[OFFICIAL ENGLISH TRANSLATION]
2000-1343(IT)I
2000-4598(IT)I
BETWEEN:
PAUL ROY,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
Appeals heard on July 20, 2001, at Québec, Quebec, by
the Honourable Judge Alain Tardif
Appearances
For the Appellant: The Appellant himself
Counsel for the Respondent: Pascale O'Bomsawin
JUDGMENT
The notice of appeal for the 1994 taxation year is cancelled, and the appeals from the assessments made under the Income Tax Act for the 1996 and 1999 taxation years are allowed in accordance with the attached Reasons for Judgment.
Signed at Ottawa, Canada, this 19th day of March 2002.
|
"Alain Tardif" |
J.T.C.C.
Translation certified true
on this 23rd day of May 2003.
Sophie Debbané, Revisor
[OFFICIAL ENGLISH TRANSLATION]
Date: 20020319
Docket: 2000-1343(IT)I
2000-4598(IT)I
BETWEEN:
PAUL ROY,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
REASONS FOR JUDGMENT
Tardif, J.T.C.C.
[1] These are two appeals regarding the 1994, 1996 and 1999 taxation years. The appeal for the 1994 taxation year should be disposed of first. It cannot be allowed since the notice of appeal respecting that taxation year must be cancelled.
[2] At the time of the objection, the appellant filed an application for extension of time and failed to specify the years his application involved. The time for filing such an application for the 1994 taxation year had in fact expired.
[3] The application for extension of time also involved the 1996 taxation year; since the respondent did not object that the application be allowed for 1996, an order was made granting the extension of time sought to file the notices of appeal.
[4] The said order must be corrected since it could not be granted for the 1994 taxation year, the strict time limit prescribed by the Income Tax Act (the "Act") for filing such an application having expired.
[5] This Court therefore did not have jurisdiction to exceed the time limits, as a result of which the order must be corrected since no appeal could lawfully be instituted. Consequently, the notice of appeal for the 1994 taxation year shall simply be cancelled.
[6] In support of the reassessments, the Minister of National Revenue (the "Minister") made the following assumptions of fact:
Docket 2000-1343(IT)I:
[TRANSLATION]
(a) the income tax return for the 1994 taxation year was assessed on May 23, 1995;
(b) the appellant did not serve on the Minister a valid notice of objection respecting the initial assessment of May 23, 1995, within the time limit prescribed by the Act;
(c) the appellant is the director and sole shareholder of "Construction Paul Roy Inc." (hereinafter, "the corporation");
(d) according to the financial statements, the corporation's work in progress at December 31, 1996, amounted to $165,000 and total assets were $311,463;
(e) according to the financial statements, the corporation's fixed assets at December 31, 1996, had a net value of:
Land $45,000
Condominium $72,000
Tools and equipment $94
Office furniture $1,125
Rolling stock $3,912
Total $122,131
(f) according to the financial statements, the "Advance or Owed to Shareholder" account read as follows:
at December 31, 1993 $0
at December 31, 1994 $57,346
at December 31, 1995 $73,221
at December 31, 1996 $70,530
(g) at December 31, 1996, the corporation's balance sheet read as follows:
Short-term assets $167,730
Accounts receivable $ 21,602
Fixed assets $122,131
Total assets $311,463
Short-term liabilities $203,345
(including amount owed to director)
Long-term debt $230,959
Total liabilities $434,304
Capital stock $126,700
Retained earnings (loss) ($249,541)
Loss ($122,841)
$311,463
(h) the funds advanced by the appellant helped the corporation complete the work in progress and pay certain debts;
(i) according to the financial statements from the previous years, the work in progress shows that the company has undertaken no new construction since 1993;
(j) the loans by the appellant were made from the time the business had taken steps to stop its operations and liquidate its assets;
(k) on August 20, 1998, the appellant's agent said that all the assets of the business were given as security to cover the corporation's debts and that no further financing was possible;
(l) since 1997, the business has abandoned its contractor's licence.
Docket 2000-4598(IT)I:
[TRANSLATION]
(a) the appellant is the director and sole shareholder of "Construction Paul Roy Inc." (hereinafter, "the corporation");
(b) the corporation's fiscal year ends on December 31;
(c) the corporation did not file an income tax return for the 1999 taxation year, as a result of which the financial statements for the year in issue could not be audited;
(d) however, the appellant told the appeals officer that the corporation still had assets and was attempting to sell the properties that were included in its work in progress;
(e) according to the financial statements, the "Advance or Owed to Shareholder" account read as follows:
at December 31, 1993 $0
at December 31, 1994 $57,346
at December 31, 1995 $73,221
at December 31, 1996 $70,530
at December 31, 1997 $86,244
at December 31, 1998 $101,455
(f) the funds advanced by the appellant since 1993 have helped the corporation complete the work in progress and pay certain debts;
(g) according to the financial statements from the previous years, the corporation has undertaken no new construction since 1993;
(h) the loans by the appellant were made from the time the business had taken steps to stop its operations and liquidate its assets;
(i) on August 20, 1998, the appellant's agent said that all the assets of the business were given as security to cover the corporation's debts and that no further financing was possible;
(j) since 1997, the business has abandoned its contractor's licence;
(k) the appellant did not dispose of his shares in a small business corporation during the year in issue;
(l) the appellant did not dispose of a debt owed to him by a small business corporation;
(m) the appellant did not establish for the year in issue that the said debt was a bad debt under subsection 50(1) of the Income Tax Act (hereinafter, the "Act") and did not make that election in his previous income tax returns.
[7] The parties agreed to proceed on common evidence. Mr. Roy testified at length and explained how his career had developed.
[8] He had managed to build a large, dynamic and flourishing business. After reaching an impressive peak, which he was very proud of, he had to deal with a number of disastrous economic events for which he was in no way responsible, namely, that the company lost substantial debts in addition to experiencing a significant economic slowdown.
[9] Proud and courageous, he neglected nothing and made every effort to keep the business running in the hope that the real estate market would pick up again. Instead of giving up, as many individuals would have done in similar circumstances, he got involved and injected personal funds, including his savings accumulated over the years in a registered retirement savings plan ("RRSP") to avoid bankruptcy and try to put the business back on the road to profitablity.
[10] After trying everything, he had to make the fatal and final observation that he had failed. Thus, for 1996, he claimed a business investment loss of $70,530 corresponding to advances and loans made to the corporation.
[11] The respondent refused to allow him the losses claimed on the ground that the amounts advanced by the appellant had not been lent for the purpose of gaining or producing income, but rather to enable the corporation to continue to liquidate its inventories and fixed assets.
[12] For the 1999 taxation year, the appellant claimed another business investment loss of $95,025 corresponding to the amount of the corporation's capital stock established at $126,700.
[13] Here again, the Minister disallowed the deduction claimed, contending that the appellant did not establish that the loans made to the corporation had become bad debts in the year since the corporation still had assets and was not bankrupt, dissolved or insolvent.
[14] The respondent contends that the appellant is not deemed to have disposed of the debt that the corporation owed him or of the shares of that corporation. The appellant taxpayer not having made the election in his tax return for the taxation year in issue or in his tax returns for the previous years, in the Minister's view, subsection 50(1) of the Act does not apply to the debt or to the shares of that corporation.
[15] Lastly, the respondent claims that the amounts advanced by the taxpayer since 1993 had not been lent for the purpose of gaining or producing income but rather to enable the corporation to continue liquidating its inventory and fixed assets, in accordance with subparagraph 40(2)(g)(ii) of the Act.
[16] Paragraph 38(c) of the Act provides that three-quarters of a business investment loss incurred by a taxpayer for a year constitutes the allowable business investment loss. A business investment loss is defined in paragraph 39(1)(c) as a capital loss incurred from a disposition of shares or debts of a small business corporation after 1977.
[17] The term "small business corporation" is defined in subsection 248(1) of the Act. The taxpayer must dispose of the shares or debts to persons with whom he is dealing at arm's length, unless there is a deemed disposition for the purposes of subsection 50(1). There is a deemed disposition of a debt where the debt becomes a bad debt. There is a deemed disposition of a share where the corporation that issued the share (1) becomes a bankrupt; (2) becomes insolvent within the meaning of the Winding-up Act and in respect of which a winding-up order under that Act has been made in the year or; (3) is insolvent at the end of the year and neither the corporation nor a corporation controlled by it carries on business. Furthermore, the corporation had shares of no market value and was reasonably expected to be dissolved or wound up. Moreover, according to the last paragraph of paragraph 50(1)(b), the taxpayer must indicate his intention of availing himself of the treatment provided for in that section in his tax return.
[18] Furthermore, subparagraph 40(2)(g)(ii) prohibits a taxpayer from deducting a capital loss from the disposition of a debt or other right to receive an amount, unless the debt or right was acquired for the purpose of gaining or producing income.
[19] In order to claim the losses in issue, the appellant must therefore meet the conditions set out in subsection 50(1).
[20] The relevant provisions of the Act read as follows:
38(1) 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(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);
(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,
exceeds the total of . . .
40(2) Limitations
Notwithstanding subsection (1),
. . .
(g) a taxpayer's loss, if any, from the disposition of a property, to the extent that it is
. . .
(ii) a loss from the disposition of a debt or other right to receive an amount, unless the debt or right, as the case may be, was acquired by the taxpayer for the purpose of gaining or producing income from a business or property . . . or as consideration for the disposition of capital property to a person with whom the taxpayer was dealing at arm's length,
. . .
50(1) For the purposes of this subdivision, where
(a) a debt owing to a taxpayer at the end of a taxation year (other than a debt owing to the taxpayer in respect of the disposition of personal-use property) is established by the taxpayer to have become a bad debt in the year, or
(b) a share (other than a share received by a taxpayer as consideration in respect of the disposition of personal-use property) of the capital stock of a corporation is owned by the taxpayer at the end of a taxation year and
(i) the corporation has during the year become a bankrupt (within the meaning of subsection 128(3)),
(ii) the corporation is a corporation referred to in section 6 of the Winding-up Act that is insolvent (within the meaning of that Act) and in respect of which a winding-up order under that Act has been made in the year, or
(iii) at the end of the year,
(A) the corporation is insolvent,
(B) neither the corporation nor a corporation controlled by it carries on business,
(C) the fair market value of the share is nil, and
(D) it is reasonable to expect that the corporation will be dissolved or wound up and will not commence to carry on business
and the taxpayer elects in the taxpayer's return of income for the year to have this subsection apply in respect of the debt or the share, as the case may be, the taxpayer shall be deemed to have disposed of the debt or the share, as the case may be, at the end of the year for proceeds equal to nil and to have reacquired it immediately after the end of the year at a cost equal to nil.
[My emphasis.]
[21] For the 1996 taxation year, the appellant claimed a business investment loss of $70,530 in respect of advances and loans that he made to the corporation.
[22] Under paragraph 50(1)(a), the debts must be established by the taxpayer to have become bad debts in the year for the appellant to be deemed to have disposed of them.
[23] The question of the moment at which a debt becomes a bad debt is a question of fact to be decided on the circumstances of each case. In Granby Construction & Equipment v. M.N.R., 89 DTC 456 (T.C.C.), hereinafter Granby, Judge Lamarre Proulx analyzed the case law on the method that should be used to determine whether a debt is a bad debt under subsection 50(1). According to that decision, a taxpayer must seriously and carefully examine the position and financial position of his business and honestly and reasonably determine that a debt is uncollectible at the end of the fiscal year, in a pragmatic and business-like manner.[1]
[24] To determine whether a debt must be considered uncollectible, the onus is on the taxpayer to do his own analysis in his capacity as a prudent businessman. In Granby, Judge Lamarre Proulx approved of the approach followed in Hogan v. M.N.R.:[2]
For the purposes of the Income Tax Act, therefore, a bad debt may be designated as the whole or a portion of a debt which the creditor, after having personally considered the relevant factors mentioned above in so far as they are applicable to each particular debt, honestly and reasonably determines to be uncollectable at the end of the fiscal year when the determination is required to be made, notwithstanding that subsequent events may transpire under which the debt, or any portion of it, may in fact be collected. The person making the determination should be the creditor himself (or his or its employee), who is personally thoroughly conversant with the facts and circumstances surrounding not only each particular debt but also, where possible, each individual debtor . . .
[My emphasis.]
[25] The appellant claims that he did not establish that the loans made to the corporation became bad debts in the year because the corporation still had assets and was not bankrupt, dissolved or insolvent within the meaning of the Winding-up Act.
[26] The evidence showed that, based on the corporation's financial statements for 1996 and the economic recession in 1996-1997, the taxpayer had correctly considered that the advances of $70,530 made to the corporation had become uncollectible at the end of 1996.
[27] The respondent argued that, for 1996, the corporation had reported assets of $311,463, which could have been used to repay the advances in question. This interpretation disregards the corporation's liabilities, which exceeded its assets by $122,841. Furthermore, the short-term assets were $35,615 less than the short-term liabilities. In addition, 40 percent of the corporation's assets were in the form of fixed assets that were very difficult to realize. I therefore conclude that the appellant met the tests provided for in paragraph 50(1)(a) of the Act.
[28] To be able to deduct his business investment loss, the appellant must have acquired the debts in issue for the purpose of gaining or producing income from a business or property, in accordance with subparagraph 40(2)(g)(ii) of the Act. On this point, the respondent submits that the amounts advanced by the taxpayer were not lent to the corporation for the purpose of gaining or producing income but rather to enable the corporation to continue liquidating its inventory and fixed assets.
[29] McDonald J.A. of the Federal Court of Appeal addresses this aspect very judiciously in Byram v. Canada, 99 DTC 5117, at page 5120, more particularly in the following passages:
The language of section 40 is clear. The issue is not the use of the debt, but rather the purpose for which it was acquired. While subparagraph 40(2)(g)(ii) requires a linkage between the taxpayer (i.e. the lender) and the income, there is no need for the income to flow directly to the taxpayer from the loan.
. . .
The ultimate purpose of . . . a significant shareholder providing a loan to a corporation is, without question, to facilitate the performance of that corporation thereby increasing the potential dividends issued by the company.
. . .
There is a growing body of jurisprudence that considers current corporate reality as being sufficient to demonstrate that the expectation of dividend income justifies a capital loss deduction under subparagraph 40(2)(g)(ii).
[30] I do not accept the respondent's interpretation that the amounts advanced by the taxpayer since 1993 had not been lent for the purpose of gaining or producing income but, rather, to enable the corporation to continue liquidating its inventory and fixed assets.
[31] In 1994, the corporation had income of $85,619.94 from the construction and sale of a house in Beauport. For the period from 1995 to 1997, the corporation was involved in a Corvée Habitation renovation program.
[32] The corporation also made income from finishing shell houses. In 1997, the taxpayer had no contractor's licence, but the corporation continued to do minor work until 1998. The amounts that the appellant advanced to the corporation were lent for the purpose of gaining or producing income.
[33] It was acknowledged that the corporation was a small business corporation in 1996; the appellant was thus entitled to deduct a business investment loss of $70,530 for advances and loans, which he made to the corporation.
[34] For the 1999 taxation year, the appellant claimed a business investment loss of $95,025 on the amount of the corporation's capital stock of $126,700.
[35] Under subparagraphs 39(1)(c)(i) and 50(1)(b)(iii), there is a deemed disposition of the shares of the corporation when the corporation is insolvent at the end of the year and is no longer carrying on business. In addition, the corporation must have shares of no market value and must reasonably be expected to be dissolved or wound up.
[36] In the instant case, the evidence revealed that the corporation was insolvent in 1999 and that it was not carrying on business, its contractor's licence having been revoked since 1997. The taxpayer himself had completed the work in progress. Consequently, the evidence shows that the corporation's shares no longer had any market value.
[37] The respondent contends that a taxpayer may not claim a business investment loss on capital stock invested in a small business until the company is dissolved. I do not share or subscribe to this interpretation of the Act. For there to be a deemed disposition under subparagraph 50(1)(b)(iii), what is sufficient is that the expectation that the corporation will be dissolved or wound up be reasonable and that the chance that it commences or resumes to carry on business be nil.
[38] That point was considered by Judge Archambault of this Court in Jacques St-Onge Inc. v. Canada, 2003 DTC 153 [2001 DTC 487 Fr.]. Judge Archambault wrote as follows:
. . . clause 50(1)(b)(iii)(D) does not set any time limit for the corporation to be dissolved or wound up. To satisfy the condition that the expectation of dissolution or winding-up be reasonable, it is therefore not necessary that Salvage could have been wound up or dissolved on April 30, 1994. It is enough for it to have been reasonable to expect that Salvage would be dissolved or wound up at some point.
[39] In determining whether it is reasonable to expect the corporation to be dissolved or wound up, Judge Archambault, relying on the decision by Judge Rip of this Court in Bailey v. Canada, 89 DTC 416 (T.C.C.), adopted an objective test in Jacques St-Onge Inc., supra, p. 494:
[TRANSLATION]
Although that case did not concern section 50 of the Act or an analogous provision, Judge Rip did have to determine how to interpret the word 'reasonable' in the context of paragraph 152(5)(c) of the Act. The interpretation he adopted was as follows:
What is 'reasonable' is not the subjective view of either the respondent or appellant but the view of an objective observer with a knowledge of all the pertinent facts: Canadian Propane Gas & Oil Limited v. M.N.R., 73 DTC 5019 per Cattanach J. at 5028.
I consider the approach described by Judge Rip to be entirely appropriate for the purposes of section 50 of the Act. In view of all the relevant facts, including certain legal and tax considerations, was it reasonable to expect on April 30, 1994, that Salvage would be dissolved or wound up and would not recommence business?
[40] Relying on these decisions, I find it was reasonable to expect that the corporation would be dissolved as of 1998-1999. The dissolution did not occur because of a dispute between the Quebec Minister of Revenue and a subcontractor of the corporation concerning one of its accounts receivable.
[41] I therefore conclude that the corporation met the tests of subparagraph 50(1)(b)(iii) of the Act. However, the respondent contends in her Reply to the Notice of Appeal for the 1999 taxation year that the appellant is not deemed to have disposed of the corporation's shares since he did not elect in his tax return for the taxation year in issue or in his returns for the previous years to have subsection 50(1) of the Act apply to the corporation's shares.
[42] Counsel for the respondent appears to have abandoned this argument at the hearing. The argument moreover does not appear among the facts on which the Minister relied in making his assessment, and thus the appellant did not have to bring any evidence on this point. In any case, it is unlikely that the last clause of subsection 50(1) be so interpreted as to disallow the deductions claimed by the appellant in light of the following passage from the decision in Anderson v. Canada, 92 DTC 2296; [1992] T.C.J. No. 556 (Q.L.):
An election, pursuant to the 1988 amendment, to have the subsection apply retroactively must be in writing and given after the 1988 amendment came into force. The letter from the Appellant's accountant to Revenue Canada dated November 22, 1990 meets this requirement. This letter does not indicate the specific subsection or amendment under which he claims the allowable business investment losses. But the letter indicates that the Appellant wants the Minister to recognize that allowable business investment losses were incurred and he wants these losses to be applied against his 1986 and 1987 income. The essence of the communication was that the Appellant wants to be allowed to claim allowable business investment losses in respect of his shares in B & D. That is sufficient to communicate the taxpayer's election.
[43] For these reasons, the appeal is allowed, and the appellant will be reassessed on the basis that he was entitled to claim deductible business investment losses of $70,530 for the 1996 taxation year and $95,025 for the 1999 taxation year.
Signed at Ottawa, Canada, this 19th day of March 2002.
|
"Alain Tardif" |
J.T.C.C.
Translation certified true
on this 23rd day of May 2003.
Sophie Debbané, Revisor