A-156-03
2004 FCA 146
Her Majesty the Queen (Appellant)
v.
Charles B. Loewen (Respondent)
Indexed as: Canada v. Loewen (F.C.A.)
Federal Court of Appeal, Sexton, Evans and Sharlow JJ.A.--Toronto, March 8 and 9; Ottawa, April 6, 2004.
Income Tax -- Practice -- Appeal, cross-appeal from T.C.C. decision striking "no income earning purpose" defence, words "So-Called", "called a", "purported", "alleged", from Crown reply defending income tax assessment -- Minister issuing reassessments on capital cost allowance claim by respondent -- Respondent appealing reassessments to T.C.C. -- In reply, Crown presenting four defences of reassessments -- Respondent filing motion to strike defences on basis defences advancing new, different assessments -- Crown permitted to defend assessments on basis of arguments first asserted after expiry of time limit for reassessments -- Income Tax Act, s. 152(9), Anchor Pointe Energy Ltd. v. Canada applied -- Not appropriate to strike words from reply without notice to Crown and without giving Crown opportunity to make submissions -- No authority for proposition Crown could not defend assessment on basis of argument taxpayer believed resolved -- Appeal allowed, cross-appeal dismissed.
This was an appeal and a cross-appeal from an interlocutory judgment of the Tax Court of Canada striking parts of the reply filed by the Crown in defending an income tax assessment. In 1993, the respondent acquired an undivided 6.25% co-ownership interest in software called "AIRS II" for $500,000. The purchase price was $8,000,000. By the end of 1994, the respondent had paid $150,000. The respondent claimed capital cost allowance of $250,000 in 1993 and $250,000 in 1994 in respect of his interest in the software. The 1994 deduction resulted in a $32,802 non-capital loss for that year, which the respondent carried forward to 1995. The respondent's returns for 1993, 1994 and 1995 were audited and reassessments were issued on February 27, 2001. The Minister concluded that the value of the software when acquired by the respondent and the other co-owners was $1,600,000 rather than $8,000,000 and that the software was not available for use until 1994. Those factual conclusions led the Minister to reassess on the basis that: the total capital cost allowance deductions available to the respondent could not exceed the software's fair market value ($100,000 or 6.25% of $1,600,000); the respondent could not claim capital cost allowance at all in 1993 because the software was not yet available for use; the respondent's capital cost allowance claim for 1994 could not exceed $50,000 because of the half-year rule in subsection 1100(2) of the Regulations; the respondent's capital cost allowance available for deduction in 1995 could not be allowed because the respondent did not request a capital cost allowance deduction for that year; and the respondent had no non-capital loss in 1994 that could be carried forward to 1995. The respondent objected to the reassessments and filed a notice of appeal with the Tax Court of Canada under paragraph 169(1)(b) of the Income Tax Act. In its reply, the Crown presented four defences of the reassessments: reasonableness; arm's length; contingent liability; and "no income earning purpose". The respondent filed a notice of motion seeking an order striking out the entire reply or parts of the reply relating to the arm's length defence, the contingent liability defence, and the "no income earning purpose" defence, on the basis that each of those defences sought to advance a new and different assessment from the assessment under appeal. The Judge allowed the respondent's motion in part, striking the "no income earning purpose" defence as well as the words "So-Called", "called a", "purported" and "alleged". The Crown appealed, and the respondent cross-appealed the portions of the judgment dismissing the motion to strike the arm's length and contingent liability defences.
Held, the appeal should be allowed; the cross-appeal should be dismissed.
The right of the Crown to present an alternative argument in support of an assessment is governed by subsection 152(9) of the Income Tax Act. Paragraphs 152(9)(a) and (b) are the only limits on the grounds on which the Crown may defend an assessment after the expiration of the normal assessment period. They speak to the prejudice to the taxpayer that may arise if the Crown is permitted to make new factual allegations many years after the event. In the case at hand, the Crown wished to argue that the taxpayer did not acquire his interest in the software for the purpose of producing income. It was not seeking to reduce the capital cost allowance to nil, but only to defend the Minister's reassessment, which reduced the deduction to reflect what the Minister alleged was the fair market value of the respondent's interest in the software, which is essentially what the Crown was permitted to do in Anchor Pointe Energy Ltd. v. Canada. The issue in both cases was whether the Crown was permitted to defend an assessment on the basis of an argument that was asserted for the first time after the expiry of the time limit for reassessments. Anchor Pointe was dispositive of the issues raised in this part of the Crown's appeal and the appeal was allowed on this point.Concerning the striking of the words "So-Called", "called a", "purported" and "alleged", the Judge could not strike those words from the reply without first giving notice to the Crown and giving the Crown an opportunity to make submissions as to why they should not be struck. Furthermore, contrary to the Tax Court Judge's finding, the words in question are not always ambiguous and duplicitous, and therefore not always improper in pleadings.
Concerning the respondent's cross-appeal, there was no authority for the proposition that the Crown could not defend an assessment on the basis of an argument that the taxpayer believed was resolved by the Minister in the taxpayer's favour before the assessment was made or confirmed.
statutes and regulations judicially
considered
Income Tax Act, R.S.C., 1985 (5th Supp.), c. 1, ss. 67, 69 (as am. by S.C. 1994, c. 7, Sch. II, s. 140; Sch. VIII, ss. 27, 47; c. 21, s. 32; 1998, c. 19, s. 107; 2001, c. 17, s. 51), 152(4) (as am. by S.C. 1998, c. 19, s. 181), (9) (as am. by S.C. 1999, c. 22, s. 63.1), 165(1) (as am. by S.C. 1994, c. 7, Sch. II, s. 138; 1996, c. 21, s. 45), 169(1)(b) (as am. by S.C. 1994, c. 7, Sch. II, s. 140).
| Income Tax Amendments Act, 1998, S.C. 1999, c. 22, s. 63.1. |
| Income Tax Regulations, C.R.C., c. 945, ss. 1100(2), 1102(1)(c). |
cases judicially considered
applied:
Anchor Pointe Energy Ltd. v. Canada, 2003 DTC 5512 (F.C.A.); affg Anchor Pointe Energy Ltd. v. Canada, 2002 DTC 2071 (T.C.C.).
considered:
Continental Bank of Canada v. Canada, [1998] 2 S.C.R. 358; (1998), 163 D.L.R. (4th) 430; [1998] 4 C.T.C. 77; 98 DTC 6501; 229 N.R. 44; affg Continental Bank of Canada v. Canada (1996), 96 DTC 6355; 199 N.R. 100 (F.C.A.); affg Continental Bank of Canada v. Canada, [1995] 1 C.T.C. 2135; (1994), 94 DTC 1858 (T.C.C.); Schultz v. Canada, [1996] 1 F.C. 423; [1996] 2 C.T.C. 127; (1995), 95 DTC 5657; 189 N.R. 284 (C.A.); leave to appeal to S.C.C. refused, [1996] S.C.C.A. No. 4 (QL); varg Schultz v. Canada, [1993] 2 C.T.C. 2409; (1993), 93 DTC 953 (T.C.C.); Global Communications Ltd. v. Canada, [1999] 3 C.T.C. 537; (1999), 99 DTC 5377; 243 N.R. 134 (F.C.A.).
referred to:
Pure Spring Co. Ltd. v. Minister of National Revenue, [1946] Ex. C.R. 471; [1947] 1 D.L.R. 501; [1946] C.T.C. 169; (1946), 2 D.T.C. 844; Johnston v. Minister of National Revenue, [1948] S.C.R. 486; [1948] 4 D.L.R. 321; [1948] C.T.C. 195; (1948), 3 DTC 1182; Minister of National Revenue v. Pillsbury Holdings Ltd., [1965] 1 Ex. C.R. 676; [1964] C.T.C. 294; (1964), 64 DTC 5184; Brewster, N C v. The Queen, [1976] CTC 107; (1976), 76 DTC 6046 (F.C.T.D.).
APPEAL and CROSS-APPEAL from an interlocutory judgment of the Tax Court of Canada ([2003] 4 C.T.C. 2143; 2003 DTC 686 (T.C.C.)) striking parts of the reply filed by the Crown in defending an income tax assessment. Appeal allowed; cross-appeal dismissed.
appearances:
J. Paul Malette and Jenna L. Clark for appellant.
A. Christina Tari and Marcela S. Aroca for respondent.
solicitors of record:
Deputy Attorney General of Canada for appellant.
Richler and Tari, Toronto, for respondent.
The following are the reasons for judgment rendered in English by
[1]Sharlow J.A.: This is an appeal of an interlocutory judgment of the Tax Court of Canada, Loewen v. Canada, [2003] 4 C.T.C. 2143 (T.C.C.), striking parts of the reply filed by the Crown in defending an income tax assessment. This is one of several recent cases that question the principles applicable to the Crown's pleadings in income tax appeals, following the decision of the Supreme Court of Canada in Continental Bank of Canada v. Canada, [1998] 2 S.C.R. 358, and the subsequent enactment of subsection 152(9) [as am. by S.C. 1999, c. 22, s. 63.1] of the Income Tax Act, R.S.C., 1985 (5th Supp.), c. 1.
[2]I propose to deal first with some general background issues relating to the relevant case law and the jurisprudence. I will then describe the facts of this case and deal with the issues raised by the parties.
Background
[3]The issues in an income tax appeal are defined by pleadings. An appeal of an income tax assessment is commenced when the taxpayer files a "notice of appeal" in the Tax Court of Canada. The notice of appeal must state the facts and arguments upon which the appellant relies to establish that the assessment is incorrect. The Crown has no right to appeal an income tax assessment.
[4]The Crown responds to the appeal on behalf of the Minister of National Revenue by filing a "reply". The reply states the Crown's position with respect to each factual allegation and argument in the notice of appeal, and also states the facts and arguments upon which the Crown relies to defend the correctness of the assessment. (The taxpayer may then file an "answer", but seldom does.)
[5]For each fact alleged in the notice of appeal, the reply says that the Crown admits the fact, denies it, or has no knowledge of it. The reply also states, usually in a single paragraph, the factual assumptions upon which the assessment under appeal is based.
[6]An assessment is the determination by the Minister of the amount of a person's tax liability: Pure Spring Co. Ltd. v. Minister of National Revenue, [1946] Ex. C.R. 471. A taxpayer's initial assessment for a taxation year typically takes into account what is reported by the taxpayer in an income tax return. An initial assessment may be appealed, but most appeals are from reassessments, in which the Minister assesses additional tax to reflect specific changes to the taxpayer's taxable income. The word "assessment" is used to refer to assessments and reassessments.
[7]The basis of any assessment is a matter of historical fact, and does not change. The basis of a reassessment normally includes the facts relating to the increased taxable income, as the Minister perceived those facts when the reassessment was made. It also includes the manner in which the Minister applied the facts to the relevant law when making the reassessment, and any conclusions of law that guided the application of the facts to the law. In many cases, the factual basis of an assessment is a particular transaction or series of transactions, but it could also include, for example, facts relating to the residence of the taxpayer or other parties, the personal or legal status of the taxpayer or other parties, or the nature of an activity or business carried on by a person.
[8]The Minister's factual assumptions, as stated in the Crown's pleadings, are taken as fact unless they are disproved or it is established that the Minister did not make the assumptions that are said to have been made. The taxpayer has the onus of proving that the Minister's assumptions are not true or that they were not made. It is also open to the taxpayer to attempt to establish by argument that, even if the assumed facts are true, they do not justify the assessment as a matter of law: Johnston v. Minister of National Revenue, [1948] S.C.R. 486; Minister of National Revenue v. Pillsbury Holdings Ltd., [1965] 1 Ex. C.R. 676.
[9]It is the obligation of the Crown to ensure that the assumptions paragraph is clear and accurate. For example, the Crown cannot say that the Minister assumed, when making the assessment, that a certain car was green and also that the same car was red, because it is impossible for the Minister to have made both of those assumptions at the same time: Brewster, N C v. The Queen, [1976] CTC 107 (F.C.T.D.).
[10]Nor is it open to the Crown to plead that the Minister made a certain assumption when making the assessment, if in fact that assumption was not made until later, for example, when the Minister confirmed the assessment following a notice of objection. The Crown may, however, plead that the Minister assumed, when confirming an assessment, something that was not assumed when the assessment was first made: Anchor Pointe Energy Ltd. v. Canada, 2003 DTC 5512 (F.C.A.).
[11]The constraints on the Minister that apply to the pleading of assumptions do not preclude the Crown from asserting, elsewhere in the reply, factual allegations and legal arguments that are not consistent with the basis of the assessment. If the Crown alleges a fact that is not among the facts assumed by the Minister, the onus of proof lies with the Crown. This is well explained in Schultz v. Canada, [1996] 1 F.C. 423 (C.A.) leave to appeal to S.C.C. refused, [1996] S.C.C.A. No. 4.
[12]In Schultz the Minister had assumed that two individuals acted as agents for each other, but in the Tax Court [[1993] 2 C.T.C. 2409], the Crown argued in the alternative that the two individuals were engaged in a joint venture or partnership. The Tax Court concluded that they were partners. In the Federal Court of Appeal it was argued, among other things, that the Crown was not permitted to defend the assessments on the basis that the individuals were partners because that was a change in the basis of the assessment. That argument was rejected, for reasons explained by Justice Stone, writing for the Court at pages 436-437:
The appellants contend that it was not open to the Minister to change the foundation on which his assessments rested, from the existence of an agency relationship to one of partnership. To do so, they argue, would in effect be to raise new assessments beyond the limitation period laid down in subsection 152(4) [as am. by S.C. 1984, c. 1, s. 84; idem, c. 45, s. 59] of the Act and thereby result in prejudice and injustice to them.
As I understand it, the Minister is not in all circumstances confined to his assumptions made at the time of an assessment. In the seminal case of Johnston v. Minister of National Revenue, [1948] S.C.R. 486, Rand J. stated, speaking for the majority, at page 489:
| . . . and since the taxation is on the basis of certain facts and certain provisions of law either those facts or the application of the law is challenged. Every such fact found or assumed by the assessor or the Minister must then be accepted as it was dealt with by these persons unless questioned by the appellant. If the taxpayer here intended to contest the fact that he supported his wife . . . he should have raised that issue in his pleading, and the burden would have rested on him as on any appellant to show that the conclusion below was not warranted. For that purpose he might bring evidence before the Court notwithstanding that it had not been placed before the assessor or the Minister, but the onus was his to demolish the basic fact on which the taxation rested. |
In the intervening years both the Exchequer Court and the Trial Division of this Court have had occasion to consider the place and importance of the Minister's assumptions in tax litigation: M.N.R. v. Pillsbury Holdings Ltd., [1964] C.T.C. 294 (Ex. Ct.); Brewster, N C v. The Queen, [1976] CTC 107 (F.C.T.D.); Tobias (D) v. The Queen, [1978] CTC 113 (F.C.T.D.); McLeod (C.) v. M.N.R., [1990] 1 C.T.C. 433 (F.C.T.D.).
I do not understand that the law as developed in these cases prevented the Minister from pleading the alternative defence before the Tax Court of Canada. It is true that in pleading he is subject to certain constraints. For example, he cannot plead an alternative assumption when to do so would fundamentally alter the basis on which his assessment was based as to render it an entirely new assessment. In my view, in the present cases the Minister has not so changed the basis of the assessments. What he did was merely to assert a different legal result flowing from the self-same set of facts by alleging that those facts show the existence of a joint venture or partnership if they do not show an agency relationship. Even if it could be said that the Minister has alleged new "facts" by adopting the alternative posture, the law as developed allowed him to do so but imposed upon him the onus of proving those facts: Pillsbury, supra, at page 302; Continental Bank Leasing Corp. v. Canada, [1993] 1 C.T.C. 2306 (T.C.C.), at pages 2310-2311. The same opinion is implicit in Wise (M.) et al. v. The Queen, [1986] 1 C.T.C. 169 (F.C.A.) where Pratte J.A. stated, at page 170:
| It is common ground that the Minister had, in this case, the burden of establishing the correctness of the assessments since he was trying to support them on grounds that were different from those on which they were based. |
In my view, therefore, the respondent was quite entitled to plead joint venture or partnership in the alternative and accordingly the Tax Court Judge did have jurisdiction to consider that issue. I am not persuaded that by relying on his alternative plea the Minister has in effect raised entirely new assessments and so prejudiced the appellants.
[13]There is another line of jurisprudence that establishes the principles upon which the Crown may be permitted to defend an assessment by relying on a legal argument that was not part of the basis of the assessment. Generally, such new legal arguments are permitted if they arise from the evidence presented in the Tax Court proceedings. The scope of the evidence presented in the Tax Court is itself limited by the pleadings. The result is that new legal arguments are permissible to the extent that they are consequential on the facts alleged in the pleadings, including the notice of appeal, the assumptions in the reply, and any additional facts alleged in the reply.
[14]Such was the state of the law of Crown pleadings in income tax appeals when the Supreme Court of Canada heard the Continental Bank appeal, supra. Continental Bank had a leasing subsidiary (Continental Bank Leasing) which owned certain leasing assets. Those assets were depreciable property in respect of which capital cost allowance had been deducted. If Continental Bank Leasing had simply sold the depreciable property, it would have been taxable on income resulting from recaptured capital cost allowance. To avoid that result, Continental Bank Leasing transferred the depreciable property in a tax deferred statutory rollover to a partnership of which it was a member. Continental Bank Leasing then transferred its partnership interest to Continental Bank in another tax deferred statutory rollover. The third party acquired the partnership interest from Continental Bank, resulting in a taxable capital gain to Continental Bank.
[15]The Minister assessed Continental Bank Leasing on the basis that there was no partnership, and that Continental Bank Leasing had disposed of the depreciable property directly to the third party. As a protective measure, the Minister also assessed Continental Bank on the alternative basis that it had realized income (not a capital gain) on the disposition of the partnership interest. It was apparently understood that the reassessment of Continental Bank would be vacated if the assessment of Continental Bank Leasing was found to be correct. Both assessments were appealed, and the cases were heard together in the Tax Court of Canada [[1995] 1 C.T.C. 2135], the Federal Court of Appeal [(1996), 96 DTC 6355], and the Supreme Court of Canada.
[16]By the time the case reached the Supreme Court of Canada, the principal debate was whether the partnership was valid as a matter of law. A majority of the Supreme Court of Canada found that the partnership was valid. The result, for Continental Bank Leasing, was that its appeal from the tax assessment was allowed. That meant that the correctness of the assessment of Continental Bank had to be considered (the issue being whether its gain on the disposition of the partnership interest was a capital gain or income). The Court found that Continental Bank had a capital gain.
[17]In the Supreme Court of Canada, the Crown presented for the first time a new theory of the entire series of transactions, which was that it was Continental Bank, not Continental Bank Leasing, that transferred the depreciable property to the third party. Justice McLachlin, as she then was, writing for the majority, dismissed this argument for reasons that appear at paragraphs 18 and 19 (recall that the majority had concluded that the partnership was valid):
The Minister cannot argue that the Bank could not transfer its partnership interest at this stage. The Minister must accept that this transfer took place because his assessment of the Bank was based on the assumption that the Bank disposed of its partnership interest. I agree with Bastarache J. that the Minister's argument that the Bank sold depreciable leasing assets or was otherwise liable for recapture of capital cost allowance pursuant to s. 88(1) of the Income Tax Act, R.S.C. 1952, c. 148, as amended, raised for the first time in this Court, cannot be entertained. The Minister should not be allowed to advance a new basis for a reassessment after the limitation period has expired.
On the basis that the Bank disposed of its interest in the partnership, the Bank properly reported the proceeds of the disposition of its partnership interest as a capital gain. I would therefore dismiss this second appeal with costs.
[18]Justice Bastarache wrote for the minority, which had concluded that the partnership was not valid. He explains at paragraphs 10 to 14 why he concluded that the Crown could not rely on its new theory:
The applicable limitation period under the Act for assessing a taxpayer is four years from the date of issuance of Revenue Canada's Notice of Reassessment (ss. 152(3.1) and 152(4) of the Act). As a result, the latest that the Minister could have reassessed the Bank for the recapture of cost allowance was October 12, 1993. The Crown is not permitted to advance a new basis for reassessment after the limitation period has expired. The proper approach was expressed in The Queen v. McLeod, 90 D.T.C. 6281 (F.C.T.D.), at p. 6286. In that case, the court rejected the Crown's motion for leave to amend its pleadings to include a new statutory basis for Revenue Canada's assessment. The court refused leave on the basis that the Crown's attempt to plead a new section of the Act was, in effect, an attempt to change the basis of the assessment appealed from, and "tantamount to allowing the Minister to appeal his own assessment, a notion which has specifically been rejected by the courts". Similarly, the Federal Court of Appeal has described such attempts by the Crown as "a belated attempt to put the appellant's case on a new footing" (British Columbia Telephone Co. v. Minister of National Revenue (1994), 167 N.R. 112, at p. 116).
It was open to the appellant to assess the respondent on the basis that it was liable for the recapture of cost allowance when it issued its Notice of Reassessment on October 12, 1989 or anytime prior to the expiration of the limitation period for reassessment. The appellant did not choose to do so and cannot now be permitted to change its assessment eleven years later. The appellant argued that the liability of the respondent for the assessment pursuant to s. 13(1) is an alternative reason for its previous assessment, not a new assessment or reassessment. According to the appellant, because the liability for recapture under s. 13(1) would arise solely as a consequence of a finding that Leasing, in the Leasing Appeal, was not the vendor of the assets in the sale to Central, a reassessment on this basis is merely a legal conclusion flowing from the proper application of the statute.
To accept this characterization by the appellant would, in effect, create a situation where the Crown is permitted to raise new arguments simply because other arguments failed in the courts below. Unlike the Minister in Minister of National Revenue v. Riendeau (1991), 132 N.R. 157 (F.C.A.), the Minister in the present case has never sought to amend, correct or reissue the reassessment of the Bank to include a claim for recapture under s. 88(1)(f) of the Act. Moreover, the appellant's characterization of the argument as an alternative one ignores the fact that Leasing and the Bank are two separate taxpayers. What the Minister is seeking to do is to substitute an assessment of one taxpayer for the assessment of another taxpayer because the first assessment did not succeed.
Taxpayers must know the basis upon which they are being assessed so that they may advance the proper evidence to challenge that assessment. Here, it is not clear that there is the proper factual basis to support a reassessment on the basis proposed by the appellant. For example, the value of the goodwill associated with the Bank's leasing business, which was transferred to Central in December 1986, could bear on the appellant's new claim for recapture by the Bank. It is not possible to measure the extent to which the Bank might otherwise be liable for recapture, or the Bank's income for tax purposes, without being able to properly allocate the purchase price paid by Central between goodwill and leasing assets. Because the Bank was not assessed on the recapture, the evidence relating to the allocation of the purchase price was not adduced at trial. To allow the appellant to proceed with its new assessment without the benefit of findings of fact made at trial would require this Court to become a court of first instance with regard to the new claim.
As I stated above, it was not necessary, because of the disposition of the Leasing Appeal, to deal with the issues raised in this case. I would dismiss the appeal with costs.
[19]The right of the Crown to present an alternative argument in support of an assessment is now governed by subsection 152(9) of the Income Tax Act, which applies to appeals disposed of after June 17, 1999: Income Tax Amendment Act, 1998, S.C. 1999, c. 22, subsection 63.1(2). Subsection 152(9) reads as follows:
152. . . .
(9) The Minister may advance an alternative argument in support of an assessment at any time after the normal reassessment period unless, on an appeal under this Act
(a) there is relevant evidence that the taxpayer is no longer able to adduce without the leave of the court; and
(b) it is not appropriate in the circumstances for the court to order that the evidence be adduced.
[20]The enactment of subsection 152(9) was a response to the decision of the Supreme Court of Canada in Continental Bank, supra. Parliament apparently was concerned that Continental Bank could be construed as imposing an unreasonable limit on the Crown in defending income tax assessments.
[21]As I read subsection 152(9), the expiration of the normal reassessment period does not preclude the Crown from defending an assessment on any ground, subject only to paragraphs 152(9)(a) and (b). Paragraphs 152(9)(a) and (b) speak to the prejudice to the taxpayer that may arise if the Crown is permitted to make new factual allegations many years after the event.
[22]A new argument asserted by the Crown pursuant to subsection 152(9) could include an argument that would justify an assessment that exceeds the amount assessed. However, subsection 152(9) does not relieve the Minister from subsection 152(4) [as am. by S.C. 1998, c. 19, s. 181], which imposes time limitations on reassessments. Therefore, the Minister cannot use a subsection 152(9) argument to reassess outside the time limitations in subsection 152(4), or to collect tax exceeding the amount in the assessment under appeal.
Facts
[23]In 1993, Mr. Loewen and others acquired certain software called "AIRS II" from a corporation called AIRS II Inc., which in turn had acquired the software from a corporation called Arachnae Management Limited. Mr. Loewen's interest in the software was an undivided 6.25% co-ownership interest.
[24]According to the documents that are said to contain the terms upon which Mr. Loewen and the other co-owners acquired the software, the purchase price was $8,000,000. It is common ground that, as of the end of 1994, Mr. Loewen had paid $150,000 on account of the purchase price of his interest. It is Mr. Loewen's position that, under the terms on which he acquired his interest in the software, the total purchase price of his interest was $500,000 (6.25% of $8,000,000), of which $350,000 remains payable pursuant to the terms set out in a promissory note. Mr. Loewen also takes the position that the software is Class 12 depreciable property.
[25]If Mr. Loewen is correct, he is entitled to claim deductions for capital cost allowance totalling $500,000 in 1993 and subsequent years, with the deduction for 1993 being limited to $250,000 because of the "half-year rule" in subsection 1100(2) of the Income Tax Regulations, C.R.C., c. 945.
[26]When Mr. Loewen filed his income tax returns for 1993 and 1994, he claimed capital cost allowance of $250,000 in 1993 and $250,000 in 1994 in respect of his interest in the software. The 1994 deduction resulted in a non-capital loss for that year in the amount of $32,802, which he carried forward to 1995. It is undisputed that the normal reassessment period for 1993 and 1994 expired on April 21, 2001.
[27]Mr. Loewen's returns for 1993, 1994 and 1995 were audited. The audit resulted in reassessments dated February 27, 2001. At that time, the Minister accepted that Mr. Loewen had acquired a 6.25% interest in the software and that the software was Class 12 depreciable property. However, the Minister concluded that the value of the software when acquired by Mr. Loewen and the other co-owners was $1,600,000 rather than $8,000,000 and that the software was not available for use until 1994.
[28]It appears that those factual conclusions led the Minister to reassess on the basis of the following reasoning:
(1) By virtue of section 67 of the Income Tax Act, which limits all deductions to what is "reasonable", the total capital cost allowance deductions available to Mr. Loewen in respect of his interest in the software cannot exceed its fair market value (6.25% of $1,600,000 or $100,000).
(2) Mr. Loewen is not entitled to claim capital cost allowance at all for 1993 because the software was not available for use in 1993. His capital cost allowance claim for 1993 should be reduced from the claimed amount, $250,000 to nil.
(3) The software was available for use in 1994. However, Mr. Loewen's capital cost allowance claim for 1994 cannot exceed $50,000 because of the half-year rule in subsection 1100(2) of the Regulations. His capital cost allowance claim for 1994 should be reduced from the claimed amount, $250,000 to $50,000.
(4) Although Mr. Loewen has $50,000 of capital cost allowance available for deduction in 1995, that deduction cannot be allowed because Mr. Loewen did not request a capital cost allowance deduction for that year.
(5) All of the foregoing adjustments would result in Mr. Loewen having no non-capital loss in 1994 that can be carried forward to 1995. The 1995 non-capital loss deduction Mr. Loewen claimed should be reduced to nil.
[29]I express no opinion on the correctness of the Minister's factual conclusions or his reasoning. For present purposes, it is enough to say that the Minister followed this reasoning in reassessing Mr. Loewen on February 27, 2001 for the years 1993, 1994 and 1995.
[30]Mr. Loewen objected to the reassessments under subsection 165(1) [as am. by S.C. 1994, c. 7, Sch. II, s. 138; 1996, c. 21, s. 45] of the Income Tax Act. When the Minister did not confirm the reassessments or reassess within 90 days, Mr. Loewen appealed the reassessments to the Tax Court of Canada under paragraph 169(1)(b) [as am. by S.C. 1994, c. 7, Sch. II, s. 140] of the Income Tax Act. Mr. Loewen's notice of appeal was filed on October 19, 2001, and the Crown's reply was filed on January 9, 2002.
[31]Broadly speaking, the Crown's reply presents four defences of the reassessments, three of which relate to the cost to Mr. Loewen of his interest in the software, as determined for income tax purposes. It is axiomatic that Mr. Loewen's total capital cost allowance deductions in respect of his interest in the software cannot exceed his cost. The Crown's fourth defence would result in Mr. Loewen having no right to claim capital cost allowance at all.
[32]The Crown's reply also presents arguments as to whether the first year in which Mr. Loewen can claim capital cost allowance is 1993 or 1994. Since this is simply a timing question and is not relevant for present purposes, I will ignore it in the discussion that follows.
[33]Reasonableness defence. One defence of the reassessments is "reasonableness". The reasonableness defence reflects the factual conclusions and reasoning of the Minister as it was on February 27, 2001, as summarized above. The factual allegations that support the reasonableness defence are stated in paragraph 15 of the reply as factual assumptions made by the Minister when reassessing (the assumptions paragraph). The reasonableness defence, if accepted, would lead to the conclusion that the cost to Mr. Loewen of his interest in the software cannot exceed its fair market value at the date of acquisition, which according to the Crown is $100,000. That would limit his total capital cost allowance deductions to $100,000.
[34]Arm's length defence. A second defence is the arm's length defence, which is based on the alternative factual allegation that Mr. Loewen did not deal at arms's length with AIRS II Inc. when he acquired his interest in the software. If that allegation is true, then by virtue of section 69 [as am. by S.C. 1994, c. 7, Sch. 11, s. 140; Sch. VIII, ss. 27, 47; c. 21, s. 32; 1998, c. 19, s. 107; 2001, c. 17, s. 51] of the Income Tax Act, the cost to Mr. Loewen of his interest, as determined for income tax purposes, cannot exceed its fair market value at the date of acquisition which, according to the Crown, is $100,000. The arm's length defence, if accepted, would lead to exactly the same conclusion as the reasonableness defence. To establish the arm's length defence, the Crown included in its reply a denial of the assertion in Mr. Loewen's notice of appeal that he dealt at arm's length with AIRS II Inc. (paragraph 2 of the reply), as well as a factual allegation that Mr. Loewen did not deal at arm's length with AIRS II Inc. (paragraph 16 of the reply, under the heading "Further Facts"), and a reference to section 69 of the Income Tax Act (paragraph 26 of the reply, under the heading "Statutory Provisions, Grounds Relied On, and Relief Sought").
[35]Contingent liability defence. A third defence of the reassessments is the "contingent liability defence". This appears to involve a conclusion on a question of mixed fact and law, which is that Mr. Loewen has only a contingent liability to pay the unpaid portion of the claimed purchase price of his interest in the software. Mr. Loewen claims that the purchase price is $500,000 and it is common ground that Mr. Loewen has paid $150,000. The contingent liability defence, if accepted, would lead to the conclusion that Mr. Loewen's cost, and thus his total capital cost allowance deductions, cannot exceed $150,000. To establish the contingent liability defence, the Crown included in its reply certain factual allegations that are intended to convey the notion that a document entitled "promissory note", which appears to be evidence of a debt payable by Mr. Loewen for the unpaid portion of the purchase price, is not what it appears to be (paragraph 22 of the reply).
[36]"No income earning purpose" defence. A fourth defence is that Mr. Loewen did not acquire his interest in the software for the purpose of earning income, and that there was no business or other source of income that could support the deduction of capital cost allowance in respect of the software. This defence, if accepted, would lead to the conclusion that Mr. Loewen is entitled to no capital cost allowance at all. To establish this defence, the Crown included in its reply statements in paragraphs 20, 21, 25a, 27 and 28 to the effect that there was no business or source of income, and a reference in paragraph 26 of the reply to paragraph 1102(1)(c) of the Regulations.
[37]On January 13, 2003, Mr. Loewen filed a notice of motion seeking an order striking out the entire reply "as a pleading that is scandalous, frivolous or vexatious, or is an abuse of the process of the Court, and allowing the appeal and vacating the assessments." As an alternative, the motion sought an order striking the entire reply and denying leave to file a fresh or amended reply. In the further alternative, Mr. Loewen's motion sought an order striking out everything in the reply relating to the arm's length defence, the contingent liability defence, and the "no income earning purpose" defence, on the basis that each of those defences seeks to advance a new and different assessment from the assessment under appeal.
[38]By order dated March 14, 2003, the Judge allowed Mr. Loewen's motion in part. He declined to strike the arm's length defence or the contingent liability defence, but he struck the "no income earning purpose" defence. In addition, the Judge struck the words "So-Called", "called a", "purported" and "alleged" wherever they appeared in the reply.
[39]The Judge also awarded Mr. Loewen lump sum costs in the amount of $2,000 which he said [at paragraph 115] "should adequately reflect the complexity and difficulty of the matter and the degree of success achieved by the appellant."
[40]The Crown has appealed, and seeks to have the order of the Judge set aside and Mr. Loewen's motions dismissed in their entirety. Mr. Loewen has cross-appealed the portions of the judgment dismissing the motion to strike the arm's length and contingent liability defences.
Crown's appeal of the order striking the "no income earning purpose" defence
[41]This ground of appeal relates to paragraphs 20, 21, 25a, 27 and 28 of the reply, as well as the reference to paragraph 1102(1)(c) of the Regulations in paragraph 26 of the reply.
[42]According to the assumptions paragraph in the reply, the Minister concluded at the time of the assessment that Mr. Loewen acquired the software for the purpose of gaining or producing income. The Minister must have made that assumption because, if he had not done so, he would have disallowed the entire capital cost allowance claim. Therefore, the "no income earning purpose" defence is not consistent with the basis of the assessment.
[43]The Judge held that these paragraphs in the Crown's reply are an attempt to assert an alternative assessment after the expiry of the limitation period and for that reason must be struck. The Crown argues that the Judge erred in his characterization of these paragraphs. The Crown says that paragraphs 20 and 21 are allegations of facts that were not assumed by the Minister (which means only that the Crown has the onus of proving those facts), and that paragraphs 25a, 27 and 28 raise alternative arguments in support of the assessment, which is permitted by subsection 152(9) of the Income Tax Act. The record contains no basis for concluding that the exceptions in paragraphs 152(9)(a) or (b) apply. The Crown relies primarily on the decision of this Court in Anchor Pointe, supra, which was issued after the decision of the Judge in this case. It is argued for Mr. Loewen that Anchor Pointe is distinguishable and that, for numerous other reasons, the Judge was correct to strike the "no income earning purpose" defence.
[44]The issue in Anchor Pointe was the deductibility of the cost of certain seismic data. Anchor Pointe had been reassessed to reduce the seismic data deduction to the amount that the Minister assumed was the fair market value of the data. When reassessing Anchor Pointe, the Minister did not question whether the deduction met the applicable statutory purpose test. While the Anchor Pointe reassessment was at the objection stage, this Court rendered its decision in Global Communications Ltd. v. Canada, [1999] 3 C.T.C. 537 (F.C.A.). In that case, the Court interpreted the statutory purpose test applicable to deductions that were similar to those claimed by Anchor Pointe. The test was not met in Global Communications, with the result that no deduction was permissible.
[45]When the decision in Global Communications was released, it was too late for the Minister to reassess Anchor Pointe to disallow the entire deduction on the basis of Global Communications. However, the Minister relied on Global Communications to confirm the Anchor Pointe reassessment, and when Anchor Pointe appealed to the Tax Court, the Crown defended the reassessment on the basis of Global Communications. Anchor Pointe brought a motion in the Tax Court to strike the Global Communications argument from the pleadings because it was first asserted after the normal reassessment period had expired. That motion was dismissed in the Tax Court [2002 DTC 2071], and this Court upheld that decision.
[46]In Mr. Loewen's case, the Crown wishes to argue that Mr. Loewen did not acquire his interest in the software for the purpose of gaining or producing income. If that argument is valid, Mr. Loewen should not have been permitted to deduct any capital cost allowance. Because the statutory limitation period has passed, the Minister cannot now reassess to increase Mr. Loewen's tax liability by reducing his capital cost allowance deduction. However, the Crown is not seeking to reduce the capital cost allowance deduction to nil, but only to defend the Minister's reassessment, which reduced the deduction to reflect what the Minister alleges is the fair market value of Mr. Loewen's interest in the software. That is essentially what the Crown was permitted to do in Anchor Pointe.
[47]It is argued for Mr. Loewen that Anchor Pointe is not relevant to the issues in this case because in Anchor Pointe the Crown's new argument emerged at the conclusion of the objection stage, while in this case the Crown presented its new argument for the first time at the pleading stage. I see no relevant distinction. The issue in both cases is whether the Crown is permitted to defend an assessment on the basis of an argument that is asserted for the first time after the expiry of the time limit for reassessments.
[48]In my view, Anchor Pointe is dispositive of the issues raised in this part of the Crown's appeal. Therefore, it is not necessary for me to deal with the other arguments presented for Mr. Loewen on this issue. I conclude that the Judge erred in striking these provisions from the reply, and that the Crown's appeal should be allowed on this point.
Crown's appeal of the order striking the words "So-Called", "called a", "purported" and "alleged"
[49]The Judge also ordered that the words "So-Called", "called a", "purported" and "alleged" be struck wherever they appeared in the reply, on the basis that they rendered the reply ambiguous or duplicitous. It is common ground that counsel for Mr. Loewen had not submitted this ground as a reason for striking those words, and that counsel for the Crown had no notice, until receiving the reasons for judgment, that the Judge was considering striking those words for the reasons he gave. In my view, the Judge erred in striking those words from the reply without first giving notice to the Crown and giving the Crown an opportunity to make submissions as to why they should not be struck. That is a sufficient reason to allow that portion of the Crown's appeal. However, it seems appropriate to comment on the reasons given by the Judge.
[50]The Judge concluded that the words in question are always ambiguous and duplicitous, and therefore are always improper in pleadings. I am unable to agree with him on that point. There are occasions where it is appropriate to use such words in pleadings. For example, if the facts relating to an income tax appeal involve allegations by the taxpayer that a certain debt exists and that its terms are set out in a document called a "promissory note", the Crown cannot be compelled to admit those allegations. If the Crown does not wish to admit that the document is a promissory note, that there is a debt, or that the terms of the debt are set out in the document, then it is appropriate for the Crown's reply to refer to the document as a "purported promissory note", and to refer to the alleged debt as an "alleged debt".
[51]On the other hand, there are occasions where the use of such words is not appropriate. For example, if in this case one of the factual assumptions made by the Minister when assessing had been that there was a debt with certain terms, then it would be incorrect to say, in the assumptions paragraph, that the "Minister assumed that there was a purported debt that was alleged to have the following terms". In that case, the use of "purported" and "alleged" results in an improper pleading, because the Minister had in fact assumed that there was a debt with the stated terms.
[52]Even in the assumptions paragraph, however, there may be occasions where the use of those words is appropriate. In the present case, for example, the Minister may not have made any assumptions, at the time of assessing, as to whether Mr. Loewen was indebted to the vendor of the software in the amount of $350,000. That is because the Minister decided to assess Mr. Loewen on a basis that made the existence of the debt irrelevant. In such a case, the assumptions paragraph might properly refer to the "alleged debt" if the Crown does not wish to admit that there is a debt.
Cross-appeal by Mr. Loewen against the refusal to strike the arm's length defence and the contingent liability defence
[53]It is argued for Mr. Loewen that the Judge erred in refusing to strike the arm's length defence and the contingent liability defence because they are based on factual allegations that the Minister had considered and rejected before assessing, and thus are in substance attempts to avoid the statutory limitation period for reassessments.
[54]This argument is based in part on the premise that taxpayers who have a long history of dealing with tax officials through the audit and objection stages should be entitled to some assurance that issues upon which the taxpayer has apparently prevailed prior to assessment cannot be raised if the assessment is appealed. That premise is said to be justified because taxpayers may expend significant resources, in time and money, dealing with numerous issues raised in the course of an audit or an objection, and it is unfair that they must duplicate that effort to prepare for an income tax appeal in the Tax Court.
[55]The premise underlying Mr. Loewen's argument on this issue is not well founded. There is no authority for the proposition that the Crown cannot defend an assessment on the basis of an argument that the taxpayer believes was resolved by the Minister in the taxpayer's favour before the assessment was made or confirmed.
[56]In any event, Mr. Loewen alleged in his notice of appeal that he dealt at arm's length with the vendor of the software, and that he has a legal obligation to pay the unpaid portion of the purchase price, which must mean that he considers his obligation not to be a contingent one. I see nothing unfair about permitting the Crown to debate both of those issues in the Tax Court.
Conclusion
[57]For these reasons, I would allow the Crown's appeal, dismiss Mr. Loewen's cross-appeal, set aside the order of the Tax Court dated March 14, 2003, and replace it with an order dismissing Mr. Loewen's motion to strike parts of the reply.
[58]At the conclusion of argument, it was agreed that the parties would be given time to make written submissions on costs. The issuance of a formal judgment in this appeal will be deferred until those submissions are received and considered. The Crown as the successful party is to serve and file a submission on costs within 10 days of the date of these reasons. Mr. Loewen is to serve and file a submission on costs within 10 days of being served with the Crown's submission. Neither submission is to exceed five pages, double spaced.
Sexton J.A.: I agree.
Evans J.A.: I agree.