BETWEEN:
and
____________________________________________________________________
Appeal heard on May 17, 2006, at Winnipeg, Manitoba
By: The Honourable Justice Campbell J. Miller
Appearances:
____________________________________________________________________
JUDGMENT
The appeal from the assessment of tax made under the Income Tax Act for the 1995 taxation year is dismissed, with costs.
Signed at Ottawa, Canada, this 5th day of June 2006.
Docket: 2004-3487(IT)G
BETWEEN:
SERAFINO SPEZZANO,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
____________________________________________________________________
Appeal heard on May 17, 2006, at Winnipeg, Manitoba
By: The Honourable Justice Campbell J. Miller
Appearances:
|
Counsel for the Appellant: |
Robert L. Tapper |
|
Counsel for the Respondent: |
Sharlene Telles-Langdon |
____________________________________________________________________
JUDGMENT
The appeal from the assessment of tax made under the Income Tax Act for the 1995 taxation year is dismissed, with costs.
Signed at Ottawa, Canada, this 5th day of June 2006.
"Campbell J. Miller"
Miller J.
Docket: 2004-3488(IT)G
BETWEEN:
VINCENZO BUETI,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
____________________________________________________________________
Appeal heard on May 17, 2006, at Winnipeg, Manitoba
By: The Honourable Justice Campbell J. Miller
Appearances:
|
Counsel for the Appellant: |
Robert L. Tapper |
|
Counsel for the Respondent: |
Sharlene Telles-Langdon |
____________________________________________________________________
JUDGMENT
The appeal from the assessment of tax made under the Income Tax Act for the 1995 taxation year is dismissed, with costs.
Signed at Ottawa, Canada, this 5th day of June 2006.
"Campbell J. Miller"
Miller J.
Docket: 2004-3489(IT)G
BETWEEN:
ANTONIO SPEZZANO,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
____________________________________________________________________
Appeal heard on May 17, 2006, at Winnipeg, Manitoba
By: The Honourable Justice Campbell J. Miller
Appearances:
|
Counsel for the Appellant: |
Robert L. Tapper |
|
Counsel for the Respondent: |
Sharlene Telles-Langdon |
____________________________________________________________________
JUDGMENT
The appeal from the assessment of tax made under the Income Tax Act for the 1995 taxation year is dismissed, with costs.
Signed at Ottawa, Canada, this 5th day of June 2006.
"Campbell J. Miller"
Miller J.
Docket: 2004-3486(IT)G, 2004-3487(IT)G
2004-3488(IT)G, 2004-3489(IT)G
BETWEEN:
FRANCESCO BUETI , SERAFINO SPEZZANO,
VINCENZO BUETI and ANTONIO SPEZZANO,
Appellants,
and
HER MAJESTY THE QUEEN,
Respondent.
REASONS FOR JUDGMENT
[1] The Appellants acquired a single-tenant commercial property for $1,050,000 in 1994. Within months, the single tenant decided to leave. The Appellant sought and obtained compensation of $762,500 from the tenant in 1995 for terminating the long-term lease. Coincidentally, the Appellants sold the property for $750,000. The Appellants maintain the lease cancellation payment is on capital account; the Respondent maintains the lease cancellation payment is on income account. I find the lease cancellation payment is on income account.
Facts
[2] The four Appellants are related. On March 23, 1994, they acquired a beneficial interest in property at 1376 Grant Avenue in Winnipegat a cost of $1,050,000, assuming a mortgage of $941,047 with Co-Operators Life Insurance Company. The property was acquired by the Appellants, according to Mr. Francesco Bueti, as a long-term bond-like investment with a triple-A tenant, Co-Operators General Insurance Company, that paid a $15.00 per square foot rent under a multi-year lease. The property had been specifically designed and built for its sole tenant, Co-Operators General. Mr. Bueti made it clear that the attractive rental rate, yielding a positive cash flow, was the reason for investing in this property.
[3] By letter of July 8, 1994, Mr. Bueti was advised by Co-Operators General that they were entering a sublease with Ranger Unicity Insurance. This was the first indication Mr. Bueti had that its major tenant wished to leave. The Appellants did not provide their consent to the sublease as they did not view Ranger as the type of quality tenant required for the premises. Also, the sublease rent was lower than the $15.00 per square foot rent, and the Appellants were concerned about lowering the benchmark in the market, and, consequently, the value of the building itself.
[4] By letter of July 21, 1994, Mr. Bueti wrote to the lawyers for Co-Operators General indicating the Appellants would accept a surrender of the head lease on payment of, what he described as, the "net tenant commitment outstanding" of $1,015,941. This represented the present value of Co-Operators General's rent, property tax, utilities and subtenant inducement commitments for the balance of the term of the lease, less any subtenant recoveries.
[5] As late as September 16, 1994, Co-Operators General, by letter from Mr. Dabolins was still attempting to get consent for the Ranger sublease, confirming to the Appellants that "this is a subletting and as such Co-Operators remains liable ... for the fulfillment of all of the terms, covenants and provisions under the lease". The Appellants did not consent.
[6] On October 5, 1994, the landlord and tenant signed a brief settlement agreement which required that the tenant pay rent to the end of the year and make a $500,000 payment on or before December 31, 1994. In a letter of October 12, 1994 from Co-Operators Life to Co-Operators General, Co-Operators Life[1] stated:
Pursuant to our acknowledgement of Notice of Specific Assignment of Lease and Rents between Co-Operators Life and Co-Operators General Insurance on the above noted property dated July 7, 1992. Any and all payments made to the landlord of 1376 Grant Avenue in lieu of future rents, lease obligations or penalties, are to be made directly to Co-Operators Life Insurance. Co-Operators Life will apply such payment first to any outstanding interest and principal on the property's mortgage, then to any penalties arising from the prepayment of this mortgage, and lastly to principal reduction.
[7] The Appellants, however, wished to get the $500,000 directly. Due to this dispute, the $500,000 payment was not made and this settlement agreement did not proceed.
[8] Around this time, the Appellants retained a Mr. Chartier, a leading Winnipegcommercial real estate broker, to look into leasing or selling the property. Mr. Chartier was successful in coming up with an Offer from CAW Canada in February 1995 for $825,000, but an environmental report derailed that Offer in April 1995, though it was replaced with a new Offer in July 1995 for $750,000. The Appellants accepted this Offer in August 1995 conditional on obtaining an acceptable lease termination agreement with Co-Operators General. On the 31st day of August, 1995, the Appellants agreed with Co-Operators General and Co-Operators Life to the termination of the lease, effective September 30, 1995. The tenant agreed to pay $762,500 and the Appellants agreed, in accordance with the Assignment of Lease between Co-Operators Life and the original mortgagor, to direct the payment of the full $762,500 to the mortgagee, Co-Operators Life. This took place on September 30, 1995.
[9] Co-operator General's representative, Mr. Dabolins, testified that from Co-operator General's perspective, the value of the property was not a factor in the Offer to Settle: Co-Operators General simply wanted to get out of its ongoing obligations under the lease by paying as little as possible. As he indicated, he would rather Co-Operators General have only paid $500,000 than $762,500.
Analysis
[10] The issue is the correct characterization of the lease cancellation payment made in September 1995. The Appellants took two approaches to argue that the lease cancellation payment was on capital account. First, they argued that the value of the building was demonstrably reduced and the payment was compensation for such loss of value. Second, they argued that the lease was a capital item to the Appellants and proceeds from the cancellation of the lease were therefore proceeds from the disposition of a capital asset.
[11] This latter approach confuses the nature of a landlord's interest in real property. The Appellants did not have a leasehold interest in the property: they were the owners of the property. In the hands of a tenant, an interest in a lease may be a capital asset. The value of the Appellants' income-producing capital asset, the real property, might be impacted by the nature of the lease they negotiate, but it is misleading to refer to a landlord's position as being the owner of a capital item, a leasehold interest, of which it can dispose.
[12] The Appellants raise a number of cases of lease cancellation payments in which the tenant was the recipient, not the payor. The question in these cases was, as suggested by Justice Reed in Westfair Foods Limited v. The Queen:[2] "Whether the amount is being paid as a replacement for the loss of a capital asset or as the replacement for income."
[13] Although that was in a different context - the context of the recipient holding a leasehold interest as tenant - the question really invokes the surrogatum principle. In the case of R. Reusse Construction Co. Ltd. v. The Queen,[3] a case in which the landlord was the recipient of a payment from the tenant, Justice Bonner quoted Canadian National Railway Co. v. The Queen[4] asking: "Was the purpose of the payment to replace capital or income?". Justice Strayer, in the CNR case also stated: "And whether or not the purpose can be reliably determined, was the effect to replace capital or income?".
[14] Counsel for the Appellants stressed the need to consider both purpose and effect of the payment.
[15] The Respondent's position was that no cases were presented to me in which a payment from a tenant to a landlord was found to be on capital account. And for good reason. The Respondent, relying on the surrogatum principle, argued that the lease cancellation payment from the tenant to the Appellants, in this case, clearly represents the replacement of income. The Respondent referred to:
(i) the Appellants' response of July 21, 1994 to the tenant's counsel, calculating the tenant commitments, being primarily rent, less subtenant recoveries and seeking such amount as compensation for the surrender of the lease;
(ii) Mr. Dabilons' testimony that Co-Operators General was not concerned with the value of the building, but simply to get out from under the lease paying as little as possible;
(iii) the lease termination agreement itself which makes no mention of any money being paid on account of capital; and
(iv) the Assignment of Rents agreement with Co-Operators Life entitling Co-Operators Life to receive money that is on account of rent under the lease. Pursuant to such agreement, Co-Operators Life received the full amount of the payment.
[16] I find these factors persuasive in concluding that the lease cancellation payment was a payment replacing the rent commitment under the lease, and as such is on income account. I wish, however, to address the taxpayers' purpose and effect argument. I am satisfied that the tenant's purpose in making the payment had nothing to do with maintaining the property value for the landlord. That position was clear from Mr. Dabilons' testimony.
[17] I am also satisfied the Appellants' purpose was to recover rental income. In seeking compensation, the Appellants sought to recover the rent they were having to forgo; there was no evidence of any comparative study as to value before and after the tenant left to suggest that compensation was based on reduced value.
[18] The effect of the payment on the tenant was to relieve it of any further rental expenditures. The effect of the payment on the landlord was twofold: the obvious effect that it compensated the landlord for the loss of rental income; and second, it also compensated the landlord for the reduction in value. In the Reusse case, Justice Bonner found there was no evidence to link "the payment to a decrease in building value as opposed to any of the other heads of damage claimed". Likewise, here there is no such direct link, although there is evidence of a real reduction in value of the property. The Appellants bought the property for $1,050,000, and a few months later sold the property for $750,000, resulting in a $300,000 reduction in value. Yet, apart from that fact, what connects the payment to that reduced value? Nothing. It is self-evident that the loss of a major single tenant in a building designed for one tenant in a market where such tenants are difficult to attract would impact on the value of the building. That would be the effect, and that is why I acknowledge that one of the effects of the payment was to compensate for reduced value. Yet, if the payment's only effect was to compensate for reduced value, then the payment would have been just $300,000, being the actual loss in value as evidenced by the arm's length sale of $750,000 to CAW Canada. No, the payment had a greater effect. So, while the Appellants' counsel argues that I must take into account the effect of the payment, I have not been convinced that compensation for a reduced value was the sole effect, and I have also not been convinced that such was the purpose. Under the circumstances, I find the payment is, in accordance with the surrogatum principle, on income, not capital account.
[19] I floated one possible scenario to both counsel, and that was that, in accordance with the idea of two effects to the payment, would either side consider the possibility that $300,000 of the payment is attributable to capital, as it restored the value of the property to its fair market value as a single-tenant occupied building, with the balance to income as compensation for forgone rent. Neither side bit on what I thought was a logical supportable resolution and I will, therefore, not pursue this further, but will decide on the all-or-nothing approach demanded by both sides.
[20] The Appellants' appeals are dismissed, with one set of costs to the Respondent.
Signed at Ottawa, Canada, this 5th day of June 2006.
"Campbell J. Miller"
Miller J.
COURT FILE NO.: 2004-3486(IT)G, 2004-3487(IT)G
2004-3488(IT)G, 2004-3489(IT)G
STYLE OF CAUSE: FRANCESCO BUETI, SERAFINO SPEZZANO, VINCENZO BUETI, ANTONIO SPEZZANO AND HER MAJESTY THE QUEEN
PLACE OF HEARING: Winnipeg, Manitoba
REASONS FOR JUDGMENT BY: The Honourable Justice Campbell J. Miller
DATE OF JUDGMENT: June 5, 2006
APPEARANCES:
|
Counsel for the Appellants: |
Robert L. Tapper |
|
Counsel for the Respondent: |
Sharlene Telles-Langdon |
COUNSEL OF RECORD:
Firm: Tapper Cuddy LLP
For the Respondent: John H. Sims, Q.C.
Deputy Attorney General of Canada
Ottawa, Canada