trade name of Co & all
correspondence w/ business guests handled exclusively by Co.
o Inviting business guests & handling it that way was a business decision.
(iv) Deduction of Recreational Expenses – Meals & Entertainment
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Other exceptions to s.67.1(1) (not subject to 50% limitation): S.62 Moving expense deduction; S.63 Child-care expense deduction;
S.118.2 Medical expenses tax credit.
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S.67.1(4)(b) defines “entertainment” to include “amusement & recreation”.
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S.67.1(4)(a) no amount paid or payable for travel on plane, train or bus shall be included – so food/beverage/movies in transit excluded
from (1) 50% limitation (amount fully deductible).
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S.67.1(3) Where TP attends conference, convention, seminar, etc where TP is entitled to food/beverages, but value is not IDed, the
deemed amount payable in respect of food, beverages, or entertainment is $50/day.
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Stapley v Canada (2006, FCA): Real estate agent TP bought gift certificates for food/drinks & concert tickets for clients to build
relationship & get more business (never used them for himself) & claimed as marketing expense. Allowed deduction is limited by s.67.1
to only 50%.
o Interpreting 67.1(1) (look @ words in context + scheme/object of ITA - Canada v Trustco):

Wording: no limitation in provision that specifies who must consume/enjoy the goods.

Scheme of ITA: Many exceptions in 67.1(2) so if Parliament intended pure marketing expenditures to be excluded from 67.1(1),
it would have clearly/expressly said so.
o S.67.1(1) limits s.18(1)(a) deduction of non-capital expense incurred to earn income from B/P when it comes to food, beverage, and
entertainment.
o Clear language in ITA should not be qualified by unexpressed exceptions derived from court’s view of object & purpose of provision
(65302 BC Ltd).
o Since TP’s expenses don’t fall under any s.67.1(2) exception, deduction must be limited – only deduct 50%.

Interpretation Buletin IT-518T “Food, Beverages and Entertainment Expenses” (1996)
o “Entertainment” in s.67.1(4)(b) includes cost of: tickets for theatre, concert, athletic event or other performance; private boxes at
sports facilities; a cruise; admission to a fashion show; room rentals to provide entertainment, such as a hospitality suite;
entertaining guests at night clubs, athletic, social & sporting clubs & on vacation & other similar trips.
Tax I – David Duff – Spring 2009 – Audrey Lim & Gina Wu -------- 23
(d) Deduction of Clothing Expenses
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No.360 v MNR (1956, TAB): Actress TP’s deduction of expenses for buying/altering her wardrobe, accessories for TV purposes
disallowed bc wardrobe is “personal or living expenses”; TP could wear (& does wear) her outfits & accessories outside of work.
Giroux v MNR (1957, TAB): Deduction of stage & TV artist TP for clothes considered necessary for her roles partially allowed bc clothing
here was suitably wear except on stage or TV.
(f) Deduction of Home Office Expenses
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General principles in Locke + specific rules in s.18(12).
S.18(12)(a) No deductions for any part of a self-contained domestic establishment where the individual lives EXCEPT to the extent that
the work space is either (i) individual’s principal place of business, or (ii) used exclusively for the purpose of earning income from
business & used on a regular & continuous basis for meeting clients, customers, or patients. (includes phone contact – Vanka).
o s.248(1) “Self-contained domestic establishment” (SCDE) = dwelling-house, apartment or other similar place of residence in which
place a person as a general rule sleeps & eats.
S.18(12)(b) If requirements in (a) are met, the amount deductible may not exceed TP’s income from the business to which the home
office relates, but S.18(12)(c) amount can be carried forward indefinitely & deducted against future income from that business.
Locke v MNR (1965, TAB): Heavy onus on TP seeking to claim deduction under s.18(1)(a) over & above expenses applicable to his
regular office. Deduction may only be allowed under 18(12)(a) if a portion of the house has been definitely set aside for business
purposes & an appreciable amount of business transacted therein.
o Qs to consider:
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Was the room definitely separate from living quarters?
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Appreciable amt of business transacted in room or just for TP’s convenience?
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Was TP’s house partially municipally assessed for business purposes?
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Was TP’s telephone ordered for business purposes?
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Sign on his house announcing to general public the existence of TP’s business here?
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If TP already has an office where he regularly practices, is this a 2 nd branch office?
Interpretation Bulletin IT-514 “Work Space in Home Expenses” (1989)
o S.18(12)(a)(i) “principal” = “chief” & “main”  business purpose.
o S.18(12)(a)(ii) need a segregated area & actually be used for work. Prof: segregation may be too narrow; just need an exclusive area.
o Regular & continuous use depends on nature of business activity.
o Expenses should be apportioned b/t business & non-business use on reasonable basis. Eg) square metres of floor space used.
Ellis v Canada (1994, TCC): TP’s work studio built over her garage is part of SCDE bc it was physically connected to & accessible from the
house.
Dufour v Canada (1998, TCC): Office TP’s garage is part of TP’s SCDE bc it’s physically attached to, shared utility connections w/ &
accessible from interior of TP’s home.
Maitland v Canada (2000, TCC): Deductions where TP lived in part of resident (personal use) & other part used for TP’s B&B business
disallowed bc residence “was clearly their home”.
Conversely, Sudbrack v Canada (2000, TCC): Deductions for operation losses of country inn where TP & family also lived allowed bc TP
had separate living quarters (essentially a separate apartment w/in the inn).
Broderick v Canada (2001, TCC): Deduction for TP’s B&B in rest of the house (TP lived in basement) disallowed bc TP’s B&B business was
largely seasonable & all of residence was fully available to TP & family for 7 months of the year.
(g) Deduction of Travel Expenses
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S.18(1)(h) – travel expenses incurred by TP while away from home in course of carrying on TP’s business are excluded from “personal &
living expenses.”
Deductible where travel in the course of the business from TP’s “base of operations” (Cumming, Henry, Cork), notwithstanding element
of choice involved in selecting base of operations (Forestell).
o Base can be TP’s home (Cumming, Prowse, Cork).
o Expenses must be reasonably attributable to the business carried on elsewhere (Brown).
Travel deductible when in course of a single business, but not when from one business to another (Randall, Wasserman)??
Where travel involves both business + pleasure, a portion of the expense may be non-deductible (A-1 Stell & Iron Foundry)
Expenses must be incurred for purpose of gaining/producing income (Shaver).
(h) Deduction of Interest Expenses
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S.20(1)(c)(i) – deduction for interest on borrowed money used for the purpose of earning income.
o 4 elements (Shell Canada)
o (1) Amt must be paid/payable in year it’s sought to be deducted
o (2) Amt must be paid/payable pursuant to legal obligation to pay interest on borrowed money
o (3) Borrowed money must be used for purpose of earning non-exempt income from B/P ***
Tax I – David Duff – Spring 2009 – Audrey Lim & Gina Wu -------- 24
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o (4) Amt must be reasonable
S.20(3) – borrowed money used to repay a loan deemed to be used for the same purpose as the original borrowed money.
What kind of use?
o Emphasis on direct use (Bronfman Trust) and tracing (Tennant – loans  old shares  new shares, to trace to current use, must
establish that link)
o Possible deduction where used indirectly for bona fide purpose of earning income (Bronfman Trust).
o Post-Bronfman: “indirect use” argument accepted in Grenier (wrt new loans), but rejected in Attaie.
Determining purpose of for which borrowed money is used:
o Emphasis on economic substance – the “true commercial & practical nature of TP’s transaction” (Bronfman Trust, Mark Resources).
Substance > form! Don’t just look at direct & immediate purpose, but rather the whole picture (Zwaig, Robitaille)
o But above is rejected in more recent SCC decisions (Shell Canada, Singleton, Ludco Enterprises):

Used direct use test and focused on the independent transactions instead of looking at “economic realities” (Singleton)
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Ludco Enterprises conclusion: “Purpose” requirement in 20(1)(c)(i) needn’t be bona fide but can be “ancillary.” “Income”
under 20(1)(c)(i) is gross, not net income. So an ancillary purpose to earn income is sufficient to satisfy the statutory test,
even if the primary purpose is to obtain a capital gain or avoid tax
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(Consider possible application of GAAR to transactions post-September 13, 1988.
Other stuff:
o Where borrowed funds used for both “personal living expenses” and producing income, can apportion and deduct part of interest
accordingly (Hills).
o To use 20(1)(c)(i), must have an ongoing business w/ REPO against which expenses might be set (Leslie), so student loan interests
not deductible, as they’re personal/living expenses, not for income purposes. But after 1998, can claim tax credit under s.118.62.
(4) Timing Issues
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Which taxation year to include/deduct amounts? WHAT PRODUCES THE TRUER PICTURE OF TP’S INCOME?
3 systems:
o Cash basis – Upon ‘receipt’ for O/E in s.5(1)
o Receivable/payable (accrual) basis – Include in year earned (even if not rcvd) + deduct in year incurred (even when not actually
paid yet): when legal right to receive or pay, usually for B/P income
o Pure accrual basis – may not have legal right, special rules re interest
(a) Timing Issues – Inclusions
(i) MAIN RULES

Keep in mind s.9(1) and (2)

S.12(1)(b) – inclusion for amounts receivable re ppy sold or services rendered in course of business
o “Receivable” means: amts to which TP is legally entitled, provided they are sufficiently ascertainable, though not immediately due:
Colford Contracting, West Kootenay
o Must be right to receive, not mere right to claim the payments (Benaby Realties)
o Purpose of 12(1)(b) is to compute income on accrual, not cash basis (Maritime Telegraph)
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Main themes: Conformity, consistency and GAAP
o GAPP requires that the TP maintain a consistent method of income computation (Wilchar Construction)
o To change method, must show that it would reflect a more accurate income of TP in the taxation yr (Boosey)

Types of principles: (IKEA Ltd) – relevant in considering amortization (allocate over # of years instead of all at once)
o (1) True picture of income
o (2) Matching – matching specific expenses

Although main accounting principle, but not established rule of law (Canderel)
o (3) Realization – when amounts actually paid/realized

Exception to realization principle: for foreign exchange gain where TP accelerates recognition of income (Canadian General
Electric, but criticized), b/c otherwise, accrued gains generally not included until sale.
(ii) Special Interest Rules

Include interest income accrued during the year (whether received/receivable or not)
o S.12(3) – for corporations, trusts, partnerships. Include accrued interest to end of yr.
o S.12(4) + (9) – extends above rule to individuals, include accrued interest to anniversary date

S.20(14) – interest from debt instrument accrued prior to transfer & payable after transfer is (a) included in transferor’s income, & may
be (b) deducted from transferee’s income. (a) and (b) not dependent on each other. (Antosko)
o This permits transferee of debt instrument to deduct the interest accruing on instrument prior to transfer.
o Capital gain issues:
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S.52(1) - interest included in income of transferor can be added to cost of debt obligation
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S.53(2)(1) – interest deductible by transferee must be deducted in computing ppy cost (applied in Antosko)
Tax I – David Duff – Spring 2009 – Audrey Lim & Gina Wu -------- 25
o
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Critique of Antosko
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Acquisition of $5m debt + interest payments for $10 could be seen as a sham/artificial.
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Since GAAR, case would be further subject to “object & spirit” test in s.245(4).
S.12(1)(c) – “method regularly followed by TP in computing profit” = method of accounting for net income from a source
o Want consistency from yr to yr
o Interest for taxation purposes can be computed in 2 ways: (Freeway Ppy)

(1) When TP is on cash basis, interest is considered in computing income in year of receipt
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(2) If accrual basis, interest is included when receivable.
(b) Timing Issues – Deductions
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If compute income on accrual basis, deduct in yr in which expenses are payable, even if not paid till later.
If compute on cash basis, not deductible until yr in which expenses actually paid.
s.18(1)(a) – Can only deduct outlay (paid – cash basis) or expense (payable) that is made/incurred for B/P
s.18(1)(b) – Disallows deductions of capital expenses
s.18(1)(e) – Disallows deductions for reserves for contingent liabilities. However, where future event is very likely to occur, the liability is
deductible. Where it’s not very likely, then liability is a non-deductible contingent one (Time Motors).
(i) When to Deduct: Amounts Payable
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Deductions allowed in tax yr when expenses are incurred/payable.

Amounts are payable when TP is legally obliged to make a payment, not when payments are contingent, eg: on authorization or
another event (JL Guay Ltee, Buck Consultants). Also, the amount must be ascertainable (Transport Direct System)

An obligation to do something which may entail paying money in the future is not an expense under 18(1)(a) (Burnco)
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Distinction between “expense” and “reserve” (which is non-deductible under 18(1)(e)) (Day & Ross)
o “Expense” in 18(1)(a): present & certain liability, definite & ascertainable.
o “Reserve” and “contingent account” in 18(1)(e): amt to meet a contingency; unascertainable & indefinite event which may or may
not occur.
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Disallowances under 18(1)(e): Harlequin, Mandel, Lakehead Newsprint. Deductions allowed in: Dibro, Desjardins
(ii) When to Deduct: Inventory Costs

S.10 – “inventory in TP’s business” = ppy that TP acquires/produces for purpose of sale in business.
o S.248(1) – defines “inventory.” Where TP’s gains/losses from disposition of ppy are characterized as business income, the cost of
this ppy is relevant in computing TP’s business income, making the ppy “inventory.”
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Inventory costs (costs to acquire/produce) not deductible until inventory sold (Neonex).
o Deferring deduction of these costs until actually sold “matches” revenue & expense and provides a “truer picture” of TP’s income.

Determining which expenses must be allocated to cost of inventory:
o Inventory that is bought/sold without modification  Cost of unsold inventory = acquisition cost + additional expenses
(taxes/transportation/storage)
o Inventory subject to modification (i.e. land)  Development costs + purchase price

Landscaping (Quilco Development), municipal sewers (Metropolitan Properties)
o Homogeneous inventory  Deduct expenses incurred in the yr + adding back cost of unsold inventory @ end of year.
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See “Inventory Accounting” handout
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GP (gross profit)
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P (proceeds from sale)
GP = P – C
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C (cost of inventory sold)
C = Co + C1 – C2
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Co (cost of inventory @ start of yr)
So GP = P – Co –C1 + C2
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C1 (cost of inventory acquired/produced during yr)
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C2 (cost of remaining inventory)
o Homogenous inventory, but acquired @ different costs  impractical to track cost of each item individually
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FIFO – inventory disposed of in order it was acquired
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LIFO – opposite of FIFO
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Average cost rule – take average of all inventory available for sale in tax yr, so cost same for each item.
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These rules used for valuing cost of unsold inventory (Anaconda, American Brass)

S.10(1) – Lower cost and market (LCM) rule: apply when inventory decreases in value prior to sale.
o Effectively allows deduction for accrued losses in the value of unsold inventory by allowing it to be “written down” to whichever’s
lower: its cost or FMV. Rare exception to realization principle (Whimster).
o In other words, value inventory @ end of the year at the lower of cost or FMV.
o Rule not available for inventory held in an AINT. S.10(1.01) – ACINT inventory is valued @ cost at which TP acquired it. This
precludes recognition of gain/loss until ppy is actually sold (reverses Friesen)
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S.10(2.1) – Where inventory is not ACINT, method used @ end of tax year is to be used in subsequent tax year = consistency. Changes
must be approved by Minister.
Tax I – David Duff – Spring 2009 – Audrey Lim & Gina Wu -------- 26
(iii) When to Deduct: Running Expenses

Running expenses: Expenses incurred on the running of the business as a whole in each year, w/o tracing items of expenditure as
earning particular items of profit (Naval Colliery). Matching principle does NOT apply.

Currently deductible as running expenses where:
o Expense can’t be easily matched with subsequent revenues (Oxford Shopping Centre). Attributable to # of different expenses; can’t
be causally linked to single stream of revenue (Canderel)
o Produces benefits in current period as well as future periods (Canderel – tenant inducement payments)
o Even if amount of deduction may be large + distort TP’s income for that year

Option available to TP to defer deduction of running expenses. Also allowed to spread out deduction in a way that matches the TP’s
income position, even if not incurred in that particular way (Tower Investments).
(iv) When to Deduct: Prepaid Expenses

S.18(9) – Disallows immediate deduction of various prepaid expenses, which are instead deductible in the subsequent year to which the
expense “can reasonably be considered to relate.” Includes: prepaid rent, interest, insurance & taxes.

Amortization under 18(9)?:
o No – one-time tax doesn’t relate to a “period” per 18(9)(a)(ii) “after the end of the yr” (Urbandale Realty), or TIPs (Canderel)
o Yes – prepaid rents & prepaid service K, b/c can’t reasonably or directly be attributed to production of specific revenue (Toronto
College Park)

List in s.18(9)(a) may have reversed Oxford Shopping (above in Running Expenses), b/c the TIPs were regarded as various types of
payments which are listed under s.18(9)(a) as pre-paid amounts, so should be spread out over yrs.
(v) When to Deduct: Capital Expenditures

Deduction of capital expenditures prohibited by s.18(1)(b). CE added to cost of ppy – its deduction is deferred till disposition of ppy.

CE = “outlay of capital”, “replacement of capital”, or “payment on account of capital”

Characterization of CE determined by courts, 2 tests:
o (1) Expense incurred once & for all with a view to bringing into existence an asset or advantage for the enduring benefit of the
trade (Britissh Insulated & Helsby Cables)
o (2) Whether the amt was expended on establishing the structure within which profits are earned OR in the process of earning
income (BP Australia, Sun Newspapers, Hallstrom’s)

Test #1 applied in:
o Capital expenditure found: Johns-Manville (bought land to prevent landslides into asbestos pit), BC Electric Railway (switch from
railway to busses), Haddon Hall Realty (replacing worn out assets in rental apartments)
o Income expenditure found: Damon Developments (hotel; regular replacement of hotel gear), Algoma Central Railway (supposed
benefit was too remote & speculative to be an enduring benefit), Canada Starch (pay off someone to stop challenging their
trademark), Oxford Shopping Centres (built roads to access mall parking lot)

Test #2 applied in:
o Capital expenditure found: Cormack (travelled to Europe to learn about education system for his private school), Firestone
(investigation costs of businesses he wanted to takeover), Bancroft (set-up expenses for project that died w/o funding), Park Royal
Shopping Centre (architect fees to draw up plans)
o Income expenditure found: Neonex (legal expenses re unsuccessful takeover bid), Bowater Power (power Corp, engineering studies
to ↑electricity efficiency), Kruger Pulp & Paper (consulting & legal fees to acquire timber-cutting rights)

Cases on acquisition & maintenance/repair of tangible ppy – capital asset? Then non-deductible.

Consider relative cost of specific asset to the larger asset

Consider cost of replacement relative to repair cost to other years
o Canada Steamship Lines  Repairs deductible so long as damage isn’t so extensive that it was virtually destroyed resulting in the
asset being replaced. Mere repairs (deductible) vs. Upgrades (capital expense)
o Canaport Installation of fibreglass liner to pipes to maintain & extend life of pipeline – deductible repairs!
o Reynolds  (hard to distinguish from Canaport) Replacement of linings considered a significant upgrade = capital expense, so not
deductible.
o Shabro Investments  Replacement/substitution of some part of asset that is essentially different in kind from what was there
before constitutes an “improvement” rather than “repair”, so capital expense.
o Goldbar  Repair exterior brick wall = income expense (deductible)

Note judicial rules for assets that are part of larger assets + distinction b/t repairs & upgrades.
(vi) When to Deduct: Capital Cost Allowances

Allowances: despite s.18(1)(b), s.20 allows TP to deduct # of expenses that might otherwise be non-deductible CE
o ***s.20(1)(a) + (b): Allow deductions for “capital cost allowances” and “eligible capital expenditures”
o s.20(1)(c) – (g): Can deduct interest & other financing expenses, even though typically CE

Concepts:
o Depreciation  cost of tangible capital ppy depreciates over time in order to match the expense of the asset with related revenue.

(a) Straightline method of depreciation  Cost of ppy deducted in equal annual increments until its UCC=0
Tax I – David Duff – Spring 2009 – Audrey Lim & Gina Wu -------- 27




(b) Declining balance method of depreciation a % of the UCC is deducted yearly, so UCC nears, but never reaches zero.

For tax purposes, use declining balance. (Accounting uses straightline)
o Undepreciated capital cost (UCC)  “book value”; remaining value after depreciation @ end of year
o Depreciable property  ppy acquired by TP for which CCA may be claimed under s.20(1)(a). [Because otherwise deductions wrt
depreciations are prohibited under s.18(1)(b).]
Depreciable property: Defined in s.13(21) & s.248(1)
o (1) Ppy must be ‘acquired by the TP’

A purchaser acquires assets when he has all incidents of title (possession, use, risk) although legal title may remain in vendor
as security for full purchase price (Wardean Drilling, Berou). Also consider contract law rules

Subject to

(a) Available for use rules in s.13(26) to (32)  Prohibits addition to UCC the capital cost of ppy before that ppy is
considered to become available for use by TP.

(b) Half-year rule in s.1100(2) of Reg.
o (2) Must be ppy in respect of which a deduction is allowed under s.20(1)(a) or would be allowed if TP owned the ppy @ end of the
year.

Can deduct for classes of property listed in Schedule II:

1: Building/structure/part thereof, including electrical wiring, plumbing, AC, heating, lighting, elevators, escalators

6: Building of farm/log/stucco on frame/galvanized iron

8: Tangible capital property

10: Automotive equipment, electronic data processing equipment

Exclusions in s.1102(1) + (2) of the Regulations apply to class of ppy in Schedule II.

S.1102(1)(a): Can’t deduct amts already deductible in computing TP’s income as CCA (no double deductions)

S.1102(1)(b): Can’t deduct for CCA in respect of ppy acquired/manufactured y TP for purpose of sale

S.1102(1)(c): Can’t deduct for ppy acquired for purpose of gaining/producing income
o Test: Was the Class property itself acquired by the TP for purpose of gaining income? (Ben’s Ltd, Hickman
Motors)
o Gaining income must be the TP’s “basic or primary motive” (Glassman) and focus on the original purpose
(Moldaver)
o Class property should be used in an activity w/ a REOP to meet the income-producing test (Clapham, Wallace)
o Time is irrelevant when considering this test (Hickman Motors)

S.1102(2): Can’t deduct for CCA for all land
Deductions in respect of DP – s.20(1)(a), s.1100(1) Reg, Schedule II
o CCAs permitted are based on the UCC to the TP. Computed according to a specified rate of the UCC @ end of TP’s yax year.
Determined on declining-balance basis according to rate applicable to that class of ppy. S.1100(1)(a): sets out various CCA rates
o Computation: ( A + B ) – ( E + F ) = A – E – F + B

A: capital cost of ppy of the class

E: total depreciation, s.20(1)(a)

F: net proceeds of disposition of DP up to capital cost

If sale < book value  terminal loss (deferred if there’s remaining UCC on that class)

If capital cost > sale > book value  recaptured depreciation (deferred if remaining UCC is sufficient to absorb the
gain)

If sale > capital cost & book value  capital gain (taxed separately) & recaptured depreciation

B: recaptured depreciation; triggered if UCC is negative, s.13(1)
o Capital cost of DP

(1) What is it? The actual, factual or historical cost to TP (Cockshutt Farm). Includes (a) legal, accounting & engineer fees
incurred to acquire ppy, and (b) material, labour & overhead costs of ppy manufactured by TP

NB: Capital cost of certain DP subject to s.13 rules. Eg: 1397)(g) limits CC of cars to $30K + tax.

(2) When may CC be added to UCC of the class? 13(21) – only when ppy is “acquired by TP.” Consider Wardean Drilling
(above) and contract rules of when property is to pass. Also subject to s.13(26).
o Other rules limit the CCA for certain kinds of DP

Reg 1100(11): Prevents TP from using CCA deductions to create/increase rental losses in order to shelter income from other
sources

Reg 1100(1) + (14) – rental properties

Reg 1100(15) + (17) – leasing properties
o So if TP deducts an amount in respect of CC of a particular class of DP under s.20(1)(a0, the UCC of that class is reduced by the CCA
claimed. TP may defer deduction of CCA where advantageous (due to preamble to 20(1)). This preserves balance of the TP’s UCC,
permitting higher CCA deductions in subsequent tax years.
Disposition of DP
o In computing UCC, 13(21) requires subtracting the lesser of “proceeds of disposition” and its “capital cost.” Where proceeds > CC,
the excess is subject to tax as taxable capital gain.
o What is a disposition?
Tax I – David Duff – Spring 2009 – Audrey Lim & Gina Wu -------- 28




Def’n of disposition in s.248(1) – “any transaction or event entitling a TP to proceeds of disposition”
Def’n of proceeds of disposition in s.13(21) – sale price, compensation for expropriation or destruction/insurance
Rules for deemed dispositions:

13(7)(a) – TP later on uses ppy for another purpose besides income = FMV proceeds

13(7)(d)(ii) – TP decreases income-producing use = proportion of FMV proceeds, if DP used partly for income and
partly for another purpose

Should be given broadest possible meaning, including destruction, extinction of intangible ppy (patent) (Compagnie
Immobiliere BCN)

*A disposition corresponds with an acquisition (of duties of ownership) by another party (Olympia York, Hewlett Packard).
Recapture & Terminal Loss
o Where proceeds = UCC, rate of depreciation is consistent w/ actual depreciation
o Where proceeds < UCC  terminal loss (TL)

S.20(16): If proceeds < UCC, can’t deduct any CCA but must deduct TL equal to the amt of the remaining UCC
o Where proceeds > UCC  recaptured depreciation (RD)

S.13(1): If CCA claimed for the class + proceeds EXCEED capital cost (causing UCC to be negative), the excess is added to TP’s
income. Adding the RD increases UCC amount to nil.
o In order to trigger these tax consequences, Ac permits specific kinds of DP to be categorized as separate classes for purpose of
computing CCA, recapture, and terminal loss.

Reg 1101 (1ac) – rental property with capital cost >$50K

Reg 1101(1) – ppy acquired for purpose of gaining income

Reg 1101 (1af) – automobiles with capital cost >$30K
(c) Timing Issues – Allocation of Proceeds


Question: How should proceeds from disposition be allocated among various ppys or services included in the sale?
o Vendors: want to allocate as much to non-depreciable capital ppy (i.e. land) to minimize RD
o Purchaser: want to allocate as much to

inventory/services, since fully deductible in computing purchaser’s income

depreciable ppy w/ high rate of CCA, to benefit from high CCAs and/or TL
o Solution: Allocate most to DP in which vendor has claimed little or no CCA. Allows purchaser to claim substantial CCA w/ little or no
RD to vendor
o S.68 functions to limit abuse  Specifies the amt at which certain transfers of ppy are deemed to have occurred for tax purposes.
Applies where amt received/receivable can reasonably be regarded as being in part consideration for disposition of ppy/services
by TP.

(a) part that can reasonably be consideration for a disposition shall be deemed to be proceeds of disposition

(b) part that can reasonably be consideration for provision of services shall be deemed to be an amt received/receivable by
TP and deemed to be amt paid/payable by the other party

(c) part that can reasonably be for a restrictive covenant is considered to be an amt that is received/receivable by TP in
respect of the restrictive covenant. (Applied in Cdn Propane Gas & Oil).
Situation: Buying land with buildings on it. Don’t want buildings, so demolish it. How much of value to allocate to land versus the
buildings (DP)?
o S.68 rules apply where TP has disposed of 2 types of ppy: (1) depreciable ppy, and (2) something else (Malloney’s). Then rule can
apply to permit allocation of that part of consideration received to depreciable assets.
o Considerable deference to allocation determined between arm’s length parties. But this depends on conclusion that it was
reasonable for at least one party to pay this amount (Golden).
o Application of s.68 must include perspectives of both purchaser + vendor (to determine how much value to put to land versus DP)
(Golden).
o Reallocation more likely where agreed amounts differ substantially from FMV and where no hard bargaining (i.e. legitimate
negotiation) over allocation (Peterson, Leonard)
o S.13(21.1) – reallocates proceeds of any capital gain on land to prevent TL on building = levelling. So prevents TP from claiming TL
on disposition of building where subjacent/contiguous land is disposed of at a gain in same year.
IV. TAXABLE CAPITAL GAINS & ALLOWABLE CAPITAL LOSSES
(1) Characterization of Taxable Capital Gain (TCG) & Allowable Capital Losses (ACL)
Tax I – David Duff – Spring 2009 – Audrey Lim & Gina Wu -------- 29
(a) General







S.3(b) – includes TP’s “net taxable capital gains” – computed by:
o Taxable capital gains (other than gains from disposition of listed personal ppy)
+
o Taxable net gain from disposition of listed personal ppy – 3(b)(i)
-o Allowable capital losses (other than losses from disposition of listed personal ppy & allowable business investment losses) – 3(b)(ii)
Capital losses generally deductible only against capital gains under 3(b)
S.38 – the “taxable” and “allowable” portion is ½ the gain or loss of capital
S.39(a) - residual; gains from disposition of ppy that wasn’t taxable under 3(a)
S.39(b) – capital losses from disposition of ppy; excludes losses on disposition of DP (accounted for under CCA regime)
S.54 – def’n of capital property as DP and ppy the gains & losses from the disposition of which are capital gains and capital losses
Differentiation of ppy is based on primarily the type of income the ppy will produce (Friesen):
o Ppy that would result in income/expense of business at disposition = “Inventory”

Disposition usually in OCB or pursuant to ACINT
o Ppy that would result in capital gain/loss at disposition = “capital ppy”

Disposition that is not OCB or pursuant to ACINT
(b) Real Property/Immovables – Capital?






**Inventory versus capital property?? “Business income” if land sold @ profit in OCB/ACINT.
Secondary intention doctrine (Regal Heights, Racine) – requires TP to have in his mind, at the moment of the purchase, the possibility
of reselling as an operating motivation for the acquisition.
o Later cases interpret this doctrine as requiring the possibility of resale @ a profit as a motivating reason or consideration for the
TP’s decision to acquire the ppy (Reicher, Morev)
Note possible distinction between vacant land (Morev Investments, DeSalaberry Realties) and developed land (Reicher, Hiwako
Investments, Crystal Glass) because if developed, it’s likely that possibility of resale was not a motivating consideration. Also, vacant
land can serve as a store of value (Lawee)
Factors in determining whether income or capital:
o Holding period

If short, “trader” (Gratl). If long, capital (H Fine & Sons)

But intention to sell ppy @ profit prevails, despite how long land is held (McDonald)
o Circumstances responsible for disposition (e.g. unsolicited offer);
o Method of financing and reasonable expectation of profit;

Sufficient level of financial planning = capital

Minimal down payment (or anything that seems like you won’t keep ppy long) = income
o Other activities carried on by TP or principal SHs

Individual transactions = income from trading business (Rivermede, King Edward Hotel, Diamond)

Sale of homes by builder/contractor = income (Muzyka). But realtors shouldn’t be presumed to acquire ppy for purposes of
resale @ profit (Belanger-Coady)

Sale of rental ppy (where TP owns multiple as LT investments) = capital (Gagnon, Grouchy)

Sale of ppy held for personal use = capital (Lemieux)
Conversion:
o To convert income-producing capital ppy  inventory, need concrete steps to rezone or subdivide the ppy (Marshall)
o To convert inventory  capital ppy, there is a strong presumption that land retains this character in absence of clear & unequivocal
acts implementing a change of intention (Fredericton Housing)
*SAME GOES FOR TANGIBLE PERSONAL PROPERTY
(c) Corporate Shares – Capital?




Shares can be acquired for purpose of receiving income (dividends) or resale @ profit or both.
Majority Irrigation Industries suggests corporate shares are always capital property
o Test for ACINT: (1) Did person deal with ppy in same way a dealer would? (2) Was nature & quantity of transaction such to exclude
it from being an investment, thus making it a trade?
o An isolated sale of shares in Irrigation Industries failed this test
Qualified in subsequent decisions: especially Foreign Power Securities (which emphasizes the TP’s intention) and Bossin (which
distinguished between treasure and shares acquired in the secondary market)
o But sale of shares can be income:

Entered scheme of profit making to increase the value of shares for purpose of resale (California Copper)

If merely an alternative method of disposing underlying ppy owned by Co (Siebens)
S.54.2 – disposition of ppy (including shares) that consist of all or substantially all of assets used in an active business of TP is deemed to
be disposition of capital ppy. See Firestone Mgmt.
Tax I – David Duff – Spring 2009 – Audrey Lim & Gina Wu -------- 30
(d) Canadian Securities – Capital?




S.39(6) – defines as shares & debt of Cdn residents
S.39(4) – can elect to treat all Cdn securities as capital property (as a result of which all gains are capital gains, and all losses are capital
losses)
S.39(5)(a) – election not available for traders/dealers, non-residents, or Corps who lend$ or purchase debt obligations.
o Traders/dealers defined broadly in Vancouver Art Metal Works to include anyone other than a mere “adventurer” not just
registered traders & dealers
o TP doesn’t lose s.39(4) election right when he buys & sells securities for his own account, but WILL lose the right when he becomes
a trader/dealer – when his dealings amount to carrying on a business & can no longer be characterized as investor’s transactions
or mere ACINT (Vancouver Art Metal Works)
Subsequent cases emphasize frequency of trades a a key index of trading (together with other factors like a short holding period) and
professional knowledge as key index of dealing
o Whether ppy is being purchased to hold as an investment or purchased in course of a trade (Woods)
o Dealer = professional knowledge. Trader = frequency/intent (Kane)
o Trader/dealer = (Interpretation Bulletin)

TP who participates on promotion or underwriting of a particular issue of shares, bonds or other securities

TP who holds himself out to public as a dealer in shares, bonds or other securities

Includes Corp whose prime business activity is trading

Not included: officer/employee of a firm engaged in promotion or underwriting of shares, Corp who holds securities & sells
it as investment from time to time.
(2) Computation of TCG and ACL

Characterization of TCG and ACL in s.38, 39 (see above)

Key rule for computing amount of TP’s gain/loss = s.40(1)
o 40(1)(a)(i): TP’s gain  amt by which TP’s proceeds EXCEED [adjusted cost base + outlays/expenses]
o 40(1)(b)(i): TP’s loss  amt by which [adjusted cost base + outlays/expenses] EXCEED TP’s proceeds
o TP can defer recognition of portion of a gain through deduction of a reserve: s.40(1)(a)(ii) + (iii)
o TP must recognize full loss in taxation year the ppy was disposed of: s.40(1)(b)(ii)

Adjusted cost base: (a) if DP, the capital cost of ppy @ that time; or (b) cost to TP according to s.53
o “Cost” means the price. Doesn’t include any expenses made to put TP in position to pay that price or keep the ppy afterwards
(Stirling)
V. NON-ARM’S LENGTH TRANSFERS & ATTRIBUTION RULES
(1) Non-Arm’s Length (NAL) Transfers
(a) NAL Concept





S.251(1)(a) – Related persons deemed NAL**
S.251(1)(c) – Q of who is NAL (other than related persons) is a question of fact
S.251(2)(a) – Individuals related if connected by blood relationship, marriage or adoption = NAL
S.251(2)(b) – Individuals related to a Corp that they control or a related person controls = NAL
S.251(6) – Connection by blood relationship = lineal ascendants + descendants + siblings. Connection by (CL) marriage = spouses + CL
partners + inlaws. Connection by adoption = adopted children + parents
o NB: Aunts, uncles, nieces, nephews are not related, but may be NAL under factual test in s.251(1)(c).
(b) NAL Transfers



To prevent TPs from avoiding taxes by disposing of ppy @ lower/higher price than FMV (creating artificially high or low gains/losses) &
prevent income splitting:
o S.69(1)(a) – Where TP has acquired anything from a NAL person for an amount > FMV, TP deemed to have acquired it at FMV.
o S.69(1)(b)(i) – Where TP has disposed of something to NAL person for proceeds < FMV, TP deemed to have received proceeds =
FMV
o S.69(1)(b)(ii) – Where TP has disposed of anything to any person by way of GIFT, TP deemed to have received proceeds = FMV &
under s.69(1)(c) the recipient is deemed to have acquired it at FMV.
These rules adjust the proceeds and cost wrt gifts. But for NAL transfers, only adjust either cost or proceeds under 69(1)(a) or (b).
Nonetheless, courts are uncomfortable w/ the possible double taxation (on both transferor& transferee), and favour adjustments on
both sides of these transactions (Allfine Bowlerma).
NB: Rules in 69(1) are subject to rollover rules, eg: spousal rollover rules in s.73(1).
Tax I – David Duff – Spring 2009 – Audrey Lim & Gina Wu -------- 31
o

S.73(1) – Where TP transfers capital ppy @ death or inter vivos to spouse, allows couple to defer recognition of gain/RD until
spouse disposes of ppy = rollover
NB: Rules in 69(1) apply to acquisition and disposition of “anything” while rollover rules in 73(1) apply only to transfer of capital
property
(2) Attribution Rules
(a) Basic Rules



**Designed to prevent income-splitting by deeming specific persons to have received certain amounts
These are attributed to the transferee themselves:
o S.74.1(1) – Income/loss from ppy transferred to a spouse or CL partner
o S.74.1(2) – Income/loss from ppy transferred to person under 18 who is related or niece/nephew (“related minor”)
o S.74.2(1) – Taxable capital gains/allowable capital losses from ppy transferred to spouse or CL partner
Note also extended def’n of substituted ppy In s.248(5)(a) (to include substitutions ad infinitum)
(b) Special Rules


S.74.5(1) – Attribution rules don’t apply if:
o (a) the FMV of ppy transferred doesn’t exceed FMV of ppy received as consideration, AND
o (c) the ppy is transferred to or for the benefit of the transferor’s spouse, the transferor elects out of the rollover rule in 73(1)
S.74.5(11) – Attribution rules don’t apply to transfer/loan “where it may reasonably be concluded that one of the main reasons for the
transfer/loan was to reduce the amt of tax that would, but for this subsection, be payable under this Part on the income & gains derived
from the ppy.”
(c) Lipson Decision




Facts: Mr. L wants to buy house & needs to borrow money to do it. He wanted both the interest deductions & did NOT want to pay
capital gains for sale of shares in the Co he owned. So Mr. L sells shares to his wife (deferred capital gains), but doesn’t elect under
s.73(1) so the net losses (due to interest that Mrs. L was paying > dividends from Co) would be attributed back to Mr. L.
Rothstein dissented on the basis that GAAR applies only as a provision of last resort, & that transactions should’ve been subject to
specific anti-avoidance rule in s.74.5(11), that attribution rules DON’T apply to transfer/loan of ppy where it’s reasonably concluded that
1 of the main reasons for transfer was to reduce amt of tax that would be payable on income/gains derived from ppy. Purpose of
transaction was to get interest deductions, which were reducing L’s tax payable on dividends. So one of the main reasons must be to
reduce amt of tax payable on dividends. (But both parties agreed throughout the litigation that this provision didn’t apply)
Binnie & Deschamps dissented on the basis that the transactions didn’t misuse/abuse any provisions @ issue and that Parliament
must’ve contemplated that TPs would’ve taken advantage of the various rules to minimize their taxes.
Majority concluded that the transactions constituted a misuse/abuse of the attribution rule in s.74.1(1), but didn’t misuse/abuse the
interest deduction in s.20(1)(c).