Principal Issues: [TaxInterpretations translation] Is an amount paid pursuant to Article 1619 of the Civil Code of Quebec taxable?
Position: Yes.
Reasons: This is a taxable amount pursuant to paragraph 12(1)(c).
May 18, 2006
XXXXXXXXXX Tax Services Office Headquarters
Audit Division Income Tax Rulings Directorate
Attention: XXXXXXXXXX Michel Lambert,CA,M.Fisc.
(613) 957-89532005-016282
Taxation of an amount received
Article 1619 of the Civil Code of Quebec
This is further to your letter of December 5, 2005, asking whether an amount received by the taxpayer pursuant to Article 1619 of the Civil Code of Quebec (C.C.Q.) constitutes an amount of interest to be added to the taxpayer's income.
Unless otherwise indicated, all statutory references herein are to provisions of the Income Tax Act (the "Act").
Designation of Parties
For the purposes hereof, the names of the taxpayers are replaced by the following names
XXXXXXXXXX: the Corporation
XXXXXXXXXX: the Individual
XXXXXXXXXX: the Insurer
The Facts
The individual was a shareholder and employee of the Corporation.
The Corporation had a life insurance policy with the Insurer in the amount of $XXXXXXXXXX for which the Individual was the insured.
The Individual died in XXXXXXXXXX.
The Insurer refused to pay the Corporation the insurance proceeds alleging that the Insurer had entered into the insurance contract based on false representations of the Corporation. The Insurer sought to have the policy cancelled ab initio.
The Corporation commenced an action against the Insurer to claim the life insurance proceeds.
XXXXXXXXXX
XXXXXXXXXX The Corporation therefore received from the Insurer a total amount of $XXXXXXXXXX of which $XXXXXXXXXX represents the additional indemnity awarded under Article 1619 of the Civil Code of Quebec ("C.C.Q.")
Question
You asked whether the amount paid pursuant to Article 1619 of the C.C.Q. constitutes interest and whether that amount should be added to the Corporation's income.
Opinion of the Corporation's Representatives
According to the Corporation's representatives, a distinction must be made between an additional indemnity attached to a non-taxable amount and an additional indemnity attached to an amount that must be included in computing a taxpayer's income. In their view, it appears that an amount received as an additional indemnity should receive the same tax treatment as that accorded to the principal amount to which it was attributable, for the portion attributable to the period from the date the claim was made to the date of the judgment.
The Corporation's representatives therefore conclude that it seems reasonable to consider that the tax treatment of the additional indemnity received under Article 1619 of the C.C.Q. should be identical to that of the life insurance proceeds received.
Your Opinion
You are of the view that the indemnity which is based on Article 1619 of the C.C.Q. must be included in the Corporation's income in the same manner as interest.
Our Opinion
Paragraph 12(1)(c) provides for the inclusion in computing a taxpayer's income from a business or property in a taxation year any amount received or receivable by the taxpayer in the year (depending on the method regularly followed by the taxpayer in computing the taxpayer’s income) as, on account of, in lieu of payment of or in satisfaction of, interest to the extent that the interest was not included in computing the taxpayer’s income for a preceding taxation year.
It must therefore be determined whether the additional indemnity awarded pursuant to Article 1619 C.C.Q. constitutes interest within the meaning of paragraph 12(1)(c).
Article 1619 C.C.Q. provides that: An indemnity may be added to the amount of damages awarded for any reason, which is fixed by applying to the amount of the damages, from either of the dates used in computing the interest on them, a percentage equal to the excess of the rate of interest fixed for claims of the State under section 28 of the Act respecting the Ministère du Revenu over the rate of interest agreed by the parties or, in the absence of agreement, over the legal rate.
Canadian courts have repeatedly had to define the term "interest" in the context of tax disputes. For example, in Ahmad v. The Queen, 2002 DTC 2065 (TCC) ("Ahmad"), Miller J., in deciding whether pre-judgment interest received by a taxpayer in respect of damages was taxable, ruled as follows on the meaning of the word "interest”:
The starting point for the determination of the nature of an interest payment is the oft-cited definition of the Supreme Court of Canada in Re The Validity of Section 6 of the Farm Security Act, 1944 of the Province of Saskatchewan:
Interest is, in general terms, the return or consideration or compensation for the use or retention by one person of a sum of money, belonging to, in a colloquial sense, or owed to, another...
But the definition, as well as the obligation, assumes that interest is referable to a principal in money or an obligation to pay money. Without that relational structure in fact and whatever the basis of calculating or determining the amount, no obligation to pay money or property can be deemed an obligation to pay interest.
There must be a relational structure between the interest and the principal amount.
In Taran Furs (Montreal) Inc. v. MNR, 1996 DTC 188 (TCC), St. Onge J. adopted the definition used by the House of Lords in Riches v. Westminster Bank Ltd, [1947] AC 390:
the essence of interest is that it is a payment which becomes due because the creditor has not had his money at the due date. It may be regarded either as representing the profit he might have made if he had the use of the money, or conversely the loss he suffered because he has not that use. The general idea is that he is entitled to compensation for deprivation.
In light of this jurisprudence, we are of the opinion that the additional indemnity awarded to the taxpayer under Article 1619 C.C.Q. constitutes interest by its very nature since it represents a return, consideration or compensation for the use or holding by the person at fault of a sum of money that was due to the taxpayer. Although the additional compensation is not explicitly identified as interest in the C.C.Q., it is nonetheless an amount received "on account of, in lieu of, or in satisfaction of interest".
In this situation, the courts found that the life insurance policy should be declared valid and the proceeds paid out. On the facts, we are of the opinion that the Corporation was entitled to receive the life insurance proceeds in XXXXXXXXXX, the year of Individual's death. The capital sum insured, namely $XXXXXXXXXX, can therefore be considered to be an amount of principal owed to the Corporation in XXXXXXXXXX and on which the Court awarded interest under article 1619 C.C.Q.
That view is reinforced by another decision of the Tax Court of Canada. In Michel Sauvé, Gilles Sauvé, Daniel Sauvé and Jacques Bourdeau v. Her Majesty the Queen, 2000 DTC 1858 (TCC), Justice Dussault stated as follows:
There is no doubt that interest received on an amount payable to a taxpayer pursuant to a judgment is covered by this provision. The same is true of what is called the "additional indemnity provided for by law". This refers simply to interest in addition to the interest calculated at the legal rate. In the cases with which we are concerned, that interest is provided for in article 1078.1 of the Civil Code of Lower Canada as it applied in 1993. [Article 1078.1 of the Civil Code of Lower Canada is similar to article 1619 C.C.Q.]
The net amounts received by the appellants on that basis in 1993 should normally have simply been included as interest and not as business income, and, of course, much less as a taxable capital gain. Since the assessments made cannot be varied …, I can only conclude that the amount that was included in income and that represented interest must in fact remain as income.
The Corporation's representatives also referred us to court decisions in cases where monies were received in connection with expropriations. They referred to Brenda Bellingham v. Her Majesty the Queen, 96 DTC 6075 (F.C.A.) and Her Majesty the Queen v. James M. Shaw, 93 DTC 5121 (F.C.A.). In Bellingham, the court indicated that the nature of a payment must be determined when determining its tax treatment:
As the law presently stands we must look to the nature and purpose of a particular payment or award when assessing how it will be dealt with for tax purposes. [96 DTC 6075 à 6082]
In the Bellingham case it was established that the additional amount was paid as damages. In Shaw, the court concluded that the nature of the payment was interest. In the situation under consideration, we are of the view that the amount paid under Article 1619 of the C.C.Q. is not an amount paid as damages but rather as a result of the delay in the payment of the proceeds of the life insurance policy and, as such, the amount is taxable pursuant to paragraph 12(1)(c).
In conclusion, we are of the view that the amount awarded to the Corporation pursuant to Article 1619 of the C.C.Q. must be added back in computing the Corporation's income pursuant to paragraph 12(1)(c) in the year in which it is received or receivable, in accordance with the method regularly followed by the Corporation in computing its income.
You also questioned the tax treatment of professional fees incurred by the Corporation in the legal process. In a telephone conversation (XXXXXXXXXX/Lambert) you explained the Corporation's approach to that issue. In our view, that approach is appropriate in the circumstances.
Access to Information
For your information, unless exempted, a copy of this memorandum will be severed using the Access to Information Act criteria and placed in the Canada Revenue Agency's electronic library. A severed copy will also be distributed to the commercial tax publishers for inclusion in their databases. The severing process will remove all material that is not subject to disclosure, including information that could disclose the identity of the taxpayer. Should your client request a copy of this memorandum, the electronic library version can be provided. Alternatively, the client may request a severed copy using the Privacy Act criteria, which does not remove client identity. Requests for this latter version should be made by you to Ms. Jackie Page at (819) 994-2898. A copy will be sent to you for delivery to the client.
We hope that these comments are of assistance.
Louise J. Roy, CGA
Interim Manager
Financial Sector and Exempt Entities Section
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch