Date: 20030218
A-87-02
BETWEEN:
KINGUK TRAWL INC.
Appellant
and
HER MAJESTY THE QUEEN
Respondent
AND BETWEEN:
FAROCAN INCORPORATED
Appellant
and
HER MAJESTY THE QUEEN
Respondent
Heard at Halifax, Nova Scotia, on January 29, 2003.
Judgment delivered at Ottawa, Ontario, on February 18, 2003.
REASONS FOR JUDGMENT BY: NOËL J.A.
CONCURRED IN BY: DÉCARY J.A.
SHARLOW J.A.
Date: 20030218
A-87-02
BETWEEN:
KINGUK TRAWL INC.
Appellant
and
HER MAJESTY THE QUEEN
Respondent
AND BETWEEN:
FAROCAN INCORPORATED
Appellant
and
HER MAJESTY THE QUEEN
Respondent
REASONS FOR JUDGMENT
[1] These are appeals from decisions by Judge Margeson of the Tax Court of Canada based on a single set of reasons (2002 D.T.C. 1399; [2002] 2 C.T.C. 2229) substantially dismissing the appellants' appeals with respect to assessments raised against them pursuant to Part XIII of the Income Tax Act (the Act) for failure to deduct and remit tax on certain interest payments made to a Danish company F.Uhrenholt Holdings A/S (Uhrenholt), during the taxation years 1994, 1995, 1996 and 1997. These Reasons dispose of the appeals in Court files A-86-02 and A-87-02.
[2] The appellants fish, process and sell shrimp which they harvest in the Canadian economic zone. They maintain that during the relevant period, Uhrenholt, as their agent, assumed the selling function of their operations and that such operations were conducted in a country other than Canada. According to the appellants, the Tax Court Judge committed a reviewable error by failing to recognize this agency relationship and its reductive impact on the assessments under appeal.
Facts
[3] The facts as such are not in issue. The dispute centres on the legal characterization of the relationship which arises from these facts which can be summarized as follows.
[4] Farocan Incorporated (Farocan) is the successor by amalgamation to the former Farocan Incorporated and to the former Aqviq Trawl Inc. (Aqviq). The appellant Kinguk Trawl Inc. (Kinguk) is the wholly owned subsidiary of the present Farocan.
[5] During the years in question, Aqviq and Kinguk each owned and operated a trawler, on which they employed a crew to fish and process shrimp. Both ships were based in Mulgrave, Nova Scotia, where the administrative offices of Aqviq and Kinguk were located.
[6] In the early 1990s, Aqviq and Kinguk encountered financial difficulties which brought them close to bankruptcy. They were rescued by Uhrenholt which took over their bank loans and provided each of them with a line of credit (Appeal Book, tabs 36-37).
[7] At the same time, Aqviq and Kinguk also entered into a number of comprehensive agreements with companies forming part of the Uhrenholt group of companies. While the arm's length nature of the relationship between the appellants and Uhrenholt was an issue of contention at the assessment stage, the respondent conceded before the Tax Court Judge that the parties dealt at arms' length throughout the relevant period.
[8] Central to this relationship were two trade agreements between Uhrenholt and each of Aqviq and Kinguk. The agreements were drafted without legal assistance in Danish by Hans Andersen, the manager of Uhrenholt, in negotiation with the principal shareholder of the former Farocan Incorporated (Transcript, volume I, pages 32-33).
[9] There is no meaningful difference between the two agreements. The body of the English translation of the agreement between Aqviq and Uhrenholt is reproduced below (with paragraphs numbered for ease of reference):
[1] [Aqviq Trawl Inc.] ATI and [F. Uhrenholt Fish A/S] FUF have today entered into a trade agreement to the effect that FUF undertakes to market all ATI products against a 4% commission on sales, based on net selling prices.
[2] A net selling price includes: the selling price less freight, discharge, handling, cold storage, insurance, customs duties and all sales-related costs.
[3] FUF shall keep all costs at a minimum.
[4] Payment: 70% of the expected net selling price on landing. The balance on final settlement.
[5] Immediately upon landing, a pro forma invoice is issued in accordance with the above. FUF states the expected net selling price.
[6] ATI pays a general overdraft facility interest rate from the time of payment, based on the amounts drawn from FUF's account [?].
[7] ATI shall surrender its total catch to FUF.
[8] FUF shall sell the goods purchased at the highest price obtainable and submit a separate sales account for each trip. FUF fixes its own resale prices.
[9] Production and packing must be carried out according to FUF's current instructions, based on the specific market demands.
[10] FUF takes title to [?] the product ex quay, immediately upon landing by the trawler. FUF is entitled to create a charge in the cargo or assign it as security of any kind [?].
[11] Immediately upon landing, temperatures and quality are tested by a representative of the cold store together with the shipmaster.
[12] The Agreement is terminable by FUF at three months' notice.
[13] The Agreement is non-terminable by ATI while F. Uhrenholt Holding A/S and/or FUF have outstanding accounts against ATI and/or Farocan Inc., or F. Uhrenholt Holding A/S or FUF have guarantee commitments towards ATI or Farocan Inc.
[14] ATI shall take out product liability insurance with coverage in compliance with the general Danish law of damages.
[15] Either Party shall comply with current export and trade regulations.
[16] Other matters of relevance to the present Trade Agreement are based on a gentleman's agreement.
[17] In the long term, the intention is to increase the incomes of both Aqviq Trawl Inc. and the F. Uhrenholt Group.
[18] Any dispute between the Parties about the present Agreement is resolved by arbitration and may therefore not be brought before the courts by any Party.
[19] The arbitration tribunal will consist of three arbitrators: an umpire appointed by the President of the Maritime and Commercial Court in Copenhagen and two arbitrators appointed by the Parties, one by each Party.
[20] If a Party fails to appoint an arbitrator, the arbitrator will be appointed by the President of the Maritime and Commercial Court in Copenhagen.
[21] The legal venue is Copenhagen.
[22] The arbitration tribunal imposes its own procedural rules and settles the dispute according to the general rules of Danish law. The arbitration award is final and binding on the Parties in any respect.
[23] In determining the distribution of the legal costs among the arbitrators and the legal representatives of the Parties, the arbitration tribunal is entitled to take into account whether the case was brought with good reason or not.
[24] This Trade Agreement commences on 15 November 1993.
[25] Any amendments and addenda to this Agreement are valid only if available in writing.
[10] The above translation was produced before the Tax Court Judge together with the original Danish text and was accompanied by the translator's certificate which cautioned that "the terms or sentences followed by square brackets are ambiguous and open to interpretation."
[11] Under the trade agreements, Uhrenholt undertook to market and sell all the products of Aqviq and Kinguk for which it was entitled to a commission of 4 per cent on the net selling price (agreement, paragraph 1; Transcript, volume I, pages 34-35). Uhrenholt or members of the Uhrenholt group of companies performed most of these functions in Denmark where its central management was located.
[12] The agreements specified that Uhrenholt was to take "title" to the catch upon it being landed, and that it was authorized to pledge the cargo as security (agreement, paragraph 10). Uhrenholt was to advance to Aqviq or Kinguk 70 per cent of the estimated net settlement amount for the catch upon landing (agreement, paragraph 4). This estimate was based on current market prices, which could change significantly by the time a sale was concluded by Uhrenholt with the ultimate purchaser (Transcript, volume I, pages 35-36, 41-42, 50). It is significant that Aqviq or Kinguk was charged interest on the 70 per cent advance (ibid. page 44).
[13] In addition to its commission and the interest on the 70 per cent advance, Uhrenholt was authorized to charge Aqviq or Kinguk for a variety of expenses incurred in connection with selling the catch. These expenses included sea freight, cold storage, sales freight, insurance (Transcript, volume I, pages 50-52), and "other costs." The final settlement credited by Uhrenholt to Aqviq or Kinguk in connection with a particular trip was based on the selling price to the ultimate purchaser less the 70 per cent advance, interest on that advance, the commission, and the related expenses (Appeal Book, tabs 41-42). Before the Tax Court, the commissions together with these related expenses were referred to as "embedded expenses" because they were not directly debited to Uhrenholt in the line-of-credit accounts but were deducted from the amounts that would otherwise have been credited to those accounts by Uhrenholt (Transcript, volume I, pages 240-241).
[14] Aqviq or Kinguk bore the risk of a decline in market price between the landing of the catch and its ultimate sale by Uhrenholt, as well as the risk of physical damage to the catch (Transcript, volume I, pages 50, 183, 228-230). Uhrenholt assumed the credit risk on the sale to its clients (Transcript, volume I, pages 114 and 129) although Aqviq or Kinguk bore, as part of the "embedded expenses," the costs incurred by Uhrenholt to insure the risk of non-payment by its customers (Transcript, volume I, page 176). As well, Aqviq or Kinguk bore the cost of insuring the catch while it was in Uhrenholt's possession or en route to the ultimate buyer.
[15] Aqviq and Kinguk did not withhold or remit tax to Revenue Canada under part XIII of the Act on the interest credited to Uhrenholt in respect of the 70 per cent advances, the running balance of the line-of-credit accounts, or the quarterly commissions.
[16] Revenue Canada assessed a 15 per cent withholding tax on the interest so credited, being the reduced rate of withholding tax applicable under the Canada-Denmark Income Tax Agreement. As well, the assessments were grossed-up by 15/85 of the interest actually credited on the basis that the line-of-credit agreements required Aqviq or Kinguk to indemnify Uhrenholt for any Canadian taxes that Uhrenholt was required to pay on that interest.
[17] Farocan and Kinguk appealed to the Tax Court of Canada, claiming that they were not subject to withholding tax with respect to part of the interest credited under clause 212(1)(b)(iii)(E) of the Act and that the grossing-up of the interest was not authorized under the Act.
[18] The Tax Court Judge accepted the appellants' argument that the interest subject to tax could not be grossed up but otherwise dismissed their appeal. In particular, he rejected the appellants' argument that the trade agreements constituted Uhrenholt as the agent of Aqviq and Kinguk for the marketing and selling of their catch, and concluded instead that they sold the catch to Uhrenholt when it was landed. From this, the Tax Court Judge held that the business carried on by Uhrenholt in Denmark, or elsewhere, in marketing and selling the catch was not the business of Aqviq and Kinguk, but its own, thereby excluding the application of clause 212(1)(b)(iii)(E).
[19] The appellants now challenge the conclusion of the Tax Court Judge as to the nature of the legal relationships created by the trade agreements. The parties are agreed that if an agency relationship existed, such that the appellants were carrying on business in a country other than Canada during the relevant period, the matter should be returned to the Tax Court for it to determine the taxable and non-taxable portions of the interest credited by the appellants to Uhrenholt pursuant to clause 212(1)(b)(iii)(E).
Analysis and Decision
[20] To the extent that Aqviq and Kinguk were, during the relevant period, carrying on business in a country other than Canada by virtue of their relationship with Uhrenholt, the portion of the interest expense which they incurred with respect to this foreign operation is not subject to withholding tax. This results from the operation of clause 212(1)(b)(iii)(E) of the Act which provides:
| 212. (1) Every non-resident person shall pay an income tax of 25% on every amount that a person resident in Canada pays or credits, or is deemed by Part I to pay or credit, to the non-resident person as, on account or in lieu of payment of, or in satisfaction of (b) interest except (iii) interest payable in a currency other than Canadian currency to a person with whom the payer is dealing at arm's length, on |
212. (1) Toute personne non-résidente doit payer un impôt sur le revenu de 25 % sur toute somme qu'une personne résidant au Canada lui paie ou porte à son crédit, ou est réputée en vertu de la partie I lui payer ou porter à son crédit, au titre ou en paiement intégral ou partiel:
(b) d'intérêts, sauf:
(iii) les intérêts payables en devises autres que la monnaie canadienne à une personne avec laquelle le payeur n'a aucun lien de dépendance sur: |
|
(E) any obligation entered into in the course of carrying on a business in a country other than Canada, to the extent that the interest payable on the obligation is deductible in computing the income of the payer under Part I from a business carried on by the payer in such a country, or that, but for subsection 18(2) or section 21, would have been so deductible. |
(E) toute obligation contractée dans le cadre de l'exploitation d'une entreprise située dans un pays étranger, dans la mesure où les intérêts payables sur l'obligation sont déductibles dans le calcul du revenu du payeur, en vertu de la partie I, tiré d'une entreprise qu'il exploite dans un pays étranger, ou l'auraient été sans le paragraphe 18(2) ou l'article 21. |
[21] The Tax Court Judge came to the conclusion that, pursuant to paragraph 10 of the trade agreements, the catch became the property of Uhrenholt upon landing and that accordingly, all selling activities which subsequently took place were those of Uhrenholt and not those of the appellants. As was noted at paragraph 141 of the Reasons:
If title passed, as this paragraph seems to suggest, then the case is over as far as the Appellants are concerned.
[22] To support this conclusion, the Tax Court Judge placed great reliance on what he viewed as the plain and simple meaning of the trade agreements. He said at paragraph 223:
The greatest arguments against the Appellants' position are the agreements themselves and the Court's requirement to interpret them according to their plain and simple meaning, absent any ambiguity which would call upon the Court to view extraneous documentation or evidence to properly interpret such agreements. The agreements speak for themselves unless there is an ambiguity. The Court finds no such ambiguity in these agreements and there was no evidence given by any witness which would cause the Court to have serious concerns with respect to the true meaning, purpose and intent of these clear words in these agreements. [my emphasis]
[23] These clear words are the word "resale" which appears in paragraph 8 and the word "purchased" also found in paragraph 8 (Reasons, paragraphs 141, 202, 203, and 212). [The Tax Court Judge also quotes the word "ownership" as coming within that class (paragraph 224), but I am unable to locate this word in either agreement.]
[24] The Tax Court Judge reasoned that the first and last sentences of paragraph 8, which provided respectively that "FUF [i.e. Uhrenholt] shall sell the goods purchased at the highest selling price." and "FUF fixes its own resale prices", were a clear indication that the catch had been subject to a sale upon landing and that accordingly the word "title" in paragraph 10 gave rise to no possible ambiguity (Reasons, paragraphs 202, 211 and 212). At the end of his Reasons, he observed (paragraph 224):
If the Appellants chose to have a gentleman's agreement put in place to regulate what appears to be very specific, serious, substantial and legal relationships between the parties, and those agreements do not in the end lend themselves to the interpretation which the parties prefer, then they have only themselves to blame.
[25] With respect, I find that the approach taken by the Tax Court Judge in construing the trade agreements was unjustified in the circumstances. Specifically, he erred in basing his interpretation on the literal meaning of a few words while ignoring the rest of the agreements. When the agreements are construed as a whole, as they must be, the only conclusion which can be reached is that the catch remained beneficially owned by the appellants until sold by Uhrenholt.
[26] Quite aside from the reservation expressed by the translator, the word "title" is a legal term which is inherently ambiguous. It can refer to legal title, beneficial title or both. This ambiguity was highlighted in the present case by the fact that paragraph 10 of the trade agreements goes on to provide that FUF (i.e. Uhrenholt) is entitled to assign the cargo as security.
[27] As counsel for the appellants argued before the Tax Court Judge, this provision would be superfluous if absolute ownership was intended to rest with Uhrenholt pursuant to the first sentence. He submitted that the only logical reading of the trade agreements was, therefore, that legal title was conveyed to Uhrenholt as security in circumstances where beneficial title to the catch remained with the appellants.
[28] Nowhere in his lengthy reasons did the Tax Court Judge confront this argument. He did, however, comment negatively on the fact that the appellants' witness, Mr. Andersen did not appear to know the difference between "legal" and "beneficial" ownership (Reasons, paragraph 196).
[29] Surely, it was not for Mr. Andersen, a Danish businessman, to elaborate on the concepts of legal and beneficial ownership under the common law system. His task was to indicate the intent of the parties to the agreements; and he testified that "control" of the catch was meant to be given to Uhrenholt in circumstances where the catch would continue to belong to the appellants until sold (Transcript, volume I, pages 47-49, 130).
[30] This view of the matter is supported by the other provisions of the trade agreements. Indeed, it is impossible to read these agreements otherwise. I have in mind for instance the fact that the appellants bore all the risks inherent in the transport and sale of their catch until it was sold by Uhrenholt. In the same vein, the appellants stood to gain or lose from the movement of market prices between the time of landing and the time of sale by Uhrenholt.
[31] Also significant, and incompatible with the conclusion reached by the Tax Court Judge, is the fact that the appellants paid interest on the 70 per cent advance which they received upon the catch being landed. Had it been intended that ownership be conveyed to Uhrenholt as of that time, there would have been no basis upon which such interest could be charged. Equally consistent with the view that beneficial ownership remained with the appellants is the fact that the expenses incurred by Uhrenholt in marketing and selling the catch were charged to the appellants.
[32] The fact that Uhrenholt was paid a 4 per cent commission is also consistent with this view as is the provision whereby Uhrenholt was given authority to pledge the catch as security. As previously noted, this authority to pledge would have been unnecessary had it been intended that Uhrenholt become the owner of the catch upon landing.
[33] It is apparent from the foregoing that it was not open to the Tax Court Judge to hold that ownership of the catch was meant to be conveyed to Uhrenholt upon landing. This conclusion, based on the literal meaning of two isolated words, cannot stand when regard is had to the trade agreements as a whole.
[34] Once it is accepted that the appellants retained beneficial ownership of the catch until sold by Uhrenholt, it follows that the activities carried on by Uhrenholt under the trade agreements were conducted on behalf of the appellants as their agent.
[35] The term agency has been defined as:
"... a fiduciary relationship which exists between two persons, one of whom expressly or impliedly consents that the other should act on his behalf so as to affect his relations with third parties, and the other of whom similarly consents so to act or so acts." (Bowstead & Reynolds on Agency (17th edition, Sweet & Maxwell 2001)).
[36] In Royal Securities Corp. Ltd. v. Montreal Trust Co. et. al 59 D.L.R. (2d) 666, Gale C.J.H.C. identified the essential ingredients of an agency relationship as follows:
1. The consent of both the principal and the agent;
2. Authority given to the agent by the principal, allowing the former to affect the latter's legal position;
3. The principal's control of the agent's actions.
In reality, points 2 and 3 are often overlapping, as the principal's control over the actions of his agent is manifested in the authority given to the agent."
[37] Under the trade agreements, Uhrenholt had the authority to sell the appellants' catch only at the highest obtainable price, and the appellants were undoubtedly bound by any sale made in conformity with this authority. The agreements under which this authority was provided also gave the appellants the means to enforce its terms through arbitration. All the ingredients of an agency relationship are therefore present.
[38] It follows that the actions taken by Uhrenholt under the terms of the trade agreements must be viewed as those of the appellants and to the extent that these actions amount to the carriage of a business in Denmark or elsewhere, clause 212(1)(b)(iii)(E) can be properly invoked to decrease the appellants' withholding tax liability.
[39] The respondent submitted in the alternative that a finding of agency is not sufficient to allow the Court to conclude that the appellants were carrying on a business in Denmark so as to bring them within clause 212(1)(b)(iii)(E) of the Act. The respondent essentially argues - with reliance on The Queen v. Gurd's Products Company Limited, 85 DTC 5314, Cutlers Guild Limited v. The Queen, 81 DTC 5093, London Life Insurance Company v. The Queen 87 DTC 5312 (Trial Division) and The Queen v. London Life Insurance Company, 90 DTC 6001 (Appeal Division - London Life) - that the activities conducted by Uhrenholt on behalf of the appellants were ancillary in nature, and thus insufficient to ground a conclusion that the appellants were carrying on business where these activities took place.
[40] In my view, the case law upon which the respondent relies does not support this submission. In London Life, Stone J.A. considered whether an insurance company was carrying on business in Bermuda through an agent which it had engaged to perform certain sales related functions in that country. In concluding that the company was carrying on a business in Bermuda, he stated the following:
If the respondent's activities in Bermuda had consisted only of soliciting orders there for acceptance in Canada it might be arguable on the basis of certain utterances in Grainger & Son v. Gough that, to use the phraseology of Lord Herschell, what was done in Bermuda was only 'ancillary' to the carrying on of a business in Canada. Although, as the appellant has demonstrated, many things had to be and were in fact done in Canada in order to bring insurance policies on the lives of residents of Bermuda into existence, it remains that other acts of overriding importance and significance had to be done and could only be done in Bermuda (see London Life, at page 9)
[41] In the present case, the activities conducted by Uhrenholt go far beyond the simple soliciting of orders, which was contemplated as "ancillary" in Grainger (see London Life, at page 5); they also appear to go beyond the extent of operations which was present in London Life, where the agent was only responsible for conducting a portion of the sales functions.
[42] Indeed, the whole of the sales functions, from the marketing of the catch to the making of the contracts, was conducted by Uhrenholt. Having regard to the fact that selling the catch was an essential component of the appellants' business and that these activities took place in Denmark and perhaps elsewhere, I conclude that they were carrying on business in a foreign country within the meaning of clause 212(1)(b)(iii)(E) of the Act.
[43] I would therefore allow the appeals and refer the matter back to the Tax Court of Canada for determination of the portion of the interest credited by the appellants to Uhrenholt that properly relates to the business carried on by them in a foreign country pursuant to clause 212(1)(b)(iii)(E) of the Act. The appellants should be awarded one set of costs here and in the Tax Court of Canada
"Marc Noël"
J.A.
"I agree.
Robert Décary"
"I agree.
K. Sharlow"
FEDERAL COURT OF APPEAL
NAMES OF COUNSEL AND SOLICITORS OF RECORD
DOCKET: A-86-02
STYLE OF CAUSE: KINGUK TRAWL INC. v. HER MAJESTY
THE QUEEN
PLACE OF HEARING: HALIFAX
DATE OF HEARING: JANUARY 29, 2003
REASONS FOR JUDGMENT :NOËL J.A.
CONCURRED IN BY: DÉCARY J.A.
SHARLOW J.A.
DATED: February 18, 2003
APPEARANCES:
EDWIN C. HARRIS FOR THE APPELLANT
JOHN P. BODURTHA AND FOR THE RESPONDENT
CECIL WOON
SOLICITORS OF RECORD:
PATTERSON PALMER FOR THE APPELLANT
HALIFAX
MORRIS ROSEBERG FOR THE RESPONDENT
DEPUTY ATTORNEY GENERAL OF CANADA
FEDERAL COURT OF APPEAL
NAMES OF COUNSEL AND SOLICITORS OF RECORD
DOCKET: A-87-02
STYLE OF CAUSE: FAROCAN INCORPORATED v. HER MAJESTY
THE QUEEN
PLACE OF HEARING: HALIFAX
DATE OF HEARING: JANUARY 29, 2003
REASONS FOR JUDGMENT : NOËL J.A.
CONCURRED IN BY: DÉCARY J.A.
SHARLOW J.A.
DATED: February 18, 2003
APPEARANCES:
EDWIN C. HARRIS FOR THE APPELLANT
JOHN P. BODURTHA AND FOR THE RESPONDENT
CECIL WOON
SOLICITORS OF RECORD:
PATTERSON PALMER FOR THE APPELLANT
HALIFAX
MORRIS ROSEBERG FOR THE RESPONDENT
DEPUTY ATTORNEY GENERAL OF CANADA