Federal Court of Appeal Decisions

     A-412-96

CORAM:      THE CHIEF JUSTICE

         PRATTE J.A.

         STONE J.A.

B E T W E E N :

HER MAJESTY THE QUEEN

     Appellant

     - and -

ROBERT B. FURUKAWA

     Respondent

Heard at Calgary, Alberta, Monday, January 20, 1997.

Judgment delivered from the bench at Calgary, Alberta, Monday, January 20, 1997.

REASONS FOR JUDGMENT BY:      STONE J.A.

     A-412-96

CORAM:      THE CHIEF JUSTICE

         PRATTE J.A.

         STONE J.A.

B E T W E E N :

HER MAJESTY THE QUEEN

     Appellant

     - and -

ROBERT B. FURUKAWA

     Respondent

     REASONS FOR JUDGMENT OF THE COURT

     (Delivered from the Bench at Calgary,

     Alberta, Monday, January 20, 1997)

STONE J.A.

         This is an appeal from a judgment of the Tax Court of Canada

by which it was determined that shares of Lumberton Mines Limited issued to the respondent were "flow-through shares" within the meaning of paragraph 66(15)(d.1)¹ of the Income Tax Act (the "Act"), and that they were not "prescribed shares" under subparagraph 6202.1(2)(b)(i)² of the Income Tax Regulations (the "Regulations"). The effect of the judgment was to allow the respondent, in computing his income for the taxation year 1992, to deduct the amount of $7,500 as Canadian exploration expenses that had been renounced by the corporation.

         The learned Tax Court Judge did not in his written reasons take up the appellant's contention that the shares in question were not "flow-through shares" because they were "prescribed shares" under subparagraphs 6202.1(1)(b)(iii) or (iv)³ of the Regulations. It is clear from the transcript of the proceedings that he confined the submissions of the parties to the applicability of subparagraph 6202.1(2)(b)(i) because, in his view, at the examination for discovery of the appellant's witness the respondent had succeeded in narrowing the issue for trial to that of whether the shares were "prescribed shares" under that subparagraph. The issue in this appeal is whether the Tax Court Judge erred in so ruling.

         In paragraph 10 of her Reply to the Notice of Appeal, filed June 9, 1995,, the appellant expressly pleaded that she was relying upon a number of provisions of the Act and the Regulations including "Regulation 6202.1", and in paragraph 11 she pleaded:

11. It is submitted that the Lumberton Shares are prescribed shares as defined in Regulation 6202.1 of the Act. Accordingly, the Lumberton Shares were not flow-through shares pursuant to paragraph 66(15)(d.1) of the Act and that the Appellant is not entitled to a deduction for Canadian Exploration Expense pursuant to subsection 66.1(3) of the Act for the 1992 Taxation Year.

         Upon examination of the appellant's witness for discovery, three letters written by the witness to the respondent became the focus of counsel's questions.⁴ At pages 57-58 of the Appeal Book the following exchange appears:

And you explained to us, in the letters, that these are considered proscribed [sic] shares because of the attachments to the shares, as detailed in the 1991 share offering. You lay out the four conditions, you tell me the sections of the Act, you tell me, and then you tell me that these benefits were conferred at no cost, and that is the basis of your assessment, here, or your assumptions, here, that these were not flowthrough shares.

A. Correct, yes.

Q. Okay, and to the best of your knowledge, that hasn't change? [sic]

A. Yes, that is --

Q. -- that is still the Minister's position.

A. That is correct, Yes.

This was followed a little later by a further exchange, at page 59 of the Appeal Book:

"Now, sir, you didn't -- the information that is contained in this letter, was all gathered from the information that was provided to you by Mr. Hoi, correct?

A. That is correct.

Q. And you are aware that the position that was formulated by Mr. Hoi was done through discussion with people at head office, correct?

A. Yes.

Q. And Mr. Hoi, then, advised you, this is the legal argument on, the basis of which, you are re-assessing. And you looked at the secitions [sic] of the Act, that he cited to you, and you said to Mr. Furukawa, `Here is a section of the Act, Mr. Furukawa, and here are the facts, and this is the basis of the reassessment', correct?

A. Yes, yeah.

Q. To the best of your knowledge, none of that has changed.

A. That is correct, Yes."

         In Johnston v. Minister of National Revenue, [1948] S.C.R. 486, at pages 489-490, Rand J. explained the function of the pleadings in income tax litigation, when he stated for the majority:

The allegations necessary to the appeal depend upon the construction of the statute and its application to the facts and the pleadings are to facilitate the determination of the issues. It must, of course, be assumed that the Crown, as is its duty, has fully disclosed to the taxpayer the precise findings of facts and rulings of law which have given rise to the controversy.

         While it is not disputed that one of the purposes of an examination for discovery is to narrow the issues as pleaded,⁵ we are not satisfied that the respondent succeeded in doing so in the case at bar. The questions and answers revolved around the significance of certain statements made in the correspondence, and were at best ambiguous The questions put to the witness referred in a general way to a "section" or "sections" "of the Act", rather than to the provisions of the Regulations that had been specifically pleaded. If the intention of the respondent was of seeking to cut down the scope of the pleading, in our view it was incumbent upon that party to draw from the appellant's witness such concession as clearly had that effect. That objective could no doubt have been accomplished in a variety of ways, but the method chosen must have had the clear effect of narrowing the issues as defined by the pleadings. In our view, the questions put to the appellant's witness at the examination for discovery and the answers elicited thereby did not have that effect. The Tax Court Judge erred in ruling that they did.

         The appeal will be allowed, the judgment of the Tax Court of Canada of April 17, 1996 set aside and the matter referred back to the Tax Court Judge for a continuation of the trial on the basis that he hears and determines the issue of whether the shares in question are "prescribed shares" under subsection 6201.2(1) of the Regulations. This disposition will enable the respondent, at his election, to adduce any additional evidence in supplementation of the facts agreed to prior to the trial. The respondent shall have his costs of this appeal.

     "A.J. STONE"

     J.A.

                         FEDERAL COURT OF CANADA

                         Court No. A-412-96

                     BETWEEN:

HER MAJESTY THE QUEEN

- AND -

ROBERT B. FURUKAWA

             ________________________________________

                     REASONS FOR JUDGMENT

     ________________________________________

__________________

¹      Paragraph 66(15)(d.1) reads:
         (d.1) "flow-through share" means a share (other than a prescribed share) of the capital stock of a principal-business corporation that is issued to a person pursuant to an agreement in writing entered into between the person and the corporation after February 1986, under which the corporation agrees for consideration that does not include property to be exchanged or transferred by the person under the agreement in circumstances in which section 51, 85, 85.1, 86 or 87 applies              (i) to incur, during the period commencing on the day the agreement was entered into and ending 24 months after the end of the month that includes that day, Canadian exploration expenses, Canadian development expenses or Canadian oil and gas property expenses in an amount not less than the consideration for which the share is to be issued, and              (ii) to renounce, within that period or within 30 days thereafter, in prescribed form to the person in respect of the share, an amount in respect of the Canadian exploration expenses, Canadian development expenses or Canadian oil and gas property expenses so incurred by it not exceeding the consideration received by the corporation for the share,          and includes a right of a person to have such a share issued to him and any interest acquired in such a share by a person pursuant to such an agreement.

²      Subparagraph 6202.1(2)(b)(i) reads:
         (2) For the purposes of paragraph 66(15)(d.1) of the Act, a new share of the capital stock of a corporation is a prescribed share if              ...              (b) the corporation or a specified person in relation to the corporation, directly or indirectly,                  (i) provided assistance,                  ...              for the purpose of assisting any person or partnership in acquiring the share or any person or partnership in acquiring an interest in a partnership acquiring the share (otherwise than by reason of an excluded obligation in relation to the share);

³      Subparagraphs 6202.1(1)(b)(iii) and (iv) read:
         6202.1(1) For the purposes of paragraph 66(15)(d.1) of the Act, a new share of the capital stock of a corporation is a prescribed share if, at the time it is issued          ...          (b) any person or partnership has, either absolutely or contingently, an obligation (other than an excluded obligation in relation to the share)              ...              (iii) to transfer property; or              (iv) otherwise to confer a benefit by any means whatever, including the payment of a dividend,          either immediately or in the future, that may reasonably be considered to be, directly or indirectly, a repayment or return by the corporation or a specified person in relation to the corporation of all or part of the consideration for which the share was issued or for which a partnership interest was issued in a partnership that acquires the share;

⁴      In a letter of December 7, 1993, the witness wrote:
         As a result of an audit of the Lumberton Mines Limited Flow-Through Shares (FTS) Agreement; Identification Number 21868-5, it was noted that the shares issued under this agreement were "prescribed" shares pursuant to Subparagraph 6202.1(12)(b)(iii) and (iv) of the Income Tax Regulations. Subsection 66(15)(d.1) of the Income Tax Act precludes a prescribed share from being a Flow-Through Share.
     In a further letter of January 26, 1994, the witness stated:
         The Department has reviewed and considered Lumberton's submission and has advised us that there is to be no change to our December 1993 proposal.
         The issue involved here, is whether the shares in question are flow-through shares. It has been determined that these particular shares are "prescribed" shares pursuant to subparagraph 6202.1(2)(b)(iii) and (iv) of the Income Tax Regulations. Subsection 66(15)(d.1) of the Income Tax Act precludes a "prescribed" share from being a "flow-through share".
         The shares are considered prescribed shares because of the attachments to the shares, as detailed in the 1991 Share Offering, and are as follows:
             1) One lifetime playing privilege at Palmer Bar Golf Course, when operational.              2) 5000 common voting shares of Provident Ventures Corporation.              3) Option to purchase one-quarter acre building lot at Palmer Bar Golf Course, when operational.              4) 0.7% interest in Grassy Pipeline.
         The above benefits were conferred, at no cost, to the purchaser of one unit under the 1991 share offering.
     In a third letter of February 28, 1994, the witness wrote:
         Subsequent to our letter of January 26, 1994, Lumberton Mines Ltd. made additional written representations concerning our proposed adjustments. However, there has been no change to our position that the shares in question are prescribed shares, thereby invalidating the renouncement of Canadian Exploration Expenses to the investors.
         The proposed adjustments as outlined in our letter of December 7, 1993 (copy enclosed) are therefore forwarded for processing and your Notices of Reassessment will follow soon.

⁵      See e.g. G.D. Watson, Q.C., Holmested and Watson Ontario Civil Procedure , Vol. 3 (Supp.) (Carswell: Toronto, 1991), at page 31-17.