Date: 20020125
Docket: 2000-335-IT-G
BETWEEN:
DAVID ARNOLD,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
Reasonsfor Judgment
Miller, J.T.C.C.
[1] David Arnold appeals the Minister's assessment of his 1995 and 1996 taxation years on two fronts:
1. He did not receive $392,800 of management fees in 1995; and
2. He is entitled to certain allowable business investment losses, capital losses or business losses in 1996, arising from investments in three unrelated businesses.
[2] Prior to the filing of an Amended Notice of Appeal the week before trial, and the Amended Reply the day before trial, the parties had disagreed on the inclusion of a $1,051,915 capital gain in 1996 arising from the disposition of securities. The parties however in their amended pleadings agreed this amount was only $4,103.68 and that there was also an agreed interest income of $4,038.88 to be included for 1996 pertaining to various Treasury Bill redemptions. These agreed amounts are therefore not at issue in this appeal.
[3] Mr. Arnold was the president and the major shareholder of Plasco Manufacturing Ltd. ("Plasco") from 1977 to 1998 when the company was sold to a branch of Azko, a Finnish public company. Plasco was in the pipe manufacturing business. The other shareholders of Plasco were Mr. Arnold's spouse and children. The 1995 corporate return of Plasco indicated that Mr. Arnold was a 48% shareholder and his spouse Elizabeth Arnold was a 12% shareholder. Mr. Arnold did not recall the breakdown of shareholdings amongst his four children. In February, 1994 Mr. Arnold left his wife. It was clear this was an acrimonious separation, as a result of which Mr. Arnold maintained he did not withdraw any more funds from Plasco than did his wife in 1995. This amount he suggested was $60,000. There is some confusion as to whether this was repayment of a shareholder's loan or more in the nature of a fee, though Mr. Arnold's counsel in argument clearly referred to the $60,000 as salary rather than a loan repayment. This situation did not prove satisfactory to Mr. Arnold and he sent a memo to his wife in December, 1995 suggesting that he would not continue to work for nothing and that a salary had to be agreed upon. The salary agreed upon for 1996, 1997 and 1998 was $250,000 per year, which amount was paid in 1996.
[4] The financial statements of Plasco for the year ending January 31, 1997 showed a management services fee of $250,000, and a management services fee for the previous year (February 1, 1995 to January 31, 1996) of $392,800. It was this latter amount that Canada Customs and Revenue Agency ("CCRA") attributed to Mr. Arnold in the 1995 assessment. Mr. Arnold testified he did not know to whom the $392,800 fee was paid, other than it was not to him. Although he was president and a major shareholder of Plasco until 1998 and a director until 2000, Mr. Arnold did not attempt to get the company's records during this period to clarify the information in connection with the management fee. Although Mr. Arnold's accountant testified, he too gave no indication as to whom the fee was paid.
[5] In his Amended Notice of Appeal Mr. Arnold states that, as he was one of five people on the management team he accepted responsibility for one-fifth of the fee or $78,560. In evidence Mr. Arnold stated there were more than five managers and that this statement in his appeal was more for settlement purposes.
[6] Mr. Arnold initially filed his 1995 and 1996 returns on the basis that he had severed the "assumpsit contract" with the Government of Canada, contending that he was no longer subject to tax. This position was abandoned by Mr. Arnold by October, 1998 when he provided information to Mr. Sian, a collections officer for CCRA. In that correspondence he acknowledged a potential tax liability of $33,000 for 1996, though he had not included in the calculation any interest or capital gain which he now acknowledges should have been included.
[7] With respect to his 1996 taxation year Mr. Arnold claimed he had investments in three businesses which triggered losses; firstly, in a business known as Koeye River Lodge Inc. ("Koeye"). Mr. Arnold knew the principals of this business, Douglas Raffan and Christopher Haley. He provided funds of $111,000 to the enterprise and received a promissory note from each of the principals of $55,000 along with a hypothecation of shares in a company called Ye Old Work Shop Ltd.. The fishing lodge was not successful and I am satisfied that by the end of 1996 it was clear Mr. Arnold would not receive any return of his $111,000.
[8] Mr. Arnold included in his investment in Koeye interest of $7,700, trips to the lodge invoiced at $14,185, legal costs in connection with the loan of $1,457, pipes supplied at an amount of $3,232 and general costs of $268. The trips to the lodge consisted of two visits, one of which included two customers of Plasco, paid for by Plasco. Mr. Arnold stated the reason for the trips was to check on his investments. It was clear that he also enjoyed the normal pleasures that a four and five day trip to a fishing lodge had to offer. With respect to the free pipe supply, this was evidenced by a Plasco invoice of $3,231.59 to Koeye. There was no indication the materials came from Mr. Arnold, nor that he paid the invoice. Mr. Arnold claimed the $137,842 investment qualified for an allowable business investment loss.
[9] The second investment in which Mr. Arnold became involved was the Handy-Sand Mitt ("Handy-Sand"), a form of sandpaper worn as a mitt. Mr. Arnold invested $36,250 in this project, $25,000 of which was paid in 1997 and the balance in late 1996. He indicated that he expected to eventually receive shares in a company. The company however was never incorporated and, according to Mr. Arnold, the project fell apart due to the drinking problems of the manager, Mr. Barry Morton.
[10] Although the Amended Notice of Appeal suggested an allowable business investment loss resulted from this investment, Mr. Arnold's evidence was that he and an accountant, Mr. Brian Dougherty, were joint venturers as to 75% and 25% respectively in the project, and that the joint venture had salary or contractor expenses of $14,664.50 and equipment expenses of $2,969. The invoice for the equipment came from Stollco Industries Ltd. and was dated May, 1997. The invoice for the services of Fenton totalling $4,664.50 was dated in January, 1997. The $10,000 paid to Mr. Morton was pursuant to an arrangement of $2,500 per month commencing in December, 1996. No documentation was provided to support a joint venture agreement.
[11] Finally, Mr. Arnold paid $45,000 U.S. in 1995, through a Canadian broker, for three debentures of $15,000 U.S. each in Rockafeller Investment Inc. ("Rockafellers"), a company operating a coffee house in California. The coffee house eventually shut down. Mr. Arnold never filed a tax return claiming this loss but raised it in his objection to CCRA's reassessment.
[12] Mr. Arnold's counsel, Mr. Skogstad, argued that while Mr. Arnold did not present any documents to refute the Minister's assumption that a $392,800 fee was paid to him, Mr. Arnold did provide his sworn evidence to that effect. Further, rather than drawing a negative inference from Mr. Arnold not obtaining any corporate records, I should find that due process has not been followed as required by the Bill of Rights, because CCRA could have and did not invoke their inspection rights pursuant to section 231.1 of the Act. Mr. Skogstad presented no case law to support this proposition, as I am satisfied there is none to present. There is no onus on the Minister to invoke the inspection powers in section 231.1 to support assumptions relied on in the Reply. To suggest such is to ignore the well-established procedure for hearings in this Court. I fail to see how this in any way offends the Bill of Rights.
[13] In connection with the management fee of $392,800 in 1995, the Minister's assumption is based entirely on the financial statements for Plasco for the year ending January 31, 1996. Mr. Arnold categorically denied receiving $392,800, but claims to have withdrawn $60,000. Mr. Torrie, counsel for the Respondent, maintains, firstly, that the evidence is neither sufficient nor credible. He suggested Mr. Arnold could have done a number of things to assist the Court in determining who the fee was paid to. He could have, as a director, obtained corporate records himself - he did not. He could have called the bookkeeper from Plasco as a witness - he did not. He could have called his ex-wife or sons as witnesses - he did not. Mr. Torrie cited Judge Lamarre in Huneault v. The Queen, [1998] 3 C.T.C. 2788 as follows:
25. On the $10,000 expense which the appellant claimed as an expense incurred in the course of his professional occupation, I consider that he did not succeed in showing that he was entitled to such an expense. To begin with, on the evidence I agree that this amount is attributable to money paid by Mr. Rioux in connection with salaries paid to employees. However, I draw a negative conclusion from the absence of any testimony by Mr. Rioux. I would recall here the comments contained in The Law of Evidence in Civil Cases, by Sopinka and Lederman, which were cited by Judge Sarchuk of this Court in Enns v. Minister of National Revenue, (1987), 87 D.T.C 208 (T.C.C.), at 210:
In The Law of Evidence in Civil Cases, by Sopinka and Lederman, the authors comment on the effect of failure to call a witness and I quote:
In Blatch v. Archer (1744), 1 Cowp. 63, at p. 65, Lord Mansfield stated:
It is certainly a maxim that all evidence is to be weighed according to the proof which it was in the power of one side to have produced, and in the power of the other to have contradicted.
The application of this maxim has led to a well-recognized rule that the failure of a party or a witness to give evidence, which it was in the power of the party or witness to give and by which the facts might have been elucidated, justifies the court in drawing the inference that the evidence of the party or witness would have been unfavourable to the party to whom the failure was attributed.
In the case of a plaintiff who has the evidentiary burden of establishing an issue, the effect of such an inference may be that the evidence led will be insufficient to discharge the burden. (Lévesque et al. v. Comeau et al., [1970] S.C.R. 1010, (1971), 16 D.L.R. (3d) 425) (emphasis added)
[14] Mr. Arnold acknowledges that the $250,000 management fee shown on the Plasco financial statements for the year ending January 31, 1997 was paid to him, yet he has no idea who was paid $392,800 in 1995. I find it was well within Mr. Arnold's power to adduce evidence that might have clarified this issue. I do draw a negative inference from these circumstances. Section 230 of the Act requires that every person carrying on a business keep appropriate records for the determination of taxes. I believe that Mr. Arnold could have with very little effort accessed the necessary information from such corporate records. I also find it unusual that the president and major shareholder of a company would not, even without having to access the corporate records, know the details of a $392,800 management fee, an amount representing over a third of the total administrative expenses of the corporation. The $392,800 was presumably paid to someone, and I find on balance that Mr. Arnold has not refuted the crown's assumption that it was paid to him.
[15] With respect to the allowable business investment loss Mr. Arnold seeks from his investment in Koeye, I do believe that he advanced the $111,000 cash to this project by means of lending that amount to the two principals involved. The documents presented as exhibits support loans to these individuals. I am not convinced that the balance of Mr. Arnold's "investment" represents anything of the sort. There is no evidence that the pipe was paid for by Mr. Arnold. Also, the cost of the fishing trips is not a cost that can in any way be seen as an advance of monies to the lodge or any other form of investment. Similarly, the other smaller costs do not qualify as a debt owed by the fishing lodge to Mr. Arnold. I am left however with the cash investment by Mr. Arnold of $111,000. To qualify as an allowable business investment loss, paragraph 39(1)(c) of the Act requires certain elements to exist. That paragraph reads in part as follows:
39.(1) For the purposes of this Act,
...
(c) a taxpayer's business investment loss for a taxation year from the disposition of any property is the amount, if any, by which the taxpayer's capital loss for the year from a disposition after 1977
(i) to which subsection 50(1) applies, or
(ii) to a person with whom the taxpayer was dealing at arm's length
of any property that is
(iii) a share of the capital stock of a small business corporation, or
(iv) a debt owing to the taxpayer by a Canadian-controlled private corporation (other than, where the taxpayer is a corporation, a debt owing to it by a corporation with which it does not deal at arm's length) that is
(A) a small business corporation,
(B) a bankrupt (within the meaning assigned by subsection 128(3)) that was a small business corporation at the time it last became a bankrupt, or
(C) a corporation referred to in section 6 of the Winding-up Act that was insolvent (within the meaning of that Act) and was a small business corporation at the time a winding-up order under that Act was made in respect of the corporation,
exceeds the total of ...
[16] Firstly, the debt must be owed by a corporation, not by individuals. Even if I were to accept that the payment to the individuals went effectively through them directly to the corporation, it must then be shown that the corporation was a Canadian controlled private corporation qualifying as a small business corporation. No evidence was provided to me to satisfy that requirement. While Mr. Arnold may well have experienced a loss, he has not shown that the loss was an allowable business investment loss. His counsel did not distinguish between an allowable business investment loss and a capital loss in his argument, and made no representations as to whether the loss is qualified as something other than an allowable business investment loss. For completion's sake, I would note that no election was ever made by Mr. Arnold in accordance with subsection 50(1) of the Act to have this section apply to the bad debt arising from his investment in the fishing lodge project.
[17] With respect to the Handy-Sand investment, as noted previously, Mr. Arnold's argument has shifted to a claim for a direct business loss claiming that he was involved in an adventure in the nature of trade as a joint venturer with Mr. Dougherty. Although he claims to have initially injected funds in the project in anticipation of shares, which never materialized, at some point the investment became the injection of funds into a joint venture of which he was a 75% joint venturer. In either event, the monies invested went towards the project in December, 1996 and January, 1997. Although there was no documentation in support of a joint venture, it is clear no other organizational structure was put in place. Accepting that Mr. Arnold and his associate Mr. Dougherty stepped in directly in some fashion to handle this business, I cannot find they did so anytime before 1997. Mr. Arnold stated that he advanced the monies in the expectation of shares; the majority of the funds he advanced in 1997. I do not see how Mr. Arnold can claim any business expenses for 1996, before even he considered himself to be engaged in an adventure in the nature of trade. The timing does not support any deductible expenses for Mr. Arnold in 1996 in connection with this business.
[18] Finally, with respect to the $45,000 U.S. investment in Rockafellers, I believe Mr. Arnold made such an investment and that the investment did not materialize. The sole issue is whether Mr. Arnold is deemed to have disposed of this investment in accordance with paragraph 50(1)(b) of the Act. As noted earlier part of paragraph 50(1)(b) requirements is that a "taxpayer elects in the taxpayer's return of income for the year to have this subsection apply". Mr. Arnold's counsel argued that I should deem Mr. Arnold to have so elected through his objection. This is taking more liberties with the plain wording in the section than I am prepared to take. As Associate Chief Judge Bowman pointed out in Svidal v. The Queen, [1995] 1 C.T.C. 2692:
...Moreover, under clause 50(1)(b)(iii)(B) of the Income Tax Act one of the conditions necessary to the application of subsection 50(1) is that the taxpayer should have elected in the return of income for the year to have the subsection apply. No such election was made and the appellant's notice of objection does not constitute a notification before December 11, 1993 of the type contemplated by the transitional legislation implementing the amendment of subsection 50(1). Indeed the matter of an allowable business investment loss was not raised until the amended notice of appeal was filed.
By not making the section 50(1) election Mr. Arnold is precluded from claiming the loss.
[19] For these reasons, I dismiss these appeals, with costs to the Respondent.
Signed at Ottawa, Canada, this 25th day of January, 2002.
"Campbell J. Miller"
J.T.C.C.
COURT FILE NO.: 2000-335(IT)G
STYLE OF CAUSE: David Arnold v. The Queen
PLACE OF HEARING: Kelowna, British Columbia
DATE OF HEARING: January 15, 2002
REASONS FOR JUDGMENT BY: The Honourable Judge Campbell J. Miller
DATE OF JUDGMENT: January 25, 2002
APPEARANCES:
Counsel for the Appellant: Donald W. Skogstad
Counsel for the Respondent: Tom Torrie
COUNSEL OF RECORD:
For the Appellant:
Name: David W. Skogstad
Firm:
For the Respondent: Morris Rosenberg
Deputy Attorney General of Canada
Ottawa, Canada
2000-335(IT)G
BETWEEN:
DAVID ARNOLD,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
Appeals heard on January 15, 2002 at Kelowna, British Columbia, by
the Honourable Judge Campbell J. Miller
Appearances
Counsel for the Appellant: Donald W. Skogstad
Counsel for the Respondent: Tom Torrie
JUDGMENT
The appeals from the reassessments made under the Income Tax Act for the 1995 and 1996 taxation years are dismissed in accordance with the attached Reasons for Judgment.
The Respondent is awarded costs.
Signed at Ottawa, Canada, this 25th day of January, 2002.
|
"Campbell J. Miller" |
J.T.C.C.