Date: 19960612
Docket: 96-3382-IT-G; 96-3383-IT-G
BETWEEN:
HADIKEN CONCRETE & SUPPLY LTD., LAWRENCE HADIKEN
Appellants,
and
HER MAJESTY THE QUEEN,
Respondent,
Reasons for Judgment
Bell, J.T.C.C.
ISSUE
[1] The issue in each of the appeals is whether a gain realized on disposition of an interest in a limestone quarry was on capital or income account.
FACTS
[2] At the commencement of his submissions, Respondent's counsel said that if the sale by Lawrence Hadiken ("Lawrence") was on capital account, then the sale by Hadiken Concrete & Supply Ltd. ("Concrete") would also be on capital account. It is apparent that the actions of Concrete were based upon decisions made by Lawrence. It is, accordingly, necessary to recount the history of both transactions in order to reach a reasoned conclusion.
[3] The cases were heard on common evidence.
[4] Lawrence, who lived at Swan River, Manitoba until 1988 when he moved to East Selkirk, Manitoba, was in the construction, gravel crushing and ready-mix concrete business. Concrete, established in 1978, operated the business. Lawrence testified that he was "a little bit of everything" in that he ran the company, drove a truck, ran motors, et cetera. The main business was crushing and hauling gravel for the Department of Highways. He stated that the company had one employee in the office in 1978 and that his sister, Eileen Hadiken ("Eileen"), began working for the company in 1979. She managed the office. Lawrence testified that they were bidding on a highway contract at East Selkirk and that he was looking for a supply of materials for that purpose. He stated that he was driving around looking at potential quarry land and found a farm with scrubby oak type bushes, indicating the presence of sand or gravel. He approached the owner of this apparently unused bush covered land. He asked the owner if he could drill test holes and was invited so to do. He also stated that the owner said that he would sell the land if the price was right. Lawrence testified further that they dug six or seven test holes with a backhoe and that in two or three they found rock seven or eight feet below the surface. He then used a hand drill in those holes to drill into the rock a further five feet and found bedrock. He bought 210 acres for $63,000 being made up of a price of $310 per acre. He said that he had received no advice from any engineer or any geologist and received no professional assistance on the test drills. He said that he had been crushing rock since 1978 and had "picked up knowledge" respecting drilling.
[5] The land was purchased in July, 1988 with possession on September 1 in that year. He stated that the delay was for the purpose of obtaining financing.
[6] Concrete had bid on a substantial job for the Department of Highways and between the offer to purchase and possession, learned that the bid was unsuccessful. Lawrence said that he always wanted a quarry and still wanted it when he found he was not successful on that bid. He testified that after drilling he had never had a discussion with anyone, before or after the purchase transaction was completed, regarding the sale of land to a third party. He ended up supplying the contractor who obtained the job and also others, with crushed gravel. He also stated that he had never intended to buy land or a quarry to sell same for profit. He had never bought or sold a quarry before the transaction under examination. Concrete had, in the past, purchased two gravel pits which were used in its business. He stated that they were purchased solely for the purpose of using same and that neither pit had been sold. Lawrence testified that Concrete had no other quarry when this one was purchased and further that the closest quarry was at Stonewall, Manitoba, about 20 miles away from the purchased land. Concrete made application to the municipality for conditional use and obtained a permit after complying with its requirements. This was accomplished in September, 1988. Concrete began developing the quarry immediately, putting in a road, clearing a site for the yard for the quarry and did stripping and built a burm. He described the blasting out of ramps, making roads and running the crusher. Lawrence said that between September 1 and the end of 1988 Concrete sold some materials and also used some for its contracts. He stated that with respect to sales the crushed rock was weighed at the quarry and that information was forwarded to Swan River where his sister prepared and sent out bills.
[7] Lawrence said that he at no time approached anyone to buy the quarry from him and told no one that he wanted "to get rid of" the quarry because he had always intended to operate same.
[8] On May 1, 1991, Lawrence sold the north-west quarter of the subject property to Concrete at an adjusted cost base of $10,000 and a total consideration of $400,000. This was a "roll-over" pursuant to section 85 of the Income Tax Act ("Act"). On the same day, Concrete sold this property to Selkirk Quarries Inc. ("Selkirk Quarries") for the sum of $400,000. Also, on May 1, 1991, Lawrence sold the remainder of the property, the north-east quarter section, to Selkirk Quarries at an adjusted cost base of $50,000 for a total consideration of $150,000.
[9] Concrete advertised in a number of journals as Selkirk Limestone Quarries giving its address, telephone numbers and hours of operation, including the following words FOR PICKUP & DELIVERY. These advertisements appeared in 1989, 1990 and 1991.
[10] In late 1990 or 1991, according to Lawrence, a father and son called Shabot showed interest in the quarry. They were crushing contractors in Winnipeg and had been customers of the quarry for "a couple of years". According to Lawrence they showed interest in becoming partners or buying in. Lawrence said that the first time they mentioned this interest he had "denied them." However, cash flow problems had developed and Lawrence said he thought it was a good idea to take in a partner. He said he felt that if he had a City of Winnipeg partner he would not have to make sales in the City and try to collect the money which he described as a hassle. He stated that in partnership Concrete would continue to run the quarry. He stated that the Shabots approached him. He did not, in any way, seek a purchaser or a partner. He stated that the cash flow problem commenced in 1990. He said that the partnership would give a cash injection to the operation and also open up the market more to the Winnipeg area because they were not doing as much business as he thought they should. He said that when he decided to join Shabots, a separate entity, namely Selkirk Quarries was incorporated with each of Shabot and the Hadiken having an equal interest. Lawrence's description of the relationship was that they became partners and that his interests received the cash injection needed. The manner of the injection of cash is not an issue in these proceedings. Lawrence testified that the half interest was $275,000 and that this was used substantially to pay a debt of some $250,000 to Shell Canada Products Limited ("Shell") which had registered a caveat respecting an equitable mortgage on the quarry. Lawrence said that they did not hire an appraiser or any engineer or other expert to give an opinion on the value of the reserves in the quarry. Although he said that he felt there was 125 acres of stone with a 24 foot depth and discussed what royalty each would receive on operating the quarry, the amount of $550,000 was arrived at purely on the basis of him needing half of that amount to put his financial affairs in order.
[11] On cross-examination Lawrence said that he knew the value was far more than $550,000. He said he knew of no one else that might be interested in putting up any money to assist in the operation, that the economy was poor, that he had a cash flow problem with bills to pay and that he would not negotiate for more money because he might drive the one potentially interested person away. In response to Respondent's counsel's question as to why there was a sale price almost nine times as much as the purchase price, Lawrence simply said that he bought pasture land and sold a business.
[12] Eileen testified that she did nearly all of the accounting and supervised the issuing of bills from the Swan River office from about 1979. She brought boxes into the Court containing copies of all invoices that had been issued. She stated that her brother, Lawrence, had for some time wanted a place where he could park his crushers and crush stone. He had looked at one near Stonewall but the owners would not sell. She said that he wanted to operate a quarry. She stated that Lawrence had never intimated that he wanted to buy the quarry to resell at a profit. She knew about the debt to Shell and said that Shell had telephoned and threatened to take action on its security. Her understanding was that Shell would foreclose. She stated that Lawrence had never said that the basis of the Shabot transaction price was the estimated value of the limestone in the quarry in 1991. She further said that neither Concrete nor Lawrence had ever been in the business of buying and selling pits or quarries. On cross-examination, Eileen produced the caveat under which Shell claimed its interest and this was filed as an exhibit by Respondent's counsel.
[13] Stan Pacak ("Pacak"), a chartered accountant who had represented the Hadiken interests, said that he had never been advised by Lawrence that he wanted to sell the quarry.
[14] William Hoydalo ("Hoydalo"), a construction worker who worked with the Hadiken operation, said that he had nothing to do with the Shabot transaction and that he had never heard that Lawrence wanted to sell the quarry. He stated that Lawrence had always "wanted to work the quarry".
APPELLANT'S SUBMISSIONS
[15] Appellant's counsel referred to section 9 of the Act which states that a taxpayer's income for a taxation year from a business or property is the taxpayer's profit from that business or property for the year. He said that subsection 9(3) stated that "income from a property" does not include any capital gain from the disposition of that property. He then referred to Interpretation Bulletin IT-492 entitled Capital cost allowance - Industrial mineral mines. Paragraph 1, part of paragraph 2 and part of paragraph 3, read as follows:
1. This bulletin discusses the type of industrial mineral mine in respect of which capital cost allowance under Part XI of the Regulations is available, and the method of calculating the amount of capital cost allowance that may be claimed.
2. Capital cost allowance is available to a taxpayer pursuant to paragraph 20(1)(a), Regulation 1100(1)(g) and Schedule V to the Regulations, in respect of the capital cost to him of
(a) an industrial mineral mine ...
3. The term "industrial mineral" means a non-metallic mineral capable of being used in industry, ... Some of the most common industrial minerals are:
... Limestone ...
Counsel submitted that the inherent nature of limestone was capital and that a recognition of the value of limestone in a quarry could not automatically result in the sale price being on income account. He stated that there were two exceptions to the quarry being a capital asset. One was paragraph 12(1)(g) of the Act, which taxes an amount received that was dependent upon the use of or production from property whether or not that amount was an instalment of a sale price of the property. He submitted that he considered this to be a basis for reassessment by the Minister of National Revenue ("Minister") because paragraph 6(e) of the Reply to the Notice of Appeal, setting forth "assumptions of fact" made by the Minister stated:
As of May 1, 1991, the fair market value of the Northeast Quarter was for the most part dependant upon the value of the deposits of limestone contained under the surface of the property.
Because Respondent's counsel, at the opening of his submissions, stated that the Respondent was not relying upon paragraph 12(1)(g), no discussion of the Appellant's submissions in this regard is necessary.
[16] With regard to the second assumption, namely whether the sale price constituted business income, Appellant's counsel referred to Interpretation Bulletin IT-423. Paragraphs 3, 4 and 5 stated that whether the profit resulting from a sale of earth substances is income from a business or a capital receipt is a question of fact dependent upon the circumstances in the specific case. They continued to state that intention and course of conduct were two important tests. Counsel argued that the facts clearly indicated that Lawrence's intention and course of conduct were not that of conducting a business in the sale of a quarry. He stated that the quarry was not advertised and was not available for sale to the general public, that there was only a sale of the quarry for the purpose of financing his operation and seeking greater business exposure and that neither Lawrence nor Concrete had conducted any similar activities. He said that there was uncontroverted evidence that all pits and quarries were operated and that Lawrence was never in the business of buying or selling land or quarries or indeed anything for a profit other than the product of his operations. He stated that there was no evidence even implying an intention to turn the quarry to account other than operating same in the normal course of business. He said, obviously with reference to Respondent's counsel's cross-examination, that the sale price in relation to the purchase price was irrelevant. He referred to the uncontradicted evidence, both orally and from documents, that Lawrence had an urgent financial reason to enter into the transaction with the Shabots. He emphasized that nowhere in any document or in any of the evidence presented was there any mention of the price being related to the reserves. Appellant's counsel also made the assertion that no one challenged the Respondent's counsel's statement that the value of the quarry was in the limestone.
RESPONDENT'S SUBMISSIONS
[17] Respondent's counsel asserted that the profit on the sale of properties by the Appellants should properly be on income account based upon sections 3, 9 and 248 of the Act. He referred to several cases as being applicable to the present situation. He further stated that Lawrence, in addition to purchasing the property in order to sell limestone and develop a limestone quarry, had, at the time of purchase, a secondary intention to sell the property at a profit.
ANALYSIS AND CONCLUSION
[18] Both counsel referred to a number of cases dealing with capital gain and income gain. They are not very helpful in this situation. The outcome of these appeals depends upon their facts. The fact situations in capital versus income cases are seldom similar enough to be of persuasive authority.
[19] I agree with the submissions of Appellant's counsel. Lawrence was a gravel and stone crushing man for a substantial number of years prior to his purchase of the quarry. I accept all his evidence as being accurate. He is a man, in my assessment, of integrity and industry. I had no difficulty whatever with his credibility.
[20] Shortly stated, he purchased the quarry for the purposes outlined by him above. He developed the quarry as outlined above, he sold product in the best manner he could according to his business experience. He incurred debt which was an overriding and compelling reason for him to make the arrangement with Shabot and that Quarries continues the operation, with Concrete managing same.
[21] The Respondent abandoned one basis for its reassessments as set out in the Reply to the Notice of Appeal, namely, in effect, that the sale price was based upon production or use. Respondent's counsel's statement that the purchase price was determined because of the value of limestone is a statement with which Appellant's counsel had no quarrel and which has no impact upon the Court. There could, in the evidence as presented, be no other view. However, it cannot be concluded on that ground that the sale was on income account. In order to reach a conclusion that the gain on the sale arose on income, as opposed to capital account, one would have to assume that it is impossible for a capital asset which is productive during its operation, to be disposed of in a fashion that could lead to a capital receipt. This is a conclusion that I simply cannot reach.
[22] Neither Appellant advertised the quarry for sale. Neither Appellant had any stated intention, upon purchase of the farmland, to sell a quarry. It was clearly Lawrence's intention to develop a quarry for the purpose of his business operations. Circumstances led to the need to make some economic alliance with someone so that Lawrence's extant debt could be erased. The secondary intent argument advanced by Respondent's counsel is wholly unsupported by the evidence. A conclusion of secondary intent at the time of purchase of an asset to sell same at a profit can only be supported in circumstances where an inference to that end can, without much difficulty, be drawn. It must also be recognized that is simply not a part of the economic world that people purchase assets of this nature with the view of losing money.
[23] I conclude that the gain on the sale by both Appellants was a capital gain. Accordingly, the appeals are allowed. One set of costs is awarded in equal amounts to the Appellants.
Signed at Ottawa, Canada this 12th day of June 1998.
"R.D. Bell"
J.T.C.C.