[OFFICIAL ENGLISH TRANSLATION]
1999-4063(IT)G
BETWEEN:
CLAUDE MARTEL,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
Appeal heard on January 23, 2002, at Québec, Quebec, by
the Honourable Judge Alain Tardif
Appearances
Counsel for the Appellant: Daniel Bourgeois
Counsel for the Respondent: Nathalie Labbé
JUDGMENT
The appeal from the assessments made under the Income Tax Act for the 1995 and 1996 taxation years is allowed, with costs, and the assessment is referred back to the Minister of National Revenue for reconsideration and reassessment on the basis that the appellant sustained a business investment loss in the amount of $56,643 ($75,524 gross), in accordance with the attached Reasons for Judgment.
Signed at Ottawa, Canada, this 7th day of June 2002.
|
"Alain Tardif" |
J.T.C.C.
Translation certified true
on this 26th day of August 2003.
Sophie Debbané, Revisor
[OFFICIAL ENGLISH TRANSLATION]
Date: 20020607
Docket: 1999-4063(IT)G
BETWEEN:
CLAUDE MARTEL,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
REASONS FOR JUDGMENT
Tardif, J.T.C.C.
[1] This is an appeal concerning the 1995 and 1996 taxation years. At the outset of the hearing, the respondent admitted that the rental losses were correct and, accordingly, the 1995 taxation year is no longer in issue. The respondent also made a number of admissions with the result that the sole remaining issue is whether the appellant could claim an allowable business investment loss as a bad debt for the 1996 taxation year in the amount of $56,643 ($75,524 gross).
[2] At the beginning of the hearing, the parties indicated that they had reached an agreement with regard to the following facts (Exhibit A-1):
[translation]
1. Gestion Conseil PME inc. (hereinafter "Gestion") was incorporated in 1978;
2. The appellant and his brother Germain Martel are the shareholders of Gestion, in equal proportions;
3. In the years prior to 1996, the appellant advanced the amount of $75,524 to Gestion;
4. Until March 1996, the assets held by Gestion were the shares of two companies: 2321-4711 Québec inc. (hereinafter "2321") and 3104-9919 Québec Inc. (hereinafter "3104");
5. Gestion held 50% of the shares of those two companies;
6. Until February 29, 1994, "2321" operated a restaurant (hereinafter "Fritz") in a building that it owned and whose address is 745 Dupon Street, Alma;
7. From March 1994 to March 1996, "2321" leased the commercial building to "3104" so that "3104" could operate another restaurant called "Jukebox";
8. During their respective final year of operation, "2321" had two employees whereas "3104" had slightly more than twelve employees;
9. Also in their final year of operation, the income of "2321" came from the rental of the building housing the Jukebox restaurant operated by "3104", while the income of "3104" came from the operation of that restaurant;
10. The "3104" company declared bankruptcy on March 6, 1996;
...
12. After ceasing operations in the summer of 1996, "2321" was dissolved shortly thereafter;
13. As for the building, the following transactions were made prior to Gestion's repossessing the property in May 1996:
(a) the Caisse populaire Desjardins in Alma was a creditor of "2321" in the amount of $350,000 under the terms of a loan agreement dated April 27, 1993, which debt was secured by a hypothec on the building;
(b) the appellant, his brother Germain Martel and Gestion paid an amount of $28,111.05 to the Caisse populaire Desjardins in Alma in order to be subrogated to all its rights, remedies, actions and hypothecs, but only to the extent of the amounts paid under the terms of a subrogation release dated January 30, 1996;
(c) On January 30, 1996, the balance of the hypothecary loan owed by "2321" to the Caisse populaire in Alma was $314,899.20; that balance was not covered by the subrogation release of January 30, 1996;
(d) Les Immeubles Desjardins was also a creditor of "2321" for an amount of $125,000 under the terms of a deed of sale dated April 30, 1993, which debt was secured by a second hypothec on the building;
(e) On February 1, 1996, the appellant, his brother Germain Martel and Gestion served a prior notice of exercising a hypothecary right on "2321", that is, a taking in payment, relying on the rights provided for under the subrogation release of January 30, 1996;
(f) On March 15, 1996, Les Immeubles Desjardins, as second ranking creditor on the building that was the subject of the hypothec granted to the Caisse populaire Desjardins, paid the amount of $28,111.05 to the appellant, his brother Germain Martel, and Gestion in order to be subrogated to the rights set out in the subrogation release of January 30, 1996;
(g) The company, Les Immeubles Desjardins, was therefore subrogated to the rights of the appellant, Germain Martel and Gestion resulting from the payment remedy that they had exercised on February 1, 1996;
(h) On April 3, 1996, Les Immeubles Desjardins demanded that the building be taken in payment following the failure of "2321" to meet its obligations under the hypothec deed between it and the Caisse populaire Desjardins in Alma;
(i) By the subrogation release act of May 1996, the appellant, his brother Germain Martel and Gestion were subrogated to the rights, remedies and hypothecs of Immeubles Desjardins with respect to its claims towards "2321";
(j) In consideration of the subrogation to the rights of the company, Les Immeubles Desjardins, the appellant, Germain Martel and Gestion paid an amount of $118,111.05;
(k) In consideration of the above-mentioned subrogation, the appellant, his brother Germain Martel and Gestion repossessed the building, in accordance with the terms of a corrected judgment dated May 20, 1996;
(l) On July 10, 1996, before the notary Michel Parizeau, the appellant and his brother Germain Martel transferred the undivided portion of the building purchased in accordance with the terms of the corrected judgment of May 20,1996, to Gestion;
14. Following the repossession, Gestion leased the commercial building to another restauranteur, an A & W franchisee.
[3] The appellant's brother, Germain Martel, testified at length. His testimony was generally confirmed by the appellant during his very brief testimony. The testimonial evidence essentially repeated the facts that had been admitted, putting them in context with qualifications and some additions.
[4] This testimony shows that the Martel brothers invested in the restaurant business and had to cope with a number of constraints while suffering various unexpected events that had the effect of transforming a seemingly very viable project into a real financial nightmare.
[5] A lack of expertise and the poor economic situation forced the appellant to abandon the project as originally planned and redirect the intended use of the premises to rental operations.
[6] As indicated above, there is only one outstanding issue. Could the appellant claim a business investment loss for the 1996 taxation year in the amount of $56,643 ($75,524 gross)?
[7] In substance, the appellant argued that he was entitled to claim a business investment loss of $56,643 for the advances and loans made to Gestion.
[8] The respondent replied that the appellant was not entitled to deduct that loss because Gestion was not a "small business corporation" within the meaning of the Act.
[9] The relevant provisions of the Act are as follows:
38. Taxable capital gain and allowable capital loss - For the purposes of this Act, ...
(c) a taxpayer's allowable business investment loss for a taxation year from the disposition of any property is 3/4 of the taxpayer's business investment loss for the year from the disposition of that property.
39. Meaning of capital gain and capital loss - (1) For the purposes of this Act, ...
(b) a taxpayer's capital loss for a taxation year from the disposition of any property is the taxpayer's loss for the year determined under this subdivision (to the extent of the amount thereof that would not, if section 3 were read in the manner described in paragraph (a) of this subsection and without reference to the expression "or the taxpayer's allowable business investment loss for the year" in paragraph 3(d), be deductible in computing the taxpayer's income for the year or any other taxation year) from the disposition of any property of the taxpayer other than
(i) depreciable property, or
(ii) property described in any of subparagraphs (a)(i), (ii) to (iii) and (v); and
(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, ...
125.(7) Definitions - In this section,
"specified investment business" ... a business ... the principal purpose of which is to derive income (including interest, dividends, rents and royalties) from property but, ... where
(a) the corporation employs in the business throughout the year more than 5 full-time employees, or
(b) any other corporation associated with the corporation provides, in the course of carrying on an active business, managerial, administrative, financial, maintenance or other similar services to the corporation in the year and the corporation could reasonably be expected to require more than 5 full-time employees if those services had not been provided;
248. (1) Definitions - In this Act, ...
"specified investment business" has the meaning assigned by subsection 125(7).
"active business" in relation to any business carried on by a taxpayer resident in Canada, means any business carried on by the taxpayer other than a specified investment business or a personal services business;
"small business corporation", at any particular time, means, subject to subsection 110.6(15), a particular corporation that is a Canadian-controlled private corporation all or substantially all of the fair market value of the assets of which at that time is attributable to assets that are
(a) used principally in an active business carried on primarily in Canada by the particular corporation or by a corporation related to it,
(b) shares of the capital stock or indebtedness of one or more small business corporations that are at that time connected with the particular corporation (within the meaning of subsection 186(4) on the assumption that the small business corporation is at that time a "payer corporation" within the meaning of that subsection), or
(c) assets described in paragraphs (a) and (b), including, for the purpose of paragraph 39(1)(c), a corporation that was at any time in the 12 months preceding that time a small business corporation, and, for the purpose of this definition, the fair market value of a net income stabilization account shall be deemed to be nil;
[10] It was admitted that during the last year of operation the income of "2321" came from the rental of the building housing the Jukebox Restaurant operated by "3104". During that period, "2321" had two employees whereas "3104" had slightly more than twelve employees.
[11] The respondent admitted that "3104" was an "active business"; however, the respondent argued that "2321" was a "specified investment business". When analyzed separately, "2321" is not an "active business" and does not employ more than five full-time employees. To bypass this hurdle, the appellant contended that the operations of "2321" and "3104" should be considered jointly.
[12] The respondent replied that this argument had no merit since it was contrary to the imperative principle that legal persons are completely separate and independent entities, a principle to which I fully subscribe.
[13] This important issue of separate capital and the independence of legal entities was dealt with by the Honourable Judge Margeson in Casey Realty Ltd. v. Canada (Minister of National Revenue - M.N.R.), [1991] T.C.J. No. 963 (Q.L.).
[14] In the case at bar, there is no reason to accept the appellant's claims that the operations of "2321" and "3104" ought to be considered jointly; this argument has no basis in law and is completely contrary to the very essence of a corporation, which is an independent legal entity.
[15] Each of the companies "2321" and "3104" must be considered as having its own legal personality. The purpose of "2321" was to derive income from property; therefore, it was a specified investment business, from which it follows that it was not an active business within the meaning of the Act.
[16] It is important to remember that it is wholly inappropriate to ignore the existence of a corporation for a taxpayer's benefit especially where he himself has decided to choose and create this vehicle because he found it to his advantage.
[17] It is acknowledged and admitted that taxpayers are entitled to organize their affairs so as to reduce their tax burden to a minimum to the extent that the planning decided on complies with the provisions of the Act.
[18] It is equally true that a person or group of persons may decide to create a legal entity with a distinct legal personality for many reasons, both fiscal and civil, including, inter alia, to limit their liability.
[19] In either case, this decision implies that many factors are taken into consideration that generally create advantages and occasionally create some disadvantages. Once the decision has been made, the parties in question must deal with the consequences, both positive and negative.
[20] Often, in order to enjoy only the advantages, the parties in question are inconsistent and lack transparency, wanting to keep all options open; some even interpret their actions so as to forego an earlier choice or to totally disregard the reality of that choice. Such an attitude is unacceptable and wholly contrary to the basic principles that must govern what was established by Parliament in order that balance and transparency be protected in all transactions. Every corporation has and must have its own legal personality with all of the consequences that this entails.
[21] A definition of the expression "small business corporation" is found in subsection 248(1) of the Act. To meet the definition, the corporation need only to have been a "small business corporation" at any time in the 12 months preceding December 31, 1996.
[22] The respondent argued that Gestion was not itself an "active business". Until March 1996, the only assets held by Gestion were the shares of the two companies "2321" and "3104". During the period from March 1994 to March 1996, "2321" leased its commercial building to "3104" in order for "3104" to operate the restaurant named "Jukebox".
[23] The companies "2321" and "3104" would be "small business corporations" if, in 1996, each of them was
... a particular corporation that is a Canadian-controlled private corporation all or substantially all of the fair market value of the assets of which at that time is attributable to assets that are
(a) ... used principally in an active business carried on primarily in Canada by the particular corporation or by a corporation related to it,
[24] Subsection 248(1) of the Act defines the expression "active business" as
... any business carried on by the taxpayer other than a specified investment business or a personal services business;
[25] As defined in subsection 125(7) of the Act, the term "specified investment business" means a
business ... the principal purpose of which is to derive income (including interest, dividends, rents and royalties) from property ...
[26] However, a business carried on by a corporation in a taxation year is not a "specified investment business" where
(a) the corporation employs in the business throughout the year more than 5 full-time employees; or
(b) any other corporation associated with the corporation provides, in the course of carrying on an active business, managerial, administrative, financial, maintenance or other similar services to the corporation in the year and the corporation could reasonably be expected to require more than 5 full-time employees if those services had not been provided;
[27] Having regard to the foregoing, I must determine whether "2321" could qualify as a "small business corporation" on the basis that it was a corporation related to a "small business corporation" in light of the facts disclosed by the evidence. The corporation "2321" could qualify as a "small business corporation" if it were related to a "small business corporation". Since "3104" is an "active business", it must be determined whether "2321" is related to it. Paragraph 251(2)(c) stipulates that for the purposes of the Act two corporations are related
(i) if they are controlled by the same person or group of persons,
(ii) if each of the corporations is controlled by one person and the person who controls one of the corporations is related to the person who controls the other corporation,
(iii) if one of the corporations is controlled by one person and that person is related to any member of a related group that controls the other corporation,
(iv) if one of the corporations is controlled by one person and that person is related to each member of an unrelated group that controls the other corporation,
(v) if any member of a related group that controls one of the corporations is related to each member of an unrelated group that controls the other corporation, or
(vi) if each member of an unrelated group that controls one of the corporations is related to at least one member of an unrelated group that controls the other corporation.
[28] On reading those provisions from the Act, control appears to be of decisive importance. Separately, the appellant did not have control. However, he was a member of a group of persons that controlled "2321" and "3104".
[29] The expression "group of persons" is not explicitly defined for the purposes of the definition of "related persons". The only definition for this expression is found in subsection 256(1.2) concerning associated corporations. The provision provides that a group of persons means any two or more persons each of whom owns shares of the capital stock of that corporation.
[30] That definition in fact codifies the rule in the well-known case of Buckerfield's. In that case, 50% of Buckerfield's shares were owned by the Pioneer Grain company and the other 50% were held by the Federal Grain Company. Those two corporations owned the shares of the Green Valley company in equal proportions.
[31] Judge Jackett was of the view that neither Pioneer Grain nor Federal Grain by itself controlled the appellant companies. However, the honourable judge found that Buckerfield's and Green Valley were controlled by the same group of persons, that is, the group consisting of Pioneer Grain and Federal Grain. The definition of "group" accepted by Judge Jackett was the following: "The word "group" in its ordinary meaning, as I understand it, can refer to any number of persons from two to infinity."[1]
[32] Applying the principles in Buckerfield's, Mr. Justice Abbott affirmed in the Supreme Court decision in Vina-Rug that, once it is established that a group of shareholders owns a majority of the voting shares of a company, and the same group owns a majority of the voting shares of a second company, that fact suffices to make the two companies associated and thus related.
[33] That principle is relevant to the case at bar. During the period at issue, the ownership of all of the issued and outstanding shares of the capital stock of "2321" and "3104" was held equally by Gestion and Ruth Parent.
[34] The two companies were therefore controlled by the same group of persons by virtue of subparagraph 251(2)(c)(i) of the Act.
[35] It must also be concluded that "2321" and "3104" were related for the purposes of paragraph (a) of the definition of a "small business corporation".
[36] Consequently, Gestion was a corporation all or substantially all of the fair market value of the assets of which was attributable, at a time in 1996, to assets that consisted of shares of the capital stock of two small business corporations that were connected with Gestion at the relevant time.
[37] I find, therefore, that for the 1996 taxation year Gestion was a "small business corporation" within the meaning of the Act.
[38] Consequently, the appellant could claim an allowable business investment loss in the amount of $56,643 ($75,524 gross).
[39] For these reasons, the appeal is allowed with costs, and the matter shall be referred back to the Canada Customs and Revenue Agency for reconsideration on the basis that the appellant sustained a business investment loss in the amount of $56,643 ($75,524 gross) for the 1996 taxation year.
Signed at Ottawa, Canada, this 7th day of June 2002.
|
"Alain Tardif" |
J.T.C.C.
1 Buckerfield's Ltd. v. Canada (Minister of National Revenue -
M.N.R.),[1965] 1 Ex. C.R. 299.
2 Vina-Rug (Canada) Limited v. Canada (Minister of
National Revenue - M.N.R.),
[1968] S.C.R. 193.
Translation certified true
on this 26th day of August 2003.
Sophie Debbané, Revisor