Tax Court of Canada Judgments

Date: 20020730

Docket: 2001-3241-IT-I

BETWEEN:

MAURICE G. SYLVAIN,

Appellant,

and

HER MAJESTY THE QUEEN,

Respondent.

Reasonsfor Judgment

McArthur J.

[1]            The issue in these appeals is whether the Appellant may deduct farm losses in excess of the $8,500 and $8,750 allowed by the Minister of National Revenue for his 1997 and 1998 taxation years, respectively, with respect to a horse breeding business. The Appellant's submissions were focused on the phrase "combination of farming and some other source of income" as set out in subsection 31(1) of the Income Tax Act. It reads in part as follows:

Legislation

[2]            The "chief source of income" test is set out in subsection 31(1) of the Act as follows:

31(1)        Where a taxpayer's chief source of income for a taxation year is neither farming nor a combination of farming and some other source of income, for the purposes of sections 3 and 111 the taxpayer's loss, if any, for the year from all farming businesses carried on by the taxpayer shall be deemed to be the total of

(a)            the lesser of ... (a formula follows)

[3]            The Appellant has a PhD. in the field of science and works fulltime with Health Canada in Ottawa. Since 1991, he and his wife have been equal partners in a thoroughbred horse breeding business.[1] During the relevant period, the Appellant's wife also worked for Health Canada. From 1991 to 1998, he reported farming income losses as follows:

	Gross Revenue	Farming Loss	Appellant's Farm Loss	Restricted Farm Loss Carry-forward
1991	$0	$(23,176)	$(7,044)	$(4,544)
1992	5,500	(30,000)	(8,750)	(6,250)
1993	1,070	(45,000)	(8,750)	(6,250)
1994	2,500	(52,182)	(26,091)	0
1995	20,855	(57,274)	(28,637)	0
1996	0	(55,158)	(27,579)	0
1997	20,000	(35,628)	(17,814)	0
1998	0	(48,550)	(24,275)	0
Total	$49,925	$(346,968)	$(148,940)	$(17,044)

[4]            Both the Appellant and his wife are knowledgeable about horses. In 1991, they bought land which included a house and cow barn in Oxford Township, Ontario. They renovated the barn to make it suitable for breeding and raising horses. The house became their home.

[5]            The Appellant is 40 years of age and apparently has no intention of giving up his fulltime employment. His average earnings between 1991 and 1998 were approximately $60,000. Presently, he earns approximately $95,000. The Appellant's Health and Welfare employment consumed about 45 hours of his time weekly. He spent much of his spare time farming through difficult times. From one brood mare in 1992, they have had four since 1995. One of the four mares was diagnosed with an unusual medical condition preventing her from conceiving. From 1992 to 1998, the farm operation had 17 breeding attempts resulting in 10 births with only one sale for $20,000 in 1997. They have no farm vehicles or significant machinery and their animals are boarded at outside facilities for breeding and foaling. The operation was not a hobby for the Appellant who stated he did not like horses and had never ridden one. It would appear that his wife's passion for the business was his motivation.

Position of the Appellant

[6]            The Appellant advances that his losses should not be restricted by subsection 31(1) of the Income Tax Act. The Appellant's comprehensive and ably prepared submissions centre on the interpretation of the phrase "combination of farming and some other source". He believes that the Court's interpretation of the phrase, starting from Moldowan v. Canada, 1 S.C.R. 480, is incomplete. He concludes that "combination of farming and some other source" includes all possible combinations and there is no requirement for farming to be the primary source. He submits that had Parliament intended this requirement it would have clearly said so. He stated that all that is necessary is that there be another source of income in addition to farming, without regard to the significance of the farming activity.

Position of the Respondent

[7]            The Appellant's losses are restricted by subsection 31(1) of the Act because his chief source of income during the 1997 and 1998 taxation years was neither farming nor a combination of farming and some other source of income.

Analysis

[8]            The Appellant's submissions were very articulate and comprehensive. He reviewed the development of the farm loss provisions and the modern approach to statutory interpretation. Unfortunately, he ignored the interpretation of "combination of farming and some other source" as found by the Supreme Court of Canada and the Federal Court of Appeal. I cannot do so. Following the jurisprudence, it is clear that the Appellant's argument must fail.

[9]            The Appellant states that the Court's interpretation of the "combination of farming and some other source" renders the words meaningless. This submission does not withstand close scrutiny. To follow the Appellant's reasoning, as long as taxpayers have some income from farming together with another source, they can always deduct their farming loss without any regard to the significance of the farming operation. This interpretation renders section 31(1) meaningless.

[10]          The Appellant appears to have misunderstood the purpose of section 31. It applies to those for whom farming is not a chief source of income. The section tries to protect a fulltime farmer who obtains a subordinate source of income to sustain his farming activity. His farming losses are not restricted. Dickson J. in Moldowan, supra, clearly states the purpose of section 31 (formerly section 13) at page 5216 as follows:

It is clear that "combination" in section 13[2] cannot mean simple addition of two sources of income for any taxpayer. That would lead to the result that a taxpayer could combine his farming loss with his most important other source of income, thereby constituting his chief source. I do not think s. 13(1) can be properly so construed. Such a construction would mean that the limitation of the section would never apply and, in every case, the taxpayer could deduct the full amount of farming losses.

In my opinion, the Income Tax Act as a whole envisages three classes of farmers:

(1) a taxpayer, for whom farming may reasonably be expected to provide the bulk of income or the centre of work routine. Such a taxpayer, who looks to farming for his livelihood, is free of the limitation of s. 13(1) in those years in which he sustains a farming loss.

(2) the taxpayer who does not look to farming, or to farming and some subordinate source of income, for his livelihood but carried on farming as a sideline business. Such a taxpayer is entitled to the deductions spelled out in s. 13(1) in respect of farming losses.

(3) the taxpayer who does not look to farming, or to farming and some subordinate source of income, for his livelihood and who carried on some farming activities as a hobby. The losses sustained by such a taxpayer on his non-business farming are not deductible in any amount.

The reference in s. 13(1) to a taxpayer whose source of income is a combination of farming and some other source of income is a reference to class (1). It contemplates a man whose major preoccupation is farming, but it recognizes that such a man may have other pecuniary interests as well, such as income from investments, or income from a sideline employment or business. The section provides that these subsidiary interests will not place the taxpayer in class (2) and thereby limit the deductibility of any loss which may be suffered to $5,000. While a quantum measurement of farming income is relevant, it is not alone decisive. The test is again both relative and objective, and one may employ the criteria indicative of "chief source" to distinguish whether or not the interest is auxiliary, A man who has farmed all of his life does not become disentitled to class (1) classification simply because he comes into an inheritance. On the other hand, a man who changes occupational direction and commits his energies and capital to farming as a main expectation of income is not disentitled to deduct the full impact of start-up costs.

[11]          Contrary to the Appellant's interpretation of section 31, in order to have a chief source of income from farming and some other source of income, the farming activity must be the primary source.[3] There is a wealth of jurisprudence on the "chief source of income" test. The factors of (i) capital committed; (ii) time spent; and (iii) profitability will determine whether farming will be regarded as a secondary business to which the restricted farm loss provisions apply. These guidelines are found in Moldowan and a host of subsequent cases. Applying these tests to the Appellant, I found the following:

(i)             Capital Committed

A $5,000 down payment was advanced to purchase the original land and buildings, $10,500 expended to convert the cow barn to a horse stable and to make the business operational. No evidence with respect to the cost of mares was submitted but the farm never had more than five. I believe Mrs. Sylvain purchased a brood mare in 1988 for $1,000. None have been purchased since 1995. The mares had to be boarded at outside facilities during breeding. Hay and other feed had to be purchased from outside producers.

(ii)            Time Spent

The Appellant spent between 40 and 50 hours a week in relation to his Health Canada position and 14 hours weekly on farming activity during the months September to April and approximately 28 hours per week from May 1 to August 30. Obviously, farming was not his primary activity. He indicated he has no plans to retire from Health Canada for at least 20 years.

(iii)           Profitability

Total gross revenue from the farm from 1991 to 1998 was approximately $50,000[4] compared to his income from Health Canada of approximately $500,000. Total farm losses were $346,000 of which $173,000 was the Appellant's share. In 1997 and 1998, the farm lost $35,628 and $48,550. Accepting the Appellant's most optimistic estimates, the farm's future gross revenue could be $90,000.[5] Total expenses, taking into account mandatory inventory adjustment, were estimated at $55,000, leaving a potential net profit of $35,000. This optional amount is only 40% of his present income. It was incumbent upon the Appellant to demonstrate that he might have earned a profit but for the setbacks, namely, the unusual and unexpected death of several foals. It was not enough for him to speak in generalities of what profits might have been. To meet his onus, extraneous evidence to support his position should have been provided. I was left unconvinced that his business could ever make a profit as it existed in 1997 and 1998. The Appellant failed to appreciate the onus on him.

[12]          This quote from Robertson J.A. in The Queen v. Donnelly, 97 DTC 5499, applies equally to the present case:

                As is well known, section 31 of the Act is aimed at preventing "gentlemen" farmers who enjoy substantial income from claiming full farming losses; see The Queen v. Morrisey, supra, at 5081-82. More often than not, it is invoked in circumstances where farmers are prepared to carry on with a blatant indifference toward their losses being incurred. The practical and legal reality is that these farmers are hobby farmers, but the Minister allows them the limited deduction under section 31 of the Act. Such cases almost always involve horse farmers who are engaged in purchasing or breeding horses for racing. In truth, there is rarely even a reasonable expectation of profit in such endeavours, much less the making of a chief source of income.

The facts in the Donnelly case are similar to those in this appeal and the analysis of Robertson J. has been of great assistance. The following lengthy quote from pages 5500 and 5501 is a helpful summary of the test facing the Appellant:

... According to Moldowan, the taxpayer must satisfy two tests in order to succeed. First, he must establish that the farming operation gave rise to a "reasonable expectation of profit" and, second, that his "chief source of income" is farming (the so-called "full-time" farmer). If the taxpayer is unable to satisfy the first test no losses are deductible (the so-called "hobby" farmer). If he satisfies the first test but not the second then a restricted farm loss of $5,000 (now $8,500) is imposed under section 31 of the Income Tax Act (the so-called "part-time" farmer).

In the present appeal the Minister of National Revenue conceded that the farming operation gave rise to a reasonable expectation of profit. That concession was made with full knowledge that the taxpayer's farming endeavour had not generated a profit in twenty-one years (1972-1992). With respect to the Minister's contention that farming was not the taxpayer's chief source of income, ... the legal test for establishing farming as a chief source of income is, on an evidential level, a more onerous one.

...

In the present case, it was incumbent on the taxpayer to establish what he might have reasonably earned but for the two setbacks which gave rise to the loss: namely the death of Mr. Rankin and the decline in horse prices. ... It was not enough for the taxpayer to claim that he might have earned a profit. He should have provided sufficient evidence to enable the Tax Court Judge to estimate quantitatively what that profit might have been.

...

The Tax Court Judge did not engage in an analysis of what profit might have been earned by the taxpayer in each of the three taxation years in question. No doubt this gap was occasioned in part by the taxpayer's failure to adduce the necessary evidence as reflected in the testimony of Dr. McCarthy. His evidence was directed at whether the horse-farming operation gave rise to a reasonable expectation of profit. He admitted that he had never reviewed the taxpayer's books nor compared the business' revenue and expenses [see Appeal Book, Appendix 1 at 20 and 79-80]. He could offer no opinion on the potential profitability of the horse-farming business.

... Once again, there is a failure to appreciate the onus that was on the taxpayer to satisfy the judge below that he would have or could have reasonably earned a profit of "X" dollars but for the unforeseen setbacks. This the taxpayer did not do and it is improbable that he could have met the evidential burden. I say this because the documentary evidence reveals that in those taxation years where the taxpayer was about to earn a profit, he would simply purchase a horse or two with the result that the farming operation incurred a loss.

[13]          None of the three factors are determinative alone. Taken as a whole, it is clear that the Appellant's chief source of income was not a combination of farming and some other source. Section 31 applies and the Appellant is restricted in the amount he can deduct in calculating his 1997 and 1998 taxable income.

[14]          The appeals are dismissed.

Signed at Ottawa, Canada, this 30th day of July, 2002.

"C.H. McArthur"

J.T.C.C.

COURT FILE NO.:                                                 2001-3241(IT)I

STYLE OF CAUSE:                                               Maurice G. Sylvain and

Her Majesty the Queen

PLACE OF HEARING:                                         Ottawa, Ontario

DATE OF HEARING:                                           March 6 and 7, 2002

REASONS FOR JUDGMENT BY:      The Honourable Judge C.H. McArthur

DATE OF JUDGMENT:                                       July 30, 2002

APPEARANCES:

For the Appellant:                                                 The Appellant himself

Counsel for the Respondent:              George Boyd Aitken

COUNSEL OF RECORD:

For the Appellant:                

Name:                                N/A

Firm:                  N/A

For the Respondent:                             Morris Rosenberg

                                                                                Deputy Attorney General of Canada

                                                                                                Ottawa, Canada

2001-3241(IT)I

BETWEEN:

MAURICE G. SYLVAIN,

Appellant,

nd

HER MAJESTY THE QUEEN,

Respondent.

Appeals heard on March 6 and 7, 2002, at Ottawa, Ontario, by

the Honourable Judge C.H. McArthur

Appearances

For the Appellant:                      The Appellant himself

Counsel for the Respondent:      George Boyd Aitken

JUDGMENT

          The appeals from assessments of tax made under the Income Tax Act for the 1997 and 1998 taxation years are dismissed.

Signed at Ottawa, Canada, this 30th day of July, 2002.

"C.H. McArthur"

J.T.C.C.