canadian tax journal / revue fiscale canadienne (2010) vol. 58, n o 2, 229 - 76 229 Substantiating an ABIL Deduction: An Analysis of the Key Elements Maureen Donnelly and Allister Young* PRÉCIS Depuis plus de 25 ans, les contribuables canadiens contestent en appel les nouvelles cotisations établies en matière de perte déductible au titre d’un placement d’entreprise (PDTPE). La PDTPE est considérée comme l’une des matières du droit fiscal où les contestations et les litiges abondent et sur lequel l’incertitude pèse. Les contribuables qui font appel échouent deux fois plus souvent qu’ils ne réussissent. En 2001, le jugement rendu par la Cour canadienne de l’impôt dans l’affaire Gamus a permis d’y apporter quelques explications. En faisant allusion au nombre de dispositions techniques complexes qui entrent en ligne de compte lorsque les contribuables déduisent une PDTPE, le juge Bowman a relevé quatre éléments qui doivent converger pour que l’appelant obtienne gain de cause. Le présent article expose les résultats de l’analyse par les auteurs de ces quatre éléments essentiels dans les 240 affaires judiciaires rapportées qui forment la jurisprudence au Canada en matière de PDTPE. Pour chacun de ces éléments, une liste de questions supplémentaires est fournie pour aider les contribuables et leur conseiller à préparer leur dossier dans une affaire portant sur la PDTPE, ainsi qu’une revue des nombreuses affaires pertinentes. Deux autres outils sont offerts en annexe à l’article : un tableau qui présente les jugements de l’étude en fonction de la question abordée et de l’issue de l’instance ainsi qu’un organigramme qui illustre les questions qui, selon chaque situation de fait particulière, pourront nécessiter une réponse adéquate dans l’éventualité d’une contestation en matière de PDTPE. Même si le présent article n’offre aucune solution miracle ni aucune formule scientifique pour garantir la réussite des contribuables, les auteurs souhaitent tout de même aider les contribuables et leurs conseillers à réduire l’incertitude entourant cette matière complexe du contentieux fiscal. ABSTRACT For more than 25 years, Canadian taxpayers have been appealing reassessments of allowable business investment loss (ABIL) deductions. The ABIL is considered to be one of the most widely contested and frequently litigated areas in tax law, and one infused with uncertainty. Taxpayers’ appeals fail almost twice as often as they succeed. In 2001, some light was shed when the Tax Court of Canada issued its decision in the Gamus case. * Of the Faculty of Business, Brock University, St. Catharines, ON (e-mail: [email protected]and [email protected]). The authors are grateful for the comments provided by Alan Macnaughton and an anonymous reviewer.
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canadian tax journal / revue fiscale canadienne (2010) vol. 58, no 2, 229 - 76
229
Substantiating an ABIL Deduction: An Analysis of the Key Elements
Maureen Donnelly and Allister Young*
P R É C I S
Depuis plus de 25 ans, les contribuables canadiens contestent en appel les nouvelles cotisations établies en matière de perte déductible au titre d’un placement d’entreprise (PDTPE). La PDTPE est considérée comme l’une des matières du droit fiscal où les contestations et les litiges abondent et sur lequel l’incertitude pèse. Les contribuables qui font appel échouent deux fois plus souvent qu’ils ne réussissent. En 2001, le jugement rendu par la Cour canadienne de l’impôt dans l’affaire Gamus a permis d’y apporter quelques explications. En faisant allusion au nombre de dispositions techniques complexes qui entrent en ligne de compte lorsque les contribuables déduisent une PDTPE, le juge Bowman a relevé quatre éléments qui doivent converger pour que l’appelant obtienne gain de cause. Le présent article expose les résultats de l’analyse par les auteurs de ces quatre éléments essentiels dans les 240 affaires judiciaires rapportées qui forment la jurisprudence au Canada en matière de PDTPE. Pour chacun de ces éléments, une liste de questions supplémentaires est fournie pour aider les contribuables et leur conseiller à préparer leur dossier dans une affaire portant sur la PDTPE, ainsi qu’une revue des nombreuses affaires pertinentes. Deux autres outils sont offerts en annexe à l’article : un tableau qui présente les jugements de l’étude en fonction de la question abordée et de l’issue de l’instance ainsi qu’un organigramme qui illustre les questions qui, selon chaque situation de fait particulière, pourront nécessiter une réponse adéquate dans l’éventualité d’une contestation en matière de PDTPE. Même si le présent article n’offre aucune solution miracle ni aucune formule scientifique pour garantir la réussite des contribuables, les auteurs souhaitent tout de même aider les contribuables et leurs conseillers à réduire l’incertitude entourant cette matière complexe du contentieux fiscal.
A B S T R A C T
For more than 25 years, Canadian taxpayers have been appealing reassessments of allowable business investment loss (ABIL) deductions. The ABIL is considered to be one of the most widely contested and frequently litigated areas in tax law, and one infused with uncertainty. Taxpayers’ appeals fail almost twice as often as they succeed. In 2001, some light was shed when the Tax Court of Canada issued its decision in the Gamus case.
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Referring to the number of complex technical provisions that come into play when taxpayers claim an ABIL, Bowman j identified four elements that must converge if the appellant is to succeed. The purpose of this article is to present the results of the authors’ review of the 240 reported court cases that comprise Canada’s jurisprudence on abils in the context of the four essential elements. For each of these four elements, a further checklist of questions is provided to assist taxpayers and their advisers in preparing an ABIL case, along with a discussion of many of the relevant cases. An appendix to the article offers two additional tools: a table summarizing the cases by issue as well as by outcome, and a flowchart mapping the sequence of questions that, depending on the specific fact situation, may need to be answered when responding to an abil challenge. While there is no magic bullet or scientific formula that will guarantee taxpayers success, it is hoped that this article will be useful to taxpayers and their advisers in reducing the uncertainty in this complex area of tax litigation.
KEYWORDS: APPEALS n BUSINESS TRANSACTIONS n DEBTS n LOSSES n PURPOSE n TAX DEDUCTION
C O N T E N T S
Introduction 231Key Question 1: Did the Taxpayer Invest in Shares or Debt of a Corporation? 233
1. Was There an Investment in the Nature of Shares or Debt? 2352. Was the Investment Made by the Taxpayer (or by Some Other Person)? 2373. Was the Investment Made in a Corporation? 237
Key Question 2: Has the Debt Been Established To Be Bad? 2391. Did the Taxpayer Consider the Relevant Factors? 2412. Can the Taxpayer’s Determination Be Shown To Be Honest and Reasonable? 2413. Was the Determination Made by the Taxpayer Himself or Herself? 2434. Was the Determination Based on Past and Present Experience
(as Opposed to Future Possibilities)? 2445. Was the Taxpayer Required To Take Further Steps To Collect,
and If Yes, Were Those Steps Taken? 2446. Is There a Non-Arm’s-Length Relationship Between the Parties? 245
Key Question 3: Was the Property Issued by a “Small Business Corporation”? 2451. Can the Taxpayer Succeed When Corporate Documentation Contradicts
His or Her Stated Intention? 2482. In Determining the Principal Purpose of the Business, Whose Intention
Is Relevant? 2523. What Is the Relevant Time Period for the Determination of Principal Purpose? 2544. Was the Corporation Carrying On an Active Business? 255
Key Question 4: Was the Property Acquired for the Purpose of Earning Income? 2591. Where the Transaction Is in the Nature of Financial Assistance to a
Family Member’s Business, What Evidence Will the Courts Accept with Regard to Its Purpose? 260
2. Can the Taxpayer Establish Sufficient Nexus Between Himself or Herself and the Income? 264
Faint Hope 265Original Purpose 268Expectation Versus Right 269
Conclusion 272
substantiating an abil deduction n 231
INTRO DUC TIO N
Inthe2001caseofGamus v. The Queen,1theissuebeforetheTaxCourtofCanadawaswhethertheappellanthadsustainedanallowablebusinessinvestmentloss(ABIL)in1992.SheclaimedthatshehadsustainedabusinessinvestmentlossinrespectofaloanthatsheandherhusbandhadmadetoBIMPEnterprisesLtd.(“BEL”).Inar-rivingatadecisionintheappellant’sfavour,BowmanJnotedthecomplexityoftheABILprovisions2andsetoutalistoffouressentialcriteriaforasuccessfulABILclaim:
At theCanadianTaxFoundation’s2006annual conference,EdwinKroftwasaskedtocommentoncurrenttrendsandthehottopicsoftheday.Inhisremarks,helistedABILsasonetopicthatwouldcontinuetodominatethetaxlandscapeintermsofboththehighvolumeofcasesandthehighdegreeofuncertainty:“The
Appendix Classification of ABIL Cases and Flowchart for Evaluating ABIL Claims 272Business Versus Capital 273Quantum 274Arm’s Length 275Election 275Taxation Year-End 275
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ABILcaseskeepbeingheardbytheTaxCourt.Taxpayerssometimeswinandsome-timeslose.”4ThepurposeofthisarticleistoprovidetaxpayersandtheiradviserswithtoolstoassisttheminpreparinganABILcase.Tothatend,wehaveconductedareviewofthe240reportedcourtcasesthatcompriseCanada’sjurisprudenceonABILs.Inthebodyofthearticle,wepresentasummaryandanalysisofthecaselawusing Bowman J’s four-element test. After amending his wording, reproducedabove,toremovefact-specificreferencestotheGamuscase,wehaverecastthetestintheformoffourkeyquestions:
1. Didthetaxpayerinvestinsharesordebtofacorporation? 2. If the investment is debt, and not owed to a corporation with which the
4 JohanneD’Auray,EdwinG.Kroft,andRogerE.Taylor,“CurrentCases,”inReport of Proceedings of the Fifty-Eighth Tax Conference,2006ConferenceReport(Toronto:CanadianTaxFoundation,2007),7:1-21,at7:16.
5 AccordingtoBrianPosthumus,“[a]necdotalevidencesuggeststhatmostindividualtaxreturnsfiledwithanABILdeductionareflaggedforpre-assessmentreview.Thevolumeofcaselawonthesubjectsuggeststhattheseclaimsarewidelycontestedandthoroughlyexamined.”BrianPosthumus,“TaxLossPlanningfortheOwnerManager—AnUpdateonClaimingAllowableBusinessInvestmentLosses,”in2008 Prairie Provinces Tax Conference(Toronto:CanadianTaxFoundation,2008),tab12,at2.
6 See,forexample,MaxWederandCarolynMacDonald,“AllowableBusinessInvestmentLosses:WhatToDoWhentheCRACalls,”in2009 British Columbia Tax Conference(Toronto:CanadianTaxFoundation,2009),tab7;DavidP.Webb,“BusinessInvestmentLosses,”in1993 Ontario Tax Conference(Toronto:CanadianTaxFoundation,1993),tab4A;JeffreyA.Nightingale,“SelectedSmallBusinessIssues,”in2002 Ontario Tax Conference(Toronto:CanadianTaxFoundation,2002),tab2;DavidW.Middleton,“TheDeductibilityofGuaranteePayments,”in1991 Ontario Tax Conference(Toronto:CanadianTaxFoundation,1991),tab2B;andPosthumus,supranote5.
AnappendixtothearticleofferstwoadditionaltoolsforABILclaimantsandtheiradvisers:atablesummarizingthe240ABILcasesbyissueandbyoutcome;7and,todeconstructthe“complexinteraction”(toquoteBowmanJ)ofthenumerousprovi-sionsthatmakeuptheABILrules,aflowchartmappingthesequenceofquestionsthat—depending on the specific fact situation—may need to be answered whenrespondingtoanABILchallenge.
n InKornelow v. MNR,althoughthetaxpayerpresentedmorethanadozendocu-mentsasexhibits,showingborrowings,guarantees,repayments,andmortgagesbetweenhimself,hiswife,hismother-in-law,andacorporation,“therewasnosatisfactorysubstantiation”ofhisclaimthatthecorporation“waslegallyindebtedtohimandthisindebtednessgaveriseto”theABIL.8
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n InKatzenstein v. Canada,Mr.Katzenstein, appearingas agent forhiswife,offered“noexplanationastohowthebusinessinvestmentlossfigureswerearrivedat.”9
n IntheunfortunatecaseofChiarelli et al. v. R,althoughMs.Chiarelliwasrepre-sentedbyanagentwhowas“anaccountant,entrepreneurandformerauditorwithSpecialInvestigations,RevenueCanada,”thecourtfoundtheevidence“imprecise”ornotsupportedbycleardocumentation.10
n TheappellantinThibeault v. The Queenneededthecourt“tosubstituteforthefactsaninterpretationnotconsistentwithreality”andagainoffered“mereoralstatementsunsupportedbyanydocuments.”11
n Thetaxpayer inMcIntosh v. Ralsofailedasaresultofwoefully inadequateevidence:
n InPeters v. MNR,“theAppellant’sevidence,suchasitisinthismatter,lacksanysubstantiationwhatsoeverandisincredible.”13
n Finally,inAllegritti v. R,thecourtdeniedtheABILclaimonthebasisthattheappellantshadonly“vaguememories”of the transactionbecause theirac-countanthad“workeditout.”14
9 [1993]1CTC2645,at2646(TCC).
10 [2001]3CTC2039,at2040(TCC).
11 2005DTC720,atparagraphs41and42(TCC).
12 [2003]3CTC2423,atparagraphs17and19(TCC).
13 93DTC422,at424(TCC).SeealsothedecisionoftheTaxCourtofCanadainAbrametz v. R,[2007]5CTC2157,atparagraph15:“Evenallowingforthebreakdowningoodrecordskeeping[sic]thatmayariseinthecircumstancesofafailingbusiness,itstrikesoneasoddthattheAppellantiswithoutthecorporate,bankingorlegalrecordstosubstantiatehisclaim.”TheFederalCourtofAppealdisagreed:“[T]heTaxCourtJudgereachedthatconclusion‘bywayofinference,’havingregardtothe‘weaknessoftheAppellant’stestimony’andtheabsenceofseeminglysimplelegaldocumentationtosubstantiatethetransferofthoseshares.Whileitisundoubtedlytruethattheappellant’stestimonywasconsiderablylessthancrystalclear,therecordcontainssignificantevidence,inadditiontotheappellant’stestimony,thatpointstotheconclusionthattheappellanttransferredhissharesofPlacidtoMr.Paulhus.”Abrametz v. Canada,2009FCA111,atparagraph41.(NotethatAbrametz’sappealforanABILwasdeniedowingtohisfailuretoprovidesufficientevidencetosubstantiatetheinvesteecorporationasanSBC.)AlsoseeIsaman v. The Queen,2003DTC994,atparagraph5(TCC):“[N]odocumentaryorotherevidenceexiststosupporthisassertion.”
14 [1997]2CTC2114,atparagraph9(TCC).AlsounsuccessfulonsimilargroundswerethetaxpayersinBurkart et al. v. The Queen,98DTC1328(TCC),andKaupas v. R,[2004]1CTC3025(TCC).
substantiating an abil deduction n 235
In all of these cases, the court lacked sufficient evidence to determine whattransaction(s)(ifany)tookplacethatcouldformthefoundationforanABILclaim.Thereareanumberofothercases inwhichtheevidencewastherebut ledtoaconclusionthatwasinconsistentwiththeclaim.Thesecasestendtofallintothreetypesofscenarios,givingrisetothree,morespecific,subquestions:
Again,thereistherecurringthemeofinadequatedocumentation.InBullas v. The Queen,theFederalCourtofAppealagreedthatMr.Bullas“wasunabletoproduceadequaterecordsorotherevidence”ofhisinvestment.21
PoorrecordkeepingdoesnotnecessarilyresultindenialofanABILclaim,buthowhopefulshouldataxpayerbeinthisregard?Consider,forexample,Chandan v.
15 Bhagani v. R,[2004]4CTC2367(TCC).
16 McHale v. MNR,92DTC1781(TCC).
17 Monaco v. R,[2000]2CTC2277(TCC).
18 Barker v. R,[2002]3CTC2055(TCC).
19 Dastous v. R,[2004]3CTC2264(TCC).SeealsoSandner et al. v. MNR,93DTC901(TCC),wherethetaxpayermistakenlybelievedthathehadincurredindebtedness“tantamounttopayment”onaloanguaranteewhenthebankregisteredajudgmentagainsthisland.
20 (2000),54DTC1985,atparagraph32(TCC).
21 2002DTC7043,atparagraph1(TCC).
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The Queen.22Despite“abysmal”recordkeeping,sobad“thattheappellantdidnotknowwhattheformofhisinvestmentwas,”23thecourtwasconvincedthat
Bowman J subsequentlyaffirmed this approach inBenjamin v. The Queen andofferedanevenmorehopefulpicturefortaxpayerscomingbeforethecourtwithinadequaterecordswherecredibleoraltestimony(eveninconsistenttestimony)ispresented:
Here,theappellantinadditiontohisowntestimonycalledtheothertwoshareholderswhobothtestifiedthattheappellantloaned$50,000tothecompany.Theywerecred-iblewitnesses and I accept their testimony.Counsel for the respondentpointed tosome inconsistencies in their testimony.Onesaid that the$50,000waspaid to thecompanyinonelumpsum,theappellantsaidhepaiditintwoandthethirdwasun-certain.Itisnotsurprisingthattheremightbesomelapsesofmemoryaftertenyears.Farfromdetractingfromtheappellant’stestimonythesediscrepanciesenhanceit.Itprovesthatthethreedidnotgettogetherandconcoctaconsistencyinthedetailsoftheirstory.Iamnotpreparedtoattributetothesewitnessessuchadegreeofingenuitythattheyconcoctedinconsistenciestomaketheirstorylookcredible.26
22 2005TCC685.
23 Ibid.,atparagraph8.
24 Ibid.,atparagraph26.
25 Ibid.,atparagraph34.Ontheissueoftaxpayeronus,seealsoGregory v. R,[1999]1CTC2279,atparagraph6(TCC):“CounselfortheRespondentarguedthattheappealshouldbedismissedbecausetheAppellanthadnotprovenwithaprecisepapertrail....Counseliscorrect...butsomecredencemustbegiventotheverybelievableswornanduncontradictedevidenceoftheAppellanthimselfplusthecorroboratingdocuments.WhiletheonusofproofisontheAppellant,itisonlyacivilonus.IamsatisfiedthattheAppellantdischargedtheonusonhimandshiftedtheonustotheRespondent.”
26 2006DTC2265,atparagraph10(TCC).
substantiating an abil deduction n 237
2. Was the Investment Made by the Taxpayer (or by Some Other Person)?
Althoughtheformoftheinvestmentmaybeestablishedasdebtorshares,thestum-blingblock in the casemaybe establishing the “WHO”of the transaction—inparticular,establishing the identityof the investoras the taxpayer.Often, familymembersorotherrelatedpersonsareinvolved.InWierbicki v. The Queen,27forex-ample,anothercasewheremanyoftherequiredelementswereunsupported,someoftheindebtednessappearedmorelikelytobeowedtothetaxpayer’swifeandotheramountstohismother-in-law.ThetaxpayersinBeaulac v. The Queen28andYiouroukis v. The Queen29were foundtobeassertingclaimsbasedon loans thatweremorelikelytakenoutbytheirspouses.In817254 v. The Queen,theidentitiesofthebor-rowerandthelenderwerefoundnottobeasclaimed.30Bycontrast,considerAir Rock Drilling Co. Ltd. et al. v. The Queen.31Eventhoughtheappellantwasfoundnottobeinfactashareholderofthedebtorcorporation(“CPI”),andtherecordkeepingwas“sloppyandinaccurate,”thecourtallowedtheclaimonthebasisthat“AirRockwasanindirectbutequitableshareholderofCPI.”32
3. Was the Investment Made in a Corporation?
Theother“WHO”ofthetransaction—theidentityoftheinvestee—isoftenthebasis foranABILchallenge.Taxpayersmostoftenlosethesecaseswhentheyarefoundtohaveadvancedfundstootherindividualspersonallyinthehonestbeliefthatthefundswillthenfindtheirwayintostartuporstrugglingbusinesscorpora-tions.33InBrand v. The Queen,34althoughthetaxpayerhadadvancedfundstohissonanddaughter,credibletestimonyandsupportingdocumentaryevidenceledtothefindingthatthechildrenhadinfactreceivedtheloansintrustfortheircorpora-tions.This“intrust”argumentfailedinMackay v. The Queen,35wheredocumentary
Rockanditsowners(theappellantindividuals)wereallatarm’slengthwithCPI. 33 See,forexample,Marceau v. The Queen,2005DTC446(TCC);Wieler v. R,[2001]3CTC
2142(TCC);St. Martin v. R,[1998]4CTC2656(TCC);McDonald v. The Queen,98DTC2223(TCC);Shoeman v. The Queen,2004DTC2500(TCC);Crane v. The Queen,99DTC3521(TCC);andStern v. The Queen,2004DTC3260(TCC).
34 2005DTC1249(TCC). 35 2006DTC3653(TCC).InTurcotte v. R,[2000]2CTC2369(TCC),thetaxpayerwasableto
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evidence contradicted the appellant’s testimony as to what she believed she waspurchasing.
Alternatively,thebarriertotheclaimmaybethattherecipiententityisinsomeotherlegalform,asinMarkovzki v. The Queen36(atrust),Jones v. R37(ajointventure),andSmilovici v. R38(apartnership).InYau v. R,39ontheotherhand,thetaxpayerwasreassessed,likeSmilovici,onthebasisthathehadadvancedfundstoapartnershipatatimewhenthecorporationdidnotexist.UnlikeSmilovici,Yauwonhisappealbecausehehadcorroboratingdocumentaryevidence:hehadsuedtorecoverthedebt,andthejudgmentnamednotonlythepartnersbutalsothesubjectcorpora-tion.InEynan v. R, thetaxpayer“statedthatsheinvested$40,000 inhorseswithSilverUnicornInc.”40Moreaccurately,sheboughtpartialownershipinthehorsesdirectly,andnotsharesinthecorporation.
ThedecisionsinHuneault v. R41and,fiveyearslater,Chambly Radios Communi-cations Cellulaires v. The Queen42provideaninterestingcomparisonwheretwocaseswithsimilarfactsproduceoppositeoutcomes.Inbothcases,theministerconsideredthattheappellanthadloanedfundstoanindividualwithwhomtheappellanthadabusinessrelationship,andnottoacorporation.InHuneault,theappellantmadea loantoaMr.Gauthier,whowasthesoleshareholderofastrugglingbusiness,JanréLtée.Althoughthecourtunderstoodthemotivationfortheformofthetrans-action,precedentseemedtorequirethattheformofthetransactiondeterminetheoutcome:
Further,intaxmattersformtakesonsomeimportance.InthisconnectionIwouldrefertotheFederalCourtofAppealjudgmentinFriedberg v. R(1991),92D.T.C.6031(Fed.C.A.),at6032:
Intaxlaw,formmatters.Ameresubjectiveintention,hereaselsewhereinthetaxfield,isnotbyitselfsufficienttoalterthecharacterizationofatransactionfortaxpurposes.Ifataxpayerarrangeshisaffairsincertainformalways,enor-moustaxadvantagescanbeobtained,eventhoughthemainreasonforthesearrangementsmaybetosavetax(seeThe Queen v. Irving Oil91DTC5106,per
SimilarlyinChambly,thefundswereadvancednottothecorporationbutdelib-erately to its individualowner, so that theycouldbeused topayemployeesandavoidseizurealongwiththeothercorporateassets.AlthoughtheCrownarguedthatthetransactionhadtobe“understoodinitsliteralsenseandnotinlightoftheintentionbehindit,”TardifJ,allowingtheappeal,explained:
K E Y QUE S TIO N 2: H A S THE DEBT BEEN E S TA BLISHED TO BE B A D?
TheFederalCourtofAppealhaditsfirstopportunitytodeterminewhetheradebthasbecomebadintheABILcontextinits2003hearingofRich v. The Queen.45TheministerhaddisallowedanABILclaimedbyLarryRich,anaccountant(infact,afellowoftheaccountingprofession),inhis1995taxreturn.ThelossrelatedtoadebtowedtoRichbyacorporationknownasDMS,ofwhichheowned25percentandofwhichhis son (whoalsoowned25percent)was themanager.46Rich senior (thetaxpayerinthecase)consideredthedebttobebad,largelyonthebasisofanex-change of letters: he wrote to DMS asking when he might expect repayment, towhichhissonresponded,probablynever.TheTaxCourtofCanadadisagreedwiththetaxpayer’spositionthatthedebtwasthenestablishedtobeabaddebtandcon-cludedthatheshouldhavemadea“concreteeffort”tocollect.47Richappealed.
Interestingly,thecourtbaseditsapproachonjurisprudencethatwasahalf-centuryoldandpredatedtheABILlegislationby25years.The1953caseofNo. 81 v. MNR50laidoutfactorsforthedeterminationofdoubtfulaccountsforaccountingpurposes;thislistoffactorswasthenusedinthe1956caseofHogan v. MNR51indeterminingwhendebtsbecomebadforthepurposesofwriteoffastaxdeductions.52ThissamelisthasnowcometoconstitutetheacidtestforABILbaddebts.
1. Did the Taxpayer Consider the Relevant Factors?
AlthoughRothsteinJcautionedthatthelistoffactors“isnotexhaustiveand,indif-ferent circumstances,one factoror anothermaybemore important,”53 it seemsquiteclearthatacompletefailuretoaddressanyofthefactorsmaywellbefataltothetaxpayer’scase.Indismissingthetaxpayer’sappealinBarrie v. The Queen,theTaxCourtobserved,“NotoneofthefactorssummarizedbyRothsteinJA,inRich v. CanadawasseriouslyconsideredbyMr.Barrie.”54
2. Can the Taxpayer’s Determination Be Shown To Be Honest and Reasonable?
Thosetaxpayerswhocontinuetoadvancefundstoadeadbeatdebtormayhavedifficultyestablishingthemselvesbeforethecourtaseitherreasonableorprudent.Moreoftenthannot,continuingtolendmoneyundersuchcircumstancesdealsafatalblowtothecase.InGiahinejad v. R,forexample,thecourtseemedtobegoingaboveandbeyondinhelpingthetaxpayertoprovehercase,butwasunabletoig-noreher“totalfailuretoshowthatthedebtwentbad.”61
53 Supranote45,atparagraph13.
54 2004DTC2176,atparagraph37(TCC).SeealsoLitowitz v. The Queen,2005DTC1469(TCC).
55 Berretti v. MNR,86DTC1719,at1722(TCC).
56 Theissueofwhetherthetaxpayerhadanhonestandreasonablebeliefintheuncollectibilityofthedebtisaddressedin,forexample,Kyriazakos v. The Queen,2007DTC373(TCC);Deck et al. v. The Queen,2002DTC1371(TCC);andAnjalie Enterprises Ltd. v. The Queen,95DTC216(TCC).
57 Flexi-Coil Ltd. v. The Queen,96DTC6350(FCA);Netolitzky v. The Queen,2006DTC2953(TCC).
58 Campbell v. The Queen,2000DTC2528(TCC);Roy c. R,[2004]2CTC2519(TCC);Orlando v. The Queen,99DTC1201(TCC).
59 AsinNetolitzky,supranote57.
60 Rich,supranote47,atparagraph22(TCC).SeealsoCackirovski v. R,[2003]2CTC2155(TCC),ontheneedforrecords.However,recallBenjamin v. The Queen,supranote26,wherethelackofrecordswasnotfataltothetaxpayer’scase.
61 [2002]1CTC2141,atparagraph10(TCC).Certainlyataxpayerwho“lent”moneyneverexpectingtogetitbackisdoomed;see,forexample,Kronstal v. R,[1998]4CTC2844(TCC).
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Thejurisprudenceonthisquestionincludesanumberofcaseswheretheminis-teracknowledgedthatanABILhadbeenincurredbythetaxpayerasaresultofadebtgonebadbutcontestedthetaxpayer’sviewastowhen—thatis,inwhichtaxa-tionyear—thesubjectdebtinfactwentbad.63Earl v. MNR64involvedanABILclaimforthe1984taxationyear.Thetaxpayerarguedthathedidnotknowofthedemiseofthedebtorcorporationbecausehehadbeenseriouslyillforseveralyears.Thecourt relied heavily on the right of the taxpayer himself to make the necessarydetermination:
Barringclearevidence to thecontrary, theyearselectedbyanAppellantas that inwhichheand he aloneaccordingtotheAct,establishedthatadebtbecamebad,shouldbetheoneacceptedbytheMinister.65
Onceagain,however,thetaxpayer’spositionmustbeshowntobereasonableinthecircumstancesandconsistentwiththeevidence.InGilhooly v. MNR,66theABILwasclaimedinthetaxationyearinwhichthedebtorcorporationwasdissolved;theministerreassesseditasanABILoftheimmediatelyprecedingtaxationyear,whichwastheyearofthetaxpayer’spersonalbankruptcy.Thetaxpayer’sfailuretoshowtheloanreceivableasanassetwasarguedasevidencethatithadbeenestablishedbyhimtohavebecomeabaddebtinthatyear.TaylorJagreedonthebasisthatthetaxpayer’spositionwasunreasonable:“[T]herationaleuponwhichMr.Gilhoolybasedhiscontention...completelyescapesme.”67Similarly,inRichardson v. MNR,theappellantclaimedthedebtsasbeingbad,butinthecourt’sview,“hisactionsandwordsbeliedthisbothinhisevidenceandwrittenargument.”68
62 Giahinejad,supranote61,atparagraph8.
63 Inadditiontothecasesdiscussedbelow,seeÉ. Lavoie v. Canada,[1994]1CTC2294(TCC),andLee v. MNR,90DTC1738(TCC).
64 89DTC221(TCC).
65 Ibid.,atparagraph10(emphasisadded).
66 87DTC4(TCC).
67 Ibid.,at6.Othercaseswheretheminister’sdeterminationwonoutasmorereasonableoverthatofthetaxpayerincludeMacKenzie & Fiemann Ltd. v. MNR,[1989]2CTC2133(TCC),andMacMillan v. R,98DTC3465(TCC).
68 93DTC258,at260(TCC).
substantiating an abil deduction n 243
Insomeinstances,itappearsthatthetaxpayersoughttoclaimanABILonadebtthataroseinastatute-barredyear.InDuncan v. MNR,69thebusinesswasfoundtohaveinfactceasedoperationin1973,beforetheenactmentoftheABILlegislation.InTardif v. The Queen,70theministersuccessfullyarguedthatthelosshadoccurredinayearwithalowercapitalgain/lossinclusionratethantheoneclaimedinthetaxpayer’sfilings.
3. Was the Determination Made by the Taxpayer Himself or Herself?
Itseemsclearthatthetaxpayerisnotobligedtoseekthird-partyadvice.InNetolitzky v. The Queen,whentheCrownarguedthatthetaxpayer“oughttohaveobtainedanindependentassessmentoftheamountofthelossandofthecompany’spotentialresalevalue,”thecourtdisagreed,referringtosuchanexpectationas“anunwar-rantedexpansionofthedutyimposedonthetaxpayer”bythelegislation.71
Whileitissettledthatthetaxauthoritycannotsubstituteitsownjudgmentforthat of the taxpayer,72 there is some apparent confusion around the question ofwhetherthestandardforthedeterminationtobereasonableisasubjectiveoranobjectivetest.AccordingtotheFederalCourtofAppealinRich,“theCourtisnottosecond-guessthebusinessacumenoftaxpayers.”73ThatstatementconfirmsthejudgmentoftheTaxCourtinDeck et al. v. The Queen,wherethecourtheldthat“thedeterminationofwhenadebtbecomesabaddebt isasubjectiveonetobemadebythe[creditor]”74asthepartymostfamiliarwithallthefacts.However,thisisnotonallfourswiththemorerecentcaseofKyriazakos v. The Queen,75wherethecourtforgavethetaxpayer’sfailuretoconductarevieworinanywayinvestigatethedebtor’sfinancesbecauseifshehad,shewouldhaveseenthatthefinancialsitu-ation was hopeless. The court’s description of its reasoning is rather enigmatic:“[Thetaxpayer]actedreasonablybasedonwhatshedidnotknow”!76ConsideralsoLitowitz v. The Queen,wherethestandardisambiguouslyexpressedas“areasonableperson,suchasMr.Litowitz.”77
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4. Was the Determination Based on Past and Present Experience (as Opposed to Future Possibilities)?
Forthemostpart,“possiblerecoveryinthefutureisnotper seabar”tothetaxpayer’scase.78InMonaghan v. The Queen,79forexample,thecourtacceptedtheappellant’sdeterminationthatthedebthadbecomebadasofDecember31,1986eventhough,sixmonthslater,alargeinjectionofcapitalandachangeinleadershiphadturnedthe company into a successful profit-making business once again. On the otherhand,theFederalCourtofAppealinRichdidallowthat
[i]fthereissomeevidenceofaneventthatwillprobablyoccurinthefuturethatwouldsuggest that thedebt iscollectibleonthehappeningof theevent, the futureeventshouldbeconsidered.[However,if]futureconsiderationsareonlyspeculative,theywouldnotbematerialinanassessmentofwhetherapastduedebtiscollectible.80
5. Was the Taxpayer Required To Take Further Steps To Collect, and If Yes, Were Those Steps Taken?
Generally,thetaxpayerisrequiredtotakestepsinpursuitofcollectiononlywhencollectionisreasonablypossible.ThisistheprinciplesetoutbytheFederalCourtofAppealinRich.Othercasesmayusesomewhatdifferentvocabularytoexpressbasicallythatsametest—forexample,“Thereisalimittohowmuchthetaxpayerisexpectedtodo.”81Bycontrast,theTaxCourtin2002hadexpressedtheopinionthatthetaxpayerdidindeedneedtoexhaustallmeansofcollection,82and,accord-ingtothecourtinDeck,“adebtisonlybadwhenithasbeenproveduncollectible.”83More recently, in Kyriazakos, the court provided the following “continuum-of-hope”approachontheissueofwhenfurtherstepsarerequired:
78 Berretti,supranote55,at1722.Onthisprinciple,seealsoLitowitz,supranote54,andHoule v. MNR,90DTC1247(TCC).
79 95DTC920(TCC).
80 Supranote45,atparagraph14.
81 Netolitzky,supranote57,atparagraph15.
82 Campbell,supranote58.
83 Deck,supranote56,atparagraph13(emphasisadded).
84 Kyriazakos,supranote56,atparagraph14.
substantiating an abil deduction n 245
Thetaxpayer’sdilemmais,ofcourse,howmucheffortisenough?InKeating v. The Queen,85forexample,theministercontendedthattheappellanttooknostepstorecoverherdebt.Thecourtagreedbutfoundherlackofefforttobereasonableinthecircumstances:
6. Is There a Non-Arm’s-Length Relationship Between the Parties?
Theburdenofestablishingthereasonablenessofthebaddebtdeterminationmaybemademoreonerousinthecontextofanon-arm’s-lengthrelationship.Howmuchmoreonerousisunclear.RecallthatinRichthetaxpayerhadadvancedfundstokeepafloatwhatwasessentiallyhisson’sbusiness,ownedbythetaxpayerhimself,hisson,andhis son’s father-in-law.TheTaxCourtnoted in its judgment the suggestionthat,innon-arm’s-lengthcircumstances,thecourtmaybewelladvisedtobe“doublyvigilant.”87Themajoritydecisionof theFederalCourtofAppealalsosuggestedthatanon-arm’s-lengthrelationshipmay justify“closer scrutiny.”Further,whileEvansJdissentedfromthemajoritydecision,heagreedthatcaseswithrelatedpar-ties,inparticularfamilymembers,requireacloserlook:
Acomprehensivetreatmentoftheconceptandjurisprudenceofcorporatecontrolisbeyondthescopeofthisarticle;however,thereareseveralABILcaseswherethetaxpayer’sclaimwaschallengedonthegroundthatthecorporationinwhichtheshareswereheldorbywhichthedebtwasowedwasnotaCCPCasdefinedinsubsection125(7).InRandhawa et al. v. The Queen,92thescantevidenceprofferedindicatedthatfundshadbeenadvancedinUSdollarstoaUScorporation(andwereinfactbeingrepaidbyaninmateinaUSprison).InBilodeau v. R,theissuewaswhetherthecor-porationwasprivatewhentwopubliccorporationsactingtogetherheldthevotingpower to elect theboardofdirectors.93Survivance (La) c. R94had an interestingoutcome,arguablyinconsistentwithlegislativeintent.Theappellant,apubliccor-poration,soldsharesinitssubsidiarytoaprivatecorporationandclaimedanABILbasedonthefactthat,pursuanttosubsection256(9),thesubsidiarywasdeemedtobeownedbytheCCPCatthebeginningofthedayofthesharesale,withtheeffectthatthedispositionoccurredatatimewhenthesubsidiarywascontrolledbyaCCPCandnotbyapubliccorporation.TheFederalCourtofAppealagreedandcouldfindnoexpressprovisiontothecontrary.95
Taxpayerswhomaybeabletosubstantiatethataninvestmentwasinfactmadecannotalwaysverifythenatureoractivitiesofthecorporationinwhichtheinvest-mentwaslost.Longerich v. The Queen96providesanexample.Thetaxpayer,actingonhisownbehalf,submittedthat“althoughhedidnothavesharesinthesecompanies
90 Clause39(1)(c)(iv)(A).
91 Wecategorized43casesunderthisissue.
92 2001DTC382(TCC).SeealsoLabell v. R,[2000]4CTC2495(TCC),andRobertson v. The Queen,2002DTC3834(TCC).
93 [2000]1CTC2888(TCC).Acasewithsimilarfactsarisingtodaywouldbesubjecttoparagraph(b)ofthedefinitionof“Canadian-controlledprivatecorporation”insubsection125(7).ThisprovisionreversestheruleinSilicon Graphics Limited v. The Queen,2002DTC7112(FCA).SeealsoStriefel v. R,[1999]3CTC2684(TCC),wherethecorporation,previouslyanSBC,hadbeenacquiredbyapubliccompanytwoyearsbeforetheABIL-claimyear.
theamountsheadvancedrepresentedadebteventhoughtherewasnoloandocu-mentationandno interestpayable.”97Hemade the investment“believing itwasmadewiththetwoCanadiancorporations. . .andthattheyweresmallbusinesscorporations.”98Infact,thefundswerebeingfunnelledtoaHongKongcorporationandclearlycouldnotbetracedtoaninvestmentinanactivebusinessinCanada.ThetaxpayerthenwentontoarguethatsincethetwoCanadiancorporationshadlostthemonieshehadadvancedtothem,theywereinfactcarryingonanactivebusinessinCanada—thatis,thebusinessofdefraudingtheirinvestors.AlthoughthisargumentfailedforthetaxpayerinLongerich,itisnotwithoutsubstance,asshownbythe2004decisioninJohnston v. The Queen.99TheFederalCourtofAppealwasunabletoconcludethattheTaxCourthaderredinacceptingtheappellant’ssub-missionthatthecorporation“wasintheactivebusinessofdefrauding,”usinganelaboratepyramidschemewithover200participants.Theillegalnatureofthebusi-nessdidnothindertheinvestor’sABILclaim:
Asnotedabove,theassetsofanSBCmustbeusedprincipallyinanactivebusi-nesscarriedonprimarilyinCanada.Accordingly,theFederalCourtofAppealinFillion v. Canada101hadnotroubledismissingtheABILclaimofataxpayerwhohadbought sharesof a companyallof the assetsofwhichwere located inMali andwhichcarriedonallofitsactivitiesthere.
An“activebusiness”isdefined,inpart,tobe“anybusinesscarriedonbyatax-payerresidentinCanada...otherthanaspecifiedinvestmentbusiness”;a“specifiedinvestmentbusiness” (SIB) isdefined tobe abusiness the “principalpurpose”ofwhichistoderiveincomefromproperty.102MostofthejurisprudenceintheSBCcategoryinvolvestheclaimbytheministerthattheissuingcorporation,althoughaCCPC,wasinfactanSIB.Theassessmentmosttypicallyallegesthatthecorporation’sprincipalpurposewastoproduceincomefromproperty;mostoftenthetaxpayer’s
97 Ibid.,atparagraph2.
98 Ibid.
99 2000DTC1864(TCC).
100 Ibid.,atparagraph62.SeealsoLangille v. The Queen,2009DTC1103(TCC),wherethetaxpayer,anotherindividualdefraudedbyWSL,wasalsosuccessfulonthesameissue.
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responseisthatthecorporation’sprincipalpurposewasinsteadeithertoearnincomefromabusinessortobuyandresellpropertytoproducecapitalgain.Inarecentcaseonthisissue,Glynn v. R,103theappellanthadinheritedahouse,whichshethentransferredtoapreviouslydormantcorporation(“TOI”).Whenthetaxpayer’sstatedintention of using the house as a bed and breakfast failed to materialize,104 TOIrentedthehouseoutinstead.Afterfiveyearsofrentalincomeasitssolesourceofrevenue,TOIsoldthehouseandceasedoperating.TheappellantclaimedanABILofapproximately$36,000.Thecourt’sanalysisfocusedontheprincipalpurposeofthecorporationandbeganbystatingthatthetestfordeterminingprincipalpurpose“isgenerally considered as being what the corporation actually does and what itssourceofincomeis.”105Inthediscussionthatfollows,wewillexaminetheextenttowhichthisstatementaccuratelyexpressestheapproachtakeninthecaselaw.ThecourtinGlynnseemstobesayingthatwherethecorporationengagesinactivitythatgenerallyproduces incomefromproperty,andthatactivity in factproducesincomefromproperty,thecorporationwillbecarryingonaSIBandnobusinessinvestmentlosswillbeallowed.Whilethiswouldbeaharshtest,itwouldalsobeaneasyonetoapply.
1. Can the Taxpayer Succeed When Corporate Documentation Contradicts His or Her Stated Intention?
Havingreviewedtheprecedentcaselaw,itseemstousthattheprincipalpurposetestisnotasharsh,norisitnearlyaseasytoexpressortoapply,assuggestedbythecourtinGlynn.The1992judgmentinEd Sinclair Construction & Supplies Ltd. et al. v. MNR106addressedtheissueofabusiness’sprincipalpurposeinapplyingtheSIBdefinitionunderthesmallbusinessdeductionprovisions.Whenaskedtoweighthe taxpayer’s testimonyagainst thehardevidenceof thecorporation’sactivities,BowmanJcitedwithapprovaltheapproachtakeninanearlierTaxCourtdecision:
InGascoigne v. R,109 thecourtdidnotacceptthetaxpayer’stestimonythatthemainintentionofthecorporation,Triwest,wastosellpropertiesandthattheprop-ertieswererentedoutonlytosubsidizetheoperationuntilsalescouldbemade.Instead, the court found the contradicting documentation more persuasive: thepropertiesweretreatedforaccountingpurposesasfixedassets;rentalincomewasgenerated;disposalswerereportedascapitalgains;and,onthetaxreturn,Triwest’sbusinesswasspecifiedas“rentals.”Thedocumentedevidencespokemoreloudlyofthecorporation’sprincipalpurposethanthetaxpayer’sassertions.
InGill et al. v. MNR,111thetaxpayersinvestedinacorporation,Homebank,whichconstructeda17-unit stripmallwith the intentionof selling itonce itwas fullyleased.Homebankwentintoreceivershipsoonafterlistingthepropertyforsale.Theinvestmentwent“bad”fiveyearsafterthelandhadbeenpurchasedandthreeyearsafterconstructionhadbeencompleted.Onceagain,thecourtallowedthefi-nancialresultsandfinancialstatementstostandasevidenceforthecorporation’sprincipalpurposeandtotrumpthetaxpayers’testimonyastowhytheyenteredintotheinvestment.
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Similarly,inCapogreco v. R,113therealityoftheresultssimplyovershadowedthetaxpayer’sclaimofanactivebusiness.Thetaxpayerarguedthat“itnotonlyhadrentalincomebutthatitalsointendedtoobtainothercompaniesandotherbusi-nessestooccupythepremises.”114CounselfortheministerreliedonGill,andthecourtagreed.
Ontheotherhand,anumberoftaxpayershavebeenabletosuccessfullycontra-dicttherealityoftheirresults.InGeropoulos v. R,116thetaxpayerwasa25percentshareholderinacorporation(Woodstock)thatwasincorporatedtopursueashoppingmalldevelopment.Whentheprojectfailedtomaterializeowingtotherejectionofarezoningapplication,Woodstockwasrenderedinsolvent.ThetaxpayerclaimedanABILforfundshehadloanedtothecorporation.Thegovernmentrejectedthe“activebusiness”designationonthebasisthat,althoughthepartiestookstepstoputabusinessinplace,“nobusinessassuchmaterialized.”ThecourtreadilyacceptedtestimonyofWoodstock’s“desire”andwhatitwasorwasnot“lookingfor,”eventhoughtherewascontradictorydocumentaryevidence,andconcluded:
ItmightbearguedthattheresultinGeropouloscanbedistinguishedfrommanyoftheothercasesonthispoint,onthebasisthattheWoodstockpropertyneverproducedanyrentalincome.Consider,then,thecaseofFautley v. R.118Thetaxpayer,Fautley, transferredhishome tohis corporation,FautleyTowersLtd., and thenenteredintoanagreementtogiveaMr.Peelanoptiontobuy.Peelcouldnotraisethemoneytobuy,soinsteadhecontinuedtooccupythehomeandpayrent.Theminister’spositionwassimplyput:therewasnoactivebusiness,and“theearningofrentsfromtheProperty[was]anindicatorthattheCompanywasoperatinga
therentreceiptsweremerelypartofthedealwithPeelandthemainthrustofthatagreement was to sell the Property and moreover that the overall activities of theCompanyweretodeveloppropertiesandnottoholdsameforrental.121
Inresponsetothetaxpayer’sappealinBarrette c. La Reine,122theCrownreliedonthecourttoagainconstructtheinvesteecorporation’sprincipalpurposefromwhatthecorporationdidandwhatitssourceofincomewas.Essentially,theCrown’spositionwasthat,becausetheonlyincomedeclaredbythecorporation(Diese)wasrentalincome,thecorporationwasengagedinaSIB.However,thecourtwasnotinclinedtoagree.Despitethedocumentedevidence—thecorporation’ssoleassetwasthebuildingsshownonthefinancialstatementsascapitalproperty,capitalcostallow-ancewasclaimed,andthecompany’saccountantstatedonthetaxreturnthatDiesewasengagedintherentalofproperty—andeventhoughthecourtfoundthedetailsofattemptstosellthepropertyforaprofittobe“somewhatvague,”123theCrown’sfailuretospeaktothe“trueintentionofthetaxpayer”wasfataltoitscase.Instead,thecourtembracedthepositionofoneofthefourequalshareholders,whowasbyoccupationarealestateagentandwhosubmittedherownversionofthefinancialstatements.ArchambaultJconcluded:
Unfortunately,theaboveanalysisfailstoprovideadefinitiveanswertotheques-tionweposed at thebeginningof this section. It appears that the taxpayer cansucceedwhencorporatedocumentationcontradictshisorherstatedintention—but,thenagain,maybenot.Thebest-casescenarioariseswhenthetaxpayer,the
119 Ibid.,atparagraph6.
120 Glynn,supranote103,atparagraph13.
121 Supranote118,atparagraph6.
122 2004TCC437.
123 Ibid.,atparagraph36.
124 Ibid.,atparagraph34.
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paperwork,and theobjective indicatorsaremutuallycorroborativeofabusinessintention,astheywere,forexample,inBelzile v. The Queen.125Thetaxpayerandanunnamedpartytogetherownedthreeseparatecorporations;theoneinquestionwasreferredtoas“9005.”Inthemid-1990s,eachofthethreecorporationsbuiltamulti-unitapartmentbuilding.Twoofthecorporationssoldtheirbuildingsrightaway;however,9005wasunabletosellits8-unitbuildingand,accordingtothetaxpayer,renteditoutinthemeantimeto“stemthelosses.”Thisfactsituationisreminis-centofGascoigneandhisinvestmentinTriwest,discussedabove.126However,inBelzile,thebuildingwaslistedasinventory(notafixedasset),andthecorporationidentified itsactivityas“construction.”The9005corporationwasheld tobeanactivebusiness.
2. In Determining the Principal Purpose of the Business, Whose Intention Is Relevant?
Returningtothe2007Glynndecision,weseethecourtapplyinganoft-citedpas-sagefromthe1990caseofMayon Investments Inc. et al. v. MNR.128AlthoughMayonwasnotanABILcase,itrequiredaninterpretationofthe“principalpurpose”testundertheSIBdefinitionforthepurposesofthesmallbusinessdeduction.AccordingtoBruléJ,“theprincipalpurposeofwhichistoderiveincomefromproperty”inrespectofthebusinessofacorporationmeansthat
thesourceofrevenue,thenatureoftheassetsheldandthe purpose of the corporationaretoderiveincomefromproperty.129
Incontrast,considerGill.134Theappellants(“SG”and“IG”)werenotrelatedtothe investee corporation (“Homebank”). Together they owned 16 percent ofHomebank;thecontrollinginterestwasheldbyaMr.andMrs.Benet.AlthoughtheBenetswerenotbeforethecourt,BruléJconsiderednotonlytheirintentionsre-gardingHomebank,butalso,“asanaside,”evidenceoftheirbusinessactivities:
[I]tisthe“principalpurpose”ofthebusinessandnotnecessarilythe“principalpur-pose”of the individual taxpayer thatmustbeconsidered indeterminingwhetheracorporationisa“specifiedinvestmentbusiness.”SGandIGhada16%interestintheoperations of Homebank. Mr. Benet and his wife held the controlling interest of52%....Anyinquiryintothe“principalpurpose”ofthecorporationwouldhavetoconsidertheintentionofMr.andMrs.Benet.Mr.Benetwasthedriving forcebehindhisowncorporation,Sampuran,aswell asHomebank.The“principalpurpose”ofHomebank,asanentireentity,mustbeconsidered.TheMinisterdidnotmakeanyinquiriesintotheintentionofMr.BenetwithrespecttoHomebank.TheCourtbe-lievesthattheprofitmadeonSampuran’ssaleofapreviousshoppingdevelopmentisrelevanttothecaseathand.135
3. What Is the Relevant Time Period for the Determination of Principal Purpose?
Establishing the relevant timeperiod for theprincipalpurposedetermination isrelativelystraightforward.Asageneral rule, thecasesconsiderboththeoriginalpurposeofthebusinessandthatmanifestedinthetaxationyearsatissue,assug-gestedinInterpretation BulletinIT-73R6:
Theprincipalpurposeofacorporation’sbusinessmust be determined annuallyafterallthefactsrelatingtothatbusinesscarriedonbythatcorporationinthatyearhavebeenconsideredandanalyzed.Includedinthisevaluationshouldbesuchthingsas:
(a) the purpose for which the business was originally commenced;(b) thehistoryandevolutionofitsoperations,includingchanges in its mode of oper-
ation and purpose of existence;and(c) themannerinwhichthebusinessisconducted.139
In both Gascoigne and Glynn, the principal purpose of the corporation hadchangedover time; inneither casedid thiswork to the taxpayer’s advantage. InBelzile,thecourtfoundthat
4. Was the Corporation Carrying On an Active Business?
Oftenthetaxpayerisfacedwiththeargumentthatthecorporation’sbusinessisnotbeingcarriedon,eitherbecauseitnevercommencedorbecauseithadalreadyceased.Foranexampleoftheformer,considerBoulanger et al. v. The Queen.141Thetaxpayers,BoulangerandDufour,claimedanABILrelatingtoamortgageextendedtoanum-beredcompany,referredtoas“170663.”Thecorporationhadacquiredthreelotsoflandtoconstructanautomotivebusiness.Anoverallplanwasdeveloped,abuildingpermitobtained,surveysprepared,andmeetingsheldwithengineersandarchitectswhopreparedplans for abuilding;however,whenbankfinancingwasdenied, aportion(almosthalf )ofthelandwassoldofftoaconstructioncompany,leavingtheundevelopedlandandthereceivablefromtheconstructioncompanyas170663’sonlyassets.Inlightofthissequenceofevents,thequestionforthecourtwaswhetherthecorporationhadstartedthebusiness,andifso,whetherthatbusinesswasactive.
[A]toneendofthespectrumtherearebusinesseswhichhavenotbegunoperationsandattheothertherearedormantbusinesses,whileinbetweentherearemanyactiv-ities“whicharesignsthatacompanyisoperatingandwhichshouldfallwithinthespectrumoftheconceptofcarryingonbusiness,eventhough,forexample,theactivitiesare carried on for the purpose of reaching an agreement which eventually is notreachedoreventhoughtheydonotresultintheearningofincome.”143
143 Boulanger et al. v. The Queen,2004DTC6192,atparagraph5(FCA),quotingfromHudon et al. v. The Queen,2001DTC5630,atparagraph62(FCA).
144 Boulanger,supranote143,atparagraph6.
145 Ibid.,atparagraph7.
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ThetaxpayerinO’Neill v. The Queen146sufferedasimilarfatein2000.TheTaxCourtconcludedthat“themoneywasspentingoodfaithwiththehopeandexpect-ationthatsomewheredowntheroadtheAppellantandhispartnerwouldbeinapositiontocommencethebusinessandtoearnaprofitfromit,butthatmomenthadnotyetarrived.”147O’Neillandhispartnerco-ownedacorporation(“C&C”)andhadpurchasedanaircraftwiththeplantostartupahuntinglodgebusiness.Theplanewouldbeusedtoflypatronsinandoutoftheremoteproperty.Althoughtheappellantalreadyhadoccupancyrightstothelandandhadbuiltacabinonit,keyindiciawereabsentwhenthecompany’sonlyasset,theplane,wasdestroyedinacrash.Therewasnowrittenplan,nocompanybankaccount,nobusinesslicence(infact,noknowledgeofthelicencerequirements),nomarketresearch,nodrawingsfortheplannedexpansionoftheexistingcabin,norevenuefromitsoccupancy,andnostaff.Tothesubmissionthatthepurchaseoftheaircraftputtheappellantandhispartnerinbusiness,thecourtresponded:
At the other end of the spectrum are those cases where, in the tax assessor’sopinion,thebusinessthatwasbeingcarriedonhasceased.Consider,forexample,Proulx-Drouin v. The Queen.149In1990,thetaxpayeractedasguarantorforadebtowedbyherhusband’sconstructioncompany(“Société”)andpledgedherhomeascollateral.SociétéhadbeenformedtorenovateandexpandacommercialpropertyontheTrans-CanadaHighway inorder tomeet therequirementsofanexistingtenant.ThetenantwentbankruptandSociétéwasnotgettingpaid.By1996,Sociétéwasindefaultontheloan.Thetaxpayerwascalledonherguarantee,Sociétéwasdissolved,andthehomewassold.Onher1997taxreturn,thetaxpayerclaimedanABILinrespectofherlossontheguarantee.Forherclaimtosucceed,theapplica-tionofsubsection39(12)requiredthatthecorporationwhosedebtwasguaranteedwasanSBC“atanytimeinthe12monthsbeforethetimeanamountfirstbecame
146 2000DTC2631(TCC).
147 Ibid.,atparagraph158.
148 Ibid.,atparagraph154.
149 Proulx-Drouin v. The Queen,2005DTC487(TCC).
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payablebythetaxpayer.”Onthefacts,theTaxCourtdeterminedthattherelevanttimeperiodwasthe12monthsprecedingMarch5,1996(thedatethatthebankfilednoticeof itsclaimagainstProulx-DrouinasSociété’sguarantor).150Proulx-Drouin’s husband testified that in 1995, although Société no longer carried onconstructionactivities (whichhad long since ceased), the companycontinued tocarryonanactivebusiness,providingmanagementservicestotworelatedcorpor-ations owned by him, his wife, and other family members. However, the courtfoundthatthedocumentaryevidencedidnotsubstantiatehisclaim:
Anotherfatalfactorthatindicatesthecessationofactivebusinessistheabsenceofbusinessassets.InYaworowski v. R,152theappellantandhiswifehadoperatedamotelbusinesslocatedonahighway,butbytheyearinquestion(1996),thehigh-wayhadbeenrerouted,thecompanyhadbecomedormant,andtheappellant’sonlyinvestmentconsistedofexpensesheincurredinmaintainingthemotelproperty,inwhichhethenlived.TheTaxCourtfoundthat
[t]he evidence is quite clear that the Appellant’s operation does not constitute thecarryingonofanactivebusiness.Thecorporationhadceasedbusinessbefore1990.Therewerenosalesreportedinthefinancialstatementforthatyear.Therewasnoopeninginventoryandnopurchases.In1992,thetaxpayerhimself,astheprepareroftheincometaxreturnforthecorporation,describeditasinactive.In1995,thecorpor-ationwasdissolved.Theevidenceisquiteclearthatnoneoftheremainingassetswereused inabusiness,but ratherwerebeingusedpersonallyby theAppellantandhisfamily.153
InCraig v. R,154theassetsofthetaxpayer’scorporationhadbeenseizedbyitslandlord.Althoughthetaxpayerhadretainedlawyerstodefeattheseizureandwascontinuingtolookforalternatepremises,theTaxCourtheldthatthiswasnotsuf-ficienttoconstitutecarryingonanactivebusiness:
150 Ibid.,atparagraph30.Foranotherexampleoftheapplicationofthe12-monthruleinsubsection39(12),seeArmstrong v. R,97DTC3263(TCC).
151 Proulx-Drouin,supranote149,atparagraph32.
152 [2000]3CTC2665(TCC).
153 Ibid.,atparagraph4.
154 [2003]2CTC2033(TCC).
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ComparethedecisioninVogel v. The Queen.156VogelclaimedanABILonhis1988taxreturn;however,theministerconsideredthecorporationtobeinactiveonthebasisthatithadnoreportedincomeandnosignificantexpenses.Thetaxpayer’spos-itionwasthatthecorporation,atraderincommodities,was“insuspense,”waitingforthepriceofoiltoincrease.Notwithstandingthetaxpayer’sfilingofa“DeclarationofNon-OperatingStatus”withtheAlbertagovernmentin1986,theTaxCourtagreed:
Furtherontheissueofcessationofbusiness,theministerlostthecaseagainstthe taxpayer inKlein v. The Queen.158Kleinowned100percentofacorporation(“Jasag”),whichowedhimapproximately$1,000andinpartnershipwithwhichheoperatedamotelandcarwash.Whenthepartnershipmetwithfinancialdifficultiesin1995,asecuredcreditorappointedareceiver-manager.Klein’seffortstoeitherremedythedefaultorfindapurchaserwereunsuccessfulandthebusinessmetwithforeclosure.TheministertookthepositionthatJasag’sassetsceasedtobeusedinanactivebusinessuponthereceiver-manager’sappointmentandthatJasagceasedtobeanSBCatthattime,disqualifyingKleinfromanABILclaimfor1996—theyearinwhichtheforeclosuretookeffectandKleinwasdeemedtohavedisposedofhisdebt.TheTaxCourtdisagreedonthefollowingbasis:
InTurner v. The Queen,160theappellant,appearingonhisownbehalf,managedtoconvincetheFederalCourtofAppeal that theTaxCourthaderred inrulingagainsthimontheissueoftheyearinwhichhisbusinesslossarose.TheCourtofAppealfoundthat
161 Ibid.,atparagraph2.NotethattheTurnercaseturnedontheapplicationofsubparagraph50(1)(b)(iii)andnotonthedefinitionof“activebusiness”inrespectofanSBC.Withrespecttoparagraph50(1)(b),seealsoJacques St.-Onge Inc. v. The Queen,2003DTC153(TCC)(windup);Single et al. v. MNR,84DTC1611(TCC)(bankruptcy);Johnson v. The Queen,2005DTC628(TCC)(insolvency);andT. Ryan v. Canada,[1994]2CTC2271(TCC)(insolvency).
162 Webb,supranote6,at26.
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1. Where the Transaction Is in the Nature of Financial Assistance to a Family Member’s Business, What Evidence Will the Courts Accept with Regard to Its Purpose?
Infact,areviewofthecaselawsuggeststhatthedistinctionmaybelessthanclear.It is arguable that any loanorguarantee advanced to a corporationownedby ataxpayer’sspouseorchildisalwaysmotivated,atleastinpart,bythedesiretocometotheiraid;butwhencanthestatutorypurposetestbemetnotwithstandingthepresenceofthatothermotive?Taxpayersarecautionedtobe“doublyvigilant”incircumstanceswheretheyaremorelikelytobe,instead,“benignlynegligent.”164
Letusexaminesomeofthespousalcases.Inthecasesinthiscategory,thetax-payerfailedapproximatelytwiceasoftenasnot.Manyofthetaxpayerswhoadvancefunds,ormakegoodonloanguarantees,forthebenefitofaspouse’sbusiness,claimthat their actionsproducefinancial rewards for themselves as “indirectbenefici-aries,”165eitherbecauseofincreasedfamilyprosperity,166throughtheapplicationoftheattributionrules167orthroughtheoperationofanallegedspousaltrust.168Theseargumentsgenerallyfailunlessthetaxpayercanproducedocumentaryevidenceofaformallegalrelationshipinthenatureofatrust,agency,orsubrogation.Thein-directexpectationofbenefitingasafamilymemberisnotsufficient.169
InO’Blenes v. MNR,wherethetaxpayerguaranteedaloantoacompanybywhichherhusbandwasemployedandofwhichheownedone-thirdoftheshares(othersharesbeingownedbyrelatedpersons),thecourtdismissedherappealonthebasisthat
163 [1997]1CTC2182,at2186(TCC).
164 SeeTaylor v. R,[1996]3CTC2942,at2945(TCC):“Whenan‘investmentstrategy’ispursuedatatimewhenthesituationistingedwith‘non-arm’slength’circumstances,thepartiesmustbedoublyvigilant,andnotbenignlynegligentinunderstanding,recordinganddealingwiththeeventswhichtranspire,toensurethattherecordwillstanduptoexaminationinsupportofanylaterclaimsmadeundertheIncome Tax Act.Iamwellawarethatsuchastandardgoesagainstthenormalfamilialrelationship,butitiscrucialwhenthingsdonotturnoutashopedfor.”
165 See,forexample,Lepp v. R,[2000]2CTC2418(TCC).
166 Forexample,Oliva v. R,[2001]3CTC2670(TCC).
167 Forexample,Elliott v. The Queen,2005DTC149(TCC).
168 Forexample,Gill v. R,[2001]4CTC2019(TCC).
169 InMiller v. R,[2004]3CTC2519,atparagraph8(TCC),“theappellantshoweddefiniteinterestinthesuccessofhisspouse’snewbusiness.Thisinvolvedactsandsupportivebehaviourinrespectofhisspouse’sinitiative.Itinnowayinvolvedabusinessdecisionforthepurposeofdirectlyreceivingincomeordividends.”
ConsideralsoElliott v. The Queen171andBuhler v. R.172InElliott,theappellantwasowed$94,000byherhusband’sconstructioncompany.Shewasnotashareholder.Thefundswereoftwokinds:adirectinterest-freeloanofapproximately$54,000;andindebtednessintheamountof$40,000,whichwasincurredwhentheappellantvoluntarilytookoveranddischargedthecompany’s12percentbankdebtbybor-rowingat5percentagainstthefamilyhome.Althoughbothadvancesadmittedlyweremade“for[theappellant’s]husbandtocontinuetomakea living”173andtoallowthefamilytoearnincome,onlythesecondamountwasallowedowingtoitsobjectivelegalnature.Becausetheappellantpaidoffthebank,she“stoodintheshoesofthebankwhodidadvancethemoneyforthepurposeofearningincome.”174
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InService v. The Queen,theappellant’sinjectionoffundsintohiswife’stwocor-porationswas“notaviablelendingarrangement”andlackeda“legalcontractualrelationship incorporating principal repayment terms and periodic interest pay-ments.”181InBertrand c. La Reine,182theappellantofferedevidenceofconsiderationforfundsadvancedtohiswife’scompanyintheformofanoptionforhimtopur-chaseshares;however,
n theoptionwasneverexercised(andinfactcouldnotbebecauseitrequiredhimtobeanemployee,whichheneverwas);
n nointerestwaschargedorpaid;n anoption,inanyevent,iscapitalnotincome;andn therewasnodocumentaryevidenceoftheoptionor,infact,ofdebtowedby
ThesuccessofthetaxpayerinKlassen v. R184mayseematoddswiththeotherspousalcases.Theappellant, throughabank loanandamortgageonhishome,advancedfundstohiswife’scorporation,believingittobe“agoodbusiness”thatjust“neededalargercashflow.”185ThebankloansofficerassuredKlassenthatthebusinesswassound.Klassentestifiedthatinexchangeforthefunds,hewasprom-isedsalary,shares,anddividendsfromthecorporation;however,hisexpectationswerewithoutreasonablebasisbecause,asitturnedout,thecompanywasnotsound.Despitethelackofanydocumentaryevidenceofacontractualagreementoranyreasonableexpectation toreceivefinancialgainor reward,Klassenwas found tohave“formedtheintentionandhadthepurposeforgainingandproducingincomefromthemakingoftheloan.”186Thecourt’sleaptothisconclusionmaybemoreattributabletothetaxpayer’shavingbeendeceivednotonlybyhiswife,butalsobythebankofficer,uponwhosemisrepresentationsherelied,tohisdetriment.
n Thetaxpayertestifiedthatsheexpected12percentinterest,butshereceivednopaymentsandhadnodocumentation.187
n Thetaxpayertookinsufficientstepstofollowuponherinvestment.188
n Thetaxpayercouldproducenoevidenceofthenoteorofanyconsideration.189
n The taxpayer’s arrangementswithhis sonwerenot commercial innature;therewasno“documentaryevidenceinthewayofschedules,statementsortimetableswhichpurportedtoshowanypossibleincomewhichmightaccrueto theAppellant.”190Hisexpectationof “somereturn”was“nothingmorethanawishorhope.”191
n Eitherthefinancialrecordsofthedebtorcorporationshowednosuchliabil-ity,192ortherewerenorecords.193
n The“lackofprecisetermsordocumentationastopreconditionsorcondi-tionsagreedto,priorto,oratthesigningoftheguarantee”wasfataltothetaxpayer’sclaim.194
n Aninterest-freeloanwithnorepaymenttermswas“onlyanexpectation,notasoundbusinessarrangementcapableofqualifyingtheloan,asrequiredbythestatute.”195
n Thetaxpayerhadawrittenpromissorynotethatboreinterest,andshehadobtainedlegaladvice;however,thenoterepresentedonlyreimbursementofheroutlayswithnogain.196
Thedecisionsinthreeparent-childcases—Corriveau v. The Queen,197McKissock,198andStrecker v. The Queen199—provideaninterestingcontrast.Inallthreecases,thefather(thetaxpayer)playedanactiveroleinhisson’sbusiness.Inthefirsttwo,thetax-payer’sABILclaimsurvivedthechallenge;inthethird,itdidnot.InCorriveau,thefatherinitiatedtheideaforthebusinessandhadsignificantinvolvementinitsaffairs.Hisloantothebusinessappearedonthefinancialstatements,andcorporatedocu-mentsevidencedinterestpayabletohimat12percent.Althoughacknowledgingthat
187 Blanco Estate v. The Queen,98DTC1678(TCC).
188 Ibid.,andThomassin c. R,[2003]4CTC2685(TCC).
189 Shkolny v. R,[1996]3CTC2532(TCC).
190 Curtis v. The Queen,2004DTC2445,atparagraph65(TCC).
191 Ibid.,atparagraph61.
192 Rondeau v. The Queen,2004DTC3026(TCC).
193 Taylor,supranote164;Shkolny,supranote189.
194 Nadalin v. MNR,91DTC1451,at1453(TCC).
195 Botkin v. MNR,89DTC398,at400(TCC).
196 Casselman v. MNR,83DTC522(TCC).
197 99DTC344.
198 Supranote163.
199 95DTC3(TCC).
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InStrecker, the father contributed tohis son’sbusiness in anumberofways:heservedasadirector,hadsigningauthorityatthebank,suppliedthetelephone,tools,andtruck,andworkedtherepart-time.UnlikeMcKissock,however,hereceivednoremuneration.Thecourtfoundthatthepresenceof“someevidence...thatper-haps[he]...mightreceivesharesinthefuture”wastoo“vague”aplantoconstituteconsiderationforthefundsadvanced.204
2. Can the Taxpayer Establish Sufficient Nexus Between Himself or Herself and the Income?
ThemainfocusinthesecondgroupofcasesonABILclaimschallengedundersub-paragraph40(2)(g)(ii)tendstobeontheapplicationoftheprincipleestablishedinThe Queen v. Byram205—thatis,theexistenceofthenecessarylinkage,or“nexus,”betweentheincomeandthetaxpayer.Thatprinciplewasconsidered,forexample,inToews v. The Queen,wherethetaxpayerhadloanedmoneyinterest-freetoacorporationheldbyafamilytrustandthecorporationhadthenloanedthefundsinterest-freetoastartupboat-buildingbusiness:
CertainlytheAppellantdidnotstandtoearninterestontheloan;however,hereliesontheprincipleestablishedbythedecisionoftheFederalCourtofAppealinByram v. The Queen.Inthatcase,thetaxpayerhadmadeloanstoanoperatingcompanyinwhichheowned shares, both directly and also indirectly through another company whosesharesheownedandwhichownedsharesoftheoperatingcompany.Theloanswereallmadeonaninterest-freebasis.Whentheoperatingcompanyfailedandwasunabletorepayanyoftheloans,heclaimedanABILbaseduponboththedirectandthein-directloans.HesuccessfullyarguedbeforetheFederalCourtofAppealthatbothsetsofloanssatisfiedtherequirementofsubparagraph40(2)(g)(ii)oftheActthattheybemadeforthepurposeofgainingorproducingincome.ThatCourtheldthatcom-mercialrealityrequiredittorecognizethatthetaxpayercouldanticipatethatifthebusinessof theoperatingcompanyweresuccessfulhecouldexpect toreceivedivi-dendsasaresult,notjustfromthesharesthatheownedintheoperatingcompany,butalsofromthesharesoftheholdingcompany.Allthatwasrequiredtoqualifytheloansashavingbeenmadeforthepurposeofgainingorproducingincomewassomelinkagebetweentheincomeandthetaxpayer.206
A review of the ABIL cases should divulge which “particular circumstances” willworkinthetaxpayer’sfavour.(InToews,aswewillsee,theydidnot.)Overall,thetaxpayerseemstobesuccessfulinaboutone-halfofthesecases.Wehaveroughlydividedthe“nexus”casesintothreesubgroupsbasedonthecourt’sreasonsforallow-ingordenyingthetaxpayer’sclaim:fainthope;originalpurpose;andexpectationversusright.
Faint HopeInDaniels v. The Queen,208theappellant,Daniels,andhisbrotherPhilliphadbor-rowed$8million“ona jointandseveralbasis” fromthebankand invested it in12percentdebenturesofamortgagebusiness(“Shoppers”),andthenpledgedthedebentures as security to the bank. When Shoppers went into receivership fouryears later, thebankcalled for repaymentof the remaining$5.25millionowed.Danielspaidthefullamountand,inanattempttorecoverhisbrother’sportion,tookanassignmentofPhillip’s then-worthlessdebenture.WhenthetaxassessordeniedDaniels’sclaimfora$4millionbusinessinvestmentloss,heappealedontwogrounds.TheTaxCourtrespondedtohisfirstargumentasfollows:
206 2005DTC1359,atparagraph6(TCC).
207 Supranote205,atparagraph23.
208 2007DTC883(TCC).
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TheAppellant’sprincipalargumentisthatImustaccepttheuncontradictedtestimonyoftheAppellantthathehadinmindthattheownershipofPhillip’sDebenturemight one day have value.Thatthatmayonlyhavebeenafaint hope...cannotdissuademeofacceptinghisincomeproducingpurpose.209
In counter-argument, the Crown characterized the appellant’s assertions as toounrealisticandself-interestedtobecredible:
TheRespondentchallengestheAppellant’stestimonythathethoughtPhillip’sDe-benturemighthavevalueoneday andargues that releasinghisbrother fromhisindebtednessandacquiringanadmittedlyworthlessDebentureisnotconsistentwithareasonableobjectiveconclusionthattheDebenturewasacquiredforthepurposeofgainingorproducingincome.210
RecallingthatthepurposeoftheABIListoencourageinvestmentinsmallCanadianbusinesses,itislittlewondertomethataCourtwouldacceptafainthopeassufficienttomeettherequisitepurposetest.Whenafamilybusinessexperiencesfinancialdif-ficulty,theobjectiverationalityofrescuemotivesmightalwaysbequestionablewithhindsight.Considerable tolerance seemsessential. InmyviewRich stands for suchprinciple.213
WhereasthecourtinDanielsreliedonthestatutorypurpose,the2003decisioninTaylor v. Rdescribedthetaxpayer’sinvestmentbehaviourasbeingconsistentnotonlywiththetextandpurposeofsubparagraph40(2)(g)(ii),butalsowith“currentcorporatereality.”214MostofTaylor’sclaimarosefromabankloanformoniesad-vanced to a corporation for the purpose of keeping it afloat. Repayment of theprincipalandtheobligationtopayinterestwerecontingentuponthecorporationbecomingprofitable;itneverdid.Fundsadvancedinthefallof1998wereclaimedasanABILfor1999.Thecourtobserved:
The1992decisioninSteckel v. Rprovidesanotherexampleofthecourt’sreluctancetosecond-guessthetaxpayer’sactionseventhough,inthatcase,“[thetaxpayer’s]wholeinvolvementin[thecorporation]...wasadisasterfromthedayheacquired[it].”216EvenwhenSteckelpurchasedtheshares,thecompanydidnothavetheassetshethoughtithad,anditwasaconstantcashdrainfromthattimeuntilitsinsol-vency.AlthoughitcouldeasilybearguedthatSteckellackedeventhefaintestofhope,thecourtallowedanABIL,givingthe“purpose”issuelittleweight.
ThereisnoquestionthattheAppellantacquired[thecorporation]—andapersondoesnotnormallyacquireacompanyinordertoseeitfail—andinjectedhisowncapitalinto it and tried to nurse it into a healthy state so it would continue to carry onbusiness....
Threeyearslater,inMorrison v. The Queen,218thetaxpayerclaimedanABILbasedonadvancesmadetoaninactivecompanythathehadpreviouslyoperatedasafamilyinsuranceagency.(Hewas,however,continuingtocarryon,withhiswife,aninsur-anceagencybusinessunderanewentitytowhichtheassetsoftheearlierbusinesshadbeentransferred.)Asconsiderationforthefundsadvanced,Morrisonhadre-ceivedanassignmentofthecompany’saccountsreceivable—itsonlyremainingasset.Fortwoyears,hemadenoattempttocollectonthereceivablesandthentookanABILassoonashedeterminedthat“theywereofnovaluewhatsoever.”219Hisappealwasdismissed:noteventhefaintestofhopeexistedfortheearningofincome.
InBender v. R,220 the taxpayers lostmoneythat theyhadpaid tosatisfy theirobligationasdirectorstoremitgoodsandservicestaxandwithholdingowedonemployees’wagesafterthecorporationbecameinsolvent.TheirABILclaimsweredenied.221
215 Ibid.,atparagraph17.
216 92DTC1904,at1905(TCC).
217 Ibid.,at1907and1908.
218 95DTC269(TCC).
219 Ibid.,at272.
220 [2002]4CTC2523(TCC).
221 SeealsothedecisioninGilbert v. The Queen,2009TCC102.Theappellants,ahusbandandwife,weresoleshareholdersofasoftwoodlumbercompanythatwentbankruptasaresultoftherecentUStradeembargo.Theappellantspersonallypaidthecompany’screditorsbeforefilingforbankruptcy.TheirABILclaimfailedbecausethey“freelyelected...topaycreditors
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Original PurposeInrespectofthecasesdiscussedabove,isitaquestionoffindingthepointwherefainthope(foundtobepresentinDaniels,forexample)dissolvesintonohope(asinMorrison, for example), orof interpreting legislativepurpose and/or the currentcommercialreality;oristhereanothertestatwork?
TheAppellant’salternativeargumentisthatthetimetoconsiderthepurposeofac-quiringPhillip’sDebentureisnotthetimeofacquisitionoftheworthlesssubrogateddebt,butratherthetimetoconsiderpurposeshouldbedeterminedbylookingtotheeventthateventuallygaverisetotheacquisition.ItistheAppellant’spositionthathisseizureofPhillip’sDebentureisadirectresultofthe income earning purpose that motiv-ated him to effectively guarantee Phillip’s debt and invest in Shoppers Trust Co originally.222
This“morecommerciallyrealisticinterpretation”ofsubparagraph40(2)(g)(ii)wasaffirmedbyBowmanJinThe Cadillac Fairview Corporation Limited v. The Queen223andappliedagainbyhim,tothetaxpayer’sdisadvantage,inPoirier v. The Queen.224Poirierwascompelledtopersonallypayoutstandingremittancesforprovincialsalestaxandworker’scompensationowedbyhisrestaurantcompanyafteritceasedoperations.BowmanJheld:
Inmanycasesifaguarantorisobligedtomakegoodunderaguaranteeitisbecausethe principal debtor is unable to pay the obligation. From this, it follows that theguarantor’srightofsubrogationagainsttheprincipaldebtoris,atthetimeofacquisi-tion,likelytobe,inmanyinstances,worthlessorvirtuallyworthless.Anarrowand
223 97DTC405,at407(TCC).SeealsoBrown v. The Queen,96DTC6091(FCTD)(pre-Cadillac Fairview),wherethetaxpayersucceededonthesameprincipleeventhoughhecontinuedtomakepaymentsonthedebtoftherealestateholdingcompanyforfiveyearsafterthebankruptcyoftheoperatingcompany.“Asashareholderoftherealestatecompany,theplaintiffwasdirectlylinkedtoitsincomeproducingpotential.Underthesecircumstances,thereexistsaclearnexusbetweenthetaxpayerandthepotentialfutureincometobeearnedfromtheacquireddebt”(at6094).
224 2000DTC2463(TCC).SeealsothestraightforwardstatementofMcArthurJinGordon v. The Queen,96DTC1554,at1558(TCC):“CommonsenseandcommercialrealityleadstotheobviousconclusionthattheappropriatetimetoconsiderwhethertheAppellanthadanincomeearningpurposewasatthetimethattheguaranteewasgiven,andnotatthetimetheguaranteeddebtwasinfactpaid.”Onthatbasis,Gordonwassuccessful,aswasthetaxpayerinFernandez v. MNR,91DTC182(TCC),whohadpledgedpropertyassecuritywhenthecorporationwasactiveandwasforcedtosellitwhen“therewasnobusinessleft”(at183).
substantiating an abil deduction n 269
mechanicalreadingofsubparagraph40(2)(g)(ii)wouldleadonetoconcludethatonthepaymentof theguaranteedamounttheguarantor’sacquisitionof theworthlesssubrogateddebtcouldnotpossiblyhaveasitspurposethegainingorproducingofincomefromabusinessorproperty.Suchaninterpretationinmyviewlackscommer-cialsense.Afunctionalandmorecommerciallyrealisticinterpretationwouldsubsumeinthepurposeoftheacquisitionofthesubrogateddebtthe purpose for which the guar-antee was originally given.225
Expectation Versus RightInfindingtheappropriatenexusbetweentheincomeandthetaxpayer—thatis,howremoteistooremote?—thecasesoftendistinguishbetweenthetaxpayer’srighttoreceive incomeasopposed to themereexpectation.According toByram, “[i]t isequallyclearthattheanticipationofdividendincomecannotbetooremote.”226
InAlessandro v. The Queen,227theappellanthaddejurecontrolofthecorporation.Althoughherhusbandhaddefactocontrol,theincome-earningpurposerequirementwassatisfiedbyherlegalrighttocausethecorporationtopaydividends.RelyingonRich(earningincomewasoneofthepurposesoftheloan,althoughnotnecessarilytheprimarypurpose)andByram(thetaxpayermaydeductthelossifabletodem-onstrateasufficientnexusbetweenhimselforherselfandthedividendincome),theTaxCourtconcluded:
[F]rom1993on,whentheloansbegantobemade,Mrs.Alessandrowastheshare-holder who controlled, directly and indirectly, all three corporations. Even if herhusbanddirectedherhowtoact,itwasMrs.Alessandrowhohadtherighttoelectthedirectorsofall threecorporations.At theendof theday, shecouldcauseOPHLtodeclareandpaydividendstoAHL,ifAHLcontrolledOPHL,orABC,ifABCcontrolledOPHL.Inturn,shecouldcauseAHLorABCtopaydividendstoherself.WhilethereisadegreeofremotenessbetweenMrs.AlessandroandOPHLthereisaclearnexusbe-tweenheranddividendincome.228
BothBurns et al. v. The Queen229andJoncas v. The Queen230illustratethatthe“in-come”referredtoinByramneednotnecessarilybedividends.InJoncas,thetaxpayerloanedmoneytoacooperative;inexchangehebenefitedfromreducedcosts.WhentheCrownarguedthat“therelationshipbetweenloansandincomemustbemoreimmediate,”231theTaxCourtdisagreed:
IntheearlierBurnscase,thegainaccruingtotheindividualtaxpayersfromtheirloanstotheirbrother’sfarmimplementcompany(“WFC”)wasabenefitexpectedtoaccrue to their business operations (“BFL”) as opposed to them personally. TheCrownarguedthatthebenefitwastooremotetosatisfythesubparagraph40(2)(g)(ii)requirement.Here,too,theTaxCourtdisagreed:
InMarquis v. R,235thetaxpayerhadguaranteedapersonalbankloanforafriendwhohadusedtheborrowedfundstobuyshares.TheTaxCourtdeniedthetax-payer’sclaimofalossonthebasisthat
InVincelli v. The Queen,237thetaxpayer,Vincelli,wasoneoftwoshareholdersin a corporation (“Fur”). The other shareholder, Mercille, was dating a widow,Mrs.Langis,whowas interested inhiding assets from the estateofher late ex-husband (becauseof a risk thathiswillmightbecontested).MercillepersuadedLangistolendhim,throughhercorporation,thesumof$220,000,whichhethenloanedtoFur.WhenLangisaccusedbothVincelliandMercilleofdefraudingherofthemoney,Vincellirepaid$175,000,whichsheacceptedinfullsatisfactionofthedebt.Hethenclaimedtobeentitledbysubrogationtoclaimthe$175,000fromMercille.Absentevidenceofanyliendedroit,theTaxCourtfoundthatVincelli’smoral obligation to repay a loan for which he had no legal obligation was notenoughtosupporthisclaim.
InEllis v. MNR,thetaxpayerhadguaranteedaloantoacorporation,20percentofwhichwasownedbyacorporationthathecontrolled(theother80percentbeingownedbyindependentinvestors).TheTaxCourtfoundthatthetaxpayer’s“pros-pectofreceivingdividendswasonly a possibility of benefit.”238
Inmyview,thiscasedoesnotcomewithintheByramprinciple.ThetermsoftheTrustaresuchthathoweverprofitabletheoperatingcompanymightbe,theincomemayneveraccruetothebenefitoftheAppellant.Heisonlyoneoffourtrustees,andonlyoneoffourbeneficiariesoftheTrust.Itwasopentothetrusteestopayanypartor all of the incomeof theTrust to anybeneficiary, to the exclusionof all others.There isanexusbetweenanyprofitsofApolloandtheTrust,butthatnexusstopsshortoftheAppellant....[T]he Appellant may have had some expectation of receiving some of the profits of the company, had there been any, but he certainly had no right to them.239
236 Ibid.,atparagraph20.
237 98DTC1235(TCC).
238 88DTC1070,at1074(TCC)(emphasisinoriginal).
239 Supranote206,atparagraphs6-7(emphasisadded).
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Althoughtheissueofincomeversuscapitaliswellbeyondthescopeofourarticle,thefollowingpassagefromthedecisionoftheFederalCourtofAppealinEaston et al. v. The Queen et al.summarizesthecourts’approach:
Consider,forexample,Gasser v. MNR247andLeger v. The Queen.248InGasser,theappealfailed;inLeger,itwasallowed.InGasser,thecourtexpresseditsfrustrationatbeing“askedtochooseanamountfromamenuofamounts.”249Gasser’scredibil-itywasnotenoughtocarryhiscaseintheabsenceofanythingtosupportit:
Infivecases,thetaxpayer’sABILclaimwassuccessfullychallengedonthebasisthattheelectionundersubsection50(1)hadnotbeenproperlyfiled.Forexample, inArnold v. The Queen,counselforthetaxpayerarguedthatthefilingofanoticeofobjectionshouldbeconstruedbytheministerasequivalenttothefilingofanelec-tion,butthecourtdisagreed.253