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Docket: 2000-1962(IT)G |
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BETWEEN: |
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HANS LONGERICH, |
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Appellant, |
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and |
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HER MAJESTY THE QUEEN, |
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Respondent. |
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Appeal heard on June 18, 2004 at Edmonton, Alberta
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Before: The Honourable Justice T. O'Connor |
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Appearances: |
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For the Appellant: |
The Appellant himself |
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Counsel for the Respondent: |
Belinda Schmid |
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JUDGMENT
The appeal from the assessment made under the Income Tax Act for the 1994 taxation year is dismissed, with costs, in accordance with the attached Reasons for Judgment.
Signed at Ottawa, Canada, this 9th day of July 2004.
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"T. O'Connor" |
O'Connor, J.
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Citation: 2004TCC485 |
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Date: 20040709 |
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Docket: 2000-1962(IT)G |
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BETWEEN: |
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HANS LONGERICH, |
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Appellant, |
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and |
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HER MAJESTY THE QUEEN, |
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Respondent. |
REASONS FOR JUDGMENT
O'Connor, J.
[1] The issue in this appeal is whether the Appellant is entitled to an allowable business investment loss ("ABIL") in the 1994 taxation year. The facts and the position of the Minister of National Revenue (the "Minister") are set forth in the Reply to the Notice of Appeal. Subject to certain additions which I have made for clarity the relevant provisions of the Reply state the following:
7. In computing his income for the 1994 taxation year, the Appellant claimed a business investment loss ("BIL") in the amount of $233,342.00, and an allowable business investment loss ("ABIL") in the amount of $175,006.00. [It is to be noted that at the hearing the figure $175,006.00 was agreed to be $172,110 which is 3/4 of a total amount of $229,480 which is comprised of $210,480 allegedly advanced to W.T.F. Canada and $19,000 allegedly advanced to Klehini Resources as discussed later.]
8. By Notice of Reassessment dated August 3, 1999, the Minister reassessed the Appellant's 1994 taxation year disallowing the BIL and ABIL.
9. The Appellant filed a Notice of Objection, dated October 12, 1999, to the reassessment.
10. The Minister confirmed the reassessment of the Appellant's 1994 taxation year by Notification of Confirmation dated January 28, 2000.
11. In so reassessing the Appellant for the 1994 taxation year, the Minister relied on, inter alia, the following assumptions of fact:
a) the facts admitted and stated above;
b) the Appellant claimed the ABIL with respect to an investment in W.T.F. Canada Ltd. ("W.T.F. Canada") and Klehini Resources Ltd. ("Klehini Resources");
c) at all material times, W.T.F. Canada and / or Klehini Resources did not carry on an "active business" or a "business" as those terms are defined in subsection 248(1) of the Act;
d) at all materials times, W.T.F. Canada and Klehini Resources were not small business corporations within the meaning of 248(1) of the Act;
e) the Appellant was not owed a debt by W.T.F. Canada and / or Klehini Resources, or any other Canadian-controlled private corporation that was a small business corporation;
f) the Appellant was not owed a debt by Canadian-controlled private corporation that was a small business corporation that became a bad debt at the end of the 1994 taxation year;
g) the Appellant did not incur a debt for the purpose of gaining or producing income from a business or a property or as consideration for the disposition of capital property to a person which whom the Appellant was dealing at arm's length;
h) the Appellant did not make an election pursuant to subsection 50(1) of the Act with respect to a debt or share(s);
i) the Appellant was not a shareholder of W.T.F. Canada and / or Klehini Resources;
j) the Appellant was not a shareholder of a small business corporation in any of the circumstances outlined in paragraph 50(1)(b) of the Act;
k) in 1994 the Appellant did not dispose of a share in the capital stock of a small business corporation; and
l) the Appellant did not incur a business investment loss in the 1994 taxation year.
B. ISSUES TO BE DECIDED
12. The issue is whether the Appellant is entitled to a business investment loss and, if so, for what amount.
C. STATUTORY PROVISIONS RELIED ON
13. He relies, inter alia, on sections 3, 9, subsections 50(1), 125(7), 248(1), paragraphs 38(c), 39(1)(c), and subparagraph 40(2)(g)(ii) of the Income Tax Act, R.S.C. 1985, c. 1 (5th Supp.), as amended.
Submissions of the Appellant
[2] The Appellant takes issue with all of the conclusions of the Minister set forth in the Reply. He argues that he made the investment believing it was made with the two Canadian corporations mainly W.T.F. Canada and Klehini Resources and that they were small business corporations within the meaning of subsection 248(1) of the Income Tax Act (the "Act"). He also submits that although he did not have shares in these companies the amounts he advanced represented a debt even though there was no loan documentation and no interest payable. He definitely suffered the loss he states and the loss should be allowable as an ABIL in 1994 as he never received shares or any monies or other funds.
[3] He also submits that he was "duped" that the companies involved were in the active business of defrauding him. He refers to the decision of the Federal Court of Appeal in Her Majesty the Queen v. William H. Johnston, dated April 25, 2001, where the Federal Court of Appeal upheld a decision of the Tax Court of Canada, Johnston v. Canada, 2000 DTC 1864, [2000] 2 C.T.C. 2602 (TCC), aff'd 2001 F.C.A. 122, 2001 DTC 5300 (F.C.A.). In that case Bell J, found that an elaborate scheme of fraud being carried out by certain corporations could qualify. Bell, J. at paragraph 59 and following of the Tax Court decision summarized the applicable provisions as follows:
[59] I agree with the Appellant's submission that he is entitled to an allowable business investment loss. Section 38(c) provides that:
a taxpayer's allowable business investment loss for a taxation year from the disposition of any property is 3/4 of his business investment loss for the year from the disposition of that property.
Section 39(1)(c) provides that:
a taxpayer's business investment loss ... from the disposition of any property is the amount ... by which his capital loss for the year from a disposition ... to which subsection 50(1) applies ... of any property that is ... a debt owing to the taxpayer by a Canadian-controlled private corporation ... that is a small business corporation ...
Section 50(1)(a) provides that where:
a debt owing to a taxpayer at the end of a taxation year ... is established by him to have become a bad debt in the year ... the taxpayer shall be deemed to have disposed of the debt ... at the end of the year for proceeds equal to nil ...
Section 40(2)(g)(ii) provides that:
a loss from the disposition of a debt ... unless the debt ... was acquired by the taxpayer for the purpose of gaining or producing income from a business or property ... is nil.
[60] Although the agreement in question provided for a loan by the Appellant "to the joint venture" the money was advanced to WSL "for and on behalf of the joint venture". The Appellant is the only party of the two parties to the Venture who advanced monies and it was advanced to the other party. The agreement provided for the issue of a promissory note by WSL evidencing the advance of funds and provided further if WSL was unable to purchase the inventory, it would promptly return the funds to the Appellant. The promissory note made and delivered by WSL referred to the joint venture agreement and set forth that it was subject to the terms and conditions and provided that it was payable in accordance with the terms of that agreement. I conclude that the debt so acquired by the Appellant from WSL upon the loan of $57,000 was acquired for the purpose of gaining or producing income from a "business or a property". He had had four previous joint venture experiences with WSL, each of which produced a return greater than his advance. My conclusion that he was not carrying on business is not inconsistent with this determination, it being present to his mind that he was advancing the sum of $57,000 for the purpose of gaining or producing income. It matters not whether the income was to come from business or property. If the income from the Appellant's four previous ventures was income from a business it follows that a loss from the fifth venture should be a business loss. I have decided that it was not. If, however, the income from the previous ventures was income from property the loss from the fifth venture, identical in form, must be a loss from property and accordingly, a capital loss.
[61] To qualify as a "business investment loss" in 1993 the Appellant must have a capital loss on the deemed disposition of debt which became bad in that year. The Respondent's Amended Reply to the Notice of Appeal reads in part:
In assessing the Appellant for the 1993 taxation year, the Minister of National Revenue ... disallowed the deduction of the ABIL and advised the Appellant that he has a capital loss in the amount of $25,540.
In his submission, Respondent's counsel did not dispute the existence of a capital loss. Rather, he tried to convince the Court that the debt giving rise to the loss was not WSL's debt, that WSL was not a "small business corporation" within the meaning of section 39(1)(c) and that the debt was not acquired to earn income, with the result that the Appellant's loss would be deemed under section 40(2)(g)(ii) to be nil. The Respondent admitted in the Reply to the Notice of Appeal that WSL was a Canadian-controlled private corporation. I must determine whether it was a 'small business corporation' as required by that section. The term 'small business corporation' is defined
in section 248 of the Act as
a Canadian-controlled private corporation all or substantially all of the fair market value of the assets of which were used principally in an active business carried on primarily in Canada by it.
[62] The term "active business", also defined in section 248, means any business carried on by a taxpayer other than a specified investment business or personal services business. It is clear that WSL's activities did not constitute a "specified investment business" or a "personal services business". I accept the submissions of Appellant's counsel that WSL was in the active business of defrauding. The fact that such activities were criminal does not prevent them from being characterized as a 'business' for income tax purposes. [FOOTNOTE 5 : M.N.R. v. Eldridge, 64 DTC 5338; Buckman v. M.N.R., 91 DTC 1249.] During the period in question WSL had employees, premises, warehouses and inventory and was engaged in buying and selling merchandise. It also had money, albeit advances from persons entering joint ventures. These assets were used to perpetrate fraud on those persons. I conclude, therefore, that WSL was using its assets in the business of enticing and defrauding co-venturers. I am satisfied from the foregoing that WSL was a small business corporation owing a debt to the Appellant which debt was acquired for the purpose of gaining or producing income from a business or property. I am also satisfied that such debt was deemed to have been disposed of in 1993 for proceeds equal to nil, thus constituting a business investment loss within the meaning of section 39(1)(c) of the Act.
[63] Accordingly, the Appellant's first submission that the loss suffered in respect of the fifth joint venture was a deductible non-capital loss fails. His alternative submission that he was entitled, in respect of the loss, to an allowable business investment loss under section 3 and the above noted provisions, succeeds.
[64] The appeal is allowed with costs.
[4] The first submission of counsel for the Respondent refers to subsection 50(1) of the Act which reads as follows:
50.(1) Debts established to be bad debts and shares of bankrupt corporation. - For the purposes of this subdivision, where
(a) a debt owing to a taxpayer at the end of a taxation year (other than a debt owing to the taxpayer in respect of the disposition of personal-use property) is established by the taxpayer to have become a bad debt in the year, or
(b) a share (other than a share received by a taxpayer as consideration in respect of the disposition of personal-use property) of the capital stock of a corporation is owned by the taxpayer at the end of a taxation year and
(i) the corporation has during the year become a bankrupt (within the meaning of subsection 128(3)),
(ii) the corporation is a corporation referred to in section 6 of the Winding-up Act that is insolvent (within the meaning of that Act) and in respect of which a winding-up order under the Act has been made in the year, or
(iii) at the end of the year,
(A) the corporation is insolvent,
(B) neither the corporation nor a corporation controlled by it carries on business,
(C) the fair market value of the share is nil, and
(D) it is reasonable to expect that the corporation will be dissolved or wound up and will not commence to carry on business
and the taxpayer elects in the taxpayer's return of income for the year to have this subsection apply in respect of the debt or the share, as the case may be, the taxpayer shall be deemed to have disposed of the debt or the share, as the case may be, at the end of the year for proceeds equal to nil and to have reacquired it immediately after the end of the year at a cost equal to nil.
[5] Counsel argues that since no election was made (and this was established) the Appellant cannot claim an ABIL. I will return to this submission later. Although the Appellant did claim an ABIL in his return he did not file the subsection 50(1) election and therefore cannot qualify. Counsel adds, "I simply wanted to put forth to you, that the necessity of having an election was a conscious parliament choice because it was actually added by way of amendment to apply to 1994 onward. So, it - before that subsection 50(1) didn't actually have the necessity of having to make an election".
[6] Counsel for the Respondent submitted further:
And firstly, that is that the - it's the Appellant who has the onus here to establish that the Minister's re-assessment is wrong and that he's entitled to the business investment loss that he has claimed. And it's not for the Minister to disapprove his entitlement.
As indicated in the pleadings filed with the Court in the Minister's Reply to Notice of Appeal, it is denied that the corporations involved constituted small business corporations at the relevant time. Moreover, it's also denied that the corporations owed a debt to Mr. Longerich again at the relevant time.
And so Mr. Longerich to succeed in his appeal would have to rebut those assumptions and satisfy the Court that each element required for a business investment loss has been satisfied.
[7] Another point made by counsel for the Respondent is that the Appellant simply did not put forward enough evidence to establish that he was entitled the ABIl which he claims. She points out further:
The issue here then is not did Mr. Longerich lose money and, therefore, he gets a business investment loss. If he can establish that he lost money for the business of gaining or producing income from the business or property, he might very well be entitled to a capital loss.
But that is not what he is seeking, and so simply demonstrating that he invested money, in whatever the form, which is a little less than clear of how the process was to work, and in what format he was supposed to get his money back, he indicates he was supposed to get all of his money back.
[8] Counsel submitted further as follows:
It's the submission of the Respondent that despite the fact that the money granted was made payable initially to the Canadian corporation, ultimately, where the money is going is the Hong Kong corporation.
And by virtue of the documents it's the Hong Kongcorporation that has the legal obligation to return the funds, if that's what you're constituting as a loan to Mr. Longerich.
The Hong Kong corporation, of course, no matter what its activity can't constitute a small business corporation in that it's not a Canadian - - Canadian - - controlled private corporation for the purpose of the business investment loss.
And, again, I realize that Mr. Longerich's testimony, his intention might have been otherwise and it wasn't to go through Hong Kong. His intention in this regard though doesn't change the fact that it would appear that the money is actually going to Hong Kong.
Recognizing that there's some inconsistencies between the testimony and the documentation and even in and among the documentation, I would simply submit that - - that that should not lead to a finding then to simply accept what the test - - what Mr. Longerich is stating because in this case it's not that there's no documentation, he simply comes forth and says, I have no documents believe me, and you make a finding accordingly. Rather, he, himself has produced documents which run contrary to what he says his understanding was of the transactions at the time.
Moreover, as we heard at some length, no one knows what happen to the money; which on one (1) hand isn't necessarily determinative. However, on the other hand, if you think of it this way, it certainly doesn't support that there was an active business going on in Canada at that time. We hit a wall. The money was given to W.T.F. Canada at that time and then no one knows what - - what happens to the money.
I'm not submitting that that somehow meant that he wasn't giving the money for a business purpose, but, it certainly fails to establish that there was an active business at that time here in Canada.
And I would submit the fact that W.T.F. Canada appeared to have been collecting money from investors, including Mr. Longerich; that collection of investment in and of itself doesn't constitute an active business here in Canada.
[9] With respect to the Johnston decision (supra) counsel for the Respondent submits as follows:
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Mr. Longerich then goes on to state that W.T.F. Canada was in the business of fraud and for that proposition he referred to - he referred Your Honour to the case of Johnston and Her Majesty, and that's a Federal Court of Appeal decision in 2001.
In that matter, the Federal Court of Appeal looked at the Tax Court of Canada decision in which the Tax Court had allowed the taxpayer an allowable business investment loss with respect to a fraudulent pyramid scheme. And the Federal Court of Appeal stated that they were unable to conclude that the Tax Court Judge erred.
So, there is no more substantive reason in the Federal Court of Appeal matter which - so for which you should then look to the Tax Court decision for a more fulsome analysis of what exactly transpired in that case.
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In this particular matter, Justice Bell did allow the Appellant an allowable business investment loss on the basis that the corporation at issue was involved in a fraudulent pyramid scheme. And that was the nature of its business, and that was the business that was actually going on in Canada. And that's how he found it to be an active - an active business at that time.
Now, of course, this, although granted without further analysis, this was affirmed, if you will, by the Federal Court of Appeal. So, insofar as the Federal Court of Appeal has apparently said there's a possibility that if you can establish that a business is actually in the business of fraud, and that that's how it can constitute an active business then, yes, that's what this stands for, and that's - that's the basis Mr. Longerich is putting forth before you.
However, I would draw several distinctions between the facts before this Court and the evidence that was led before Justice Bell, in which he made his findings.
In this particular matter before you today, we have nothing more than Mr. Longerich's assertion that, in hindsight, he might have been duped, possibly it was fraud, and I note he used the word "possibly", and he could be no more certain than that.
The evidence before you is simply that he never got his money back. But there's no more evidence as to what happened to it after it was given to W.T.F. Canada.
And in fact, on that point, I confirmed with Mr. Longerich, that it's equally possible that the money goes to Hong Kong and then for whatever array of business reasons, business breaks down at that point. That doesn't mean it's fraud, and I think that's important to note.
It's a pretty serious allegation to come into Court with nothing more to say, well, because I lost my money, I think that corporation was in the business of defrauding me. ...
But simply because a taxpayer has lost money does not establish, for the Court, on a balance of probabilities, that the entire scheme was nothing but a deliberate fraud, perpetuated upon the investors, and that fraud was taking place in Canada, such that W.T.F. Canada is suddenly now an active business, because there's no evidence of any other business going on at that time.
In this particular decision, there were a number of witnesses who were called, and it was a very sophisticated fraud, and it - - it goes on at length, at the type of deception that was involved. ...
... the point of - - of my distinguishing from this particular case is simply that, if Your Honour reviews this decision, the type of evidence that was before it to allow a Court to make a finding of fraud was a world away from the evidence you have before you.
Because all you have before you is the fact that Mr. Longerich lost his money, he doesn't know what happened to it and it was possibly fraud. I would submit that on the evidence before you the onus has not been established - - sorry, the onus has not been met - that he has established that this was a fraudulent scheme, such that can be said that that was - - that actually constituted the business of W.T.F. Canada.
[10] With respect to Klehini Resources counsel for the Respondent established that the maximum amount that could be considered to have been advanced to Klehini Resources was $19,000 and it was established that Klehini was a Canadian corporation. Counsel further pointed out that there was no proof that an active business was being carried on in Canada by Klehini. The Appellant gave evidence that a rather extensive mining operation was being carried on by Klehini but there was no further evidence submitted with respect thereto and she concludes that the Appellant is not entitled to the amount with respect to Klehini. Counsel for the Respondent concludes as follows in her submissions:
In closing then, I would simply repeat the fact that it's not just about whether Mr. Longerich suffered a loss and that there is a capital loss if he just suffered a loss which otherwise qualifies for a capital loss but that he is seeking something more and that being -- to be able to offset, obviously, business investment loss against all other income.
I just keep repeating that point, because I think it's important that it not be watered down, and -- and certainly the Court, and anyone can have great sympathy for Mr. Longerich that he lost the money, but that that's not -- that's not the -- the issue before the Court, that he lost the money and that he thought something different was going to happen with it.
As I indicated, the purpose only goes so far as whether or not the debt even qualifies insofar it was made for the proper purpose.
But once you get into an analysis of whether a corporation was a small business corporation, then unfortunately Mr. Longerich's purpose, his intention no longer is determinative to whether or not the corporations were small business corporations at the relevant time. Those are my submissions.
Analysis and Decision
[11] In my opinion the submissions of counsel for the Respondent are correct. I suggest the following are the main factors:
1. The monies although initially advanced to W.T.F. Canada, in essence were funnelled to a Hong Kong corporation and clearly could not be traced to an investment in an active business in Canada.
2. The Appellant had the onus of proof and he was far from meeting that onus.
3. For the reasons given by counsel for the Respondent the Johnstondecision is distinguishable. Moreover a fraud actually being carried out by W.T.F. Canada was not established and all we know is that the Appellant lost his money. It may have been his intention that the money would be funnelled back to an active business corporation carrying on a business in Canada but that intention is not sufficient when it is not followed up by the actual confirming facts.
4. In my opinion subsection 50(1) of the Act requiring an election for an ABIL to be accepted must be complied with and this was not done whether with respect to W.T.F. Canada or Klehini Resources.
[12] For all of the above reasons the appeal is dismissed with costs.
Signed at Ottawa, Canada, this 9th day of July 2004.
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"T. O'Connor" |
O'Connor, J.
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CITATION: |
2004TCC485 |
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COURT FILE NO.: |
2000-1962(IT)G |
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STYLE OF CAUSE: |
Hans Longerich and Her Majesty the Queen |
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PLACE OF HEARING: |
Edmonton, Alberta |
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DATE OF HEARING: |
June 18, 2004 |
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REASONS FOR JUDGMENT BY: |
The Honourable Justice T. O'Connor |
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DATE OF JUDGMENT: |
July 9th, 2004 |
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APPEARANCES: |
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For the Appellant: |
The Appellant himself |
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Counsel for the Respondent: |
Belinda Schmid |
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COUNSEL OF RECORD: |
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For the Appellant: |
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Name: |
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Firm: |
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For the Respondent: |
Morris Rosenberg Deputy Attorney General of Canada Ottawa, Canada |