T-1928-83
T-2098-83
London Life Insurance Company (Plaintiff)
v.
The Queen (Defendant)
INDEXED AS: LONDON LIFE INSURANCE CO. V. CANADA
Trial Division, Martin J.—Toronto, April 21,
1986; Ottawa, June 29, 1987.
Income tax — Income calculation — Deductions
Canadian life insurance company expanding to Bermuda —
Whether carrying on business outside Canada — Only two
policies issued — Agent's authority limited — Where con
tracts made — Where profits arose — Legislative definitions
of "carrying on business" — Plaintiff carrying on business in
Bermuda under any test — Taxpayer selling excess computer
capacity to subsidiary — Whether revenue therefrom income
or reduction of expenses — Taxpayer requiring extra capacity
for own peak demands — Taxpayer's appeal allowed on both
issues.
Insurance — Canadian life insurance company expanding to
Bermuda in 1976 — Special tax treatment at time under
Income Tax Act Part XII for insurance companies carrying on
business outside Canada — Whether insurer carrying on busi
ness in Bermuda — Duties of insurance agents considered
Agent having authority to bind insurer to interim coverage —
Completion of contract by delivery of policy not mere formal
ity — Agent to assess whether applicant's insurable status
changed — Condition precedent to formation of contract —
Essential to protection of insurer's business.
Agency — Insurance agents — Bermuda agent of Canadian
life insurance company — Authority limited — Decision
whether to accept insurance applications made in Canada —
Policies issued in Canada — Agent having power to bind
insurer by interim coverage — Completion of contract by
delivery of policy not mere formality — Agent's duty to
confirm applicant still insurable condition precedent to forma
tion of contract — Duties of insurance agents discussed —
Insurer carrying on business in Bermuda.
This appeal from a reassessment of the plaintiff's 1976 taxes
raised two entirely separate issues. (I) The plaintiff was
assessed for additional tax on the basis that it was not carrying
on an insurance business outside Canada; (2) The Minister
reassessed for additional tax under Part XII of the Income Tax
Act (now repealed) by treating revenue received from a subsidi-
ary, Lonlife Data Services, as a reduction of expenses rather
than as income received.
(1) In 1976, the plaintiff took steps to extend its business to
Bermuda. However, the defendant argued that the plaintiff's
agent's authority was so limited that the plaintiff was not
actually carrying on business in Bermuda. The agent was
authorized to solicit applications for insurance policies, receive
premiums and draw cheques to pay for Commissions, Stamp
Tax, etc. Only two policies on lives in Bermuda were issued in
1976. Relying upon the test in Smidth & Co. v. Greenwood
that where a business is carried on is wherever the operations
take place from which the profits arise, the defendant identified
the activities resulting in profits from the Bermudian policies as
underwriting and financial control, both of which occurred in
Canada. The defendant relied on Grainger & Son v. Gough for
the proposition that the mere solicitation of insurance applica
tions by an agent in Bermuda is not sufficient to establish that
the plaintiff was carrying on business there.
(2) The plaintiff had extra capacity in its computer equip
ment which it sold to a subsidiary. The fee was calculated as a
percentage of actual and fictional expenses incurred by the
plaintiff in the operation of the computer. Although the plain
tiff did not show a profit or a loss for insurance accounting
requirements in 1976, it reported the revenue received from its
subsidiary as income, and deducted all of the expenses. The
defendant disallowed the deductions on the ground that the
amounts received from the subsidiary were operating expenses
incurred on behalf of the subsidiary for which the plaintiff was
reimbursed; and even if those amounts were income from the
sale of excess computer capacity, it was income from a business
other than the insurance business.
Held, the appeal should be allowed.
(1) It was within the authority of the plaintiff's agent to
bind the plaintiff to the interim insurance coverage, and that
contract, like the contract represented by the policy itself, was
completed in Bermuda: Zurich Life Insurance Co. of Canada v.
Davies and Matchett v. London Life Ins. Co. However, the bare
completion of those contracts by accepting an application or
delivering a policy does not alone determine the issue.
The plaintiff argued that regard should be had to section 253
of the Income Tax Act and subsection 2(1) of the Canadian
and British Insurance Companies Act in determining whether
the plaintiff carried on business in Bermuda. Section 253,
which deems certain non-residents to have been carrying on
business in Canada, and subsection 2(1) of the Canadian and
British Insurance Companies Act, which defines the "business
of insurance" as any act of inducement to enter a contract of
insurance, are of little assistance. Section 253 is a deeming
provision which extends the expression "carrying on business"
beyond its generally accepted meaning. The definition of carry
ing on of an insurance business in Canada is for the purpose of
that particular Canadian legislation. Those statutory provisions
do not purport to define what constitutes carrying on an
insurance business outside of Canada by a Canadian resident.
The Smidth & Co. and Grainger & Son cases interpreted an
expression used in U.K. tax legislation, which is quite different
from the Canadian legislation. Therefore the "profits" test
relied upon by the defendant is not determinative.
Although arguments as to the place where the contracts are
made, the place where profits arise and legislative definitions
are not determinative of the issue, they were not to be discount
ed entirely. No single one of these arguments was in itself
conclusive. But the Bermuda operations fell within the parame
ters of all three methods suggested for determining the question
and it should be concluded that the plaintiff did carry on
business in Bermuda in 1976.
The contracts of insurance were made in Bermuda. Although
the completion of the written policy by delivery of the policy
itself was a mere formality, the agent's duty to assure himself
that there had been no perceivable change in the applicant's
insurable status before he delivered the policy is no mere
formality. It is an important condition precedent to completion
of the contract, and is vital to the protection of the plaintiff's
business.
A new business may not have any profits but still be carrying
on business. As there were no profits from the Bermuda
operation in 1976, the question becomes whether there was a
reasonable expectation of profit. An insurance agent solicits
insurance, collects premiums, promotes various policies, com
pletes applications, arranges medical exams, binds the company
to interim insurance coverage, and completes the contract by
delivering the policy after assuring himself that there has been
no material change in risk. The plaintiff expected to derive a
profit from these activities carried on through its agent in
Bermuda as the business grew. The fact that only two policies
were issued is of little consequence. By this test, the plaintiff
carried on business in Bermuda.
Finally, throughout the various definitions of "business of
insurance" the common thread is the inducement of persons to
enter into contracts of insurance. The business of an insurance
company is selling insurance, which it does through sales
agents. The plaintiff through its agent in Bermuda induces
residents to enter into contracts of insurance. Accordingly, it
was carrying on business in Bermuda if the "legislative" test
were to be applied.
(2) The defendant submitted that the fees from the subsidi
ary are not income because the arrangement was made on a no
profit/no loss basis. The "no profit/no loss" arrangement was
with reference to the manner in which the plaintiff was obliged
to keep its accounts for the Superintendent of Insurance.
The revenue was properly characterized as income from a
business. Practically all of the expenses (salaries, maintenance
and repair of equipment) which made up the annual fee, would
have been incurred without the arrangement with the subsidi
ary. Other expenses making up part of the fee (rent, deprecia
tion) were not incurred by the plaintiff and therefore could not
be considered as reimbursed expenses. The expenses were
incurred by the plaintiff in its own right and not on behalf of
the subsidiary.
The expenses were incurred to carry on the plaintiff's life
insurance business and therefore were deductible under subsec
tion 209(2). The expenses are associated with the operation of
the plaintiff's computer, the operation of which is a part of the
operation of its life insurance business. The plaintiff had to
have the extra capacity to service its peak demands.
The expenses were allowed under Part I but, by requiring the
plaintiff to file net figures for income and expenses under Part
XII, they were effectively disallowed. The reasons for judgment
of Joyal J. in The Excelsior Life Insurance Company v. The
Queen (1985), 85 DTC 5164 supported the argument that the
defendant is not entitled to disallow these expenses.
STATUTES AND REGULATIONS JUDICIALLY
CONSIDERED
Canadian and British Insurance Companies Act, R.S.C.
1970, c. I-15, s. 2(1).
Income Tax Act, S.C. 1970-71-72, c. 63, ss. 138(9) (as
am. by S.C. 1973, c. 14, s. 47), 209(2) (as am. by S.C.
1974-75-76, c. 26, s. 117), 253.
CASES JUDICIALLY CONSIDERED
APPLIED:
Zurich Life Insurance Co. of Canada v. Davies, [1981 ] 2
S.C.R. 670; Matchett v. London Life Ins. Co. (1985), 14
C.C.L.I. 89 (Sask. C.A.); The Excelsior Life Insurance
Company v. The Queen (1985), 85 DTC 5164
(F.C.T.D.).
DISTINGUISHED:
Smidth & Co. v. Greenwood, f1921] 3 K.B. 583 (C.A.);
Grainger & Son v. Gough, [1896] A.C. 325 (H.L.).
CONSIDERED:
Cutlers Guild Limited v. Minister of National Revenue
(1981), 81 DTC 5093 (F.C.T.D.).
REFERRED TO:
Firestone Tyre and Rubber Co. Ltd. (as agents for
Firestone Tire and Rubber Co. of Akron in the United
States of America) v. Lewellin (Inspector of Taxes),
[1957] 1 All E.R. 561 (H.L.); Moldowan v. The Queen,
[1978] 1 S.C.R. 480.
COUNSEL:
David A. Ward, Q.C. and Colin Campbell for
plaintiff.
L. P. Chambers, Q.C. for defendant.
SOLICITORS:
Davies, Ward and Beck, Toronto, for plain
tiff.
Deputy Attorney General of Canada for
defendant.
The following are the reasons for judgment
rendered in English by
MARTIN J.: The plaintiff, London Life Insur
ance Company, appeals the defendant's reassess
ment of July 28, 1980 in respect of its 1976
taxation year under which the defendant assessed
the plaintiff for additional tax on the basis that the
plaintiff was not carrying on an insurance business
outside of Canada, and reduced expenses deduct
ible in computing the amount on which tax pay
able under Part XII of the Income Tax Act [S.C.
1970-71-72, c. 63] is applicable by treating reve
nue received from the plaintiff's subsidiary, Lon-
life Data Services Limited ("L.D.S"), as a reduc
tion of expenses rather than as income received.
At issue in respect of the first part of the
plaintiff's appeal is whether, during 1976, the
plaintiff was carrying on the life insurance busi
ness in Bermuda. The issues in respect of the
second part of the plaintiffs appeal are, unfortu
nately, not as clear and have given rise to the delay
in filing my decision. I will deal with the Bermuda
issue first and the L.D.S. issue in the latter portion
of these reasons for my decision.
The plaintiff is a major Canadian life insurance
company which, until 1976, had carried on the life
insurance business exclusively in Canada.
Although it had given consideration to extending
its business outside of Canada as early as 1973 it
took no steps to do so until 1976. What prompted
the company to extend its business at that time
was what counsel for both parties have referred to
as a tax loophole which allowed more favourable
tax treatment to a life insurance company which
carried on its business outside of Canada than to a
company which carried on its life insurance busi
ness exclusively within Canada.
In order to ensure that it would be treated as
favourably as its competitors, which carried on
their life insurance business both within and out
side of Canada, the plaintiff decided to extend its
operations to Bermuda.
There is no doubt that the decision to do so was
tax motivated but for the purposes of the issue in
this matter the motivation is irrelevant. Even if it
were relevant to the initial decision that motivation
was removed, at least in the opinion of the Presi
dent and other senior officers of the company,
when, on May 26, 1976, which was prior to the
time the plaintiff completed its arrangements for
its Bermuda operations, the Canadian government
publicly gave notice of its intention to amend the
Income Tax Act to remove the tax benefits which
prompted the plaintiff to extend its operations
outside of Canada.
Had the plaintiff been solely tax driven I am
satisfied that it would have discontinued its plans
to establish itself in Bermuda when it satisfied
itself that there would be no, or minimal, tax
benefits to be derived from doing so. It did not,
however, abandon its plans for once it had decided
to enter the Bermuda market, for whatever reason,
it implemented that plan in a thoroughly business
like and well-considered manner.
It is not necessary to detail step-by-step every
activity which the plaintiff took to establish its
Bermuda operation. Instead, I think a short list of
its activities should be sufficient. In this respect
during 1976 the plaintiff caused the following
steps to be taken:
a) It obtained several opinions from its solicitors with respect
to all aspects of Bermuda law which would be relevant to its
proposed operations.
b) It sent one of its senior personnel to Bermuda to study the
potential of Bermuda as a market for life insurance and to
identify a suitable firm to represent it.
c) On May 11, 1976, after Mr. Alex Jeffery, the then Presi
dent of the plaintiff, personally assured Harnett & Richardson
Limited of Bermuda that the plaintiff had a long-term interest
in Bermuda it appointed that firm as its Bermuda agent and
authorized it to apply for a Bermuda licence to allow the
plaintiff to carry on the life insurance business in that country
which licence was obtained on June 24, 1976.
d) In early June of 1976 it sent its solicitor to Bermuda for
meetings with bankers, lawyers and the plaintiff's agent for the
purpose of further assessing the particular requirements of
doing business in Bermuda.
e) It had the heads of its various departments prepare written
submissions on any changes in the plaintiff's procedures which
would be necessary as a result of its entry into the Bermuda
market and held many meetings of its senior executive person
nel to plan and execute the proposed venture.
f) It prepared special insurance policy and application forms
for the several types of insurance intended for the Bermuda
market which, among other things, provided that Bermuda law
would apply and that payment would be made in Bermuda
currency.
g) It brought Mr. Simon Evrett, the Director of Harnett &
Richardson Limited's insurance operation, to London, Ontario,
for a week of meetings and indoctrination.
h) It set up a system of contracts for premium billings and
collections for the Bermuda market.
i) Through Harnett & Richardson Limited it solicited many
Bermuda residents to take policies with it and provided rate
quotations to potential policy holders.
j) It opened bank accounts in Bermuda into which it deposited
$100,000.
k) In late December 1976 Mr. John Fowler, a marketing
executive with the plaintiff, was sent to Bermuda to conclude
the formal agency agreement with Harnett & Richardson
Limited at which time the first two policies which had been
issued for Bermuda residents were given to the agent for
delivery to the policy holders.
Both in her pleadings and in her counsel's argu
ment the defendant submits that Harnett & Rich-
ardson Limited's authority to act on behalf of the
plaintiff was so limited that the plaintiff cannot be
considered to be carrying on business in Bermuda
through its agent.
Specifically the defendant says that the agent
was only authorized, under the agency agreement
of December 30, 1976, to solicit applications for
insurance policies to be issued by the plaintiff, to
receive premiums therefor, and to draw cheques on
the plaintiff's current bank account to make pay
ments for Commissions, Stamp Tax and such
other liabilities as the plaintiff would from time to
time designate.
The defendant, in paragraph 3 of the statement
of defence, refers to the several limitations placed
upon the agent's authority by the agency agree
ment as follows:
(1) could not bind the Plaintiff in any way;
(2) could not interpret a contract of insurance so as to bind the
Plaintiff;
(3) could not make, alter or discharge a contract;
(4) could not extend the time for payment of any premium;
(5) could not waive any forfeiture or grant any permit;
(6) could not incur any liability on behalf of the Plaintiff;
(7) could not make or allow the delivery of any policy not
issued under a binding receipt, unless the applicant was at the
time in good health and the first premium had been paid;
(8) could not collect a premium on any policy or a payment on
any policy loan except as he might be authorized under this
Agreement;
(9) could not give a receipt for any premium or payment
except upon the printed form of receipt furnished by the
Plaintiff for that purpose;
(10) could not vary any of the conditions contained in any
printed form or receipt;
(ll) could not institute or defend legal proceedings for any
cause in connection with the transaction of the Plaintiff's
business;
(12) could not publish any advertisement relating in any way
to the business of the Plaintiff until a copy of same had been
submitted to and approved by the Plaintiff.
In paragraph 6 of the statement of defence the
defendant says that any business which the plain
tiff may have carried on by insuring lives in Ber-
muda was carried on in Canada in that:
(a) any and all applications for the insurance of lives in
Bermuda were required to be submitted, and they were in fact
submitted, to the Plaintiff in Canada,
(b) all decisions required to be made by the Plaintiff regarding
the acceptance or rejection of applications for the insurance of
lives in Bermuda were required to be made, and they were in
fact made, by the Plaintiff in Canada,
(c) any and all contracts of insuring lives in Bermuda were in
fact and law required to be made, and they were in fact made,
in Canada,
(d) any and all insurance policies which the Plaintiff issued on
lives in Bermuda were prepared and issued by the Plaintiff in
Canada,
(e) any and all claims against or arising out of any life
insurance policies on lives in Bermuda were required to be
processed, and they were in fact processed, by the Plaintiff in
Canada, and
(f) any and all business decisions or transactions collateral to
the entering into contracts of insurance on lives in Bermuda
were required to be made or directed, and they were in fact
made or directed by or on behalf of the Plaintiff in Canada.
Furthermore the defendant claims, in paragraph
7 of the statement of defence, that in the 1976
taxation year the plaintiff's agent solicited no
applications for insurance policies to be issued by
the plaintiff on lives in Bermuda and that the two
policies which were issued on residents of Bermuda
resulted from their applications which they sub
mitted to the plaintiff in Canada and which the
plaintiff accepted in Canada.
In his argument counsel for the defendant sub
mitted that the only test to determine where a
business is being carried on is the one stated in
Smidth & Co. v. Greenwood, [1921] 3 K.B. 583
(C.A.). The test set out in that case is that the
place where a business is carried on is wherever
the operations take place from which the profits in
substance arise. Counsel went on to identify the
activities which in his view were in substance
responsible for the profits from the Bermudian
policies as being:
a) the underwriting activities which took place
exclusively in Canada i.e. the activity of the
plaintiff leading up to a decision whether or not
to underwrite the risk that has been offered;
b) of lesser importance, but nevertheless highly
relevant, the financial control activities, such as
the preparation of premium notices, the deter
mination of premiums payable, and the authori
zation of the payment of claims which all took
place entirely in Canada.
Counsel also argued, on the authority of
Grainger & Son v. Gough, [1896] A.C. 325 (H.L.)
that the mere solicitation of insurance applications
by the plaintiff's agent in Bermuda is not sufficient
to permit the conclusion that the plaintiff was
carrying on business there.
Counsel for the plaintiff argued that, notwith
standing the written agreement between the plain
tiff and its agent, the agent could and did bind the
plaintiff to the terms of interim insurance cover
age, that the agent could and did complete the
contracts of insurance by delivering the policies to
the applicants, and that thereby the contracts of
insurance were made in Bermuda. The place where
the contracts were made, he argues, is an impor
tant if not a determining factor in resolving the
question of whether the plaintiff was carrying on
its business in Bermuda (Firestone Tyre and
Rubber Co. Ltd. (as agents for Firestone Tire and
Rubber Co. of Akron in the United States of
America) v. Lewellin (Inspector of Taxes), [1957]
1 All E.R. 561 (H.L.)).
In this respect there was some confusing evi
dence about the interim insurance coverage, i.e.
the coverage which the policy holder has between
the time he makes his application for coverage and
the time the contract of insurance is completed by
delivery to him of the policy by the agent, provid
ing that the applicant has tendered with the
application the amount of the first premium.
On the authority of Zurich Life Insurance Co.
of Canada v. Davies, [1981] 2 S.C.R. 670 and
Matchett v. London Life Ins. Co. (1985), 14
C.C.L.I. 89 (Sask. C.A.), I am satisfied that it was
within the authority of the plaintiff's agent to bind
the plaintiff to this coverage and that that con
tract, like the contract represented by the policy
itself, was completed in Bermuda. However I share
the view of counsel for the defendant that the bare
completion of those contracts by the formality of
accepting an application in the one case and the
delivery of a policy in the other case is by itself of
little assistance in determining whether the plain
tiff was carrying on business in Bermuda.
Counsel for the plaintiff also advances the argu
ment that I should have regard to section 253 of
the Income Tax Act and subsection 2(1) of the
Canadian and British Insurance Companies Act,
R.S.C. 1970, c. I-15 in determining whether the
activities of the plaintiff through its agent in Ber-
muda constituted the carrying on of its business
there.
Section 253 is a deeming provision of the
Income Tax Act which provides that a non-resi
dent of Canada who solicits orders or offers any-
thing for sale in Canada will be deemed to have
been carrying on business in Canada. Counsel
submits if that is the test which Canada applies to
determine whether a non-resident is carrying on
business in Canada it would be an appropriate test
for me to apply in order to determine whether a
Canadian resident is carrying on business in
Bermuda.
Presumably by way of buttressing this argu
ment, as well as his argument with respect to the
completion of the insurance contracts in Bermuda,
the plaintiff tendered the expert evidence of
Smedly, Q.C. of Bermuda who said that for the
purposes of Bermuda statutory law the activities of
the plaintiff through its agent would be considered
to be carrying on the insurance business in
Bermuda.
He also cites subsection 2(1) of the Canadian
and British Insurance Companies Act, which
defines the "business of insurance" as, among
other acts, as any act of inducement to enter a
contract of insurance and submits that this defini
tion should be applied to the concept of carrying
on an insurance business in a country other than
Canada as provided for in subsection 138(9) [as
am. by S.C. 1973-74, c. 14, s. 47] of the Income
Tax Act.
If one were to apply these statutory provisions to
the plaintiff's activities in Bermuda in 1976 it
would be clear, because the agent solicited insur
ance applications and induced persons to enter into
contracts of insurance in Bermuda, that the plain
tiff did, within the meaning of those statutory
provisions as well as within the meaning of the
relevant provisions of Bermuda's legislation, carry
on the insurance business in Bermuda.
Once again I find these statutory provisions, by
themselves, of little assistance in determining the
issue in this matter. I note that section 253 of the
Income Tax Act is a deeming provision and com
mences with the phrase: "Extended meaning of
carrying on business". That indicates to me that it
extends beyond the normal or generally accepted
meaning of the expression.
I note also that the definition in the Bermudian
legislation would characterize as carrying on the
insurance business in Bermuda, a non-resident who
merely advertised in Bermuda insurance for sale in
Canada which, in my view, clearly extends beyond
any generally accepted meaning of the term.
The Canadian statutory provisions define what
will constitute the carrying on of business and the
carrying on of an insurance business in Canada for
the purpose of that particular Canadian legisla
tion. The provisions do not purport to define what
will constitute the carrying on of a business or an
insurance business outside of Canada by a Canadi-
an resident. Nor does the Bermudian legislation
purport to determine, for the purposes of the
Canadian Income Tax Act, what will constitute
the prosecution of the insurance business in
Bermuda.
Dubé J. put in perspective the matter of the
place where the contracts are made and the place
where the operations take place from which the
profits arise in Cutlers Guild Limited v. Minister
of National Revenue (1981), 81 DTC 5093
(F.C.T.D.), at page 5095 where he observed:
Whether or not a taxpayer is carrying on a business in
another country is a question of fact to be detemined in each
case. Courts have ruled that the place where sales, or contracts
of sale, are effected is of substantial importance. However, the
place of sale may not be the determining factor if there are
other circumstances present that outweigh its importance.
(Firestone Tyre & Rubber Co. Ltd. v. Lewellin, (1957) 37 T.C.
111 (House of Lords).)
Another test emanating from the jurisprudence is "Where do
the operations take place from which the profits arise?" Solicit
ing orders in one country may only be ancillary to the exercise
of a trade in another country. (F.L. Smidth & Co. v. F.
Greenwood) (1922) 8 T.C. 193 (House of Lords). Certain
authorities establish that activities and operations other than
contracts for sale constitute the carrying on of a business,
especially where these respective activities and operations pro
duce or earn income. While income may be realized through
sales, it may not arise entirely from that one activity or
operation. (S.T.J in Wm. Wrighley Jr. Company Limited v.
Provincial Treasurer of Manitoba [1947] C.T.C. 304 con
firmed by the Privy Council [1949] C.T.C. 377.) Purchasing of
merchandise in one country (i.e. Japan) with the view of
trading in it elsewhere (Canada) does not, of course, constitute
an exercise of the trade in the former country. (Grainger & Son
v. William Lane Gough [1896] A.C. 325 (House of Lords).)
Counsel for the defendant relied heavily on
Smidth & Co. v. Greenwood, [1921] 3 K.B. 583
(C.A.), referring to it as "perhaps the most impor
tant case". He emphasized the following passage
from the decision of Atkin L.J., at page 593:
The contracts in this case were made abroad. But I am not
prepared to hold that this test is decisive. I can imagine cases
where the contract of resale is made abroad, and yet the
manufacture of the goods, some negotiation of the terms, and
complete execution of the contract take place here under such
circumstances that the trade was in truth exercised here. I
think that the question is, Where do the operations take place
from which the profits in substance arise?
In that case, as well as in Grainger & Son v.
Gough, [1896] A.C. 325 (H.L.), the Court was
required to determine the meaning of an expres
sion used in the taxing legislation of the United
Kingdom which expression is not the same as that
used in subsection 138(9) of the Canadian Income
Tax Act. The test or question stated by Atkin L.J.
is thus applicable to the interpretation of the
relevant tax legislation of the United Kingdom
which is quite different from the Canadian
legislation.
Atkin L.J. was not addressing the issue of
whether the taxpayer was carrying on business in a
country (which is the expression in subsection
138(9) of the Canadian Income Tax Act) but the
narrower question of whether the profits sought to
be taxed arose out of the trade which was exer
cised in the country, and it was for that reason that
the carrying on of a business or the exercise of a
trade was necessarily related to the place where
the profits arise. This seems clear from his obser
vations at page 593 immediately before the pas
sage cited by counsel for the defendant.
The question is whether the profits brought into charge are
"profits arising or accruing" to the respondents "from any
trade ... exercised within the United Kingdom" within the
meaning of Sch. D. of the Income Tax Act, 1853. The question
is not whether the respondents carry on business in this coun
try. It is whether they exercise a trade in this country so that
profits accrue to them from the trade so exercised.
From that I conclude that the "profits" test
relied upon by counsel for the defendant is not as
determinative of the issue in this matter as he
would urge it to be, and that the concept of a
person carrying on a business in a country is
somewhat broader than the more restrictive inter
pretation of the United Kingdom legislation con
tained in the two cases to which I have referred.
Although I have indicated that the place where
the contracts are made, the place where the profits
arise, and the legislative definitions are of little
assistance or are not determinative of the issue
before me, I do not discount them entirely. I
simply mean to say that no single one of those
arguments in itself persuades me I should thereby
conclude that the plaintiff was carrying on busi
ness in Bermuda in 1976. Because, however, I have
concluded that the operations which the plaintiff
conducts through its agent in Bermuda fall within
the parameters of all three methods suggested to
me for determining the question in issue, and
because of the nature of the insurance business I
have concluded that the plaintiff did carry on its
business in Bermuda in its 1976 taxation year.
In so far as the place where the contracts are
made dictates that as the place where the business
is carried on, the plaintiff makes its contracts of
insurance on lives of Bermudian policy holders in
Bermuda. I am satisfied that the interim insurance
coverage is effected in Bermuda by the completion
in Bermuda of the requisite formalities. Similarly I
am satisfied that the contract of insurance repre
sented by the written policy is completed in Ber-
muda by the delivery in Bermuda to the applicant
of the policy itself.
Although counsel for the defendant brushed this
aside as a mere formality, and I tend to agree with
him, I cannot agree with his suggestion that the
agent's duty to assure himself that there had been
no perceivable change in the applicant's insurable
status before he concluded the contract by deliver
ing the policy is a mere formality without
substance.
The policies themselves provide that the con
tract will not come into effect until they are deliv
ered to the insured. The delivery and final, even
though cursory, assessment of the continued insur-
ability of the proposed policy holder is an impor
tant condition precedent to the completion of the
contract. It is also a procedure or action which is
vital to the protection of the business interest of
the plaintiff and one which is performed by the
plaintiff's agent in Bermuda.
I have already suggested that the "profits" test
may have its limitations because of the require
ment under the United Kingdom legislation that
there be profits in the United Kingdom from the
exercise of the trade. It is not unusual that a new
business will have no profits for a substantial
period of time but it will nevertheless be carrying
on business. However it is not necessary, or even
possible, for me to determine whether the plaintiff
derived a profit from its 1976 operations in Ber-
muda. By any standard the direct and allocable
costs attributable to the Bermuda operation for
1976 would have resulted in a loss. The question, if
I were to apply the "profits" test, would be wheth
er those operations which the plaintiff carried on
through its agent in Bermuda during 1976 were
the beginning of a proposed or systematic type of
operation out of which the plaintiff could reason
ably expect to derive a profit. In my view they
were.
An insurance company carries on its business by
underwriting risks, collecting premiums, investing
the funds represented by the premiums, paying
losses, fixing rates, advertising and in a host of
other ways but, as counsel for the plaintiff says,
without the huge force of insurance agents there
would be no business and no profits. The insurance
salesman, agent, underwriter or broker and the
activities which he carries on are not, like the wine
makers' and manufacturers' representatives,
merely to accept or even solicit orders, which has
been found to be ancillary to the main business of
buying, storing, selling or manufacturing the prod
uct. The insurance agent represents the insurance
company and on its behalf carries on a major and
essential portion of the insurance company's busi
ness operations.
Counsel for the defendant characterizes the in
surance agent as a person who simply takes orders
for a policy and submits the premium to the
company. If that were the case there would have
been little need for the elaborate preparations
which the plaintiff made prior to embarking upon
its Bermuda venture. The insurance company's
sales force not only solicits insurance and collects
the premiums, but the agents promote the various
policies available, make various proposals to pros
pective policy holders, complete the applications,
arrange for the medical examinations, bind the
company to interim insurance coverage, complete
the contract of insurance by delivering the policy
and deliver the cheque in payment of a claim.
The agent also has, in Bermuda, the responsibil
ity of assessing the "persistency rating" of a policy
holder i.e. the likelihood of the applicant continu
ing with the payment of the premiums. The profits
of the plaintiff and the renewal commissions of the
agent are dependent on the accuracy of the agent's
assessment in this respect. The agent also has the
responsibility, already referred to, prior to com
pleting the contract of insurance by delivery of the
policy, to assure himself that there has been no
material change in the risk during the interval
between taking the application and the delivery of
the policy. A further and important part of the
agent's activities on behalf of the company is to
service the policy and deal directly with the policy
holder on any problems which arise.
It was by these activities or operations which the
plaintiff carried on through its agent in Bermuda
that the plaintiff expected to derive a profit, not in
1976, but as the business which it started in 1976
grew. By that test the plaintiff was, in my view,
carrying on business in Bermuda.
The fact that the plaintiff issued only two poli
cies in Bermuda in 1976, and then only at the end
of December, is of little consequence. The plaintiff
put in motion its plan to operate in Bermuda in
May and thereafter did all things necessary to
implement that plan. Its intention to carry on its
business in Bermuda was evident well before
December 1976. It had, as early as August of
1976, embarked upon its business by having its
agent solicit insurance contracts from Bermudian
residents with the intention that the venture would
continue indefinitely. The operations of 1976 were
but the beginning of a systematic or habitual series
of activities which were intended to and did contin
ue with a view of producing a profit.
While I have previously noted that I do not
accept the argument of counsel for the plaintiff
that the meaning assigned to the business of insur
ance in the several pieces of legislation to which he
referred me should be applied to determine wheth
er the plaintiff was carrying on business in Ber-
muda, I do note that throughout the various defi
nitions there is the common thread that the
inducement of persons to enter into contracts of
insurance is considered to be the business of
insurance.
Whatever reservations I may have with respect
to applying legislative definitions to an activity
which must be determined on the facts, it appears
to me that the inducement of persons to enter into
contracts of insurance fairly describes the business
of an insurance company, or at least a vital portion
of that business. In my view it can be fairly said
that the business of an insurance company is sell
ing insurance. It is, of course, other things as well,
but it is certainly that, and it carries on that
portion of its business through its sales agents. In
this matter the plaintiff, through its agent in Ber-
muda, induces residents of Bermuda to enter into
contracts of insurance in Bermuda. Accordingly if
I were to apply the "legislative" test suggested by
counsel for the plaintiff I would also find that the
plaintiff was carrying on business in Bermuda.
Thus, although no one of the several tests to
which counsel have referred me is determinative,
the cumulative effect of applying them all has
been. The contracts of insurance issued in 1976
were made in Bermuda, a vital part of the compa-
ny's business, its sales operations, was conducted
in Bermuda through its agent, and the induce
ments to have residents of Bermuda enter into life
insurance contracts clearly fell within the
common, and also legislatively defined, meaning of
carrying on the insurance business. Those circum
stances, combined with the other activities carried
on by the plaintiff's agent in Bermuda, to which I
have already made reference, have satisfied me
that in 1976 the plaintiff did carry on its business
in Bermuda.
Accordingly I direct that the 1976 reassessment
be referred back to the Minister for reassessment
of tax under Part I in accordance with the method
contemplated by subsection 138(9) of the Act and
Part XXIV of the Regulations as they read in
respect of the 1976 taxation year.
The second part of the plaintiff's appeal is in
respect of both its 1975 and 1976 taxation years
and relates to the reductions in expenses claimed
by the plaintiff by reason of the fact that the
Minister treated or characterized certain amounts
received by the plaintiff from its subsidiary, Lon-
life Data Services Limited ("L.D.S."), as a reduc
tion of expenses rather than as income received.
It is this portion of the plaintiffs appeal which,
as I have already noted, has given rise to the delay
in filing my decision. Even though counsel took the
most elaborate and detailed efforts to guide me
through the evidence I was not able, by the end of
the trial, to crystallize in my own mind any suc
cinct exposition of the issues to be addressed. I am
not sure that my painstaking and lengthy efforts to
resolve this difficulty since the trial have been
successful.
The plaintiff uses computer equipment in carry
ing on its insurance business. Because the equip
ment must have the capacity to handle the peak
demand loads of the plaintiff's business there
exists extra capacity when the plaintiffs require
ments are at less than peak or maximum.
Realizing this, the plaintiff wanted to turn that
excess capacity to account. The natural method of
doing this would be to sell or lease the excess
capacity to others for a fee. However the plaintiff's
business is subject to the provisions of the Canadi-
an and British Insurance Companies Act, which
counsel for the parties to this action inform me
prohibits the plaintiff from selling that capacity to
the public at large.
The plaintiff, however, is not prohibited from
providing that excess capacity to a subsidiary
which in turn may sell it to the public. According
ly, with the apparent approval of the Superintend
ent of Insurance, the plaintiff incorporated a whol-
ly-owned subsidiary, L.D.S., which acquired that
excess capacity, or portion of it, and with it pro
vided computer services to the public.
L.D.S. paid the plaintiff for this capacity an
annual amount calculated as a percentage of cer
tain actual and fictional expenses incurred by the
plaintiff in the operation of the computer. By the
direction of the Superintendent of Insurance the
plaintiff, in this arrangement with L.D.S., was not
permitted to make a profit or suffer a loss as
determined by the methods of accounting pre
scribed for life insurance companies.
I should note here that because the accounting
methods prescribed by the plaintiff as an insurance
company are not precisely the same as those which
determine the plaintiff's liability for income tax, it
does not follow from the Superintendent's direc
tives that there could not be a taxable income or a
loss resulting from the arrangement into which the
plaintiff entered with L.D.S. Nor, as I understand
the evidence, does it follow that the plaintiffs
unconsolidated corporate financial statements
would necessarily show a "no profit/no loss"
arrangement.
For its 1975 and 1976 taxation years, the plain
tiff carried on this arrangement with its subsidiary
and, for the purposes of its insurance accounting
requirements, made neither a profit nor sustained
a loss. In its annual statements for those years,
which it was required to submit to the Superin
tendent of Insurance, the revenues and expenses
associated with the intercompany computer busi
ness were shown as net amounts which sometimes
offset one another in individual categories, and the
net totals of each category, which offset each other
completely. This was as required and to the satis
faction of the Superintendent of Insurance.
In filing its income tax returns for the same
years, however, the plaintiff did not report the
revenues and expenses in the same manner as it
did for the Superintendent of Insurance. Indeed it
reported all of the funds received from L.D.S. as
income and all of the expenses, which it considered
as deductible expenses, as expenses.
This had the result of increasing the plaintiff's
income as well as its expenses. It also gave rise to
the result which formed the basis for the defendant
reassessing the plaintiff for those two years. The
reassessment was for additional tax in each year
under Part XII of the Income Tax Act by reason
of the defendant reducing the expenses deductible
in computing the amounts on which the Part XII
tax was applicable.
Part XII of the Act, now repealed [S.C. 1977-
78, c. 1, s. 91], contained special provisions for the
taxation of investment income of a life insurer
arising in the course of its Canadian life insurance
business. Subsection 209(2) [as am. by S.C. 1974-
75-76, c. 26, s. 117] also provided for the deduc
tion of expenses incurred in carrying on its life
insurance business. Fifty percent of any expense so
incured was allowed as a deduction and the result
ant taxable income was taxed at the rate of 15%.
By adding 50% of the gross expenses associated
with its income from L.D.S. to 50% of each of the
other expenses incurred in carrying on its life
insurance business, the plaintiff reduced its taxable
income from its life insurance business by an
equivalent amount and its tax by 15% of that
amount.
The defendant disallowed the deductions
associated with the income received by the plain
tiff from L.D.S. on the grounds that:
a) the amounts shown as income by the plaintiff
from L.D.S. were not income of the plaintiff but
were operating expenses incurred by the plain
tiff on behalf of L.D.S. for which the plaintiff
was reimbursed; and
b) even if the amounts received by the plaintiff
from L.D.S. were income from the sale of excess
computer capacity the amounts were income of
the plaintiff from a business other than the
plaintiff's life insurance business and the
amounts shown as expenses, 50% of the total of
which are claimed as deductions, are not deduct
ible under the provisions of subsection 209(2)
because they were incurred for the purpose of
earning income from the sale of excess computer
capacity and not for the purpose of carrying on
the life insurance business.
As counsel for the defendant put the issue to me
in argument:
... these expenses in question
(1) were not expenses of the plaintiff but, in fact and law,
expenses of Lonlife Data Services Limited;
(2) even if these expenses were expenses of the plaintiff rather
than Lonlife Data Services Limited, they were nevertheless not
incurred for the purpose of carrying on a life insurance business
but were, rather, incurred for the purpose of providing comput
er services.
To resolve those issues I must, as I understand
them, answer the following questions:
1. Was the amount received by the plaintiff
from L.D.S. as payment for the plaintiff's excess
computer capacity properly characterized as
income of the plaintiff?
2. If the amount was income earned by the
plaintiff and for which it incurred expenses,
were the expenses incurred by the plaintiff on its
own behalf or by the plaintiff on behalf of
L.D.S. and for which the plaintiff was
reimbursed?
3. If the expenses were incurred by the plaintiff
on its own behalf, were they incurred for the
purpose of carrying on the life insurance busi
ness and therefore deductible under subsection
209(2) of the Act?
The defendant submits that the amounts charac
terized by the plaintiff as income from L.D.S.
cannot be characterized as such because the
arrangement was made on a no profit/no loss basis.
Counsel for the defendant cites Dickson J. (as he
then was) in Moldowan v. The Queen, [1978] 1
S.C.R. 480, at page 485 for the proposition that
there can be no income without a profit or a
reasonable expectation of profit. Counsel then sub
mits that because of the no profit/no loss arrange
ment between the plaintiff and L.D.S. there could
be no profit or reasonable expectation of profit and
thus no income in the hands of the plaintiff result
ing from that arrangement.
The error in this submission is that the no
profit/no loss arrangement between the plaintiff
and L.D.S. was with reference to the manner in
which the plaintiff was obliged to keep its accounts
for the Superintendent of Insurance under the
provisions of the Canadian and British Insurance
Companies Act. It was within the confines of those
provisions that the plaintiff could not show a profit
or a loss. Under those provisions, for example, the
plaintiff properly allocated to L.D.S. as an expense
a portion of the rent which the Superintendent of
Insurance required the plaintiff to charge itself for
premises which were in fact owned by the plaintiff.
As this was not an expense of the plaintiff in
providing the computer services to L.D.S. it repre
sented at least the possibility or reasonable expec
tation of a profit to the plaintiff to that extent. In
the same way portions of other expenses incurred
by the plaintiff in providing services to L.D.S.
which would have been incurred in any event, such
as equipment rentals and salaries, were reduced by
allocating a portion of them to L.D.S. The reduc
tion of the plaintiff's overall costs thus also repre
sented additional income or profit in the hands of
the plaintiff in a business sense if not in the
accounting methods prescribed by the Superin
tendent of Insurance.
In my view the plaintiff, in a business sense, had
a reasonable expectation of making a profit from
the arrangement and, for the purposes of the
Income Tax Act, properly characterized the reve
nue from L.D.S. as income from a business.
The defendant also submits that even if the
amount received by the plaintiff from L.D.S. is
income in respect of which it incurred expenses,
the expenses were incurred, not by the plaintiff on
its own behalf, but by the plaintiff on behalf of
L.D.S. Counsel for the defendant likens this
arrangement to an agency relationship where the
plaintiff is the agent and L.D.S. is the principal
which had simply reimbursed the plaintiff for
expenses or outlays which the plaintiff made on its
behalf.
Once again I do not agree. The fact is that
practically all of the expenses which went to make
up the annual charge to L.D.S. would have been
incurred by the plaintiff without the existence of
its arrangement with L.D.S. They were therefore,
in my view, incurred by the plaintiff in its own
right and not on behalf of L.D.S. There is no
suggestion in the evidence that the salaries of the
plaintiff's staff would have been reduced or that
the number of employees of the plaintiff would
have been reduced if the plaintiff had not entered
into the arrangement with L.D.S. Similarly the
computer equipment would have required the same
amount to maintain and repair it and would have
depreciated to the same extent. What was charged
by the plaintiff to L.D.S. for the provision of the
excess computer capacity was an annual fee cal
culated in accordance with the guidelines of the
Superintendent of Insurance and by reference to
percentages of certain costs of the plaintiff allowed
as costs under the provisions of the Canadian and
British Insurance Companies Act. The expenses
were incurred by the plaintiff in its own right and
not on behalf of L.D.S. Indeed the rent and
depreciation amounts which were allocated and
made up some $60,000 of the 1976 charge to
L.D.S. were not incurred by the plaintiff at all and
therefore could not possibly be considered as reim
bursed expenses because there was no outlay by
the plaintiff and therefore nothing to be reim
bursed.
I come now to the third and, to me, the most
troublesome question which is, assuming the
income is income of the plaintiff and the expenses
are expenses of the plaintiff properly incurred in
rendering the computer service to L.D.S., were the
expenses incurred for the purpose of carrying on
the plaintiff's life insurance business and therefore
deductible under subsection 209(2) of the Act?
Counsel for the defendant submits that in order
for the expenses relating to the L.D.S. arrange
ment to be deductible under Part XII of the Act
they must have been incurred by the plaintiff for
the purpose of carrying on its life insurance busi
ness. Because these expenses were incurred for the
purpose of providing a computer service to L.D.S.
and not for the purpose of carrying on the plain
tiff's life insurance business, according to counsel
for the defendant, they are not deductible within
the meaning of subsection 209(2) of the Act.
Counsel for the plaintiff argues that the
expenses were incurred to carry on the plaintiff's
life insurance business. The expenses are associat
ed with the operation of the plaintiff's computer,
the operation of which is a part of the operation of
its life insurance business. He argues, and I agree,
that the plaintiff had to have the extra capacity to
service its peak demands and that the expenses
claimed would have been incurred whether or not
there had been any arrangements with L.D.S.
Counsel referred me to Joyal J.'s decision in The
Excelsior Life Insurance Company v. The Queen
(1985), 85 DTC 5164 (F.C.T.D.) which he sug
gested clearly established that the expenses may be
taken into account. If I understand the effect of
that decision counsel is correct in his assertion that
the disputed expenses should be allowed.
In that case an expense was incurred by the
taxpayer a portion of which was attributable to its
life insurance business and a portion of which was
not. The Minister disallowed the latter portion.
Joyal J. allowed the taxpayer's appeal against that
decision saying, in effect, that expenses allowed
under Part I of the Act are also allowed under
Part XII whether or not they are attributable to
the taxpayer's life insurance business. In this case
the evidence is that the plaintiff completed its Part
I tax return using gross income and gross expenses.
Mr. James Macdonald, the plaintiff's comptroller
in 1975 and 1976 and now its Director of Taxation
and Cash Management, described how this was
done.
I think what you've outlined follows essentially how we had
filed our tax return for Part I; in other words, we had grossed
up the Lonlife expenses and we had grossed up depreciation
and grossed up the rent, as has been done there. So, for Part I,
we felt that it was the correct way to handle it—the expenses
should be grossed up and the other items shown as miscellane
ous income so they came into the tax calculation.
To the best of my knowledge, there was no adjustment made
as to how we did the Part I calculation. It was when we came to
doing the Part XII in determining the 50% administrative
expenses that they indicated that we could not treat the Lonlife
payment to us, the charge to Lonlife, as miscellaneous income;
we had to use it as a net of expense.
We understand there's an inconsistency there between how
we're treated under Part XII and how we're treated under
Part I. To do Part I properly, you have to gross it up and take
off the gross depreciation and take out the gross rental in order
to come up with the proper figures.
Thus the expenses, the subject of this action,
were allowed under Part I but, by requiring the
plaintiff to file net figures for income and expenses
under Part XII, they were effectively disallowed.
Assuming that I have interpreted Joyal J.'s deci
sion properly, this the defendant is not entitled to
do and this is the conclusion that I have reached.
Accordingly, the plaintiff's appeal on this issue
will be allowed and the assessments of tax for the
plaintiff's 1975 and 1976 taxation years, for the
purposes of Part XII of the Act, are referred back
to the Minister for reassessment on the basis that
amounts received by the plaintiff from L.D.S. did
not reduce expenses incurred by the plaintiff
deductible under Part XII of the Act.
Counsel for the plaintiff is asked to submit a
draft judgment for signature, in accordance with
these reasons, pursuant to paragraph 2(b) of Rule
337 of the Federal Court Rules [C.R.C., c. 663]
and approved as to form by counsel for the
defendant.
The plaintiff shall have its costs.
You are being directed to the most recent version of the statute which may not be the version considered at the time of the judgment.