Date: 20010730
Docket: 1999-1962-IT-G
BETWEEN:
576315 ALBERTA LTD.,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
Reasons for Judgment
Bonner, T.C.J.
[1] The Appellant appeals from assessments of income tax for the 1988 and 1990 taxation years. At issue is the deductibility in 1990 under s. 20(1)(p)(ii) of the Income Tax Act (the "Act") of three amounts:
the sum of $1.7 million advanced by 241467 Alberta Ltd. (241467), a predecessor of the Appellant, to 161062 Canada Ltd. (161062) in June of 1989.
(b) the sum of $325,000.00 advanced by 241467 to 600666 Ontario Ltd. (600666) late in 1989 and early in 1990;
(c) the sum of $410,000.00 paid by 241467 to 161062 on June 27, 1988 if that payment was, as the Appellant and Respondent at one time agreed, a loan, and not, as the Appellant now says, a payment of the subscription price for shares of 161062.
[2] It was the position of the Appellant in the Notice of Appeal that the three loans became uncollectable in its taxation year ending December 31, 1990 giving rise to deductions under s. 20(1)(p)(ii) which reads as follows:
"(1) Notwithstanding paragraphs 18(1)(a), (b) and (h), in computing a taxpayer's income for a taxation year from a business or property, there may be deducted such of the following amounts as are wholly applicable to that source or such part of the following amounts as may reasonably be regarded as applicable thereto:
...
the aggregate of
...
(ii) all amounts each of which is that part of the amortized cost to the taxpayer at the end of the year of a loan or lending asset made or acquired in the ordinary course of business by a taxpayer who was an insurer or whose ordinary business included the lending of money established by him to have become uncollectable in the year;"
[3] As a consequence of the discovery process counsel for the Appellant took the position at the hearing of the appeal that the payment of $410,000.00 was not a loan of money but rather was a part of the subscription price paid by 241467 to 161062 for the issuance of shares. Consequently his position was that the total amount deductible by the Appellant in 1990 under s. 20(1)(p)(ii) of the Act was $2,025,000.00.
[4] Counsel for the Respondent took the position that all three payments were loans of money and that no deduction was available to the Appellant under s. 20(1)(p) because:
(a) lending money was not part of the ordinary business of the Appellant;
(b) the loans were not made by the Appellant in the ordinary course of business; and
(c) the Appellant did not establish that the loans became uncollectable in 1990.
[5] One person testified at the hearing of the appeal. He was Donald Evernden. He was a careful and credible witness. Shortly after graduating from high school in 1955, he went to work in the oil and gas industry. In 1965, he entered the tanker truck business. By early 1980 Mr. Evernden or his companies operated as many as 135 tank and trailer units engaged in the hauling of oil. Mr. Evernden testified that 241467 was incorporated to lend money and operate a finance business because he wanted to get out of the trucking business and into money lending. Mr. Evernden held, at all material times, either directly or indirectly 100% of the shares of 241467. That corporation at all material times held at least 90% of the shares of 161062 which in turn held 100% of the shares of 600666. 241467 had no employees. It was run by Mr. Evernden.
[6] Up to 1987 the income of 241467 was earned from the leasing of trucks, trailers, aircraft and buildings to corporations in which Mr. Evernden had an interest. Thereafter 241467 commenced to enter into dealings which involved the lending of money to a variety of individuals and corporations. 241467 did not advertise or hold itself out to the public as a money lender. Advertising was unnecessary. Opportunities to lend appear to have arisen because (a) Mr. Evernden was related by blood or marriage to the borrower, (b) Mr. Evernden was acquainted with the borrower through either the trucking business or Mr. Evernden's activities in aviation, or (c) the transaction was brought to Mr. Evernden's attention by his investment advisor Mr. Parker.
[7] Mr. Evernden gave evidence regarding the general nature of the business activity of 241467. He sketched out some of the details of 24 transactions or groups of transactions listed in a schedule marked Exhibit A-1, tab 24. At least six of the transactions are of little assistance in determining whether 241467's ordinary business included the lending of money. In four of the six, one of which was a loan to Mr. Evernden himself, no interest was charged. In the other two interest was charged on some but not all of the advances. In three of the 24 cases loans were made to relatives. Two of those three cases involved loans to Mr. Evernden's son-in-law. There were defaults on those two loans and substantial losses resulted. I regard the six loans as transactions falling outside the scope of business.
[8] Two of the 24 transactions did not involve loans at all. A distinction is to be drawn between an indebtedness which arises as a result of the deferral of payment of the whole or part of a sale price and an indebtedness which arises as a result of a loan of money.[1] The so-called advance of 1.9 million dollars referred to in the tab 24 exhibit was in fact not a loan of money at all but rather the deferred balance of the purchase price of aircraft sold by 241467 to a corporation known as Sunwest Charters. Similarly the evidence of Mr. Evernden indicates that what is recorded as a 4.29 million dollar advance in 1988 under the heading "Koch Loan" is in point of fact an unpaid balance owing to 241467 as a result of the sale by it to Koch of trucking equipment which it had previously leased out to Koch.
[9] A number of the loans referred to in evidence were made to truckers, garage operators and others directly or indirectly involved in the trucking industry. The testimony of Mr. Evernden indicates that the loans were made to enable the borrowers to acquire equipment or business premises or trucks needed to carry on their respective businesses. Included in this category are:
(a) the 1989 advance to Lady Carmen Trucking
(b) the 1987 advance to B.J.'s Transportation
(c) the 1988 advance to GBM Trailer
(d) the 1988 advance to Harvey
(e) the 1989 advance to Bob Robertson
(f) the 1991 advance to Ivor Parker
(g) the 1991 and 1992 advances to GN Transportation
(h) the 1991 advance to Bob Scott
(i) the 1991 advance to Dave Lyons.
The suitability of all nine loans was investigated, the loans were properly documented with promissory notes and 241467 took security where appropriate.
[10] The money lending activities of 241467 were not restricted to transactions which offered the corporation reward in the form of interest alone. The 1988 loan to GBM Trailer was made on the basis that 241467 was to receive 75% of the shares of the borrower. The arrangement was intended to permit 241467 as lender to monitor and control the activities of the borrower. As well, upon repayment, 241467 was able to resell the shares at a considerable profit. Mr. Evernden described another transaction in which 241467 advanced funds to 408653 Alberta Ltd. to enable it to carry out a land development venture. Because 241467 advanced 75% of the money required for the venture, it received 75% of the issued shares of the borrower in addition to interest on the principal. Once again, 241467 was able, as holder of an absolute majority of the shares of the borrower, to monitor and control the borrower's activities.
[11] Finally, in 1989, 241467 advanced a substantial sum of money to a corporation which operated a bar or tavern. It took a second mortgage as security. Following default on the first mortgage it redeemed. Eventually it became owner of the real estate which yielded rental income for a period of time before the property was sold. Mr. Evernden indicated that overall the venture yielded a profit.
[12] Mr. Evernden explained the events which led to the involvement of 241460 with 161062 and 600666. Frederick Saturley, who had been Mr. Evernden's bank manager, wanted to enter the business of the franchising of restaurants. He approached Mr. Evernden for assistance with respect to the franchising of a chain to be known as Phil's restaurants. Mr. Evernden consulted his business advisor, Mr. Parker. 161062 was incorporated on April 15, 1988. 241467 subscribed for 86% of the shares for 161062. Other shares were issued to Lady Carmen Trucking Ltd. and to Stratrek Distributors Ltd., Mr. Saturley's corporation. Mr. Evernden became president and Mr. Saturley became secretary-treasurer. Mr. Evernden gave unequivocal evidence that the consideration for the issue to 241467 of the shares of 161062 included a payment of $410,000. That evidence was supported by a photostat of a cheque voucher recording the issuance by 241467 of a cheque in the amount of $410,000 to 161062. That voucher bears the notation "re: balance shares Phil's Pancake franchise". Although 161062 did issue a $410,000 promissory note dated June 27, 1988 and signed on behalf of the company by Mr. Saturley, I accept Mr. Evernden's explanation that the note was issued as result of a simple misunderstanding. I note too that the notion that the $410,000 payment was an advance is inconsistent with the 1989 financial statements of 161062. I therefore find that the $410,000 payment was made not as a loan of money but as consideration for the issuance of shares.
[13] In June of 1989, 161062 acquired, in an arm's length transaction for a consideration of $1.7 million the shares and receivables of 600666. 600666 operated four restaurants which were intended to function as sample or demonstration operations to be used in the promotion of the Phil's franchise concept. 241467 loaned the entire $1.7 million to 161062 and received a promissory note as evidence of the debt. The loan was repayable by monthly principal instalments of $30,000 plus interest at the rate of 12% per annum. The transaction took place at a time when general economic circumstances were poor. The four restaurants lost money and franchises could not be sold.
[14] On or about January 10, 1990, 241467 advanced $325,000 to 600666 to enable it to pay rent, taxes and other accumulated debts. The loan was evidenced by promissory note payable December 31, 1990 and bearing interest at 12% per annum. Mr. Evernden explained that he felt responsible to "see us through this" and he therefore caused 241467 to lend the money even though he knew that the borrower was experiencing financial problems.
[15] During 1990, Mr. Evernden's efforts were devoted to trying to sell the restaurants and "get out of it with whatever I could". In or about May of 1991, the shares of 600666 were sold but for very little consideration and as a result neither 161062 nor 241467 received anything from the sale.
[16] The question whether a taxpayer's ordinary business includes the lending of money is one of fact. It is to be determined by reference to what the taxpayer in question ordinarily does in the pursuit of profit. One of the factors which differentiates between loans made as simple investments of capital and loans made in the course of the business of a money lender is continuity. In Newton v. Pyke[2], Walton, J. stated:
Whether a man was carrying on business as a money lender must be, as was pointed out in Litchfield v. Dreyfus, a question of fact in each case. It seems impossible to lay down any definition or description which would be of much assistance, but I feel that it is not enough merely to shew that a man has on several occasions lent money at remunerative rates of interest; there must be a certain degree of system and continuity about the transactions.
[17] The argument of counsel for the Respondent was largely based on assumptions which the Respondent pleaded had been made by the Minister of National Revenue on assessment[3]. Counsel argued that the Appellant did not establish a systematic and continuous pattern of lending money, did not always collect interest on loans, did not hold itself out to the public as a money lender, and made a number of loans to related persons or business associates. She also pointed out that the tax returns of 241467 did not list money lending as an activity.
[18] Counsel for the Appellant aptly characterized 241467's overall activities as a financing business. That is what Mr. Evernden intended the business to be and that in fact is what the corporation did. I agree with the submission. The evidence which I have summarized shows that 241467 entered into lease and loan transactions repeatedly with a view to earning income in the form of lease payments or interest. The financing business was its ordinary business and the lending of money was part of that activity. As Cotton, L.J. noted in Erichsen v. Last[4]:
"... where a person habitually does a thing which is capable of producing a profit for the purpose of producing a profit and enters into a contract habitually he is carrying on a trade or business."
Moreover the presumption arising from incorporation must be taken into account. In Canadian Marconi Company v. The Queen[5], the Supreme Court of Canada considered the distinction between income from a business and income from property. The Court noted the existence of a rebuttable presumption that, in the case of a corporate taxpayer, income received from an activity done in pursuit of an object set out in the corporation's constating documents is income from the business. The Court also noted at page 470 that corporations formed under some statutes need not list their corporate objects. I gather that 241467 was one such corporation. Wilson, J. speaking for the Court expressed the opinion at page 470 that the rebuttable presumption should extend to corporations formed under those statutes so long as it is recognized that the presumption is rebuttable. In my view the activity of 241467 in receiving, considering and rejecting or accepting the applications for loans which were made to it constitutes the carrying on of a business activity. There is nothing to rebut the presumption.
[19] Counsel for the Respondent pointed to the fact that 241467 made loans in some cases to members of Mr. Evernden's family and did not collect interest on all loans. None of that alters the fact that in making the interest bearing loans which it did in fact make the corporation was carrying on one aspect of its financing business. In my view, the instances relied upon by counsel for the Appellant were not representative of 241467's activities as whole.
[20] Counsel for the Respondent argued further that the loans to 161062 and 600666 were not made in the ordinary course of 241467's business. I disagree with respect to the loan to 161062 but agree with respect to the loan to 600666.
[21] The argument of counsel for the Respondent with respect to the loan to 161062 was somewhat convoluted. It will be recalled that the evidence of Mr. Evernden was that in advancing the $1.7 million to 161062, 241467 acquired a block of shares of the borrower. He testified that the shares were intended to give 241467 absolute voting control over the activities of the borrower for so long as the loan was outstanding. The plan was that upon repayment of the loan the shares would be sold to Mr. Saturley for market value. Thus 241467 would, if the venture turned out to be a success, earn not only interest on the loan but also a profit on the sale of the shares. The Respondent's argument that the loan was not made in the ordinary course of the business of 241467 was that, if the venture were successful and if the share sale did take place as planned, some or all of the return to 241467 would have been received in the form of dividends. Counsel proceeded from that point to assert that "the whole transaction is really to acquire a capital asset".
[22] In my view, this branch of the Respondent's argument is not supported by the evidence and has little to do with the question whether the loan was made in the ordinary course of the business of 241467. I reiterate that I accept Mr. Evernden's evidence both in general and, in particular, as to the nature of the plan. The language of s. 20(1)(p)(ii) is not obscure. The words "in the ordinary course of business" refer to the business practices of the taxpayer-lender. The acquisition by a lender of control over the borrower is a sensible arrangement particularly where the lender is advancing virtually all of the borrower's capital as was the case here. The evidence indicated that 241467 acquired control of the borrower in a similar way in at least two other cases. The plan to earn a profit, if possible, in the sale of the shares to Mr. Saturley or his company does not separate that transaction from the ordinary course. I therefore find that the $1.7 million loan was made in the ordinary course of the business.
[23] In my opinion the $325,000 loan to 600666 stands on a different footing. The money was advanced in circumstances quite distinct from the ordinary course of 241467's business. It was not advanced with a view to earning interest. At the time the money was advanced there was little hope of repayment of the advance and less hope of ever receiving interest The $325,000 was the total of several advances made to 600666 late in 1989 and early in 1990 to enable the borrower to pay its bills. Part of the money was advanced by way of cheques issued directly to creditors of 600666. The borrower was losing money at the time. I can discover no basis in the evidence for finding that the $325,000 loan was made by 241467 in the ordinary course of the money lending business.
[24] Finally, I find that the loans were established by the taxpayer to have become uncollectable in its 1990 taxation year. Mr. Evernden testified "... by the end of 1990 I knew that it was a lost cause". As noted above, it was a lost cause long before the end of the year. There was ample support for that conclusion.
[25] It follows that the Appellant is entitled to a deduction in the 1990 taxation year under s. 20(1)(p)ii in respect of the $1.7 million loan to 161062. It is not entitled to a deduction under that provision in respect of the $325,000 loan to 600666. It is not entitled to a deduction under that provision in respect of the $425,000 payment which was not a loan. It is common ground that part of the resultant loss may be carried back to the 1988 taxation year. Judgment will therefore issue allowing the appeals with costs and referring the assessments back to the Minister of National Revenue for reassessment in accordance with these reasons.
Signed at Ottawa, Canada, this 30th day of July 2001.
"M.J. Bonner"
J.T.C.C.
COURT FILE NO.: 1999-1962(IT)G
STYLE OF CAUSE: 576315 Alberta Ltd. and H.M.Q.
PLACE OF HEARING: Calgary, Alberta
DATE OF HEARING: February 28, 2001
REASONS FOR JUDGMENT BY: the Honourable Judge M.J. Bonner
DATE OF JUDGMENT: July 30, 2001
APPEARANCES:
Counsel for the Appellant: George McKenzie
Counsel for the Respondent: Margaret Irving
COUNSEL OF RECORD:
For the Appellant:
Name: George McKenzie
Firm: Felesky Flynn
Calgary, Alberta
For the Respondent: Morris Rosenberg
Deputy Attorney General of Canada
Ottawa, Canada
1999-1962(IT)G
BETWEEN:
576315 ALBERTA LTD.,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
Appeal heard on February 28, 2001 at Calgary, Alberta, by
the Honourable Judge M.J. Bonner
Appearances
Counsel for the Appellant: George McKenzie
Counsel for the Respondent: Margaret Irving
JUDGMENT
The appeal from the assessments made under the Income Tax Act for the 1988 and 1990 taxation years is allowed, with costs, and the assessment is referred back to the Minister of National Revenue for reassessment in accordance with the attached Reasons for Judgment.
Signed at Ottawa, Canada, this 30th day of July 2001.
|
"M.J. Bonner" |
J.T.C.C.
[1] McCool v. M.N.R. 49 DTC 700.
[2] (1908), 25 T.L.R. 127 at page 128.
[3] In the Reply to the Notice of Appeal, the Respondent pleaded an astonishing 42 assumptions, some of law, some of fact and some of mixed fact and law. It is far from clear to me that this sort of excess was in contemplation when the Supreme Court of Canada decided Johnston v. M.N.R. [1948] C.T.C. 195. What Rand J. said at p. 203 was "It must, of course , be assumed that the Crown, as is its duty, has fully disclosed to the taxpayer the precise findings of fact and rulings of law which have given rise to the controversy." Pleadings, including pleaded assumptions in the case of tax appeals, ought to narrow and define the issues to be tried. That objective was not achieved here.
[4] 4 T.C. 422, 427.
[5] [1986] 2 C.T.C. 465