Ontario Hydro v. Minister of Revenue

Ontario Hydro v. Minister of Revenue Collection Decisions of the Court of Appeal Date 1999-05-19 Docket numbers C24016 Judges Morden, John Wilson; Laskin, John Ivan; Rosenberg, Marc Subject Civil Decision Content DATE: 19990519 DOCKET: C24016 COURT OF APPEAL FOR ONTARIO MORDEN, LASKIN AND ROSENBERG JJ.A. BETWEEN: ) ) Eric Finn ONTARIO HYDRO ) for the appellant ) (Appellant) ) ) and ) Walter Myrka and ) Chia-yi Chua MINISTER OF REVENUE ) for the respondent ) (Respondent) ) ) Heard: April 14, 1999 On appeal from the judgment of Borins J., dated February 2, 1996. LASKIN J.A.: [1] In the early 1980s some of the tubing in Ontario Hydro’s nuclear reactor at Pickering needed to be replaced. Hydro retained Atomic Energy of Canada Ltd. (“A.E.C.L.”) to design the replacement tubes and the tools to install them, and to inspect the tubes and tools once they had been manufactured by various suppliers. Hydro paid retail sales tax on the amounts it paid the suppliers. However, the Minister of Revenue assessed Hydro for A.E.C.L.’s design engineering charges, which he included as part of the fair value of Hydro’s acquisition of the tubes and tools. Hydro objected to this assessment, and when the assessment was confirmed, appealed to the General Division. Borins J. dismissed Hydro’s appeal, concluding it had not established that the Minister’s determination was unreasonable. Hydro appeals to this court. The issue on the appeal is whether A.E.C.L. design engineering charges were reasonably attributable to the fair value of the tubes and tools purchased by Hydro. The Facts [2] Ontario Hydro owns and operates a nuclear generating station at Pickering, Ontario. The station consists of eight generating units. Each unit uses a CANDU nuclear reactor designed by A.E.C.L. A CANDU reactor contains a number of fuel channels and each channel contains a number of tubes. In the early 1980s Hydro decided that the tubes had to be replaced. It retained A.E.C.L. to advise it on this retubing project. A.E.C.L. advised Hydro that new tubes of a different design were required and that new tools were needed to carry out the project. Hydro then retained A.E.C.L. to design the replacement tubes and accompanying tools and to procure these items from manufacturers. [3] In August 1981 Hydro and A.E.C.L. entered into a written agreement for the design of the replacement tubes and tools and for the procurement of manufacturers to supply these components. Initially, Hydro thought that it would undertake the retubing project in the late 1980s. In August 1983, however, a fuel channel in one of the units failed. An investigation after this failure showed that two units required immediate retubing. Thus, in March 1984 Hydro proceeded with the retubing project. [4] In September 1984, Hydro divided A.E.C.L.’s work into two separate agreements: one for designing the replacement tubes and tools; the other for procuring suppliers to manufacture these items. The August 1981 agreement was amended to provide only for A.E.C.L.’s design engineering services. Hydro and A.E.C.L. entered into a separate written agreement dealing only with A.E.C.L.’s procurement of the tubes and tools. [5] A.E.C.L. ordered the tubes and tools from several suppliers. The suppliers manufactured these items using A.E.C.L.’s design drawings. After the tools and tubes were manufactured, A.E.C.L. inspected them to ensure that they met its design specifications and then tested them to ensure that they met Hydro’s requirements. Hydro paid the manufacturers directly, including retail sales tax on the invoiced amount. Hydro paid A.E.C.L. $25,378,543.73 for design and procurement under the 1981 agreement; and $1,408,609.60 for procurement under the 1984 agreement. Hydro also paid the manufacturers of the tubes and tools $4,584,674.77. The Minister’s Assessment and Hydro’s Appeal [6] The Minister of Revenue audited Hydro’s agreements with A.E.C.L. and issued a notice of assessment on October 18, 1989. He assessed Hydro using his authority under s.2(7) of the Retail Sales Tax Act, R.S.O. 1980, c.454, which provides: 2.-(7) Where the Minister considers it necessary or advisable, he may determine the amount of any price of admission, or the fair value of any tangible personal property or taxable service, for the purposes of taxation under this Act, and thereupon the price of admission, or fair value of such tangible personal property or taxable service, for such purpose shall be as so determined by him unless, in proceedings instituted by an appeal under section 23, it is established that the determination is unreasonable. [7] The Minister assessed Hydro for unpaid retail sales tax of $1,769,005.56 (plus interest), which is 7% of $25,271,508.00. This latter figure represented the taxable part of the amount paid by Hydro to A.E.C.L. for design engineering under the 1981 agreement.1 [8] The Minister determined that the “fair value” of Hydro’s acquisition of replacement tubes and tools included A.E.C.L.’s design engineering charges. On April 3, 1990, Hydro filed a notice of objection to the assessment. A Ministry Appeals Officer recommended confirmation of the assessment, and a notice of confirmation of assessment was sent to Hydro on April 13, 1992. [9] Hydro then appealed the Minister’s confirmation under s.25(1) of the Retail Sales Tax Act, R.S.O. 1990, c.R.31. The appeal was dismissed by Borins J. on February 2, 1996.2 In brief reasons he found that the statutory provisions in question were clear and unambiguous and he therefore applied their plain meaning. He held that Hydro had the onus of showing that the Minister’s determination was unreasonable and he concluded that Hydro had failed to meet this onus. Instead Borins J. agreed with the Minister “that the design engineering charges were part of one transaction for the acquisition of the necessary component parts and the tools required to install them.” Therefore, “the design charges were reasonably attributable to the acquisition and costs of the tools and the component parts, and constituted part of their ‘fair value’ …” Discussion [10] The Minister acknowledges that the design engineering charges are not assessable under any of the specific taxing sections of the Act. Section 2 is the main taxing section. Subsection 2(1) imposes on a purchaser of tangible personal property a 7% tax on the fair value of the property acquired. Subsection 2(1) provides: 2.-(1) Every purchaser of tangible personal property, except the classes thereof referred to in subsection (2), shall pay to Her Majesty in right of Ontario a tax in respect of the consumption or use thereof, computed at the rate of 7 per cent of the fair value thereof. [11] The parties agree that Hydro was a purchaser and that the replacement tubes and tools were tangible personal property. Fair value is defined, in part, in s.1.4(a) to include: 1.4. “fair value” includes (a) the price for which the tangible personal property or the taxable service was purchased, including the value in terms of Canadian money of services rendered and things exchanged and other considerations accepted by the vendor or person from whom the tangible personal property passed or taxable services were rendered as the price or on account of the price of the tangible personal property purchased or taxable service received, [12] This definition, however, does not bring A.E.C.L.’s design engineering charges into the fair value of the tubes and tools because A.E.C.L. was not “a vendor or person from whom the tangible personal property passed”; the tubes and tools were manufactured by other suppliers. [13] Subsection 2(3) of the Act imposes on a purchaser of a taxable service a 7% tax on the fair value of the service. However, the Minister acknowledges that A.E.C.L.’s design engineering of the tubes and tools was not a taxable service under s.2(3). [14] In short, the Minister could not invoke any specific taxing provision of the Act to assess Hydro for A.E.C.L.’s design engineering charges. But for s.2(7) these design engineering charges were not assessable under the statute. However, s.2(7) of the Act gives the Minister the authority to determine the fair value of any tangible personal property for the purposes of taxation under the Act, where he considers it necessary or advisable to do so. [15] The Minister used s.2(7) to assess Hydro. He added the design costs charged by A.E.C.L. to the costs of the tubes and tools purchased from the suppliers. Thus the sole issue on this appeal is whether A.E.C.L. design engineering charges were reasonably attributable to the fair value of the tubes and tools purchased by Hydro. I agree with Borins J. that s.2(7) is clear and therefore the court should apply its plain meaning. I also agree with him that Hydro bears the onus of showing that the Minister’s determination was unreasonable. [16] Mr. Myrka, counsel for the Minister, acknowledged that the Minister has rarely used s.2(7) and that no reported case has considered its scope. Although rarely used, I expect that a provision like s.2(7) is needed or at least useful in the taxing statute. If, for example, the invoice price of equipment did not represent its fair value because the transaction was not arm’s length, or if there was no invoice at all, or if a vendor and a purchaser schemed to avoid paying tax, then the Minister may well be justified in using s.2(7)3. [17] In these examples, the Minister may justifiably consider it necessary or advisable to determine fair value. I agree with Mr. Myrka that dictionary definitions may be used to interpret “necessary” and “advisable” – “necessary”, in its context, to mean convenient, useful or appropriate; and “advisable” to mean expedient, prudent or desirable. [18] However, none of the examples I have cited apply to this case. Nevertheless, in my opinion, this case shows another example of when s.2(7) may reasonably be invoked. It may reasonably be invoked when the transaction in question is close to or analogous to a transaction that would be taxed under a specific section of the Act. Thus, if Hydro had designed and manufactured the replacement tubes and tools itself, then all of its production costs including its design costs would have been taxable. That is because of the extended definitions of “sale” and “fair value” under the Act. “Sale” does not require a vendor but under s. 1.17(g) includes: (g) the production, fabrication, processing, printing or imprinting of tangible personal property or the production of a taxable service by a person for his own consumption or use when that person furnishes either directly or indirectly the materials and labour used in such production, fabrication, processing, printing or imprinting, [19] Under section 1.4.(d) “fair value” includes manufacturing overhead: (d) the cost, including materials, labour and manufacturing overhead, of tangible personal property produced by the vendor or person for his own consumption or use, Had Hydro manufactured these tubes and tools itself, its design costs would have been taxable because they would have been part of manufacturing overhead. [20] Equally, had one of the suppliers not only manufactured a tube or tool but designed it as well, Hydro would have been taxed on the supplier’s design costs. [21] Therefore, by determining under s.2(7) that A.E.C.L.’s design charges should be included in the fair value of the replacement tubes and tools, the Minister has put Hydro in the same position it would have been in had it done all of the work in-house or had the work been done by the various suppliers without A.E.C.L.’s assistance. I think that the Minister was reasonably entitled to make this determination. The fair value of Hydro’s purchase of the tubes and tools appropriately included these design costs. Or, using the words of s.2(7), I agree with Borins J. that Hydro has not established that the Minister’s determination was unreasonable. [22] Inevitably these cases are very fact dependant. Here Borins J. found that in substance A.E.C.L.’s design engineering charges were part of a single transaction for the acquisition of the tubes and tools even though in 1984 Hydro had formally separated the design and the procurement into two agreements. A.E.C.L.’s design services were included in the Minister’s determination of fair value because they were needed to acquire the tubes and tools. In my opinion, Borins J.’s finding of a single transaction is reasonably supported by the evidence and therefore is entitled to deference on appeal. Hydro’s argument is flawed because it depends on overturning this finding and looking at the design engineering charges in isolation. On the record before us, Hydro’s argument cannot succeed. I would dismiss the appeal with costs. Released: May 19, 1999 “J.W.M.” “John Laskin, J.A.” “I agree: J.W. Morden, J.A.” “I agree: M. Rosenberg J.A.” _______________________________ 1 No explanation is provided in the record for the difference between this figure and the amount paid to A.E.C.L. for design engineering under the 1981 agreement. 2 [1996] O.J. No. 333. 3 See Vanguard Coatings and Chemicals Ltd. v. M.N.R.,[1988] 3 F.C. 560 (Fed. C.A.); The King v. Noxzema Chemical Company of Canada Limited, [1994] Ex. C.R. 155, at p. 173; appeal allowed [1942] S.C.R. 178.