T-1731-72, T-1732-72
The International Nickel Company of Canada,
Limited (Plaintiff)
v.
The Queen (Defendant)
Trial Division, Urie J.—Toronto, December 6,
7, 10 and 11, 1973; Ottawa, January 7, 1974.
Income tax—Income from mining—Depletion allowance—
Profit, computation of—Computation of profit for determin
ing depletion allowance—Scientific research to acquire
"know how'—Capital expenditure—Income Tax Act, s.
72(1).—Income Tax Regulations, s. 1201.
The Minister re-assessed the plaintiff corporation, by
deducting from its profits attributable to the production of
prime metal, the sum of $4.36 millions for the year 1967 and
the sum of $5.89 millions for the year 1968, for the purpose
of computing depletion allowance to which the plaintiff was
entitled under section 11(1)(b) of the Income Tax Act and
section 1201(2) of the Income Tax Regulations.
Held, allowing the appeal:
(1) The expenditures in the above amount on scientific
research, incurred by the plaintiff and deductible under
section 72(1)(a) of the Act, were expenditures of a capital
nature: The International Nickel Company of Canada Lim
ited v. M.N.R. [1971] F.C. 213.
(2) The word "profits" in section 1201 of the Regulations
with reference to the determination of the base for calculat
ing the plaintiff's depletion allowance, is used in the same
sense as it has been held to be used in the Income Tax Act.
Profits are to be determined by ascertaining the difference
between the receipts reasonably attributable to the produc
tion of prime metal from which the earned income of a
mining company is derived, and the expenses of earning
those receipts. Since the expenditures for scientific research
have been found to be capital in nature, they are not
deductible in computing the base of depletion for the
plaintiff.
M.N.R. v. Anaconda American Brass Limited [1956]
A.C. 85; Whimster & Co. v. Inland Revenue Commis
sioners (1925) 12 T.C. 813, 823; M.N.R. v. Irwin [1964]
S.C.R. 662; Associated Investors of Canada Limited v.
M.N.R. [1967] 2 Ex.C.R. 96; Quemont Mining Corpora
tion Limited v. M.N.R. [1967] 2 Ex.C.R. 169; M.N.R. v.
Imperial Oil Limited [1960] S.C.R. 735; Home Oil Com
pany Limited v. M.N.R. [1955] S.C.R. 733; Heather v.
P. E. Consulting Group Limited (1973) 48 T.C. 293,
considered. .
INCOME tax appeal.
COUNSEL:
Stuart Thom, Q.C., and T. E. J. McDonnell
for plaintiff.
N. A. Chalmers, Q.C., and B. J. Wallace for
defendant.
SOLICITORS:
Osler, Hoskin and Harcourt, Toronto, for
plaintiff.
Deputy Attorney General of Canada for
defendant.
URIE J.—The plaintiff herein appeals to this
Court from the re-assessment for income tax by
the Minister of National Revenue for the years
1967 and 1968, wherein he deducted from the
plaintiff's profits attributable to the production
of prime metal from the resources operated by
it, for the purpose of computing depletion allow
ance to which it was entitled under section
11(1)(b) of the Income Tax Act and regulation
1201(2) of the Regulations made pursuant to the
said Act, the sum of $4,363,282.00 for the year
1967 and the sum of $5,890,205.00 for the year
1968. The issues in both appeals are the same
and by Order of the Court made August 22,
1973, the actions were tried together on
common evidence.
By agreement between the parties dated
August 8, 1973, the issues to be decided are as
follows:
1. with respect to each of the years 1967 and
1968: whether scientific research expendi
tures deductible under section 72(1)(a) 1 of the
72. (1) There may be deducted in computing the income
for a taxation year of a taxpayer who carried on business in
Canada and made expenditures in respect of scientific
research in the year the amount by which the aggregate of
(a) all expenditures of a current nature made in Canada in
the year
(i) on scientific research related to the business and
directly undertaken by or on behalf of the taxpayer,
(ii) by payments to an approved association that under
takes scientific research related to the class of business
of the taxpayer,
Income Tax Act incurred by the plaintiff
during the year must be deducted in determin
ing profits for the purpose of section
1201(2)(a) 2 of the Regulations under the
Income Tax Act;
(2) that the issue regarding deductibility of
scientific research expenditures in determin
ing profits for the purpose of section
1201(2)(a) of the Regulations for the years
subsequent to the year 1965 is res judicata by
virtue of the judgment of the Federal Court of
Canada in the action of The International
Nickel Company of Canada Limited v.
M.N.R. [1971] F.C. 213;
(3) that if such expenditures for scientific
research are held to be expenditures that are
deductible in the determination of the plain
tiff's profit from its business under section 4 3
of the Income Tax Act, the plaintiff is entitled
to deduct the same amount in computing its
(iii) by payments to an approved university, college,
research institute or other similar institution to be used
for scientific research related to the class of business of
the taxpayer,
(iv) by payments to a corporation resident in Canada
and exempt from tax under this Part by paragraph (gc)
of subsection (1) of section 62,
(v) by payments to a corporation resident in Canada for
scientific research related to the business of the
taxpayer.
2 1201. (2) Where a taxpayer operates one or more
resources, the deduction allowed is 33 1/3% of
(a) the aggregate of his profits for the taxation year
reasonably attributable to the production of oil, gas, prime
metal or industrial minerals from all of the resources
operated by him, [The emphasis is mine.]
3 4. Subject to the other provisions of this Part, income
for a taxation year from a business or property is the profit
therefrom for the year. [The emphasis is mine.]
income under the said section 4 pursuant to
section 72(1) of the Act.
In his pleading and in his submissions at trial
counsel for the plaintiff argued that the expendi
tures in respect of scientific research were of a
capital nature as found by my brother, Cat-
tanach J. in the case of The International Nickel
Company of Canada v. M.N.R. (supra) and as
such were not deductible in computing the
plaintiff's "profits" for the purposes of regula
tion 1201(2) and that the word "profits" as so
used must be interpreted in accordance with its
usage within the context of the Income Tax Act
and in accordance with judicial principles.
Counsel for the defendant did not argue stren
uously that scientific research expenditures
were not capital in nature in the sense found by
Cattanach J. in the previous case. However, he
did argue that the evidence adduced in this case
was different from that in the previous case and
that it had not been argued before Cattanach J.
that the word "profits" in regulation 1201 was
unrelated to the determination of income under
section 4 of the Act, the only other place in
which the word "profit" is used, and that the
calculation of profits must be made in accord
ance with its ordinary meaning and generally
accepted accounting principles. If this were so,
profit would have to be determined by deduct
ing from net revenues expenditures for scientif
ic research incurred in the current fiscal year
since they are partly causal of current revenues
and partly of future revenues. They should also
be charged with past research expenditures
which resulted in profits during the current
year. Since the plaintiff's accounting practice
did not account for research expenditures
against particular projects, it was not possible to
determine those portions thereof attributable to
current revenues. For this and other cogent
reasons he argued that the best accounting prac-
' tice was to charge such expenditures against net
revenues for the current period.
In my view, the evidence adduced before me
of the nature and extent of the scientific
research engaged in by the plaintiff is no differ
ent from that adduced before Cattanach J. in the
earlier case. At page 229 he succinctly describes
the nature of that work as determined from the
evidence adduced before him and I do not think
that any testimony in this case changes it in any
way:
The appellant in the present case because of the extent
and nature of its business expends large sums on scientific
research and had done so for many years. It employs highly
qualified personnel whose exclusive function is to devote
their entire time and outstanding ability to a constant study
of existing processes used_by- the appellant with a view to
improving and making those processes more efficient as
well as projects as to the feasibility of hitherto untried
processes and methods or discovery of unknown processes.
If those studies prove the feasibility of such new projects it
has resulted and may again result in the appellant expending
large sums to build a plant to utilize the process so dis
covered or an improvement on a process in use. It has been
by this constant search for better ways that the appellant
has kept in the forefront of its field.
This necessarily results in a continual outlay on scientific
research by the appellant. It is a continuing and never
ending programme.
At page 231 he pointed out that the plaintiff
carefully segregated the expenditures on scien
tific research between those directed to creating
new processes or improving existing processes
from those directed to maintaining and operat
ing existing processes, the information for such
segregation being supplied from records kept by
the many research departments of the plaintiff.
The evidence before me showed conclusively
that such segregation was still being maintained
in the years 1967 and 1968. These expenditures
were properly deducted in computing the deple
tion base for the purposes of regulation 1201
because they were "reasonably attributable to
the production of prime metal". It is argued that
in addition to such costs there should also have
been deducted in the years 1967 and 1968 those
directed to creating new processes or improving
existing processes. In my opinion there was no
evidence adduced before me that the latter costs
incurred in 1967 and 1968 were `reasonably
attributable to the production of prime metal" in
either of those years. As Cattanach J. pointed
out at page 232:
For the appellant's own commercial purposes all such
expenditures on scientific research were included in operat
ing costs and not as capital costs. The segregation was made
for the purpose of preparing income tax returns.
I do not attach great significance to this bookkeeping or
accounting practice. The outlay on scientific research is not
easily classifiable and I can readily understand why for
commercial purposes the appellant would regard these ex
penditures as affecting its net profit or loss. But different
considerations apply for income tax purposes.
It is quite understandable that a commercial enterprise in
its books of account for its own purposes will treat certain
classes of expenditures as revenue expenditures which are,
in reality, for income tax purposes capital expenditures and
conversely many items treated in the accounts of business
as capital receipts are for income tax purposes taxable as
income.
How an item is treated in the books of account is not the
true or adequate test of the nature of the expenditure.
As I understand the essence of Lord Cave's declaration it
is that an expenditure is of a capital nature when it is made
with a view to securing an asset or advantage for the
enduring benefit of the trade.
The intention of the appellant in embarking upon and
continuing its programme of scientific research was to
acquire for itself a fund of scientific "know how" upon
which it could draw when necessity might arise. Some
projects were abandoned. Some proved fruitless. Some con
tinued over many years. Many projects were undertaken
which accounts for the continuing nature of the expenditure
as does the fact that some projects take many years for their
culmination. It is immaterial that some of the projects failed
if the intention is such that had the object been realized an
asset or advantage would have been obtained. If the ultimate
object was an asset or advantage of a capital nature then the
expenditures antecedent thereto, are also of a capital nature.
After having considered all of the facts
which, as above stated, I find were substantially
the same as those adduced before me, Cat-
tanach J. concluded that the appellant's expen
ditures for scientific research which it claimed
as deductions under sections 72, 72A and by
virtue of section 11(1Xj) in computing its tax
able income for the year were expenditures of a
capital nature i a consequence of which those
expenditures were not deductible in determining
the base for the calculation of the depletion
allowance for the purposes of regulation 1201.
For the reasons given, I wholly agree with his
conclusion and, subject to my disposition of the
defendant's arguments with which I shall here-
inafter deal, I find that in 1967 and 1968 the
plaintiff's expenditures on scientific research,
other than those directed to maintaining and
operating existing processes, were capital in
nature.
Having so found, as I see it, the narrow issue
for determination in this appeal is whether that
finding is affected by the defendant's argument
that "profits" in the context of regulation 1201
must be "profits" determined in accordance
with generally accepted accounting principles.
The gist of the defendant's argument, as I
understand it, is that generally accepted
accounting practice requires that costs be
associated with related revenue to measure peri
odic net income. There are three types of costs,
the first called period costs which are not direct
ly related to production activity. They are treat
ed as expenses chargeable against revenue in
the period in which they are incurred while
costs related more directly to production activi
ties, called product costs (e.g. materials, over
head, production wages, etc.), are included in
the cost of goods and are not recovered until the
goods are sold. A third type of costs are busi
ness preserving costs which are incurred by a
company to retain its competitive position in the
future. The two basic principles in the handling
of any of these costs are:
(a) that they be matched with revenue at
some time, and
(b) that their treatment in the company's
accounting records be consistent from
accounting period to accounting period to
present fairly the result of the company's
operations, without distortions that would
occur if changes were made in their treat
ment, unless notes of any such changes are
carefully appended to the statements in which
the changes are reflected.
Costs of scientific research have been treated
by the plaintiff consistently over the years as
period costs and charged against current earn
ings. In theory, as was explained by the expert
witnesses called by the parties, perhaps they
should be deferred and amortized over the
future periods that they are intended to benefit.
However, as those witnesses conceded, the pre
dominant practice at present is that research
costs of a continuing nature are recognized as
period costs and business preserving costs and
are expensed in the accounting period in which
they are incurred. As noted this is, in fact, the
practice of the plaintiff and is reflected in its
audited financial statements presented to the
public and to its shareholders.
However, it was also conceded that different
considerations prevail for income tax purposes
and only those expenditures permitted by the
Act are deductible in determining the taxable
income of the company.
In the defendant's view the "profits" referred
to in regulation 1201 are not related to
"income" as defined and determined under Part
I of the Income Tax Act. Rather it is the profit
or net earnings of a company determined under
generally accepted accounting principles which,
according to the defendant's counsel, is the
meaning of "profits" in regulation 1201. Since
in the determination of profits utilizing such
principles scientific research expenses are gen
erally not deferred to other years but in most
cases (and in particular in the case of the plain
tiff) are charged against revenues in the year in
which they are incurred, then all should be
deducted in the determination of the base for
the purpose of calculating the plaintiff's deple
tion allowance, which I shall hereinafter refer to
as "depletion base".
If I were to hold that this argument cannot be
substantiated, then the defendant alternatively
argues that since costs must at some time be.
matched to revenue under current accounting
practice, a charge must be made annually
against net revenues for that year for deferred
charges for scientific research in respect of de
velopments pursuant thereto which produced
revenue in the accounting period in question
and for research projects terminated in that
year. If this were not done, then he submits that
these charges would remain "in limbo" never to
be charged against any earned revenue as
required by good accounting practice. Since the
costs associated with any particular develop
ment cannot be determined because the plaintiff
does not maintain its books in such a way as to
know what they are for any given project, all
costs of research incurred in any year must be
charged against net revenue for the purpose of
calculating its depletion base and the plaintiff's
claim should therefore be dismissed.
The defendant called as - an expert witness, P.
H. Lyons, an experienced chartered accountant
who testified that "an enterprise should deduct
from current revenues the cost of preserving its
capacity to operate competitively in an ever-
changing economic environment ... such dis
cretionary costs including research and develop
ment usually are deducted currently and not
deferred." While expressed differently this evi
dence corroborated that of the plaintiff's
experts. For example, J. A. Milburn, a highly
qualified chartered accountant puts the proposi
tion in this way in paragraph 3(b) of his affidavit
read into the record pursuant to the Rules of
this Court:
3(b) In my opinion, scientific research expenditures, even
where deducted currently, are of a different nature than
expenditures such as wages, supplies and raw materials
directly consumed in the course of production. The latter
amounts benefit production of the period in which they are
incurred, and accordingly a matching of expenses against
revenues is achieved by charging these expenditures to
expense at the time the products are sold» Scientific
research expenditures on the other hand cannot be regarded
as primarily for the benefit of the production of the period
in which they are incurred. The benefit, if any, of such
expenditures may not be realized until future accounting
periods. Primarily because it is difficult to identify the
future period or periods that may be benefitted and to
determine the extent to which future periods may be bene
fitted, it is acceptable accounting practice to deduct such
expenditures in the period in which they are incurred.
For this reason I accept the evidence of each
of the experts to this extent. However, when
Mr. Lyons states in his affidavit that "if the
company while following the non-deferral
method in their books, adopted the system of
deferral for some other purpose they would
have to maintain parallel accounting records to
apply the deferral principle properly", I cannot
agree, that to compute the depletion base for a
resource company this principle, if true, should
apply.
It is untenable because it ignores two things,
namely (a) that all expenses are charged by the
plaintiff against its periodic earnings in accord
ance with its consistent practice over the years
for its own commercial purposes and therefore
such expenses are not indefinitely deferred or
held "in limbo" as alleged, and (b) that the
plaintiff does not keep two sets of "parallel
books" but only one. What it does do, as it is
required to do by regulation 1201(2), is to make
a calculation for the purposes of computing its
depletion base. In doing so it has not excluded
from its computation of profits (meaning net
earnings) its costs of scientific research which it
did exclude in its computation of net earnings in
its audited financial statements as required by
good accounting practice. It is computed from
the plaintiff's one and only set of accounts. The
quantum of the plaintiff's expenditures for
scientific research for the years in question is
not in issue. Therefore, in my opinion, the
defendant's alternative submission fails and the
only question which must be resolved is the
main argument of the Minister and that is
whether or not the plaintiff was correct in law in
not deducting scientific research costs in its
calculation of its depletion base.
In my view the word "profits" for such com
putation must be read in the context of the Act
pursuant to which the Regulation in which it
appears was promulgated and in accordance
with judicial principles.
In M.N.R. v. Anaconda American Brass Lim
ited [1956] A.C. 85, a case in which the question
at issue was whether or not the Lifo method of
inventory revaluation was properly used in the
determination of the respondent's excess profits
under the Excess Profits Tax Act, it was argued
that annual income for income tax purposes is
determined by accepted accountancy practice
unless the Act otherwise provides. This conten
tion was rejected by the Privy Council. At page
100, Viscount Simonds quoting Lord Clyde in
Whimster & Co. v. Inland Revenue Commission
ers [(1925) 12 T.C. 813 at page 823] stated as
follows:
In the first place, the profits of any particular year or
accounting period must be taken to consist of the difference
between the receipts from the trade or business during such
year or accounting period and the expenditure laid out to
earn those receipts. In the second place the account of profit
and loss to be made up for the purpose of ascertaining that
difference must be framed consistently with the ordinary
principles of commercial accounting, so far as applicable,
and in conformity with the rules of the Income Tax Act, or
of that Act as modified by the provisions and schedules of
the Acts regulating Excess Profits Duty, as the case may be.
For example, the ordinary principles of commercial account
ing require that in the profit and loss account of a mer
chant's or manufacturer's business the values of the stock-
in-trade at the beginning and at the end of the period
covered by the account should be entered at cost or market
price, whichever is the lower; although there is nothing
about this in the taxing statutes.
This statement was cited with approval by
Abbott J. in M.N.R. v. Irwin [1964] S.C.R. 662.
At page 102 Viscount Simonds further stated:
It is the same consideration which makes it clear that the
evidence of expert witnesses, that the Lifo method is a
generally acceptable and in this case the most appropriate,
method of accountancy, is not conclusive of the question
the court has to decide. That may be found as a fact by the
Exchequer Court and affirmed by the Supreme Court. The
question remains whether it conforms to the prescription of
the Income Tax Act. As already indicated, in their Lord
ships' opinion it does not. [The emphasis is mine.]
The approach necessary to determine the
answer to this problem in any given case is
concisely set forth in Associated Investors of
Canada Limited v. M.N.R. [1967] 2 Ex:C.R. 96
wherein Jackett P., as he then was, stated at
pages 101 and 102 as follows:
Under the Income Tax Act, in determining the income tax
payable by the appellant for a year, the first step is to
determine the "income" from the appellant's business for
the year (section 3). Subject to any special provision that
may be applicable, the "income" from a "business" for a
year is the "profit" therefrom for the year (section 4).
Profit from a business subject to any special directions in
the statute, must be determined in accordance with ordinary
commercial principles (Canadian General Electric Co. Ltd.
v. Minister of National Revenue, [19621 S.C.R. 3, per Mart-
land J. at page 12.) The question is ultimately "one of law
for the court". It must be answered having regard to the
facts of the particular case and the weight which must be
given to a particular circumstance must depend upon practi
cal considerations. As it is a question of law, the evidence of
experts is not conclusive. (See Oxford Motors Ltd. v. Minis
ter of National Revenue, [1959] S.C.R. 548, per Abbott J. at
page 553, and Strick v. Regent Oil Co. Ltd., [1965] 3 W.L.R.
636 per Reid J., at pages 645-6. See also Minister of Nation
al Revenue v. Anaconda American Brass Ltd., [1956] A.C.
85 at page 102.)
My first task is therefore to determine the proper treat
ment of the amounts in question in accordance with ordi
nary commercial principles. Having ascertained that, I must
consider whether any different treatment is dictated by any
special provision of the statute.
Ordinary commercial principles dictate, according to the
decisions, that the annual profit from a business must be
ascertained by setting against the revenues from the busi
ness for the year, the expenses incurred in earning such
revenues.
In considering whether the results of any transaction can
be considered in computing the profit of a business for a
particular year, the first question is whether it was entered
into for the purpose of gaining or producing income from
the business. (Compare section 12(1Xa)). If it was not, such
results cannot be taken into account in computing such
profits. Even if the transaction was entered into for the
purpose of the business, if it was a capital transaction, its
results must also be omitted from the calculation of the
profits from the business for any particular year. (Compare
section 12(lxb). See B.C. Electric Railway Co. Ltd. v.
Minister of National Revenue, [1958] S.C.R. 133, per Abbott
J. at page 137.) [The emphasis is mine.]
Therefore, since, for the reasons given by
Cattanach J. in the 1971 The International
Nickel Company of Canada appeal (supra) the
expenses for scientific research for the years
1967 and 1968 were not attributable to the
production of prime metals in those years and
that such expenses were capital in nature, they
are not deducted, therefore, from revenue in
- determining the annual profits of the business in
the context of the Income Tax Act, although
they are excluded therefrom for the determina
tion of the plaintiff's taxable income by virtue
of sections 72, 72A 4 and 11(1)(j) 5 of the Act.
Support for this view is derived from another
Exchequer Court decision also made in 1967 in
the case of Quemont Mining Corporation Lim
ited v. M.N.R. [1967] 2 Ex.C.R. 169. There the
Minister raised what appears to be practically
the same issue as the one with which I am
dealing in this case. The question in the Que-
4 72A. (1) In addition to the deductions allowed for the
year by section 72, a corporation, other than a corporation
referred to in subsection (2), that carried on business in
Canada and made expenditures in respect of scientific
research in a taxation year, may deduct in computing its
income for the year 50% of the amount by which
(a) the aggregate of
(i) all expenditures of a current nature made in Canada
in the year, as described in subparagraphs (i) to (v) of
paragraph (a) of subsection (1) of section 72 on scientif
ic research, and
(ii) all expenditures of a capital nature made in Canada
(by acquiring property other than land) in the year on
scientific research,
exceeds
(b) the aggregate of
(i) the base scientific expenditure of the corporation,
and
(ii) any amount paid to the corporation in the year in
respect of scientific research undertaken by the
corporation
(A) by Her Majesty in right of Canada or a province,
(B) by a person resident in Canada, or
(C) by a person not resident in Canada if such person
is entitled, in respect of .the payment, to a deduction
in computing his income by virtue of subparagraph
(v) of paragraph (a) of subsection (1) of section 72.
5 11. (1)(j) such amount in respect of expenditures on
scientific research as is permitted by section 72 or by
section 72A;
mont case was whether or not in computing the
appellant's profits from its mining operations
for the purpose of calculating its depletion base,
duties paid under the Quebec Mining Act had to
be deducted, just as in this case the issue is
whether or not scientific research expenditures
must be deducted in computing the depletion
base of the plaintiff herein. At page 200 Cat-
tanach J. observed:
Counsel for the Minister, as I understood his argument,
readily concedes that the taxes paid to the Province of
Quebec were not laid out for the purpose of gaining the
income and accordingly those taxes so paid are not a proper
deduction from income under section 12(1)(a) of the Income
Tax Act. However, he does not accept the premise of
counsel for Quemont that the word "profits" used in Regu
lation 1201(2)(a) is synonymous with the word "income" or
that it means the difference between receipts and expendi
tures laid out to earn those receipts. On the contrary he
contends that the word "profits" is used in Regulation
1201(2Xa) in its popular and ordinary commercial sense and
means net profits, or receipts which are left to the taxpayer
after all accounts are paid.
After referring to the Anaconda & Irwin
cases (supra) at page 202 he cited M.N.R. v.
Imperial Oil Limited [1960] S.C.R. 735 as
follows:
In M.N.R. v. Imperial Oil Limited ([1960] S.C.R. 753
[sic]) the Supreme Court considered Regulation 1201 in its
earlier form. Judson J. delivered a judgment for three of the
four members of the Court which constituted the majority.
At pages 744 and 745 he said:
... I think that Regulation 1201 now requires the follow
ing procedure in determining the base for the allowance to
be granted to a taxpayer who operates more than one oil
or gas well:
(1) Determine the profits or losses of each producing
well in the normal manner by ascertaining the difference
between the receipts reasonably attributable to the pro
duction of oil or gas from the well and the expenses of
earning those receipts. [Emphasis added.]
It seems to me to be the clear inference from the language
quoted above, Judson J. interpreted the word "profits" as it
appeared in Regulation 1201 in its prior form as having the
same meaning as that attributed to it by the Privy Council in
the Anaconda case (supra) in the Excess Profits Tax Act
and by the Supreme Court in the Irwin case (supra) as
applied to the Income Tax Act, that is to say the difference
between the receipts from a business for the year and the
expenses laid out to earn those receipts.
The subsequent amendments to Regulation 1201 do not
appear to me to affect the meaning attributed to the word
"profits" by Judson J. in the Imperial Oil case (supra).
At page 203 his finding was as follows:
I can see no justifiable reason for construing the word
"profits" as used in the Regulation in any sense different
from the meaning attributed by authorities to that same
word as used in the Income Tax Act.
Counsel for the defendant sought to distin
guish this case on the basis that the Quemont
case (supra), in his view, turned on whether or
not the Quebec mining duties were paid for the
"purpose of earning income". With great
respect I find it impossible to say that there is
any appreciable difference between an expense
made for the purpose of earning income and one
reasonably attributable to the production of
prime metal from which the earned income of a
mining company is derived.
In Home Oil Company Limited v. M.N.R.
[1955] S.C.R. 733 Rand J. at page 736 held that
the words "reasonably attributable" mean "spe-
cially or directly related" and this being so when
subsection (4) of regulation 1201 says "There
shall be deducted from the aggregate profits of a
taxpayer for a taxation year expenses reason
ably attributable to the production of ... prime
metal ... from all of the resources operated by
him" it means that the outlays charged against
the profits must themselves be specially or
directly related to them. They were made for
the purpose of earning income from such pro
duction. Therefore, I rely on the Quemont case
as supporting the position which I take, namely
that the word "profit" must be used in the sense
that it was found proper by Judson J. in the
Imperial Oil case (supra), and Jackett P. in the
Associated Investors case (supra).
Counsel for the defendant also relied heavily
on the recent English Court of Appeal decision
in Heather v. P.E. Consulting Group Limited
(1973) 48 T.C. 293 as enabling me to hold that
the 1970 International Nickel Company judg
ment was not binding upon me. In that case the
taxpayer company paid certain sums of money
to trustees to enable the trustees to purchase
shares of the appellant company to provide key
employees with control of the appellant com
pany. The trustees were to hold the shares for
the benefit of the employees and lump sums
were paid to the trustees for several years
which the taxpayer company contended were
revenue expenditures and were proper deduc
tions to be made in computing the company's
tax. The Crown contended that they were instal
ments of capital and could not be deducted.
As I understood him, counsel for the defend
ant likens the annual instalment payments in the
Heather case to those made by the plaintiff
herein in that the aggregate of the annual pay
ments was unpredictable and the company
could at any time have discontinued the contri
butions to the trustees and bring the scheme to
an end in the same way that the plaintiff here
could cancel all research at any time if it so
desired. He relied in particular on the passage at
page 325 of a judgment of Buckley U. reading
as follows:
The Company's business was that of business management
and industrial consultants, and the value of the services
which it provided depended to a very great extent upon the
quality and expertise of those whom it employed and, as I
think it right to infer, upon these employees being permitted
to carry out their functions as management and industrial
consultants uninterfered with or uninhibited by interference
by any persons who were not as well qualified to deal with
the problems which had to be dealt with as they were
themselves. It was therefore a case in which the indepen
dence as well as the qualifications of the staff—indepen-
dence, I mean, from inhibiting superior supervision—were
very important to the welfare of the trade of the Company
and in that respect it appears to me that the second objec
tive which the Commissioners found to obtain in this case
was one directly related to the conduct of the Company's
trade. [The emphasis is mine.]
In the view of counsel the payments for
scientific research were important to the wel
fare of the trade of the company in the same
fashion as the payments made by the taxpayer
company in the Heather case, which the Court
of Appeal found to be chargeable against reve
nues of the company. With respect, I do not
agree that this case is analogous to the Heather
case or that it calls upon me to reach a different
conclusion from that which I have already allud
ed to.
The difficulty in determining whether an ex
penditure is of a revenue or capital nature and
the course which a Court should follow in
attempting to find the correct designation is put
with admirable clarity by Lord Denning M.R. at
page 321 of the Heather case:
The question—revenue expenditure or capital expendi-
ture—is a question which is being repeatedly asked by men
of business, by accountants and by lawyers. In many
cases the answer is easy: but in others it is difficult. The
difficulty arises because of the nature of the question. It
assumes that all expenditure can be put correctly into one
category or the other: but this is simply not possible. Some
cases lie on the border between the two: and this border is
not a line clearly marked out; it is a blurred and undefined
area in which anyone can get lost. Different minds may
come to different conclusions with equal propriety. It is like
the border between day and night, or between red and
orange. Everyone can tell the difference except in the
marginal cases; and then everyone is in doubt. Each can
come down either way. When these marginal cases arise,
then the practitioners—be they accountants or lawyers—
must of necessity put them into one category or the other.
And then, by custom or by law, by practice or by precept,
the border is staked out with more certainty. In this area at
least, where no decision can be said to be right or wrong, the
only safe rule is to go by precedent. So the thing to do is to
search through the cases and see whether the instant prob
lem has come up before. If so, go by it. If not, go by the
nearest you can find.
Again at page 322 of the Heather case Lord
Denning stated:
The Courts have always been assisted greatly by the evi
dence of accountants. Their practice should be given due
weight; but the Courts have never regarded themselves as
being bound by it. It would be wrong to do so. The question
of what is capital and what is revenue is a question of law
for the Courts. They are not to be deflected from their true
course by the evidence of accountants, however eminent.
In these reasons I have endeavoured to
review the applicable case law as a result of
which I have reached the same conclusion as
that reached by Cattanach J., in the 1970 Inter
national Nickel case (supra) that, in law, the
expenditures for scientific research are capital
in nature.
I cannot dispute the evidence of the eminent
accountants in this case as to the ordinary com
mercial application of accounting principles.
However, as a matter of law, in my opinion, the
meaning of the word "profits" as used in regula
tion 1201 is that decided by Judson J. in the
Imperial Oil case (supra) no matter how they
were treated by the company in keeping its
books in accordance with good accounting prac
tice for the purposes of its audited statements.
Since the expenditures for scientific research
have been found to be capital in nature they are,
in my view, not deductible in computing the
plaintiff's depletion base. Accordingly, the
plaintiff's appeals will be allowed.
Having so concluded, it is not necessary for
me to consider whether the matter is res judica-
ta nor is it necessary for me to consider the
plaintiff's alternative contention that if it should
be held that the scientific research expenditures
in question were of a revenue nature that the
plaintiff would then be entitled to deduct these
expenditures under section 12(lxa) as well as
under section 72 in computing its taxable
income for the year.
The appeals are allowed and the assessments
for the years 1967 and 1968 are referred back
to the Minister for appropriate action in accord
ance with these reasons. The plaintiff shall be
entitled to its taxed costs on each appeal up to
the time of hearing and to one set of costs for
the hearing since the appeals were tried on
common evidence.
You are being directed to the most recent version of the statute which may not be the version considered at the time of the judgment.