A Fixture or a Chattel: The $4.2 Million Question

Likely because the application of the law is uncertain, commercial leases generally have detailed clauses dealing with the question of when a piece of equipment or an improvement installed in a premises becomes a fixture or remains a chattel.  The answer matters as fixtures, in law, are considered to be part of the land and, at the end of a lease, ordinarily would revert to the landlord with the land.

Last year, I blogged about the relevant legal test and its application to equipment installed at a ranch, in part to demonstrate how difficult and apparently whimsical its application could be.  Even though lease terms have evolved to avoid the need go to court over such issues, the question is still one of great importance on occasion.  For example, taxing statutes often rely on the value of “land” to calculate taxes.  If the land includes valuable equipment, the taxes payable will be far greater.

Just such a case recently came before the BC Court of Appeal.  It involved machinery and equipment installed at a pulp mill.  The pulp mill went into bankruptcy.  Subsequently, Zellstoff Celgar Ltd. purchased the assets of the pulp mill from the bankruptcy trustee.  The question was ‘what amount of property purchase tax was payable?’.  If the pulp mill equipment and machinery were fixtures, and therefore part of the land, the tax was in excess of $4.5 million.  If, however, they were chattels, and not part of the land, then the tax payable was only $286,000.

Quite a significant difference.

Zellstoff appealed the taxing authority’s determination that the property transfer tax payable was in excess of $4.5 million based on the fair market value of the land.  The chambers judge agreed with the taxing authority and upheld the tax on the grounds that the assets were fixtures.  With $4.2 million in the balance, Zellstoff appealed.  The Court of Appeal upheld the original decision and, in the course of doing so, may have provided helpful guidance on how to apply the fixture/chattel test.

The Court of Appeal reviewed a number of leading cases on the fixture/chattel test.  The gravamen of the test is whether the purpose of attaching the object to the land was for the better use of the object itself or for the better use of the land it was attached to.  The Court noted that each case depends on its own facts and that “in most cases it can be equally argued that the object of annexation was for the better use of the items as chattels or for the better use of the lands.”

However, the Court went on to provide some guidance on how to make this problematic distinction.  To begin with, the answer “should be informed by all of the relevant circumstances, including the objective intention with respect to the duration of the annexation and the use of the lands.”  Was the purpose of affixing the object to the land occasional or temporary? Or was it permanent?  Permanence was described as an instance where the “object of having the item in question remain where it is so long as it serves its purpose.”  Therefore, wall to wall carpeting, though lightly attached, can become a fixture (see: LaSalle Recreations Ltd. v. Canadian Camdex Investments Ltd. (1969) 4 D.L.R. (3d) 549).  Conversely, industrial equipment bolted to the floor and used to produce concrete blocks can be chattels (see: Turismo Industries Ltd. v. Kovacs, [1977] W.W.R. 193).  A Court will ask questions such as how long has the object been in place; what is its purpose and use; who owns the land and what was it being used for over what period of time; has the object ever been moved, modified or repaired; has the land been modified to suit the object; has the object served its expected lifespan?

The key is to determine the objective intention of the subject asset’s attachment to the land.

In the Zellstoff case, the Court held that:

. . . the evidence established an intention of permanent affixation despite the fact that most of the equipment could be dismantled and sold in a secondary market.  The objective intention was that, barring unforeseen circumstances, the equipment was to remain for its useful lifetime.  Together with her consideration of the use of the land as a pulp mill, this finding informed the judge’s conclusion that the object of annexation was for the better use of the land and that the items of machinery and equipment had therefore become fixtures.

For Zelltsoff, this meant an additional $4.2 million in taxes payable as a consequence of its purchase of the pulp mill assets.

If you are faced with this type of issue, it is better to try to address it before it becomes a question of law for a Court to decide.  Can the transaction be structured properly to minimize adverse consequences?  If it does become a matter before the Courts, make sure you investigate and develop the appropriate evidence needed to satisfy the Court of your position: whether you wish the asset to be a chattel or a fixture.


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