Accounting Principles

A Bahamian partnership of which the taxpayer was a member purchased bonds at less than 10% of their maturity value, recorded the bonds in its financial statements as having a cost equal to the maturity value, and recorded a resulting loss when the bonds were sold within the following two years for values ranging from 10% to 14% of maturity value.

In finding that the Minister had correctly disallowed the deduction by the taxpayer of his share of the supposed losses on these bonds, Sharlow J.A. indicated that the accounting method followed by the partnership violated the principle established in the Canderel case, 98 DTC 6100 "that an accounting method is not acceptable for income tax purposes unless it results in an accurate determination of income" (p. 6412).

Sharlow J.A. went on to indicate (at p. 6412) that "in this context, 'accuracy' means reasonable accuracy, bearing in mind that any computation of profit may involve estimates and judgment calls relating to timing, allocation, estimates of value, and other such matters that accountants are often called upon to make".

Before going on to find that the taxpayer was entitled to immediately expense for tax purposes the amount of tenant inducement payments that it had capitalized for accounting purposes, Iacobucci J. indicated that: tax computations, unlike financial accounting, may entail the use of a different methodology for calculating profit from that employed in a previous year; that while generally-accepted accounting principles may more often than not parallel well-accepted business principles recognized by the law, there may be occasions on which they will differ, in which case the latter must prevail; and that if some method other than the matching principle best depicts the reality of the financial situation of the particular taxpayer, is permissible under well-accepted business principles, and is not prohibited by the Act or some specific rule of law, there is no principled basis on which the Minister should be entitled to insist that the matching principle be employed.

McKeown J. found (at p. 5196) that the decision of the taxpayer to capitalize all expenses of its start-up operation net of revenues "gave a truer picture of its financial position" than the alternative of recognizing revenues and operating costs, in light of the decision of management that the project was not yet substantially complete and capable of reasonable commercial output.

Iacobucci J. indicated (p. 6009) that in considering what types of expenses may be deducted under s. 9, it is more appropriate to refer to "well accepted principles of business (or accounting) practice" or to "well accepted principles of commercial trading", rather than to generally accepted accounting principles (which "connotes a degree of control by professional accountants which is inconsistent with a legal test for 'profit' under s. 9(1)".

In finding that the trial judge had erred in finding for the Crown on the basis of a requirement for conformity between the taxpayer's financial statements and its tax returns, MacGuigan J.A. stated (p. 6028):

"In my view it would be undesirable to establish an absolute requirement that there must always be conformity between financial statements and tax returns, and I am satisfied that the cases do not do so. The approved principle is that whichever method presents the 'truer picture' of a taxpayer's revenue, which more fairly and accurately portrays income, and which 'matches' revenue and expenditure, if one method does, is the one that must be followed."

"The accounting principle which requires consistency in reporting from year to year, to ensure that an accurate picture of the taxpayer's financial position is portrayed is applicable here" (p. 5040).

Before finding that security deposits paid to the provincial government were not currently deductible, Urie J.A. stated (p. 5035):

"The proper accounting of those payments for the taxpayer's financial purposes, to most accurately reflect its actual financial position at any given time, may well be that they be recorded as expenses incurred for the purpose of gaining or producing income. That may not, as a matter of law, be the proper way for them to be recorded in the calculation of the taxpayer's taxable income."

Before finding that an amount which was a liability for accounting purposes nonetheless was a revenue receipt for income tax purposes, Urie J.A. stated (at 6612):

"[A]ccording to generally accepted accounting principles, sums received by a taxpayer should be recorded in a taxpayer's financial statements, in the way which most nearly reflects its actual financial position at any given time or for any given period, but for purposes of ascertaining the taxpayer's income for tax purposes the receipt of the sums may require [sic] to be recorded differently."

Walsh J. indicated (at p. 5137) that GAAP "should normally be applied for taxation purposes also, as representing a true picture of a corporation's profit or loss for a given year" but "by exception they need not be applied for income tax purposes if there is some section or sections in the Income Tax Act which justify a requirement of departure from them or do not correspond with what are commonly accepted business and commercial practices".

The taxpayer, which was in the business of producing custom-made electrical signs, in its financial statements included costs of constructing incompleted signs in its inventory of work-in-progress. Before finding that the deduction of such costs on a current basis would not result in a fair or accurate portrayal of the taxpayer's income for purposes of the Act, Urie J.A. stated (p. 6348):

"There is no doubt that the proper treatment of revenue and expenses in the calculation of profits for income tax purposes with a view to obtaining an accurate reflection of the taxable income of a taxpayer, is not necessarily based on generally accepted accounting principles. Whether it is so based or not is a question of law for determination by the Court having regard to those principles ..."

Addy, J. stated "that a taxpayer can now deduct an amount from income only on two conditions: first, that it would be normal practice according to generally accepted accounting principles to deduct this sum from an income account, and secondly, that the prohibitory provisions of section 18(1) do not prevent such a deduction."

At 1214-1215:

"[S]ince what is declared to be the income from a business is the profit therefrom for the year, the method adopted must be one which accurately reflects the result of the year's operations, and where two different methods, either of which may be acceptable for business purposes, differ in their results, for income tax purposes the appropriate method is that which most accurately shows the profit from the year's operations."

The completed contract, which was followed for accounting purposes, was found to be unacceptable for purposes of computing a contractor's income under s. 9.

Before agreeing with the accounting experts that the taxpayer's instalment method of accounting for its sales of magazines was more appropriate than the accrual method which underlaid the Minister's reassessments, Thorson P. stated (p. 1026):

"The prime consideration, where there is a dispute about a system of accounting, is, in the first place, whether it is appropriate to the business to which it is applied and tells the truth about the taxpayer's income position and, if that condition is satisfied, whether there is any prohibition in the governing income tax law against its use."

Viscount Simonds found the F.I.F.O. method to be preferable for income tax purposes, because it corresponded more readily to the actual physical usage of the taxpayer's stock of metals, notwithstanding evidence that for accounting purposes the L.I.F.O. method was preferable.

"The expression 'profit' is not defined in the Act. It has not a technical meaning and whether or not the sum in question constitutes profit must be determined on ordinary commercial principles unless the provisions of the Income Tax Act require a departure from such principles."