Date: 19980626
Dockets: 96-2467-UI; 96-2468-UI
BETWEEN:
GERTRUDER CAMPBELL,
Appellant,
and
THE MINISTER OF NATIONAL REVENUE,
Respondent,
and
LEN CAMPBELL & SON LTD.,
Intervenor,
AND
LEN CAMPBELL & SON LTD.,
Appellant,
and
THE MINISTER OF NATIONAL REVENUE,
Respondent,
and
GERTRUDER CAMPBELL,
Intervenor.
Reasons for Judgment
Porter, D.J.T.C.C.
[1] These appeals were heard on common evidence with consent of the parties at Toronto, Ontario on January 21, 1998.
[2] The Appellants appeal the decision of the Minister of National Revenue (the "Minister") dated September 27, 1996 that the employment of Gertruder Campbell (hereinafter called the "Appellant") with Len Campbell & Son Ltd. (the "Company") from October 26, 1994 to October 27, 1995, was not insurable employment under the Unemployment Insurance Act (hereinafter referred to as the "Act"). The reason given for the decision was that:
...
"Your employment was excepted from insurable employment because you were not dealing at arm's length with Len Campbell & Son Ltd."
[3] The Company has intervened in the appeal and supports the position of the Appellant.
[4] The established facts reveal that at the material times the Appellant owned 25% of the outstanding shares of the Company. Her husband, Len Campbell owned another 25% and an entirely unrelated corporation owned the remaining 50%. Clearly the Appellant and the Company were not related within the meaning of paragraph 251(1)(a) of the Income Tax Act and thus they are not deemed to be not dealing with each other at arm’s length. The issue to be decided in this appeal is whether or not they were in fact dealing with each other at arm's length.
The Law
[5] In the scheme established under the Act, Parliament has made provision for certain employment to be insurable, leading to the payment of benefits upon termination, and other employment which is "excepted" and thus carrying no benefits upon termination. Employment arrangements made between persons, who are not dealing with each other at arm's length, are categorized as "excepted employment". Quite clearly the purpose of this legislation is to safeguard the system from having to pay out a multitude of benefits based on artificial or fictitious employment arrangements.
[6] Subsection 3(2) of the Unemployment Insurance Act reads in part as follows:
"3(2) Excepted employment is
...
c) subject to paragraph (d) [which refers to persons and related corporations has no applicability in this case] employment where the employer and employee are not dealing with each other at arm’s length and, for the purposes of this paragraph,
(i) the question of whether persons are not dealing with each other at arm’s length shall be determined in accordance with the provisions of the Income Tax Act;...”
[7] Paragraph 251(1)(b) of the Income Tax Act reads as follows:
"it is a question of fact whether persons not related to each other were at a particular time dealing with each other at arm’s length." (emphasis added)
[8] Although the Income Tax Act specifies that it is a question of fact whether persons were at a particular time dealing with each other at arm’s length, that factual question must be decided within the cradle of the law and in reality it is a mixed question of fact and law; see Bowman, T.C.J. in R.M.M. Canadian Enterprises et al. v. The Queen, 97 DTC 302 at page 310:
"It is true that a determination whether persons are at arm’s length requires that a court makes findings of fact, but whether, on the facts, there is in law an arm’s length relationship is necessarily a question of law.[...] All that paragraph 251(1)(b) means is that in determining whether, as a matter of law, unrelated persons are at arm’s length, the factual underpinning of their relationship must be ascertained. The meaning of "arm's length" within the Income Tax Act is obviously a question of law."
[9] What is meant by the term "arm's length" has been the subject of much judicial discussion both here in Canada, in the United States, the United Kingdom and in other Commonwealth countries such as Australia where similar wording appears in their taxing statutes. To the extent that the term has been used in trust and estate matters, that jurisprudence has been discounted in Canada when it comes to the interpretation of taxation statutes; see Locke, J. in M.N.R. v. Sheldon’s Engineering Ltd., 55 DTC 1110 at page 1113:
"The expression is one which is usually employed in cases in which transactions between trustees and cestuis que trust, guardians and wards, principals and agents or solicitors and clients are called into question. The reasons why transactions between persons standing in these relations to each other may be impeached are pointed out in the judgments of the Lord Chancellor and of Lord Blackburn in McPherson v. Watts, 1877, 3 A.C. 254. These considerations have no application in considering the meaning to be assigned to the expression in s. 20(2)."
[10] In considering the meaning of the term "arm's length" sight must not be lost of the words in the statute to which I gave emphasis above, "were at a particular time dealing with each other at arm's length". The case law in Canada as Bowman, T.C.J. points out in the R.M.M. case (above) has tended to dwell upon the nature of the relationship rather than upon the nature of the transactions. I am not sure that having regard to the inclusion of these words in the statute, that this approach is necessarily the only one to be taken, for to do so is to ignore these somewhat pertinent words, to which surely some meaning must be given. Perhaps this development has come about as a result of the factual situations in a number of the leading cases in Canada. These have tended to involve one person (either legal or natural) controlling the minds of both parties to the particular transaction. Thus even though the transaction might be similar to an ordinary commercial transaction made at arm's length that itself has not been enough to take the matter out of the "non arm's length" category; see for example Swiss Bank Corporation et al. v M.N.R., 72 D.T.C. 6470 (S.C.C.), where Laskin, J.(as he then was) said at 6473 in conclusion:
"....the payer and payee must not be persons who, effectively, are dealing exclusively with each other through a fund provided by the payee for the benefit of the payee. A sound reason for this that the enactment itself suggests is the assurance that the interest rate will reflect ordinary commercial dealing between parties acting in their separate interests. A lender-borrower relationship which does not offer this assurance because there are, in effect, no separate interests must be held to be outside of the exception that exempts a non-resident from taxation on Canadian interest payments. The fact that the interest actually authorized or paid is consistent with arm's length dealing is not enough in itself to avoid this conclusion."
[11] In effect what these cases say is that if a person moves money from one of his pockets to the other, even if he does so consistently with a regular commercial transaction, he is still dealing with himself, and the nature of the transaction remains "non arm's length".
[12] However, simply because these leading cases involved such factual situations, does not mean that people who might ordinarily be in a non arm's length relationship cannot in fact "deal with each other at a particular time in an 'arm's length' manner", any more than it means that people who are ordinarily at arm's length might not from time to time deal with each other in a non arm's length manner. These cases are quite simply examples of what is not an arm's length relationship rather than amounting to a definition in positive terms as to what is an arm's length transaction. Thus at the end of the day all of the facts must be considered and all of the relevant criteria or tests enunciated in the case law must be applied.
[13] The expression "at arm's length" was considered by Bonner, T.C.J. in William J. McNichol et al. v. The Queen, 97 D.T.C. 111, where at pages 117 and 118 he discussed the concept as follows:
"Three criteria or tests are commonly used to determine whether the parties to a transaction are dealing at arm's length. They are:
(a) the existence of a common mind which directs the bargaining for both parties to the transaction,
(b) parties to a transaction acting in concert without separate interests, and
(c) "de facto" control.
The common mind test emerges from two cases. The Supreme Court of Canada dealt first with the matter in M.N.R. v. Sheldon's Engineering Ltd. (above) at pages 1113-14, Locke, J., speaking for the Court, said the following:
Where corporations are controlled directly or indirectly by the same person, whether that person be an individual or a corporation, they are not by virtue of that section deemed to be dealing with each other at arm's length. Apart altogether from the provisions of that section, it could not, in my opinion, be fairly contended that, where depreciable assets were sold by a taxpayer to an entity wholly controlled by him or by a corporation controlled by the taxpayer to another corporation controlled by him, the taxpayer as the controlling shareholder dictating the terms of the bargain, the parties were dealing with each other at arm's length and that s. 20(2) was inapplicable.
The decision of Cattanach, J. in M.N.R. v. T R Merritt Estate is also helpful. At pages 5165-66 he said:
In my view, the basic premise on which this analysis is based is that, where the "mind" by which the bargaining is directed on behalf of one party to a contract is the same "mind" that directs the bargaining on behalf of the other party, it cannot be said that the parties were dealing at arm's length. In other words where the evidence reveals that the same person was "dictating" the "terms of the bargain" on behalf of both parties, it cannot be said that the parties were dealing at arm's length.
The acting in concert test illustrates the importance of bargaining between separate parties, each seeking to protect his own independent interest. It is described in the decision of the Exchequer Court in Swiss Bank Corporation v. M.N.R. At page 5241, Thurlow J. (as he then was) said:
To this I would add that where several parties - whether natural persons or corporations or a combination of the two - act in concert, and in the same interest, to direct or dictate the conduct of another, in my opinion the "mind" that directs may be that of the combination as a whole acting in concert or that of any of them in carrying out particular parts or functions of what the common object involves. Moreover as I see it no distinction is to be made for this purpose between persons who act for themselves in exercising control over another and those who, however numerous, act through a representative. On the other hand if one of several parties involved in a transaction acts in or represents a different interest from the others the fact that the common purpose may be to so direct the acts of another as to achieve a particular result will not by itself serve to disqualify the transaction as one between parties dealing at arm's lenght. The Sheldon's Engineering case [supra], as I see it, is an instance of this.
Finally, it may be noted that the existence of an arm's length relationship is excluded when one of the parties to the transaction under review has de facto control of the other. In this regard reference may be made to the decision of the Federal Court of appeal in Robson Leather Company v M.N.R., 77 DTC 5106."
[14] This approach was also adopted by Cullen, J. in the case of Peter Cundill & Associates Ltd. v. The Queen, [1991] 1 C.T.C. 197, where at page 203 he says this:
"Whether the parties in this case were dealing at arm's length is a question to be examined on its own particular facts. Many factors are relevant in the determination of the issue, such as ownership and control of a corporation. However, share control (or absence of it) is not necessarily conclusive; it is only a factor to be considered in determining the question of arm's length (Robson Leather Co. v. M.N.R., [1974] C.T.C. 872; 74 D.T.C. 6666, Collier, J. affd [1977] C.T.C. 132; 77 D.T.C. 5106 (F.C.A.)).
In Interpretation Bulletin IT-419 Revenue Canada suggested the following factors will determine whether or not dealings are at arm's length:
(a) the existence of a common mind which directs the bargaining for both parties to a transaction,
(b) parties to a transaction acting in concert without separate interests, and
(c) de facto control.
The criteria enunciated in IT-419 have also been the criteria consistently considered by the courts. In this case, it appears the factor that will illuminate the situation is determining the controlling mind of these two corporations. If the "mind" acting for one party is the same "mind" directing the second party, then they cannot really be said to be dealing at arm's length (Oryx Realty Corp. and Shofar Investment Corp. v. M.N.R., [1972] F.C. 33; [1972] C.T.C. 35; 72 D.T.C. 6018; affd [1974] 2 F.C. 44; [1974] C.T.C. 430; 74 D.T.C. 6352 (F.C.A.))."
[15] Many of these cases, as I say, are premised on the relationship existing between the parties which was determined to be all conclusive. There is little direct guidance there, when consideration is being given to the nature of the transaction or dealing itself. This question has, however, been quite succinctly dealt with by the Federal Court of Australia in the case of The Trustee for the Estate of the late AW Furse No 5 Will Trust v. FC of T, 91 ATC 4007/21 ATR 1123. Hill, J. said when dealing with similar legislation in that country :
"There are two issues, relevant to the present problem, to be determined under s.102AG(3). The first is whether the parties to the relevant agreement were dealing with each other at arm's length in relation to that agreement. The second is whether the amount of the relevant assessable income is greater than the amount referred to in the subsection as the "arm's length amount".
The first of the two issues is not to be decided solely by asking whether the parties to the relevant agreement were at arm's length to each other. The emphasis in the subsection is rather upon whether those parties, in relation to the agreement, dealt with each other at arm's length. The fact that the parties are themselves not at arm's length does not mean that they may not, in respect of a particular dealing, deal with each other at arm's length. This is not to say that the relationship between the parties is irrelevant to the issue to be determined under the subsection. The distinction was pointed out by Davies J in connection with similar words used in s.26AAA(4) of the Act in Barnsdall v. Federal Commissioner of Taxation (1988) 88 ATC 4565 at 4568, in a passage, which with respect, I agree:
"However, sec.26AAA(4) used the expression 'not dealing with each other at arm's length'. That term should not be read as if the words 'dealing with' were not present. The Commissioner is required to be satisfied not merely of a connection between a taxpayer and the person to whom the taxpayer transferred, but also of the fact that they were not dealing with each other at arm's length. A finding as to a connection between the parties is simply a step in the course of reasoning and will not be determinative unless it leads to the ultimate conclusion."
What is required in determining whether parties dealt with each other in respect of a particular dealing at arm's length is an assessment whether in respect of that dealing they dealt with each other as arm's length parties would normally do, so that the outcome of their dealing is a matter of real bargaining." [emphasis added]
[16] The same wording was also discussed in the Australian case of Granby PTY Ltd. v. The Commissioner of Taxation, 95 ATC 4240. Lee, J. of the Federal Court of Australia, General Divison, discussed the meaning of the phrase and the recent authorities in the following words:
"The expression 'dealing with each other at arm's length' involves an analysis of the manner in which the parties to a transaction conducted themselves in forming that transaction. What is asked is whether the parties behaved in the manner in which parties at arm's length would be expected to behave in conducting their affairs. Of course, it is relevant to that enquiry to determine the nature of the relationship between the parties, for if the parties are not parties at arm's length the inference may be drawn that they did not deal with each other at arm's length."
[17] Again like words were discussed by Davies J. in Barnsdall v. F.C. of T., 88 ATC 4565 at 4568; reproduced above in the quote from the Furse Estate case.
[18] Bowman, T.C.J. alluded to this type of situation in the R.M.M. case (above) when he said at page 311 :
"I do not think that in every case the mere fact that a relationship of principal and agent exists between persons means that they are not dealing at arm's length within the meaning of the Income Tax Act. Nor do I think that if one retains the services of someone to perform a particular task, and pays that person a fee for performing the service, it necessarily follows that in every case a non-arm's-length relationship is created. For example, a solicitor who represents a client in a transaction may well be that person's agent yet I should not have thought that it automatically followed that there was a non-arm's-length relationship between them.
The concept of non-arm's length has been evolving."
[19] Whilst it is not law, the Revenue Canada Interpretation Bulletin IT-419R (August 24th, 1995) appears to recognize the need to also refer to the nature of the transaction itself:
"19. Failure to carry out a transaction at fair market value may be indicative of a non-arm's length transaction. However, such failure is not conclusive and, conversely, a transaction between unrelated persons at fair market value does not necessarily indicate an arm's length situation. The key factor is whether there are separate economic interests which reflect ordinary commercial dealing between parties acting in their separate interests."
[20] In Scotland, in the case of Inland Revenue Commissioners v. Spencer-Nairn 1991 SLT 594 (Ct. of Sessions) the Scottish Law Lords reviewed a case where the parties were in a non arm's length situation. They commented favourably on the approach taken by Whiteman on Capital Gains Tax (4th ed.), where it was suggested by the author that two matters that should be taken into account when considering the words 'arm's length'. These were whether or not there was separate or other professional representation open to each of the parties and secondly, perhaps with more relevance to the situation on hand, whether there was "a presence or absence of bona fide negotiation".
[21] In the United States the term "arm's length" was defined in the case of Campana Corporation v. Harrison (7 Circ; 1940) 114 F2d 400, 25 AFTR 648, as follows:
"A sale at arm's length connotes a sale between parties with adverse economic interests."
[22] At the end of the day it would seem to me that what is intended by the words "dealing at arm’s length" can best be described by way of an example. If one were to imagine two traders, strangers, in the market place negotiating with each other, the one for the best price he could get for his goods or services and the other for the most or best quality goods or service he could obtain, these persons one would say would be dealing with each other at arm's length. If however these same two persons, strangers, acted with an underlying interest to help one another, or in any manner in which he or she would not deal with a stranger, or if their interest were to put a transaction together which had form but not substance in order to jointly achieve a result, or obtain something from a third party, which could not otherwise be had in the open marketplace, then one would say that they were not dealing with each other at arm's length.
[23] If the relationship itself (and here it must again be remembered that the Act does not say "where they are in a non arm's length relationship" it says "where they are notdealing with each other at arm's length") is such that one party is in a substantial position of control, influence or power with respect to the other or they are in a relationship whereby they live or they conduct their business very closely, for instance if they were friends, relatives or business associates, without clear evidence to the contrary, the Court might well draw the inference that they were not dealing with each other at arm's length. That is not to say, however, that the parties may not rebut that inference. One must however, in my view, distinguish between the relationship and the dealing. Those who are in what might be termed a "non arm's length relationship" can surely deal with each other at arm's length in the appropriate circumstances just as those who are strangers, may in certain circumstances, collude the one with the other and thus not deal with each other at arm's length.
[24] Parliament itself has recognized this in the Act. The Income Tax Act deems related persons, as defined in that Act, to not be dealing with each other at arm's length. This focuses on the relationship, i.e. persons who are related. The Unemployment Insurance Act was then amended to allow these persons through the gate so to speak provided they could demonstrate to the satisfaction of the Minister that the dealing in question, that is the contract of employment, is substantially similar to one that would have been made between persons dealing with each other at arm's length. This then refocuses on the transaction, the dealing. Surely persons, who are not 'related persons', are not to be dealt with any differently and in effect more harshly. It cannot be said that Parliament would carve out a certain group of people to be treated more firmly than those from whom they were taken, and then grant that group an exception which would have the effect of placing them in a better position than those from whom they were originally taken. That would make no sense, for in deeming related persons to not be dealing with each other at arm's length, Parliament clearly recognized that this was a group with a propensity to not deal with each other at arm's length and thus singled them out to be dealt with more arbitrarily, subject to the exception if they could bring themselves within the normal fold, all the time focussing on the dealing or transaction itself. Persons who are 'not related' but who can be said to be otherwise in a de facto non arm's length relationship surely are not to be treated in any different manner with strict focus on the relationship as opposed to the nature of their dealing or transaction. If that was to be the case Parliament could have said so very simply, e.g. "persons in a non arm's length relationship", and that would have settled it. Then there would have been no need to distinguish between related and non related persons. However Parliament did not say that and in both the Income Tax Act and the Unemployment Insurance Act it uses the words "dealing with each other" as opposed to referring to the relationship. In the Income Tax Act it went one step further in the case of non related persons by using the additional words "at a particular time". These words, if they are to be given any meaning at all, surely bring the focus onto what was taking place at a particular time rather than on the relationship as a whole.
[25] Ultimately if there is any doubt as to the interpretation to be given to these words I can only rely on the words of Madam Justice Wilson who in the case of Abrahams v. A/G Canada [1983] 1 S.C.R.2, at p. 10 said this:
"Since the overall purpose of the Act is to make benefits available to the unemployed, I would favour a liberal interpretation of the re-entitlement provisions. I think any doubt arising from the difficulties of the language should be resolved in favour of the claimant."
[26] In the end it comes down to those traders, strangers, in the marketplace. The question that should be asked is whether the same kind of independence of thought and purpose, the same kind of adverse economic interest and same kind of bona fide negotiating has permeated the dealings in question, as might be expected to be found in that marketplace situation. If on the whole of the evidence that is the type of dealing or transaction that has taken place then the Court can conclude that the dealing was at arm's length. If any of that was missing then the converse would apply.
The Evidence
[27] The Company operated an excavating business. It was a seasonal business but nevertheless remained active all year-round. Len Campbell was the principal employee and manager of the business.
[28] The Appellant and her husband each owned 25% of the outstanding shares of the Company and an unrelated corporation owned the other 50%. This other corporation had nothing to do with the operations of the Company. The day-to-day business decisions of the Company, including the employment of the Appellant, were made by her husband. The Appellant had no written contract of employment specifying the terms of her employment.
[29] The Minister accepted that her duties were to attend the Company office situated in their residence, answer the telephone, complete secretarial work, do the bookkeeping and attend to pickups and deliveries.
[30] For one-half of the period in question there were only the Appellant and her husband on the payroll. There were one or two other employees during the remainder of the year. The Appellant apparently signed her own pay cheques. She received a weekly salary of $634.61. According to the Minister this was based on a 30-hour week. According to Len Campbell it was based on between 30 and 60 hours per week. This works out to $21.00 per hour in the former case and $11.00 (approximately) per hour in the latter case. The other employees working out in the field received fixed hourly wages paid only for hours actually worked. The Appellant's work hours were quite variable. The Minister says that she was not controlled by the Company but I find that she certainly was responsible to her husband to ensure that the office end of the business was properly looked after.
[31] The Minister makes much of the salary of the Appellant in relation to the sales of the Company and in relation to a former bookkeeper who had been hired by the Company.
[32] However, I was most impressed by the evidence of Len Campbell. He struck me as an honest and hardworking man. He explained that he could not operate the business without a pivotal person in the office. This was more than simple bookkeeping. If he had had to do that work himself he could not have got on with the job he was doing. He was generating sales of $180,327.00 over the 13-month period. An annual salary of $34,000.00 or $2,400.00 per month is not in my view excessive in that context. I accept his evidence that her task was to be on call twenty-four hours per day if necessary. It was beneficial to the Company to have somebody flexible enough to take on that responsibility. It was a fair estimate of the time involved to say between 30 and 60 hours per week. I am sure that some months it was less and some months it was more; but that is the very nature of a salary as opposed to an hourly rate which would be difficult to track. It is clear to me that the employment transaction was as much for the benefit of the Company as for the Appellant. There were two interests here. Her position and duties were an integral part of the Company operation. There is no doubt in my mind that the work was genuinely carried out. This was in no sense of the word a fictitious arrangement.
Conclusion
[33] I was so singularly impressed by the evidence of Len Campbell that I was perfectly satisfied that he clearly understood the responsibility he had to the corporation as a whole and to his other 50% shareholder and that when directing the Company he served a different interest to that of the Appellant. While it may have been wiser, in hindsight, to have somehow involved the other 50% shareholder in the Appellant's employment contract, one has to remember that these are not legally sophisticated people.
[34] Clearly the husband is related to the Appellant. Clearly too, he was operating the Company, albeit that he did not have legal control of it. He wore two hats; one as operator of the Company and the other as husband of the Appellant. The question is whether these two capacities were sufficiently separated that one can say that one was not tainted by the other. It is rather as if the husband was at the apex of a triangle and down one side of the triangle he connected with the Company and down the other he connected with his wife, the Appellant. The issue is whether there was an arm's length dealing across the base of that triangle between the Company and the Appellant. I have concluded that there was. A divergence of economic interest clearly existed between the Company and the Appellant. The Company needed some person to do the type of work in question in order to carry on its business, if not the Appellant then someone else. The Appellant wished to work and be paid. The amount she received was not unreasonable, given her duties. In my opinion, it was neither too much nor too little. There was an element of bona fide bargain. It was clearly the type of dealing that would have been same if made in the open market.
[35] I am well satisfied on the balance of probabilities that the relationship was at arm's length. I am also satisfied that the parties, that is the Appellant and the Company, dealt with each other at arm's length in setting up this employment arrangement.
[36] Accordingly, the appeals are allowed and the decision of the Minister vacated.
Signed at Calgary, Alberta, this 26th day of June 1998.
"M.H. Porter"
D.J.T.C.C.