DATE: 20010301

DOCKET: C33216

COURT OF APPEAL FOR ONTARIO

CATZMAN, CARTHY, and FELDMAN JJ.A.

BETWEEN:

W. E. ROTH CONSTRUCTION LIMITED

Appellant

• and -

THE MINISTER OF FINANCE

Respondent

Counsel: Harry Underwood and Michael Quigley, For the Appellant Michael Waterston and Walter Myrka, For the Respondent

HEARD: June 7, 2000

Appeal from the Order of Coo J. dated October 29, 1999.

FELDMAN J.A.:

[1] The appellant appeals from an order affirming its 1988, 1989 and 1990 assessments for capital tax under the Corporations Tax Act, R.S.O. 1990, c. C. 40. The issue is the proper way to allocate the appellant’s labour costs as between its Ontario and its Alberta operations in accordance with s. 302(7) of Reg. 183, and in particular, the meaning of the phrase within the section: “perform services for the corporation that would normally be performed by employees of the corporation . . .” .

[2] Coo J. agreed with the Ministry that the term “normally” in the context of the section refers to the actual services performed at the location and whether those services were ordinarily performed not by contractors but by employees, and does not refer to the type of services ordinarily performed by the corporation at other locations by employees and not by contractors.

[3] For the reasons set out below, I agree with the interpretation of Coo J. and would dismiss the appeal.

FACTS

[4] The appellant is a corporation incorporated under the laws of Ontario which owns and manages rental real estate properties in Ontario and in Alberta. The appellant began its business in Ontario in the 1960’s and 1970’s by acquiring and managing residential and then commercial properties. In 1987 it began to purchase properties in Alberta. During the years in issue, 1988, 1989 and 1990 the appellant owned and managed five residential and commercial rental properties in Ontario and owned either alone or with others, 15 residential and commercial rental properties in Alberta, which it managed.

[5] Willi E. Roth was the president, secretary and sole beneficial shareholder of the appellant. There were four employees of the appellant in Ontario: Mr. Roth, a receptionist, a bookkeeper and a handyman. In Ontario, Mr. Roth alone managed the appellant’s properties which management included the following functions: supervising construction or development of certain properties, identifying prospective tenants, leasing the properties to tenants, collecting rents and maintaining the properties in accordance with the terms of the leases.

[6] In Alberta a different structure was used. The properties were managed by three corporations pursuant to management agreements with the appellant. One of the corporations, Centre West Properties Ltd., was a related corporation which the appellant caused to be incorporated on August 5, 1988. Mr. Roth hired and instructed the employees of Centre West with respect to the conduct of their duties. The two shareholders of Centre West were the appellant and Andy Edmundson. From January 1, 1988 to August 4, 1988 one of the unrelated corporations and then Mr. Edmundson managed the majority of the Alberta properties pursuant to an unwritten contract with the appellant. From August 5, 1988 to February 9, 1990, Centre West using Mr. Edmundson as manager, managed those properties, again under an unwritten contractual arrangement with the appellant. On February 9, 1990 a written management contract was entered into between the appellant and Centre West for management of 14 Alberta properties, together with an oral agreement whereby it would co-manage the 15th property with one of the two unrelated management corporations. Finally, from September 17, 1990 to December 31, 1990, Victor Roth, the brother of Willi Roth conducted the prime management responsibilities of Centre West for the Alberta properties and was instructed by Willi Roth. Victor Roth was paid directly by the appellant.

THE ISSUE

[7] In practical terms, the issue arises because, as the court was advised in argument, Alberta is the only province which does not levy capital tax. The scheme of the Ontario capital tax regime is that where a corporation has a permanent establishment, as defined, in Ontario and in one or more other provinces, the taxable capital of the corporation is allocated between those permanent establishments in accordance with a formula set out in the Act and the regulations. It is therefore in the interests of a taxpayer with a permanent establishment in Alberta for the formula to be interpreted in a way which maximizes the allocation to that establishment in order to minimize its tax payable. The Ontario Revenue Ministry seeks an interpretation which would allocate more capital to the Ontario establishment.

[8] Regulation 183 of the Corporations Tax Act, R.S.O. 1990 c. C. 40 contains provisions which govern the allocation of taxable paid-up capital deemed to be used in jurisdictions where the corporation has permanent establishments. Section 320(3)(a)(ii) is the section which includes salaries and wages as a factor in the formula:

s. 320(3) Subject to subsection 302(5), where, in a taxation year, a corporation had a permanent establishment in Ontario and a permanent establishment in a jurisdiction other than Ontario, the amount of the corporation’s taxable paid-up capital that shall be deemed to have been used in the taxation year in that other jurisdiction is,

(a) in any case other than a case specified in clause (b) or (c), one-half the aggregate of,

(i) that proportion of the corporation’s taxable paid-up capital that the gross revenue for the taxation year reasonably attributable to the permanent establishments in that other jurisdiction is of the corporation’s total gross revenue for the taxation year, and

(ii) that proportion of the corporation’s taxable paid-up capital that the aggregate of the salaries and wages paid in the taxation year by the corporation to the employees of the permanent establishments in that other jurisdiction is of the aggregate of all salaries and wages paid in the taxation year by the corporation;

Section 302(7) is the section which deems certain fees to be salary for the purpose of s. 320 and is the subject of this appeal. It provides:

s. 302(7) For the purposes of this section, and sections 304, 307, 308, 309, 310, 311, 320, 321, 324, 325, 326, 327 and 328, where a corporation pays a fee to a person under an agreement pursuant to which the person or employees of that person perform services for the corporation that would normally be performed by employees of the corporation, the fee so paid shall be deemed to be salary paid in the taxation year by the corporation and that part of the fee that may reasonably be regarded as payment in respect of services rendered at a particular permanent establishment of the corporation shall be deemed to be salary paid to an employee of that permanent establishment.

[9] The appellant’s position is that the fees paid to the management corporations which managed its Alberta properties were for services which “would normally be performed by employees” of the appellant. Those same services are performed by Mr. Roth for the corporation for its Ontario properties. Therefore, because the functions performed by the management companies in Alberta are the same functions performed by an employee for the appellant’s business in Ontario, the functions performed are services which would normally be performed by employees of the corporation.

[10] The appellant emphasizes that the section refers to a geographic allocation of the fees only in its second half, not in the first half. It argues therefore that the first half is not focused on the geographic location of the performance of the service but on the function or nature of the service itself.

[11] The appellant further argues that the policy of the statutory scheme is to allocate both the gross revenue component and the generic labour component of a corporation’s taxable paid-up capital to each permanent establishment and that s. 302(7) is intended to ensure that all labour is treated the same way and included in the calculation.

[12] The motions judge rejected these arguments. His conclusion as to the meaning of s. 302(7) was based on the “. . . sensible and contextually appropriate interpretation of the language . . .”. He held that the language did not either permit or call for an examination of what the corporation did at other sites, or of industry practices of corporations generally. He concluded, contrary to the submission as to the intended scheme of the Act that: “The language is not intended to provide to the corporation a simple choice as to what it may have done by employees and what by contract personnel, with the tax advantages to be the same in either event. Had it been the desire of the legislative scheme to adopt that approach, a far simpler language scheme would have been put in place.” (para. 13).

ANALYSIS

[13] In Friesen v. The Queen, 1995 CanLII 62 (SCC), [1995] 3 S.C.R. 103, the Supreme Court of Canada set the definitive approach which a court is to take in interpreting the Income Tax Act, and by extension, all taxing statutes. At p. 113, Major J. stated that the correct approach is to apply the plain meaning rule as articulated in E.A. Dreidger, Construction of Statutes (2nd ed. 1983 at p. 87):

Today there is only one principle or approach, namely, the words of an Act are to be read in their entire context and in their grammatical and ordinary sense harmoniously with the scheme of the Act, the object of the Act, and the intention of Parliament.

Major J. also accepted as correct, the comment of P. Hogg and J. Magee in Principles of Canadian Income Tax Law (1995), at pp. 453-4:

It would introduce intolerable uncertainty into the Income Tax Act if clear language in a detailed provision of the Act were to be qualified by unexpressed exceptions derived from a court’s view of the object and purpose of the provision… [The Antosko case] is simply a recognition that “object and purpose” can play only a limited role in the interpretation of statute that is as precise and detailed as the Income Tax Act. When a provision is couched in specific language that admits of no doubt or ambiguity in its application to the facts, then the provision must be applied regardless of its object and purpose. Only when the statutory language admits of some doubt or ambiguity in its application to the facts is it useful to resort to the object and purpose of the provision.

[14] Although there is no decided case interpreting s. 302(7), there is case law from the Federal Court of Appeal and from the Tax Court of Canada interpreting similar language contained in a regulation under the Income Tax Act.

[15] The first case is Canadian Clyde Tube Forgings Limited v. The Queen, 1981 CanLII 4680 (FCA), [1982] 2 F.C. 226 (F.C.A.). The issue in the case was the proper interpretation of the manufacturing and processing tax deduction under the Income Tax Act. The formula involves a percentage of the corporation’s cost of capital and cost of labour for the year. The phrase “cost of labour” is defined in s. 5202 of the regulation as salaries paid during the year together with,

all other amounts each of which is an amount paid or payable during the year for the performance during the year, by any person other than an employee of the corporation, of functions relating to . . . (iii) a service or function that would normally be performed by an employee of the corporation . . .

Canadian Clyde manufactured pipes for the refining industry. Although the entire manufacturing operation was carried out in the corporation’s plant, part of the production process was carried out by a contractor operating its own machinery and with its own employees within that plant.

[16] The court held that the amount paid to the contractor did not come within the definition of “cost of labour”. It adopted the analysis of the trial judge which was that the service or function performed by the contractor was not one which was normally performed by the taxpayer’s employees even though that service or function could be said to be one which is normally performed by employees of such a corporation. Rather, the modus operandi of the taxpayer corporation was to contract out a certain portion of the work to non-employees. It is the normal operation of the taxpayer corporation in respect of the particular work contracted out which is addressed by the statutory language.

[17] That same analysis was followed by the court in the subsequent case of Levi Strauss of Canada, Inc. v. The Queen (1982), 82 DTC 6070 (F.C.A.). The modus operandi of the taxpayer corporation was to contract out the cutting, making and trimming of shirts, although all of those functions were performed by the corporation’s own employees in the production of pants. The court reasoned that the cutting, making and trimming of shirts was therefore not normally performed by the corporation’s employees. The court also rejected the argument that that interpretation involved reading in restrictive wording to the section. The court concluded to the contrary that the interpretation suggested by the taxpayer would require the court to insert into the section words such as “of a kind” after the word “function” in the definition.

[18] Clearly these two cases, while dealing with a different section which has a different purpose, are of great assistance when the court is seeking to apply the plain meaning of the same phrase “normally be performed by [an] employee[s] of the corporation.” I agree with the analysis and conclusions reached in these cases including the modus operandi test.

[19] In my view it is clear that contrary to the submission of the appellant, the scheme of these provisions is not to equate all labour whether performed by employees or contractors with the same tax consequences for the taxpayer. I agree with the conclusion reached by Coo J. that the statutory language would have been much simpler had that been the intended effect.

[20] The third case is NRB Inc. v. The Queen (1993), 93 DTC 295 (T.C.C.). There, because of an increase in demand for the corporation’s product during certain high volume months of the years in question, the corporation was obliged to hire subcontractors to do the same work as its employees. Although 92% of the corporation’s labour cost was attributable to contractors rather than employees, the court held that the modus operandi of the corporation was to use its own employees, but augmented with contractors who did the same work and that those contractors did therefore perform functions normally performed by employees.

[21] In my view, the NRB case does not assist the appellant.

[22] In the appellant’s case, the modus operandi of the appellant was to contract the management of the Alberta properties to the three management services corporations rather than have employees of the appellant manage those properties. The management of those properties, as opposed to the Ontario properties, was therefore not a service normally performed by employees of the appellant.

[23] The appellant submits that this interpretation adds a geographic dimension to the effect of the section which is not found in its words. However, this may appear to be the case only because of how the facts were presented where the difference in the modus operandi of the appellant was between its operation in Ontario and in Alberta, as opposed for example, to residential versus commercial properties.

[24] The federal government has issued Interpretation Bulletin IT-145R respecting the interpretation of the provisions of the Income Tax Act regarding the tax on manufacturing and processing including the “cost of labour” provision and the meaning of “normally” in the definition. Paragraph 19 of the bulletin states:

19. In addition to salaries and wages paid or payable to a corporation’s employees, amounts paid or payable to third parties for services which would normally be performed by the corporation’s own employees form part of the cost of labour. The term “normally” means “commonly”, “usually”, or “under normal or ordinary conditions”. It would apply in cases where a corporation usually performs certain services or functions itself but for some reason, such as lack of capacity, short-run economic conditions, labour problems, or machinery breakdowns, has sublet all or part of the work to third parties. It is the Department’s view that what is “normally…performed” is determined in the context of a “service or function” of a particular corporation and not in context of the industry or a division of the corporation. Those corporations operating in more than one province will already have experience in calculating these amounts for purposes of allocating income to various provinces under subsection 402(7) of the Regulations.

[25] The respondent relies on this bulletin as setting out the correct meaning and includes in its material the fact that some other provinces with similarly worded provisions to Ontario in respect of capital tax have issued bulletins which adopt the same meaning of “normally” as is set out in para. 19 of the federal IT-Bulletin. The respondent argues as a matter of policy that the meaning attributed to the same words and phrases in the context of the same provision in each province, should be the same for the purpose of a fair and consistent application of the allocation provisions.

[26] While there is merit in looking to these bulletins as a guide to interpretation where there is ambiguity, they are in no way binding on the court. See Vaillancourt v. Deputy M.N.R.,[1991] 3 F.C. 663 (F.C.A.) at 674. Certainly the examples delineated in para. 19 of the bulletin, although consistent with the interpretation which I believe gives effect to the plain meaning of the language of the section, do not constitute a limited list. Nor does the fact that some provinces have adopted the interpretation of the federal government inform the court’s interpretation of the meaning of “normally” in the context of the capital tax regulation. On the issue of consistency, once there is a court-mandated interpretation for one province, it is desirable and likely that the same provision in other provinces’ complementary legislation will be interpreted the same way. In other words, the policy objective of a uniform interpretation is achieved by court interpretation of the “plain meaning” of identical language in the same way, not by any mandate imposed by interpretation bulletins.

[27] Finally, the appellant submits that the interpretation urged by the respondent will encourage taxpayers to arrange their affairs to engage independent contractors in high-tax jurisdictions and employees in low-tax jurisdictions in order to artificially manipulate the taxable capital away from the high-tax jurisdictions. If this is the effect of the interpretation, again this is a concern of the Ministry and the legislature, not the court where the interpretation is arrived at by an analysis of its plain meaning.

FURTHER ISSUE

[28] In its factum (but not in oral argument), the appellant raised the issue that the application judge should have regarded both Victor Roth and Andy Edmundson as employees of the appellant instructed by Willi Roth, and on that basis treated the fees paid to the corporations which managed the Alberta properties as salary or wages for the purpose of the capital tax allocation. As this issue was not addressed by the application judge, nor was it one of the questions contained in the Special Case, we do not regard it as an issue before us on this appeal.

RESULT

[29] The appeal is dismissed with costs.

Signed: "K. Feldman J.A."

"I agree M.A. Catzman J.A."

"I agree J.J. Carthy J.A."

RELEASED: March 1, 2001