Date: 19980807
Docket: 97-1410-IT-I
BETWEEN:
TOVA MARKOVZKI,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
Reasons for Judgment
Rowe, D.J.T.C.C.
[1] The appellant appeals from an assessment of income tax for the 1992 taxation year. In computing income for that year, the appellant sought to claim a business investment loss in the sum of $20,000 and a resulting deduction in the amount of $15,000 on the basis the loss constituted an Allowable Business Investment Loss, commonly referred to as an "ABIL". The Minister of National Revenue (the "Minister") disallowed the claim for an ABIL because the loss did not fall within the provisions of paragraph 39(1)(c) of the Income Tax Act (the "Act") as it had been incurred by a trust under circumstances where the provisions of subsections 104(1) and 104(2) of the Act did not apply so as to permit her to deduct losses sustained by the trust or to have the loss attributed to her pursuant to subsection 75(2) of the Act.
[2] The appellant testified she works in the field of investments and has invested in mortgages personally as a means of generating income. In 1983, using money she had accumulated during her working life, she began investing in various mortgages, sometimes using the vehicle of a numbered company owned by her and, on other occasions, made investments in her personal capacity. During the 1990 taxation year, she had incurred certain losses and had claimed them, as an ABIL, on her income tax return and the resultant deduction had been allowed. She stated she had obtained a Line of Credit from her bank and had to provide the institution with a list of her investments as set forth in Exhibit A-1. On June 18, 1987, she stated she invested the sum of $20,000 - in her own name - and entered into an agreement - Exhibit A-2 - with William Clarfield, a licensed mortgage broker. She had dealt with Clarfield earlier and had been working in his office when she became aware of a mortgage - in the sum of $350,000 - which was being sought by Gooden Holdings Ltd. (Gooden). In addition to her participation by investing the sum of $20,000 there were other investors - in varying amounts - as listed on Exhibit A-3. The appellant explained the names of the investors were not provided by Clarfield for reasons of confidentiality as stated by Clarfield in his letter to her - Exhibit A-4 - dated May 29, 1998. In her view, the transaction was straight forward and she received a reporting letter - Exhibit A-5 - from Clarfield dated October 20, 1987 confirming her participation in the Gooden mortgage and enclosing a copy of the Solicitors' Reporting Letter. The appellant stated the interest received from Clarfield - representing her share of the Gooden mortgage payment - was reported by her as income. Upon making the investment of $20,000, she had given her cheque to Clarfield in trust, specifically for the purpose of investing in the Gooden mortgage. By 1995, it had become apparent Gooden was not able to repay the mortgage and she received a letter - Exhibit A-6 - from Clarfield dated June 29, 1995 explaining there were no funds remaining to pay the investors in the second mortgage.
[3] In cross-examination, the appellant was referred to her 1992 return of income - Exhibit R-1. She agreed that, on page 3 of said return, she had attached a T5 Statement of Investment Income indicating she had received the sum of $3,498.60 from "William Clarfield In Trust".
[4] Mark Lapedus, Agent for the appellant submitted it was clear the investment in the sum of $20,000 by the appellant through William Clarfield, a licensed mortgage broker, was clearly designated for the purpose of investing in the Gooden mortgage which was to be personally guaranteed. The agreement with Clarfield - Exhibit A-2 - stated she was to receive the right to 3/55th of each payment made pursuant to the terms of the mortgage which represented her interest. Mr. Lapedus submitted the appellant had reported income received by way of interest from the mortgage and it was reasonable she should receive an ABIL upon that investment having gone bad. In his view, the manner of her investment was normal within the mortgage broker industry and it was done that way for ease of administration so that the borrower made one payment to a designated person and that individual thereafter calculated the proper amount to be passed on to the investors in accordance with their entitlement on a percentage basis.
[5] Counsel for the respondent submitted the appellant's agreement with Clarfield clearly established a relationship of trust and that he acted throughout as a trustee in the context of a fiduciary capacity and was not merely her agent for the purpose of the Gooden mortgage investment.
[6] In the case of Fraser v. The Queen, 91 DTC 5123, Reed J., Federal Court-Trial Division dealt with the appeal of the taxpayer who was one of 94 persons who had purchased units in an investment vehicle holding a pooled fund of mortgages managed by a professional brokerage firm. At page 5127 and following, Reed J. stated:
"The Law
There is no dispute concerning the law. Both counsel agree that if the plaintiff owned an interest in a trust, then the losses which occurred are losses of that trust and for tax purposes do not flow through to the taxpayer. (A qualification on this position was adopted at the end of the trial, see page 15 infra.)
Section 104(2) of the Income Tax Act provides:
A trust shall, for the purposes of this Act, and without affecting the liability of the trustee or legal representative for his own income tax, be deemed to be in respect of the trust property an individual ...
Section 104(1) provides:
In this Act, a reference to a trust or estate (in this subdivision referred to as a "trust") shall be read as a reference to the trustee or the executor, administrator, heir or other legal representative having ownership or control of the trust property.
There is no definition of "trust" in the Act. In Andrews' Estate v. M.N.R. [66 DTC 798] (1966), 42 Tax ABC 303 it was said:
A trust is an equitable obligation, binding a person (who is called a trustee) to deal with property over which he has control (which is called trust property), for the benefit of persons (who are called the beneficiaries or cestuis que trust), of whom he may himself be one, and any of whom may enforce the obligation.
In the text by D.W.M. Waters, Law Trusts in Canada (2d ed. 1984), at pp. 10-14, the characteristics of a trust are described as follows: (1) a fiduciary relationship where one party holds title to property and manages it for the benefit of another; (2) dual ownership of the property by the trustee and beneficiary; (3) the trust property is not available to the creditor of the bankrupt trustee (the trustee wears two hats, one is fiduciary and the other concerns his personal and other affairs). At pages 107-128, of the same text, "the three certainties" required for the existence of a trust are discussed: certainty of intention; certainty of subject matter; certainty of objects.
Counsel for the plaintiff argues that an agency relationship was created. Counsel referred to the definition of agency found in F.M.B. Reynolds, Bowstead on Agency, (15th ed. 1985) at p. 1:
Agency is the fiduciary relationship which exists between two persons, one of whom expressly or impliedly consents that the other should act on his behalf, and the other of whom similarly consents so to act or so acts. The one on whose behalf the act or acts are to be done is called the principal. The one who is to act is called the agent. Any person other than the principal and the agent may be referred to as a third party.
Counsel also referred to the discussion of the distinctions which exist as between an agency and trust, found in the Waters text (supra) at pp. 42-46:
...In all but the unusual case of agency by necessity or self-imposed agency, the principal and agent are linked by contractual agreement, while the express trust is a mode of conveyance of property. The agent acts according to the instruction of his principal throughout the duration of the contract, and is effectively a conduit pipe whereby his principal and third parties are put in direct, normally contractual, relations. The express trustee, on the other hand, is not an agent of the settlor, nor of the beneficiary.
...
He [an express trustee] is not only vested with title in the trust property, he contracts with third parties as if he also had the beneficial enjoyment of that title, being personally liable on those contracts. His right of recovery from the trust property for the outgoings from his own pocket is of no concern or interest to the third party, nor whether the trust property is sufficient to meet any action for damages the third party might have. The trustee is also liable personally to third parties for torts committed by himself or his agents, whether or not he or his agents were acting within the scope of their duties.
Analysis - Trust established or an Agency Relationship?
There is no doubt that the characteristics of a trust all exist in the present case: Marlowe-Yeoman accepted funds from the plaintiff and others and bought discount mortgages or loaned money on the security of mortgaged property. The benefit of that management and ownership was for the members of GMS. There was a dual ownership of the mortgages in question, in the sense in which that concept is used with respect to trust property. The property was also protected from a bankrupt trustee. The property was not the personal property of Marlowe-Yeoman; it was held for others.
Counsel for the plaintiff agrees that the characteristics of a trust exist. It is argued, however, that a trust was not created because insofar as the "three certainties" are concerned, there was no certainty of intention. Both counsel agree that the certainties of subject matter and object exist.
The evidence of Mr. Lansdell with respect to intention is relied upon. He gave evidence that he had no intention of setting up a trust and that he was knowledgeable about the legal requirements in that regard. Mr. Lansdell's evidence, of course, was given after the fact and is self-serving. It is hard to give much weight to such evidence. This is particularly so when there was an opportunity, at the time the GMS arrangements were being put in place, to clearly give effect to that intention in express terms. What is more, it is not Mr. Lansdell's intention which primarily governs. It is the intention of the transferor of the property. And, in any event, intention is determined by all of the evidence, including the conduct of the parties and the terms of the written documentation which flowed between them, and not merely on the basis of one person's subjective view. I have little doubt that the requirement of certainty of intention existed. The intention was that the plaintiff would provide funds to Marlowe-Yeoman to be managed by them, using Griffith as manager, for the plaintiff's benefit, in the purchasing of mortgages, and that the profits arising therefrom would be reinvested on her behalf.
With respect to the other aspects of counsel's agency argument, that relating to the circumstances which may have existed with respect to the individual mortgage syndicates, which the plaintiff arranged prior to 1973, is not relevant for present purposes. It is the GMS arrangement alone which must be considered. Also, while the relationship between the plaintiff and Marlowe-Yeoman may have been created by contract, it was not an agency contract. The plaintiff retained no real control over the actions of the trustee. It is true that all client-investors together, if they were agreed upon a course of action, could probably have pressured Mr. Lansdell into adopting their point of view, or changing the terms of participation in the GMS but this is not control by a principal of an agent.
The plaintiff was asked to contribute money to a fund which fund would be used to purchase mortgages. The GMS was "open-ended", with the monies earned therefrom being automatically reinvested. The value of the plaintiff's interest was calculated by reference to the unit value of the fund. The plaintiff could terminate her participation by either selling her interest or by seeking redemption. She had no individual ability to alter the terms. Mr. Lansdell noted that no member had, in fact, ever redeemed their interest. Once the syndicate got into trouble, by suffering extensive losses, the right to redeem was suspended.
One of the terms of the GMS agreement was that the managers were given full discretion and they would manage for the benefit of the participants. This is not consistent with the concept of control by a principal of an agent, even a specialized agent. As counsel for the defendant argued:
...Marlowe-Yeoman is the owner, Marlowe-Yeoman is the one on the hook, Marlowe-Yeoman is the one that must deal with the people that owe them money, and consequently, these particular investors are one step removed... They have no control over what happens on those mortgages, no control over where their reinvestment goes.
My conclusion from the evidence is that mortgages which were purchased by Mawlowe-Yeoman, while being bought for the benefit of the plaintiff and others were not bought on their behalf as an agent would do.
Counsel for the defendant referred to Sheridan and Keeton on The Law of Trusts, at pages 1-2:
The trust is one of the most important and flexible institutions of modern English law. For the management of property which is not in the hands of a sole adult owner, it is rivalled only by the limited liability company. Trusts are used more for managing investments and companies more for management of trade, but the two ways of separating administration of property from enjoyment of its benefits overlap in the facilities they offer.
...
Commercial use of trusts is widespread, e.g. for partnership assets or providing investment services. A common modern investment is in unit trusts. Members of the public subscribe funds to form the capital of the trust, which is invested in stocks or shares. Those are owned by the trustees, who hold them on behalf of the subscribers in proportion to the capital which each has subscribed. Acquisition and change of stocks and shares are handled by a management company, responsible to the trustees. Subject to the management company's charges, income and capital gains or losses accrue proportionally to the subscribers (or their assignees), the beneficiaries of the trust. The unit trust is a trust properly so called, unlike the investment trust which has similar objectives but a different structure. An investment trust is a limited liability company engaged in the business of investing in stocks and shares. The investor in an investment trust buys the shares of a company. He does not become a beneficiary under a trust. Both types of investor, the buyer of shares of an investment trust and the unit holder as beneficiary of a trust, are enabled to participate in the holding of a portfolio assembled and run by experts. In the case of the unit trust, the beneficiary has a ready method of realizing his investment: selling his units to the trustees. A trustee has always been able to buy a beneficiary's interest, provided there is fair dealing...
I have no doubt that the structure of the arrangement in the present case was of this nature. Instead of stocks and shares, mortgages were the property held by the trustee.
Subsection 75(2)
As noted above, an argument was raised on the last day of trial which had not been addressed before. The argument is that subsection 75(2) of the Income Tax Act applies to the facts of this case. Subsection 75(2) provides:
where, by a trust created in any manner whatever since 1934, property is held on condition
(a) that it or property substituted therefor may
i) revert to the person from whom the property or property for which it was substituted was directly or indirectly received, or
ii) pass to persons to be determined by him at a time subsequent to the creation of the trust, or
(b) that, during the lifetime of the person from whom the property or property for which it was substituted was directly or indirectly received, the property shall not be disposed of except with his consent or in accordance with his direction,
any income or loss from the property or from property substituted therefor, any taxable capital gain or allowable capital loss from the disposition of the property or of property substituted therefor, shall, during the lifetime of the person while he is resident in Canada be deemed to be income or a loss, as the case may be, or a taxable capital gain or allowable capital loss, as the case may be, of the person.
Counsel for the plaintiff argued that this provision applies to allow the flow through of the losses from the trust to the plaintiff.
The defendant argues that trusts which fall under 75(2) are those in which the primary focus of the trust transaction is the creation of the trust itself rather than trusts where the primary focus of the transaction relates to a business motive, the trust arrangement being merely peripheral to that purpose. The analysis of Mr. L. Raphael in Canadian Income Taxation of Trusts, at pages 139-140 is quoted:
Where the trust is not the primary transaction but is merely incidental to the transfer and operates as security for the price of the property transferred, it has been held that such a trust does not come within subsection 75(2).
The defendant argues, that in the present case, the primary transaction involves the plaintiff giving funds to the syndicate for investment purposes with the trust being merely a convenient vehicle to facilitate the scale of the investment. Another way of putting this argument, as I understand it, is that subsection 75(2) relates to property income only, not income from a business. Thus, since in this case the trust was a vehicle to enable the trustees to generate business income for the trust, the subsection does not apply.
In addition, it is argued that subsection 75(2) only applies when the beneficiary has a reversionary right and that no such right exists in this case. It is argued that while the GMS Agreement states that the plaintiff may request a sale or redemption of her units, and the agreement goes on to state that the syndicate will not continue making investments until redemption has taken place, there is in fact no absolute right to redemption. It is argued that the documentation does not give an absolute right of reversion. I accept this as a correct interpretation of subsection 75(2) and the facts of the present case. In my view, subsection 75(2) anticipates a situation in which the whole corpus of the trust is capable of reverting to the settlor (75(2)(a)) or where the corpus during the life of the trust remains under the control of the settlor (75(2)(b)). It is not suggested that the second situation exists in the present case. And, the facts do not establish that the first exists either. The property was not held by the trustees subject to the right of reversion contemplated in subsection 75(2)(a).
Conclusion
I have reviewed the facts of this case very carefully because the plaintiff argues that there is an unfair result which arises from this conclusion. The plaintiff and other members of GMS, during the seven years when the GMS portfolio was profitable, included in their own income, for tax purposes, the proportional share of the profits of GMS. Counsel are agreed that there is, now, no way of redressing the assessments for those years. Despite what may be an unfair result, I am compelled to conclude that the plaintiff was properly assessed with respect to the losses which were incurred in the 1982 taxation year.
For the reasons given the plaintiff's claim will be dismissed."
[7] On appeal - 95 DTC 5684 - Hugessen J.A., speaking for the Federal Court of Appeal, at page 5685 stated:
"Despite Mr. Davies' able argument, we are all of the view that this is not a matter in which we should intervene. The trial judge had to determine on the facts of the case whether what the parties had done in 1973, as evidence [sic] by both their documents and their actions, amounted in law to the creation of a trust. She concluded that it did and that the "three certainties" of intention, subject matter and object all existed. She specifically examined and rejected the Appellant's contention that what had been created was instead a form of syndicate of co-owners or co-tenants which was managed by an agent. Her reasons for doing so are cogent and compelling. Her finding that the intention of the Appellants was to create a trust was at bottom a finding of fact and we have not been persuaded that it was manifestly wrong.
With regard to the Appellant's second point, once it is established that this was a trust, we are quite satisfied that the high degree of autonomy and independence of action enjoyed by the trustees was incompatible with any notion of a "bare" trust such as seems to have been found in Panamerican Trust Co. v. MNR, 49 DTC 672.
The trial judge made a specific finding that the result arrived at, though correct as we have found it to be, was "unfair". We agree, and while the appeal must be dismissed we shall do so without costs."
[8] Agent for the appellant submitted the within appeal was distinguishable from the fact situation in Fraser, supra, because the appellant and others had invested in a specific mortgage and not in units holding a pooled fund of mortgages. It is clear, however, from the agreement - Exhibit A-2 - and the other documents that there was a clear intention to create an express trust. In the agreement, Clarfield is referred to a the "Trustee". The T5 slip was issued to the appellant by "William Clarfield In Trust". Paragraph 6 of Exhibit A-2 states:
"in the event Clarfield shall not complete the Loan to the Applicant (Gooden) ... then the Investment shall be returned forthwith to the Participant (the appellant) without interest or deduction, and this agreement shall become null and void." (italics added)
[9] However, once the sum of $20,000 had been invested by Clarfield in the Gooden mortgage and the appellant was entitled to receive 3/55th of the monthly payments, other provisions in the agreement made it clear that Clarfield was acting on behalf of all of the investors to the point where he protected their identities from other investors. Pursuant to paragraph 7 of the agreement, the appellant had no control over any amendment to the terms and conditions of the mortgage provided Clarfield agreed to any change sought by Gooden and participants representing at least 51% interest in the loan to Gooden also agreed that such change, alteration, modification or variation be made. Upon default by Gooden, paragraph 8 of the agreement provided authority to Clarfield or an administrator acting on his behalf to make decisions, take action, and exercise remedies as were deemed advisable in his discretion provided persons advancing 51% of the $350,000 loan also agreed with his course of action. In the event the appellant had sought to enforce a remedy in the absence of the agreement of Clarfield, she would have discovered the mortgage was registered at Land Titles Office in the name of William Clarfield, in trust, pursuant to the terms contained in paragraph 18, and there would have been no enforceable instrument in her hands by which to compel Gooden to make payments to her for her 3/55th interest or to obtain foreclosure or other remedies apart from Clarfield taking action in his own discretion after having secured the consent of participants representing 51% of the overall investment. The fact Clarfield did not disclose identities of other investors is, again, indicative that he acted throughout in a fiduciary capacity and was a trustee for the appellant and others. He was more than a conduit or bare trustee as would be the case of an agent performing a specific limited purpose where the trustee is waiting for a particular designated time or event to arrive upon which the trustee will convey the trust property to the beneficiaries. Certainly, Clarfield's function was not limited to holding legal title to the property solely on behalf of the appellant who held only 3/55th of the total amount of the mortgage. It is obvious from the wording of the investment agreement - Exhibit A-2 - the appellant could not cause the property to revert to her at any time. In the case of Low v. The Queen 93 DTC 927, Judge Brulé, Tax Court of Canada held that a corporation was not holding a condominium in trust for, or as an agent of, the taxpayer because the directors and officers of that corporation did not have the authority to exercise their discretion to commit its assets without the instructions of the taxpayer's spouse. Further, Judge Brulé seemed to accept the proposition that where a bare trust exists the beneficiary of the trust would be treated as the owner of the property.
[10] It is apparent the appellant made an investment in a trust in which William Clarfield acted as trustee and the trust received income by way of interest on a loan made to Gooden which was secured by a mortgage. The investment by the appellant through the vehicle of the Clarfield trust was not a share in the capital stock of a small business corporation and the appellant's loss did not result from the disposition of a debt of a Canadian-controlled private corporation and did not otherwise meet the requirements of paragraph 39(1)(c) of the Act. While unfortunate the appellant chose the particular method of making her investment, it is not the function of the Court to put her in the position she would have been had she modified the terms and conditions of her investment or chosen a different vehicle to effect her purpose. In my view, the decision in Fraser, supra, applies to the facts in the within appeal.
[11] The appeal is hereby dismissed.
Signed at Sidney, British Columbia, this 7th day of August 1998.
"D.W. Rowe"
D.J.T.C.C.