Gunnar Mining Limited v. Minister of National Revenue

J.:-This is an appeal from the judgment of the Exchequer Court' delivered on September 30, 1965, which dismissed the appeal from the decision of the Tax Appeal Board delivered on September 24, 1963. By that decision the Tax Appeal Board had confirmed the assessment of the Minister as to the 1958, 1959 and 1960 income tax payable by the appellant.

The Minister in his assessment had added to the taxable income of the appellant income from short term investments received in each of the said years. The following were the circumstances.

The appellant, or perhaps one might more correctly say the appellant's predecessor Gunnar Mines Limited, was developing a very large uranium ore open pit mine at Beaver Lodge in the Lake Athabasca area of Saskatchewan. The ore had been sold to Eldorado Mining & Refining Limited under a contract providing for total payments of nearly $77,000,000. Gunnar Mines Limited determined to borrow on debenture a capital sum of $19,500,000 and for such purposes issued 5 per cent debentures in that sum. The Canada Permanent Trust Company was the trustee for the debenture holders and as such received the net proceeds of the sale of the debentures in the sum of $18,- 700,000. The said proceeds were held by the said trust company and paid out to Gunnar Mines Limited from time to time upon the latter's certificates as to the payment of the costs of construction of the proposed mine. Those parts of the proceeds of the debentures issued which were not immediately required by Gunnar Mines Limited for the purpose of expenditure upon the construction of the mine were kept invested by the trustee in short term securities and the income therefrom in the amount of $104,000 was used by Gunnar for construction purposes. That item of $104,000 was charged againt the per cent interest payable on the outstanding debentures. In making its 1954 and 1955 income tax returns, Gunnar divided the sum of $104,- 000 between these two taxation years and deducted the J. two amounts from the interest paid on the 5 per cent sinking fund debenture. That process was permitted by the Minister in the two years mentioned.

The mine was completed in October 1955 and all the proceeds of the debentures were paid out by the trustee to Gunnar on or before that time. The income tax authorities agreed to consider the period between October 1955 and February 28, 1956, as a run-in period and to take the following day, i.e., March 1, 1956, as the first day upon which production of the mine commenced. This was for the purpose of applying the 36-month taxation exemption under s. 83(5) of the Income Tax Act to which reference shall be made hereafter.

Production of uranium from the mine was so successful that the taxpayer was able to accumulate profits therefrom at such a rate that they exceeded the requirements for the payment of interest on the debentures and also the requirements for repayment in instalments of the said debentures. Under the trust deed, those debentures were to be redeemed as follows:

..............................

..............................

..............................

..............................

..............................

The company, therefore, had to determine its course. It could use these funds to redeem the sinking fund debentures prior to their due date or the company could go out into the market and purchase for cancellation the said sinking fund debentures or it could invest its profits in such short term securities as would permit it to redeem the sinking fund debentures in accordance with the terms of the trust deed. Had the company called the sinking fund debentures for redemption prior to their due date it would oD.

have been required to pay a premium. It was informed by its financial advisers that if it sought to go into the market to purchase the said sinking fund debentures for cancellation the market would immediately react so that the price would increase to equal the premium for redemption prior to the due date and the company therefore determined to invest its profits in short term securities.

In the three years under consideration, i.e., 1958, 1959 and 1960, this resulted in the taxpayer receiving an income from the said short term securities as follows:

.............................

.............................

During the same years, the liability for interest upon the 5 per cent sinking fund debentures of the taxpayer was in these amounts:

.............................

.............................

.............................

The 36-month exemption period allowed by s. 83(5) to which I have referred above having commenced on March 1, 1956, ended on that day in 1959, and therefore the 1959 figures must be divided so that the first two months showed an income from short term investments of $68,922.28 and the remaining ten months in the next exemption period showed an income from such short term investments of $343,930.57, while the interest payable on the 5 per cent sinking fund debentures in the first two months was $60,152 and in the remaining ten months, i.e., the nonexempt period, was $175,940. That the financial advisers' opinion was a sound one is demonstrated by the fact that during those three years the interest payable on the 5 per cent sinking fund debentures totalled $836,572.90 while the income received on the short term investments made by the company out of its profits in the same three years totalled $1,148,814.20, a credit of $312,241.30.

Mr. Richard M. Parkinson, a chartered accountant, described before Gibson J. in the Exchequer Court the GUNNAR MINING method used by the company in its accounting. His evidence is summarized by the learned Exchequer Court Judge as follows:

The evidence of Mr. Parkinson in brief was that it was proper from a commercial and business point of view for the Appellant, or indeed for any Spence J. business, to differentiate in its statement of income and expenditures between what he refers to as "operating items" and "non-operating items". The figure obtained by considering only operating items, this witness said, results in arriving at a figure of "operating income". This is done by first obtaining the figure of gross sales less returns, allowances, etc., and subtracting from that sum the cost of sales to arrive at a figure for gross profit. From this figure is then deducted selling expenses and general and administrative expenses from which the figure of operating income is obtained.

Then this witness said it is proper to consider the non-operating items in the business.

These non-operating items the witness said are categorized as "other income", and include interest and dividends and miscellaneous items on the receipt side and also on the disbursement side; and from which there is computed the figure of income before federal and other taxes. Then the witness said that it is proper to make a computation of federal and other taxes and subtract the figure so found from the figure of income above referred to, in order to obtain the figure of "net income" of the business for the fiscal year.

The learned Exchequer Court Judge in his reasons said: I accept Mr. Parkinson's evidence in so far as it describes a method currently recommended as good practice and employed by many accountants in determining the profit or loss of a company from its business operations including miscellaneous revenues of investments of surplus cash. His method no doubt is not only good accounting practice, but is also acceptable as a method of determining the company's income for the purpose of the Income Tax Act for a fiscal year (when the company is taxable on its income from all sources) in that it is not contrary to any particular statutory direction.

In the matter under appeal, however, what is being considered is not income for the year from all sources but income from a source other than the company's mining business, namely, the income from its short term investments.

(The underlining is my own).

I am in agreement with that comment.

Section 83(5) of the Income Tax Act provides:

83. (5) Subject to prescribed conditions, there shall not be included in computing the income of a corporation income derived from the operation of a mine during the period of 36 months commencing with the day on which the mine came into production.

'231 Section 11(1) (c) of the said Income Tax Act provides: (1) Notwithstanding paragraphs (a), (b) and (h) of subsection (1) TD.

of section 12, the following amounts may be deducted in computing the income of a taxpayer for a taxation year:

(C) an amount paid in the year or payable in respect of the year (depending upon the method regularly followed by the taxpayer in Spence J.

computing his income), pursuant to a legal obligation to pay inter- (i) borrowed money used for the purpose of earning income from a business or property (other than borrowed money used to acquire property the income from which would be exempt), (ii) an amount payable for property acquired for the purpose of gaining or producing income therefrom or for the purpose of gaining or producing income from a business (other than property the income from which would be exempt), or (iii) an amount paid to the taxpayer under ...

The appellant, therefore, was entitled under s. 11 of the Income Tax Act to deduct from its income the interest which it would be required by law to pay on the 5 per cent sinking fund debentures. That amount in the year 1958 was $485,878, in the year 1959 was $236,092, and in the year 1960 was $114,603.

The appellant did not deduct those amounts from its taxable income but in each year a smaller amount which resulted from crediting against that interest payable the income received from its short term investments. In fact in 1959 and 1960 that income far exceeded the interest payable. The result in the tax exempt period which covers the whole of the year 1958 and the first two months of 1959 was that those amounts of income from short term investments were thrown into the income from the operation of the mine and therefore claimed as exempt under s. 83(5) of the Income Tax Act. What is exempt under the latter section is "income derived from the operation of a mine". The income from the short term investments was not income derived from the operation of the mine but was income derived from the investment of the profits of the mine. This income from the short term investments cannot be regarded as incidental income in the operation of the mine any more than any other income gained from use of the profits of the mine could be so considered.

R.O.S.

As the learned member of the Tax Appeal Board noted in his reasons:

Counsel of the appellant stressed the circumstance that in the tax exempt period the corporation also showed as s incidental income rental which it received from the letting of certain houses at the mine property and argued that the income from the short term securities was just another form of income incidental to the mining operation. I do not think that the argument can be accepted. Those houses were built by the company so that its workers at the mine might reside therein. Certainly their construction and letting, and the receipt of rental therefrom, was incidental to the operation of the mine. To put it perhaps colloquially, during the tax exempt period the appellant was operating two businesses-firstly, a mining business, and secondly, an investment business, and the fact that its purpose in operating the second business was so that it might accumulate funds in a readily realizable form with which it could pay off the 5 per cent sinking fund debentures if they became due makes it nonetheless the operation of a second business.

In my view, this is sufficient to dispose of the appellant's appeal in reference to the tax exempt period ending on February 28, 1959.

The appellant's appeal as to the non-exempt period being the last ten months of the year 1959 and the last eleven months of the year 1960 (the fiscal year having been altered to end on November 30) deals with the Minister's refusal to allow the quantum of the depletion allowance claimed by the appellant as authorized by regulation 1201(2) made under the Income Tax Act. The said regulation provides: