Date: 19990514
Docket: 97-3395-IT-G
BETWEEN:
RONALD NOSEWORTHY,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
Reasons for judgment
Beaubier, J.T.C.C.
[1] This appeal pursuant to the General Procedure was heard at St. John's, Newfoundland on May 10 and 11, 1999. The Appellant testified and called Lou Collins, an Amway "Emerald" distributor. The Respondent called its auditor on Mr. Noseworthy's file, Ronald Kenny, to testify.
[2] The Appellant has appealed the disallowance of losses he claimed in 1994 and 1995 from an Amway distributorship.
[3] Paragraphs 7 to 9, inclusive, of the Reply read:
7. In computing income for the 1994 and 1995 taxation years, the Appellant deducted the amounts of $20,885.39 and $24,055.33 as business losses in respect of a network marketing activity known as an Amway distributorship ("the Activity").
8. In reassessing the Appellant for the 1994 and 1995 taxation years, the Minister disallowed the deduction of the losses.
9. In so reassessing the Appellant, the Minister relied on, inter alia, the facts admitted above and the following assumptions:
(a) the Appellant's wife, Joy Noseworthy, began operating the Activity in February, 1990;
(b) during the periods in question the Appellant operated the Activity in partnership with his wife;
(c) the Appellant does not plan any material changes to the Activity in the near future;
(d) the Appellant has no previous training or experience in the Activity;
(e) at all material times the Appellant was employed on a full time basis as a school teacher;
(f) before starting the Activity, the Appellant prepared no business plan to determine if it would be profitable;
(g) there are no major start up costs associated with this Activity;
(h) there are no lease agreements or major capital expenditures required with this Activity;
(i) from 1990 to 1995 the Appellant reported the following losses from the Activity, respectively as business losses:
|
Taxation Year |
Gross Income |
Expenses |
(Loss) |
|
1990 |
$ 2,791 |
$ 18,827 |
($16,036) |
|
1991 |
209,536 |
221,245 |
(11,709) |
|
1992 |
148,019 |
174,053 |
(26,034) |
|
1993 |
199,806 |
220,249 |
(20,443) |
|
1994 |
194,246 |
215,131 |
(20,885) |
|
1995 |
212,881 |
236,936 |
(24,055) |
(j) the gross income amounts as outlined in paragraph 9(i) above, include sales and performance bonuses and tool rebates received from the Amway Corporation, a portion of which are paid to others;
(k) revised to account for the bonuses and rebates paid to others, the profit and loss statements of the Activity, including adjusted gross profit, for 1994 and 1995 are summarized as follows:
|
1994 |
1995 |
|
|
Sales |
$168,651.83 |
$184,414.69 |
|
Performance bonus |
25,595.05 |
28,467.24 |
|
Gross Income |
194,246.88 |
212,881.93 |
|
Less: |
||
|
Cost of goods sold |
$175,718.54 |
$185,557.20 |
|
*Downliner bonus |
15,587.09 |
16,405.91 |
|
GROSS PROFIT |
$ 2,941.25 |
$ 10,918.82 |
|
Operating Expenses: |
23,826.64 |
34,974.15 |
|
Net Loss |
$(20,885.39) |
$(24,055.33) |
*includes 'bonus earned by distributors' & 'tool rebates'
(l) the Appellant did not have a reasonable expectation of profit from the Activity during the 1994 and 1995 taxation years;
(m) the expenses of the Appellant in respect of the Activity were not made nor incurred for the purpose of gaining or producing income from a business or property; and
(n) the expenses claimed in relation to the Activity were personal or living expenses of the Appellant.
[4] Assumptions 9(a), (b), (c), (e), (f), (g), (h), (i), (j) and (k) are correct. With respect to assumption 9(b), the Appellant denied that a partnership existed and deducted all of the Amway losses from his teacher's income. But the evidence is that in 1990 Mr. Noseworthy added his name to the Amway contract and Mrs. Noseworthy's name was never removed from it; the business bank account was in both names and either signed its cheques; Mrs. Noseworthy kept the books, took and filed Amway products orders and answered their Amway phone; she drove the car to meet prospects, attended Amway meetings and conventions, and her expenses were claimed in Mr. Noseworthy's Amway deductions. Amway's cheques were payable to both of them. In addition, Mr. and Mrs. Noseworthy registered their names as Amway partners with various public bodies under the name "Global Marketing". Mr. Noseworthy's testimony established that, in a large measure, Mr. Noseworthy did the outside recruiting work and Mrs. Noseworthy did the inside work of the home based operation. They were partners and there is no evidence of any agreement between them as to the division of profits or losses. As a result, in any event, only 50% of the profits or losses from the Amway partnership are claimable by Mr. Noseworthy.
[5] With respect to assumption 9(d), Mr. Noseworthy has no previous training or experience in the Activity. But he and his wife owned horses for a few years before 1990. They lost money in every year and Mr. Noseworthy deducted all of the horse losses from his teacher's income.
[6] Mr. Noseworthy retired as a teacher on October 31, 1998. He appears to be in his middle 50's. At all material times he has resided at Grand Bank on the Burin Peninsula in Newfoundland. His wife is at home and they have two daughters who are now 25 and 22. Mr. Noseworthy has a B.A., a B.Ed. and his M.A. He taught English in high school throughout his career and all of the years in question as a full time teacher.
[7] Mr. Noseworthy testified that he was recruited into Amway by Gerald Howitt in 1990. Mr. Noseworthy said that he joined Amway to become an Emerald distributor so as to supplement his teacher's pension. He then expected to reach the Emerald level of distributorship so as to earn net income of $80,000 to $100,000 per year within five years, or by 1994. He testified that to accomplish this they adopted and have followed the Amway plan.
[8] To do this, Mr. and Mrs. Noseworthy had to go to larger populated areas of Newfoundland than Grand Bank and the Burin Peninsula, such as St. John's. They drove these long three and one-half hour (one way) trips frequently to recruit prospects and to attend meetings in Gander and elsewhere.
[9] Mr. Noseworthy admitted on cross-examination that, except for grocery purchases, his family purchases about 75% of their household needs at wholesale through Amway. In addition, Mr. and Mrs. Noseworthy attended tax deductible Amway conventions each year out of Newfoundland at places like Niagara Falls and Atlanta, Georgia. Both of these items have personal benefit aspects to them.
[10] The Noseworthys never established one "Direct Distributor" leg of the three legs required to qualify as an Emerald Distributor. Because they recruited Mr. Keeping, they got some benefit from the leg that he established. Mr. Noseworthy testified that in his view, once a leg was established, it could be left to operate on its own and his limited time could then be devoted to establishing second and third legs. He attributed part of his failure to establish a leg to his efforts to help Mr. Keeping restore a leg that failed when Mr. Keeping left it to its own resources in order that he could devote his time to establish a second leg.
[11] The Noseworthys' gross volume through 1995 was in the $200,000 per annum range and their operating expenses in 1994 and 1995 averaged over $27,000 per year with a $10,000 climb in 1995. The gross profit (assumption 9(k)) in 1994 was about $3,000 and in 1995 was about $11,000. In each year their sales were less than the cost of goods sold; the actual profit was in the Amway bonus. Their average "net gross" profit was about 7%. Thus, they would have to hold their expenses stationary and obtain about $400,000 in gross income in order to recover a net profit on the basis of the 1994 and 1995 figures. The stability of their losses from 1992 to 1995, which were all in the $20,000 range, confirm Mr. Noseworthy's testimony that he intended in 1994 and 1995 to carry on as he had in the past in the hope of showing a profit. There is no evidence that he attempted to adapt his original plan or that he even did the simple analysis described above in an effort to find a solution to his losses. By 1994 the Noseworthys had not established a leg or a profit to meet their 1990 five-year forecast either to achieve the Emerald level in Amway or to make a profit. Nor have they done so to this date.
[12] Mr. Noseworthy testified that he was interrupted in his own development in 1993 when he joined his prospect, Mr. Keeping, in trying to regroup Mr. Keeping's first Direct Distributor leg which was disintegrating. That testimony is believed. Mr. Noseworthy testified that he believes that a leg can be left to function on its own while the next leg is established. This view proved wrong in his distributor, Mr. Keeping's case, and it is contrary to Mr. Collins' practice. Mr. Collins is an Emerald level Amway distributor who contacts even Mr. Noseworthy and Mr. Keeping every two days. Despite Mr. Keeping's "leg" failing, Mr. Noseworthy still holds this view. It is indicative of Mr. Noseworthy's mindset and lack of adaptability.
[13] In 1994 it was clear that the following were hindrances to Mr. and Mrs. Noseworthy ever making a profit as an Amway distributor resident in Grand Bank, Newfoundland:
1. The low margin of profit that Amway allowed them.
2. The small population or market base on the Burin Peninsula, near Grand Bank, which required them to drive for three and one-half hours to develop a market at great cost in both time and money.
3. Mr. Noseworthy's full time teaching job, which limited the time that he could devote to the Activity. (Mrs. Noseworthy stayed in the home, and Mr. Noseworthy testified that any travelling she did was with Mr. Noseworthy). Due to the teaching job and the part-time nature of their Amway operation, it is clear that they simply did not have enough time to travel from Grand Bank and establish and nurture three legs of distributors or sell enough Amway products to make a profit.
4. Mr. Noseworthy's own attitude, which was evident from his testimony. In his testimony Mr. Noseworthy simply over-rode any possibility that Mrs. Noseworthy had a partnership interest in the Amway distributorship despite all of the documents and registrations which exist to that effect. It was a remarkable display from an English teacher at the high school level. It confirmed his Amway history; he believed in 1990 that he would achieve the Emerald level and a profit and he set a course to do it within five years. He has never deviated from that course and had no intention of doing so in 1994 or 1995 despite a failure to develop even one Direct Distributor leg.
[14] It was apparent from Mr. Noseworthy's appearance on the stand that what he really enjoys about Amway is the various group meetings and conferences, organizing them, lecturing at them and attending them. They appear to have become a way of life for him and an integral part of his social life. Indeed, costs associated with display materials for teaching and explaining Amway's plan and process form a great part of the Noseworthy's increased expenses in 1995. On the other hand, the money making aspect of Amway is, to a minor degree, selling goods; but the real money comes from recruiting and motivating others to work as distributors in order to earn residuals. These money making activities could only be done from Grand Bank at great cost of time and money in 1994 and 1995 and it was obvious then that it could not be done profitably.
[15] The Noseworthys had no reasonable expectation of profit in 1994 or 1995 from the Amway distributorship for the reasons described.
[21] The appeal is dismissed.
[22] The Respondent is awarded party and party costs. Because Mr. Collins' testimony applied to this and Mr. Keeping's appeal and because the argument could be condensed due to the similarity of the appeals, costs are fixed at one-half the usual tariff.
Signed at Ottawa, Canada this 14th day of May 1999.
"D.W. Beaubier"
J.T.C.C.