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GENERALLY ACCEPTED ACCOUNTING PRINCIPLES AND THE INCOME TAX ACTThe question about the use of generally accepted accounting principles (GAAP) in the determination of income for tax purposes under the Income Tax Act has been subject to an ongoing debate for years. The recent Supreme Court of Canada decision in The Queen v. Friedberg [1993] 2 C.T.C. 306 provides some more guidelines in this area. The Court has stated that GAAP will not be applied if the Court decides that the income determined under GAAP does not reflect "true" income for income tax purposes. The specific facts in this judgment relate to the principles that unrealized profits are not recognized for tax purposes until the period in which realization of the profit occurs, regardless of the treatment of such profits under GAAP. The Crown argued for a method of determining income which, in its view, provided a truer picture of the taxpayer's financial position at year end. At trial, the Court said that a taxpayer is free to adopt any accounting method that is in accordance with GAAP, absent an expressed provision to the contrary in the Income Tax Act. The Court of Appeal agreed with the trial Judge and the Supreme Court of Canada dismissed the Crown's Appeal thereby accepting the taxpayer's position. With respect to the issue of the right of the taxpayer to choose between 2 accounting methods, both of which were acceptable under GAAP, the Court did not find it necessary to decide whether the taxpayer was required to follow the accounting method that produced the better picture of his income because it held that that method was not an appropriate measure of income for tax purposes. The conclusion is therefore that if there are 2 methods acceptable under GAAP but one method is not appropriate at all for tax purposes, then it is not a question of choosing between 2 acceptable methods, because only one method is appropriate for income tax purposes. If, however, there are 2 methods acceptable under GAAP and both methods are otherwise appropriate for tax purposes, it appears that the Court will prefer the method that produces the better picture of income. This latter statement is the implication of another case, the Court of Appeal judgment in West Kootenay Power and Light Company Limited v. The Queen [1992] 1 C.T.C. 15. The Friedberg decision reaffirms the standard view that the determination of income is a question of law and that the Court is not bound to accept an accounting method that does not, in its view, produce an appropriate measure of income for income tax purposes, regardless of the acceptability of the methods under GAAP.
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