Date: 19990615
Docket: 98-1029-IT-I
BETWEEN:
DENIS BELLEROSE,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
Reasons for Judgment
Tardif, J.T.C.C.
[1] This is an appeal for the 1991, 1992, 1993 and 1994 taxation years. The appellant’s Notice of Appeal reads as follows:
[TRANSLATION]
1. On January 29, 1996, the appellant received notices of reassessment for 1991, 1992, 1993 and 1994 indicating tax payable of $2,031.46 for 1991, $4,361.11 for 1992, $3,851.28 for 1993 and $4,352.18 for 1994;
2. On April 15, 1996, in response to the notices of reassessment, the appellant filed a notice of objection for each of 1991, 1992, 1993 and 1994;
3. On January 21, 1998, the respondent sent the appellant his decision on the objection, which decision confirmed the assessments in question in accordance with subsection 165(3) of the Income Tax Act;
4. The appellant is appealing the Minister of National Revenue’s decision dated January 21, 1998, for 1991, 1992, 1993 and 1994, based on the following facts and reasons:
5. The respondent is disallowing the expenses and not taking into account the property rental and business income;
6. Based on financial projections made prior to the transaction, the appellant considered the financial impact over five years and opted to rent rather than own, as is constantly done with respect to automobiles;
7. According to Investissement et financement immobilier — Outils d’analyse et d’évaluation by Dominique Achour, when capital gains and inflation are no longer factors to be considered, the focus must be on the cash flow mathematics in order to determine the wise choice for the taxpayer;
8. The financial projection showed that it would be better to rent than to own;
9. The real purpose of the transaction originated in a sound mathematical analysis of two options after considering the financial impact;
10. All the documents were signed and executed without any sham and with transparency, clearly indicating the true purpose during that period of the financial cycle;
11. By taking this course, the appellant gave up the principal residence exemption;
12. Partnerships were formed, a lease was executed and the activity constituted a source of income within the meaning of the Act;
13. The appeal is based on the following statutory provisions: sections 3(d), 9(1), 9(2), 18(1)(a), 18(1)(h) and 20(1)(c) of the Income Tax Act.
[2] The respondent alleged the following to prove the soundness of the assessments:
[TRANSLATION]
(a) on April 24, 1991, the appellant took out a home mortgage loan of $85,000 from the Caisse Populaire de Sillery at a rate of 11.25 percent a year;
(b) on April 25, 1991, the appellant purchased a home at 145-a, rue de Coutelier in St-Augustin (hereinafter “the property”) for $140,000, and the property was mortgaged to secure the loan referred to in paragraph (a) above;
(c) the appellant began living in the property as soon as he purchased it on April 25, 1991, and was still living there on the reassessment date;
(d) in his tax returns for the taxation years at issue, the appellant gave the address referred to in paragraph (b) above as his personal address;
(e) on May 1, 1991, the appellant and his spouse, Sylvie Lemelin (hereinafter “the spouse”), established a first general partnership known as Société Immobilière du Coutelier Enr.;
(f) the appellant’s spouse made an initial capital contribution of $20 to the partnership referred to in the preceding paragraph, while the appellant contributed his expertise;
(g) the fiscal year of Société Immobilière du Coutelier Enr. ends on January 31 of each year;
(h) on May 1, 1991, the appellant and his spouse also established a second general partnership known as Bellerose Lemelin et Associés;
(i) the appellant and his spouse each made an initial capital contribution of $10 to the partnership referred to in the preceding paragraph;
(j) the fiscal year of Bellerose Lemelin et Associés ends on February 28 of each year;
(k) on June 28, 1991, the appellant made a capital contribution to Société Immobilière du Coutelier Enr. by transferring to it the property and furniture for a total price of $161,572; in return, he received 161,572 shares in Société Immobilière du Coutelier Enr.;
(l) under the subscription agreement dated June 28, 1991, relating to the transfer of the property, Société Immobilière du Coutelier Enr. stood surety for the appellant’s debts but did not assume his debts secured by the mortgage on the property;
(m) on June 28, 1991, the appellant sold Bellerose Lemelin et Associés his shares in Société Immobilière du Coutelier Enr. and, in return, received 161,572 shares in Bellerose Lemelin et Associés;
(n) during the years at issue, the appellant did not inform either the Caisse Populaire de Sillery or the registry office of the change in the property’s ownership;
(o) during the years at issue, the insurance contracts with respect to the property were in the name of neither Société Immobilière du Coutelier Enr. nor Bellerose Lemelin et Associés;
(p) during the period audited, the partnerships referred to in paragraph (m) above had neither books of account nor bank accounts;
(q) during the period audited, the partnerships referred to in paragraph (m) above had no invoices in their names;
(r) during the period audited, the appellant paid all the expenses and other costs involved in maintaining the property;
(s) Société Immobilière du Coutelier Enr. never received any rental income during the years at issue;
(t) on April 1, 1992, the appellant borrowed $107,000 from the Caisse Populaire de Sillery and, as the property’s owner, mortgaged the property to the Caisse Populaire de Sillery, with the loan being used, inter alia, to repay the balance of the first loan made by the Caisse Populaire de Sillery on April 24, 1991;
(u) Bellerose Lemelin et Associés and Société Immobilière du Coutelier Enr. never had the goal of making profits;
(v) the respective activities of Bellerose Lemelin et Associés and Société Immobilière du Coutelier Enr. were not a source of income from which those partnerships could have a reasonable expectation of profit.
[3] The appellant’s testimony focused mainly on the fact that he wanted to build up financial assets for himself. He said that, to that end, he wanted to clearly understand and, most of all, properly test out a theory using a very small structure the planning bases of which had been recommended and articulated by the tax experts at Fiscalité immobilière 2000 Inc.
[4] He said that he spent more than $6,000 to obtain advice and suggestions for his tax planning. Throughout his testimony, he repeated that he had neglected absolutely nothing in developing and structuring a serious plan based on a sound, lawful and effective concept.
[5] The appellant explained the course he followed through the use of theories, hypothetical scenarios, all sorts of assumptions, statistics and extrapolation. He very rarely referred to the actual, concrete facts at the heart of the dispute for the years at issue.
[6] There were a few times when the Court had the impression that it was attending a theoretical presentation by a tax expert looking for clients who wanted to reduce their tax burden. Moreover, it was expressly stated a number of times that tax planning should not be reserved for major companies and sports stars but should also be accessible to taxpayers with more modest incomes.
[7] These are very laudable concerns, and the Court subscribes to them. However, I must render judgment essentially on the basis of the facts and the applicable law. The potential injustices resulting from inaccessibility because of high cost or complexity certainly are not relevant and cannot be considered.
[8] Nor can the Court assess the theoretical, abstract quality of hypothetical theories. It is not up to this Court to determine the validity of theoretical planning. It must essentially decide based on just the facts established by the evidence.
[9] In other words, my judgment must and will concern basically the facts brought out by the testimonial and documentary evidence. In some circumstances, it is helpful and necessary to understand the intentions of a taxpayer involved in a tax dispute. In the case at bar, the appellant’s intentions are not at all confusing; he basically wanted to minimize his tax burden, which in itself is legitimate. Did he set up a genuine structure and, if so, are the facts consistent with the planning he chose?
[10] I see no point in summarizing the facts, most of which have been admitted. After stating that he did not agree with the word “home” in paragraphs (a) and (b) and the words “living in” in paragraph (c), the appellant said that he was admitting the content of paragraphs (a), (b) and (c) provided that paragraph (a) be read as referring simply to a “mortgage”, that “property” replace “home” in paragraph (b) and that “occupying” replace “living in” in paragraph (c). He admitted the content of paragraphs (d) to (m) and denied paragraphs (n) to (v) inclusive.
[11] The evidence showed that the facts alleged in paragraphs (n), (o), (p), (q), (s) and (t) were true.
[12] I consider it helpful to reproduce those paragraphs again for ease of reference:
(n) during the years at issue, the appellant did not inform either the Caisse Populaire de Sillery or the registry office of the change in the property’s ownership;
(o) during the years at issue, the insurance contracts with respect to the property were in the name of neither Société Immobilière du Coutelier Enr. nor Bellerose Lemelin et Associés;
(p) during the period audited, the partnerships referred to in paragraph (m) above had neither books of account nor bank accounts;
(q) during the period audited, the partnerships referred to in paragraph (m) above had no invoices in their names;
(s) Société Immobilière du Coutelier Enr. never received any rental income during the years at issue;
(t) on April 1, 1992, the appellant borrowed $107,000 from the Caisse Populaire de Sillery and, as the property’s owner, mortgaged the property to the Caisse Populaire de Sillery, with the loan being used, inter alia, to repay the balance of the first loan made by the Caisse Populaire de Sillery on April 24, 1991.
[13] Finally, the evidence showed that the allegations in paragraphs (u) and (v) were justified.
[14] The appellant began with the assumption that the property was basically a rental property; he then planned everything theoretically as a business transaction. The property was transferred to one of the partnerships, which entered the operating expenses in its accounts. The only source of income was the amount of the hypothetical rent. The interest expenses paid on the mortgage were not entered in the expenses, since the appellant remained personally liable for the interest on the loan secured by the mortgage.
[15] Support and justification for the planning was found in the expectation that the property would increase in value over the years. The partnership responsible for managing the property made a minimal profit during the years at issue; that profit resulted basically from the fact that the partnership did not pay the interest expense.
[16] Although a substantial amount of cash was paid at the time of the purchase, the cost of the mortgage interest would have resulted in a major loss on the transaction if the interest expense had been allocated to the partnership responsible for managing the property.
[17] The facts as a whole raise a number of questions: were the carrying charges and interest paid in order to earn income or were they merely disguised personal expenses? Did certain transactions actually occur or were they a sham?
[18] Certain facts provide a highly relevant and above all revealing indication of the nature and reality of the true transactions. The contract transferring the only property that the partnership had as an asset was not registered. Although the appellant said that this was a minor point and unimportant given that consent alone is enough to give effect to a transfer of ownership, the Court does not agree with that assessment, especially since the property was mortgaged; moreover, there could be no transfer without the mortgagee’s involvement or at least consent.
[19] Registration is not a mere formality of no consequence. It is of fundamental importance, since only registration informs third parties of the fact that a transfer has occurred. Registration ensures that a transaction is not only open and coherent but also plausible. It also ensures stability and provides protection for third parties. To argue that the registration of a real estate transaction is a mere formality of no importance is absurd, especially where the owner of the property has formally undertaken through his or her signature to notify the mortgagee.
[20] In the case at bar, the appellant admitted that he never notified the mortgagee or obtained its authorization before making the transfer. The firm names of the two partnerships used for the planning in question were not registered.
[21] The evidence showed that the two partnerships never held any partners’ meetings in connection with their operation and management. Denis Bellerose wore all the hats and handled everything personally. All the bills, including those for taxes, electricity and maintenance expenses, were in the name of the appellant personally and no reference was ever made to the partnerships, nor was their existence ever disclosed to third parties, even though, I repeat, there had been no publication of their existence through registration.
[22] The partnerships did not have a separate place of business or a telephone number of their own; everything was combined in the appellant’s personal accounting. At one point, the various inherent expenses were allocated to either the appellant personally or one or the other of the partnerships based on year-end, which did not fall on the same date for the three of them.
[23] According to the appellant, the combining of expenses, the appellant's simultaneously holding several positions, the fact that no meetings were held, the fact that the transfer of the property was not registered and so on and so forth were merely insignificant trifles that should have no impact on the reality and operation of the partnerships. He added that the modest scale of his endeavours justified and explained the combined management. Finally, it was stated that the appellant should not be penalized for using structures requiring a minimum of outlays and work.
[24] That reasoning is completely unacceptable. Accepting it would run contrary to the consistency essential to the application of tax legislation. It is, of course, an acknowledged fact that taxpayers may legitimately and lawfully plan their affairs so as to reduce their tax burden. However, this great principle is not so flexible that it can allow for such commingling, where only the person who created the situation can understand things clearly and sort out the expenses associated with each entity.
[25] The appellant’s aims and objectives were legitimate; however, they would have had to be applied to real facts and the associated transactions would also have had to be genuine and consistent with the minimum rules as regards the operation and functioning of the entities said to be created as part of the planning in question.
[26] In the instant case, the reality was altogether different. The evidence clearly showed that the appellant basically disguised his personal expenses by characterizing them as the expenses of entities whose very existence was debatable. In tax matters, consistency and transparency are of fundamental importance; these qualities are inconsistent with confusion and ambiguity.
[27] The use of terminology commonly or specifically used in business is not enough to change the nature of a transaction. The appellant used language specific to the business world to characterize expenses that were basically his personal expenses.
[28] Moreover, the expenses inherent in the operation of the two partnerships were combined with all those other expenses; the various expenses were allocated to the various entities at the end of the fiscal year, which fell on a different date for each of them, thus giving the appellant a great deal of leeway to divide up the expenses.
[29] Not only was the nature of the expenses and certain costs disguised, but—and this reproach is just as serious—the vehicles used as a basis for the planning were not set up in accordance with generally accepted practices. I am referring in particular to the fact that the transfer of the property, which was mortgaged, was not registered and, in addition, occurred without the knowledge of the mortgagee, which had granted the mortgage on the condition that anything that might affect its rights be formally disclosed. The appellant transferred his property without notifying the mortgagee.
[30] If this was not a sham deliberately structured to evade taxes, it was most certainly a clumsy, incomplete and very unconvincing attempt at legitimate planning the bases of which would ultimately serve to develop the appellant’s financial assets.
[31] In actual fact, the appellant, on the shrewd advice of a tax expert, basically set up—on very shaky foundations—a structure that, in theory, had only the outward appearance of a real organization. In reality, it was nothing of the sort.
[32] The evidence clearly showed that the appellant, through his planning, basically did or tried to do indirectly what he could not do directly with personal expenses.
[33] For all these reasons, the appeal is dismissed.
Signed at Ottawa, Canada, this 15th day of June 1999.
“Alain Tardif”
J.T.C.C.
[OFFICIAL ENGLISH TRANSLATION]
Translation certified true on this 4th day of April 2000.
Erich Klein, Revisor