ExxonMobil Wins in Tax Court in Transfer Pricing Dispute

On March 6, 2026, the Tax Court of Canada (the Tax Court) issued a judgment (Judgment) in the matter of ExxonMobil Canada Resources Company v His Majesty the King, 2026 TCC 42 (the Tax Court Appeal) allowing ExxonMobil Canada Resources Company's (EMCRC) appeal from (re)assessments in respect of its 2001 taxation year. This case represents the first fulsome transfer pricing case since 2020. The full Judgment is available here.

Bennett Jones advised EMCRC and the Bennett Jones team included Jehad Haymour, Sophie Virji and Anna Lekach.

Background

The Tax Court Appeal concerned the deductibility of C$36,207,810 of feasibility study costs (Feasibility Study Costs) incurred by ExxonMobil Canada Resources Company in working with other parties to evaluate and progress a pipeline project to transport natural gas from Prudhoe Bay on the North Slope of Alaska to Western Canada and US market hubs (the Project). The Tax Court Appeal also concerned the applicability of Part XIII tax in the amount of C$1,810,391, a statute-barred issue relating to the scope of subparagraph 152(4)(b)(iii) of the Income Tax Act (the Act),and a motion for summary judgment and non-suit relief.

The Feasibility Study Costs were incurred by EMCRC pursuant to a Partial Assignment and Cost Allocation Agreement dated June 15, 2001 and effective December 5, 2000 (the PACA Agreement) between ExxonMobil Production Company (EMPC, a division of Exxon Mobil Corporation (EM Corp) and ExxonMobil Resources Ltd., the predecessor to EMCRC.

Under the PACA Agreement, EMCRC was assigned 68% of EMPC's one third participating interest in the Alaskan Gas Pipeline Project Agreement dated December 5, 2000 (the Project Agreement) between EMPC, BP Exploration (Alaska) Inc. and Phillips Alaska, Inc. to undertake the Project. As a result of the terms of the PACA Agreement, EMCRC owned and bore a 22.67% participating interest (i.e. 68% of EMPC's 1/3 participating interest in the Project Agreement) in the rights, duties, benefits, obligations, costs, rewards, risks and liabilities arising in connection with the performance of the Project Agreement. This included an entitlement to 22.67% of the expected benefit of the advancement of any pipeline route under the Project and approximately 22.67% of all costs incurred under the Project Agreement.

In the 2001 taxation year, EMCRC claimed a deduction in respect of the Feasibility Study Costs. The Minister reassessed EMCRC to disallow the Feasibility Study Costs (the Reassessment). The Minister's primary reassessing position was that EMCRC did not incur the Feasibility Study Costs for the purpose of gaining or producing income from its business or property pursuant to paragraph 18(1)(a) (regardless of the reassessment being raised after the normal reassessing period referenced in subsection 152(3.1)). The Minister's secondary reassessing position was that the transfer pricing rules in paragraphs 247(2)(a) and (c) applied to reduce the deduction of the Feasibility Study Costs to nil, and in the alternative, the transfer pricing rules in paragraphs 247(2)(b) and (d) applied to reduce the deduction of the Feasibility Study Costs to nil. At the hearing of the appeal, the Minister advanced the paragraphs 247(2)(b) and (d) position as their primary transfer pricing reassessing position.

Additionally, the Minister assessed EMCRC in the amount of C$1,810,391, being 5% of the disallowed Feasibility Study Costs, on the basis that the payment by EMCRC of the Feasibility Study Costs was a deemed dividend paid by EMCRC to EM Corp and accordingly required EMCRC to withhold and remit Part XIII tax pursuant to subsections 212(2) and 215(1) (the Part XIII Assessment). Of note, the taxation year in issue pre-dates the enactment of subsection 247(12), which deems a dividend as it relates to the disallowed amount.

EMCRC appealed the Reassessment and Part XIII Assessment to the Tax Court. The hearing of the appeal took place over 22 days in 2025 and the Judgment was released on March 6, 2026 allowing EMCRC's appeal in full on the basis that the Feasibility Study Costs were:

1. made or incurred by EMCRC for the purpose of gaining or producing income from a business and deductible in computing its business income under the Act, and more specifically, accepting that EMCRC had a source of income relating to the Project and the limitation in paragraph 18(1)(a) did not apply to limit the deduction; and
2. paragraphs 247(2)(a) and (c) and paragraphs 247(2)(b) and (d) did not apply to limit or deny the deduction of the Feasibility Study Costs.

Further, the Judgment allowed EMCRC's appeal of the Part XIII Assessment and the Part XIII Assessment was vacated.

The following provides an overview of the Tax Court's main findings.

Deductibility of the Feasibility Study Costs

The Tax Court analyzed the deductibility of the Feasibility Study Costs in light of sections 3 and 9 and the limitation provided in paragraph 18(1)(a). The Tax Court considered the Supreme Court of Canada test set out in Stewart v R, 2002 SCC 46 for determining whether there is a source of income and the Stewart test as rephrased by the Federal Court of Appeal in Canada v. Paletta Estate, 2022 FCA 86 and Brown v Canada, 2022 FCA 200. Under both analyses, the Tax Court reached the same conclusion: EMCRC had a source of business income related to the Project. In respect of the Stewart test analysis, the Tax Court reviewed EMCRC's existing business, the purpose and objective of the Project, and the activities carried out under the Project. In respect of the rephrased Stewart test analysis, the Tax Court highlighted numerous objective factors that demonstrated that EMCRC was in pursuit of profit in undertaking the Project.

The Tax Court found that EMCRC was chosen early on as the Canadian affiliate of EM Corp to own the Canadian segment of the projected pipeline. The Tax Court found this choice to be consistent with the purpose for entering into the PACA Agreement, which included (i) the Canadian regulatory framework required ownership and operatorship of the Canadian portion of the pipeline to be housed in a Canadian entity, (ii) EM Corp's corporate policy of not doing business in foreign jurisdictions, and (iii) the business opportunity that presented to EMCRC with this investment of the Canadian segment of a pipeline regulated by the National Energy Board.

After concluding that EMCRC had a source of income relating to the Project, the Tax Court considered whether the limitation provided in paragraph 18(1)(a) applied to deny the deduction of the Feasibility Study Costs. The Tax Court concluded that the limitation in paragraph 18(1)(a) did not apply, as the Feasibility Study Costs were incurred by EMCRC for the purpose of gaining or producing income from EMCRC's business, "which business includes various pipeline interests and pipeline development and were properly deductible in computing [EMCRC's] business income". The Tax Court further concluded that there were sufficient business connections between the Feasibility Study Costs and EMCRC's business.

Transfer Pricing Issues

The Tax Court considered whether paragraphs 247(2)(a) and (c) or paragraphs 247(2)(b) and (d) applied to limit or deny the deduction of the Feasibility Study Costs and outlined the legal principles that govern the application of those paragraphs. Generally, paragraph 247(2)(a) applies where the terms and conditions of the parties’ transaction differ from those that would have been agreed to by arm’s length parties and paragraph 247(2)(b) applies where no arm's length parties would have entered into the transaction in question under any terms and conditions.

An assessment under paragraphs 247(2)(a) and (c) and paragraphs 247(2)(b) and (d) is often aided by expert opinion. EMCRC called two transfer pricing experts as well as a pipeline project development and pipeline regulatory expert. The Minister called one transfer pricing expert.

The Tax Court concluded that EMCRC provided "convincing lay and expert evidence showing that the transfer pricing provisions do not apply to the facts in [the] appeal" and the Minister "did not provide satisfactory evidence to demonstrate, on a balance of probabilities, that its allegations and positions should be maintained in the case at bar".

In particular, the Tax Court concluded that "very limited weight" should be given to the Minister's transfer pricing expert's opinion (both in viva voce evidence and in various filed expert reports) as, in addition to other shortcomings identified by the Court, the expert failed to apply the "widely accepted interpretive aid of the [OECD Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations (the OECD Guidelines)]" and failed to review the main agreement at issue "as drafted and intended by the parties". The Court accepted that the building blocks of a transfer pricing analysis consist of a company analysis, industry analysis, functional analysis (requiring a review of the functions performed, assets held and risks assumed), and economic analysis (requiring the selection and application of a transfer pricing methodology). The Court found that the Minister's transfer pricing expert witness failed to consider these building blocks in their expert report and that the economic analysis employed by the Minister's expert failed to select a transfer pricing method, select a comparable transaction and consider any adjustment.

By contrast, the Tax Court found EMCRC's transfer pricing experts' report to contain "a thorough transfer pricing analysis informed by the interpretive aid of the OECD Guidelines" and their "use of the building blocks" of a transfer pricing analysis accorded with the OECD Guidelines as well as the case law in this area. The Tax Court found that the expert opinions provided by EMCRC's pipeline and regulatory expert and transfer pricing experts were "credible and persuasive…[and] that a lot of weight should be given to their respective expert evidence". The Court also accepted the evidence of all of EMCRC's lay witnesses as being credible, corroborated by the testimony of other witnesses and the contemporaneous documentation tendered into evidence. These evidentiary factors led the Tax Court to conclude that the transfer pricing provisions did not apply to the PACA Agreement and there should be no adjustment to, and no recharacterization of, the transaction under either paragraph 247(2)(c) or paragraph 247(2)(d).

Part XIII Tax Issues

The Part XIII Assessment was raised by the Minister on the basis that paragraph 214(3)(a) (through subsection 56(2) and 246(1)(b)) applied to deem a dividend to have been paid by EMCRC to EM Corp (by virtue of EMCRC paying the Feasibility Study Costs) for the purposes of the application of Part XIII tax. The Tax Court identified a number of issues with this reassessing position both in light of the evidence in this case and the operation of the Act.

Paragraph 214(3)(a) provided, in respect of the 2001 taxation year in issue in this appeal, that where subsection 56(2) (or section 15) would, if Part I of the Act were applicable, require an amount to be included in computing a taxpayer's income, that amount shall be deemed to have been paid to the taxpayer as a dividend from a corporation resident in Canada for the purposes of Part XIII of the Act and thus be subject to tax under subsection 212(2) with the corporation resident in Canada being required to withhold and remit the Part XIII tax pursuant to subsection 215(1).

In respect of subsection 56(2), there are four pre-conditions:

1. the payment must be to a person other than the reassessed taxpayer;
2. the allocation must be at the direction or with the concurrence of the reassessed taxpayer;
3. the payment must be for the benefit of the reassessed taxpayer or for the benefit of another person whom the reassessed taxpayer wished to benefit; and
4. the payment would have been included in the reassessed taxpayer’s income if it had been received by him or her.

The Tax Court held that the last two subsection 56(2) pre-conditions were not met in this case. In particular, the Tax Court held that the payment of the Feasibility Study Costs was not made by EMCRC for the benefit of EM Corp. Specifically the Tax Court held that EMCRC was entitled to the rights, duties, benefits, obligations, costs, rewards, risks and liabilities arising in connection with the performance of the Project Agreement, EMCRC would own the Canadian portion of the pipeline, and the "Feasibility Study Costs were the result of valid and legitimate business operations and were made for business purposes which indicat[ed] that the payment of the Feasibility Study Costs by [EMCRC] were not made for the benefit of EM Corp".

Further, the Tax Court held that paragraph 246(1)(b) or subsection 246(1) could not be used by the Minister to meet the last pre-condition to subsection 56(2). In particular, the Tax Court clarified that "[i]t is not possible to interpret the fourth pre-condition of subsection 56(2) by referring to the benefit provision found in subsection 246(1)" as "[s]ubsection 246(1) is meant to capture benefits that are not otherwise included in the income of a taxpayer under Part I [of the Act]". The Tax Court noted that "it is not appropriate to use a provision, namely subsection 246(1), which is designed to catch the value of benefits conferred on a taxpayer not otherwise included in the taxpayer’s income under Part I, to satisfy requirements of a provision found under Part I [of the Act], namely subsection 56(2)".

As a result of the Tax Court's conclusion that neither subsection 56(2) nor subsection 246(1) applied in the circumstances, paragraph 214(3)(a) also did not apply to deem a dividend to have been paid by EMCRC to EM Corp for the purposes of Part XIII tax. Accordingly, the Part XIII Assessment was vacated.

Takeaway

The Judgment provides a well-reasoned analysis of the transfer pricing legislation in the Income Tax Act (Canada) as well as its interplay with the OECD Guidelines. The Judgment highlights the importance of the OECD transactional recognition principle, the building blocks that make up a transfer pricing analysis, and the weight that may be afforded to expert evidence in Tax Court transfer pricing disputes in light of these two factors.

In addition to the Tax Court's notable comments relevant to transfer pricing matters and disputes, the Judgment contains a useful analysis of the legal principles to apply in finding a source of income for the purposes of the Act and the separate analysis to employ in reviewing the limitation found in paragraph 18(1)(a). Other notable aspects include the analysis surrounding the application of subsection 246(1) generally, the Part XIII tax context, when non-suit motions should be entertained, the principle of lex fori and the scope of subparagraph 152(4)(b)(iii).