Date: 19991109
Docket: 98-1868-IT-I
BETWEEN:
DAVID CHRISTOPHER DANSEREAU,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
Reasons for Judgment
Beaubier, J.T.C.C.
[1] This appeal pursuant to the Informal Procedure was heard at London, Ontario on November 5, 1999. The Appellant testified. The Respondent called the auditor, Christine Bernard. The Appellant has appealed reassessments respecting the years 1994 and 1995.
[2] Paragraphs 9, 10 and 11 of the Reply to the Notice of Appeal read as follows:
9. In reassessing the Appellant for the 1994 and 1995 taxation years, concurrent Notices of Reassessment thereof dated April 23, 1998, the Minister disallowed the deduction of the interest expenses in the amounts of $14,842.00 and $7,457.00 respectively, as per exhibit A attached hereto and assessed arrears interest in the amounts of $1,334.67 and $286.49 respectively.
10. In so reassessing the Appellant, the Minister made the following assumptions of fact:
(a) in computing the rental income/loss for the 1994 and 1995 taxation years, the Appellant sought to deduct interest expenses in the amounts of $49,405.00 and $41,346.00 respectively;
(b) the Minister disallowed interest expenses in the amounts of $14,842.00 and $7,475.00 in the 1994 and 1995 taxation years respectively;
(c) the interest expense was disallowed in part due to incorrect calculation or allocation between principal and interest payments;
(d) interest paid in the amounts of $13,532.00 and $7,824.00 disallowed in the 1994 and 1995 taxation years, respectively were paid on account of principal;
(e) interest paid in the amounts of $2,904.00 and $1,927.00 disallowed in the 1994 and 1995 taxation years respectively, were incurred with respect to properties which the Appellant ceased to own in 1991;
(f) the disallowed interest expenses for the 1994 and 1995 taxation years was not paid for borrowed money used for the purpose of earning income from a business or property within the meaning of paragraph 20(1)(c) of the Act;
(g) the disallowed interest expenses in the amounts of $14,842.00 and $7,475.00 for the 1994 and 1995 taxation years respectively were not paid pursuant to legal obligation to pay interest on borrowed money used for the purpose of earning income from a business or property;
(h) arrears interest on balance owing by the Appellant for the 1994 and 1995 taxation years was determined pursuant to section 161 of the Act.
B. ISSUES TO BE DECIDED
11. The issues are whether the Appellant is entitled to deduct interest expenses in the 1994 and 1995 taxation years in excess of the amounts allowed by the Minister and whether the Appellant is liable to arrears interest for the 1994 and 1995 taxation years;
None of the assumptions contained in paragraph 10 were refuted.
[3] At all material times the Appellant was a professor at Ryerson Polytechnical Institute. In 1991 he and at least one partner also owned eight properties. When the property recession in Ontario occurred, he had to sell seven of these properties, but he retained one which was described in the hearing as the "Scone Mill Property". Some of the properties which he lost during the recession were sold by the mortgage companies under power of sale for less than the amounts of the mortgages on the properties. As a result, three of these mortgage companies required the Appellant to place new mortgages on his remaining Scone Mill Property for the balance which remained owed to them. The Appellant did this. The Minister of National Revenue did not allow the deduction of interest on these mortgages. This was appealed.
[4] In John M. Tennant v. Her Majesty the Queen, (S.C.C.) 96 DTC 6121 Iacobucci, J., speaking for the court, after quoting Dickson, C.J. in Bronfman Trust, stated the following:
Accordingly, in order to deduct interest payments, the taxpayer must establish a link between the current eligible use property, the proceeds of disposition of the original eligible use property, and the money that was borrowed to acquire the original eligible use property. ...
To repeat, it is implicit in the principles outlined in Bronfman Trust that the ability to deduct interest is not lost simply because the taxpayer sells the income-producing property, as long as the taxpayer reinvests in an eligible use property. However, shares depreciate and appreciate in value, complicating the question of interest deductions. The appellant has replaced one eligible use property with another, and both are directly traceable to the same loan, as the appellant reinvested all the proceeds of disposition.
The Appellant's situation is identical with the situation described by Iacobucci, J. in the above quotations. In other words, the original deductibility of the interest on the loans in question was lost when the power of sale occurred. The Appellant argued that he was in a business and lumped his properties' income and losses together as one entire business. The Appellant did not lead evidence to establish that all of his properties were managed and operated by him as a business, as distinct from being individual properties from which he received rents. Under the precepts adopted by Iacobucci, J., each item of interest is deductible by reference to source and as a result this portion of the appeal must fail.
[5] The second reason for the appeal is that upon the audit occurring, Revenue Canada's officials decided that the Appellant could not use the "cash" basis for calculating his income from his properties due to the many properties involved and the complicated manner in which the Appellant proceeded to deal with his various income and losses. As Respondent's counsel pointed out, this question only related to the interest due to the Bank of Nova Scotia (which amounts to $2,221.00) because, by the years in question, the determination contained in the preceding paragraph had concluded all other entitlements to interest deductions. The Appellant argued that he was entitled to use the cash basis and that he had been using it for 20 years. As a result he should be allowed to continue to use the cash basis of calculating his income.
[6] In her testimony, the auditor chose to deal with the Appellant on an accrual basis because she found his income activities to be complicated. By the time of the years of assessment they had ceased to be very complicated. However, complicated or not, the Appellant had chosen and adhered to the cash system. Paragraph 20(1)(c) of the Income Tax Act states:
(1) Notwithstanding paragraphs 18(1)(a), (b) and (h), in computing a taxpayer's income for a taxation year from a business or property, there may be deducted such of the following amounts as are wholly applicable to that source or such part of the following amounts as may reasonably be regarded as applicable thereto:
...
(c) an amount paid in the year or payable in respect of the year (depending on the method regularly followed by the taxpayer in computing the taxpayer's income), pursuant to a legal obligation to pay interest on
(i) borrowed money used for the purpose of earning income from a business or property (other than borrowed money used to acquire property the income from which would be exempt or to acquire a life insurance policy),
...
or a reasonable amount in respect thereof, whichever is the lesser;
In plain language it allows the taxpayer to chose his method of accounting, so long as he uses it regularly. In this case he chose the cash method and he always used it. The taxpayer is entitled to exercise his own choice. This portion of his appeal is allowed. (See Sobier, J. in Plawiuk v. The Queen, 94 DTC 1050.)
[7] The reassessments are referred to the Minister of National Revenue for reconsideration and reassessment in accordance with these Reasons for Judgment.
Signed at Ottawa, Canada this 19th day of November 1999.
"D.W. Beaubier"
J.T.C.C.