Greiner v. The Queen, 84 DTC 6073, [1984] CTC 92 (FCA)

Stone, J:—This action, together with the action in Court No A-758-81 were tried together on common evidence before Addy, J at Toronto on September 10, and 11, 1981 and were argued together on appeal. They each concern attacks upon separate assessments made under the Income Tax Act whereby the appellant herein and in the other action was required to pay income tax on certain amounts received in the year 1977. On November 9, 1981, Addy, J rendered separate judgments dismissing each action and gave written reasons for so doing. It is from those judgments that this appeal, and the appeal in the other action, is taken. As the appeals were argued together, the reasons for judgment in this appeal will, to the extent applicable, apply also to appeal No A-758-81, and will be placed on the file in Court No A-758-81 as well as on the file in this appeal.

In 1977, the appellant was employed by MEPC Canadian Properties Ltd (“MEPC Canada”) under a written contract dated December 8, 1975 for a fixed period of five years commencing December 31, 1975. The contract provided for the continuance of his employment as president and added responsibilities as chief executive officer. By the terms of the contract remuneration was to be at the rate of $55,000 per year subject to annual review and payable in equal mothly instalments. The contract also provided that Greiner would be reimbursed all travelling and other expenses actually and properly incurred by him in connection with his duties. In the same year, the appellant Stephens, in Court No A-758-81, was also employed by MEPC Canada, holding the position of vice-president—investments.

In 1971 MEPC Canada granted Greiner an irrevocable option to purchase a specified number of common shares of the company at a specified price, and in 1972 Stephens was granted a somewhat similar option. On January 1, 1974 MEPC Canada granted Greiner a further option to purchase additional common shares without par value at an increased price and, on the same date, Stephens was granted a similar option to purchase additional common shares. Both options were open for a period of five years from their respective dates. By written agreements dated April 7, 1975 MEPC Canada granted Greiner and Stephens (each described as “Purchaser”) an irrevocable option to purchase 15,000 and 10,000, respectively, common shares of MEPC Canada at a price of $7.20 per option share. The agreement with Greiner reads, in part, as follows:

3. The Purchaser shall, subject to the terms and conditions hereinafter set out, have the right to exercise the option hereby granted to him up to a maximum aggregate — 3,000 — shares during each of the first five years following the date hereof, provided that if the Purchaser shall fail to exercise his option up to such maximum aggregate in any year he shall have the right to exercise the option, in respect of the shares which he failed to exercise his option as aforesaid, at any time during the period of five years after the date hereof.

4. Provided that notwithstanding anything herein contained in the event of the resignation or discharge of the Purchaser as an employee of the Company or a subsidiary of the Company, the option hereby granted shall forwith, upon the Purchaser ceasing to be employed on a full-time basis by the Company or a subsidiary of the Company, or upon the giving of notice of future termination of employment by either party, cease and terminate and be of no further force or effect whatsoever as to such of the option shares in respect of which such option has not previously been exercised unless otherwise authorized by the President of the Company by instrument in writing.

5. In the event of the death of the Purchaser while in the employment of the Company or a subsidiary of the Company, the option hereby granted may be exercised during the one (1) year period following the date of death (subject to the provisions of paragraph 4 hereof) by the personal representatives of the Purchaser as to such of the option shares in respect of which such option has not, as at the date of death, previously been exercised.

7. In the event of any subdivision, redivision or change of the shares of the Company at any time prior to the expiry date into a greater number of shares, the Company shall deliver at the time of any exercise thereafter of the option hereby granted such additional number of shares as would have resulted from such subdivision, redivision or change if such exercise of the option hereby granted had been prior to the date of such subdivision, redivision or change.

In the event of any consolidation or change of the shares of the Company at any time prior to the expiry date into a lesser number of shares, the number of shares deliverable by the Company on any exercise thereafter of the option hereby granted shall be reduced to such number of shares as would have resulted from such consolidation or change if such exercise of the option hereby granted had been prior to the date of such consolidation or change.

8. The Purchaser hereby acknowledges and agrees that the option to purchase — 13,850 — granted by the Company to the Purchaser under agreement dated January 2, 1974, as a result of a stock option plan established by the Company on November 8, 1973, shall, upon execution of this agreement by the Company and the Purchaser, be null and void and of no effect.

Identical provisions were contained in the agreement with Stephens except that he had the right to purchase up to a maximum of 2,000 shares during each of the first five years. Each agreement also provided that the option agreements dated January 1, 1974 upon execution of the new agreement would be null and void and of no effect.

Control of MEPC Canada rested in the hands of a British corporation, MEPC Ltd of London, England (“MEPC UK”). For some years prior to 1977, MEPC Canada had been engaged in the real estate business in Canada. With the passage of certain federal and provincial legislation respecting foreign investment in Canada and speculation in land, MEPC UK apparenty became somewhat disenchanted with the business climate here and decided to divest itself of the investment in MEPC Canada. Approaches were made by potential purchasers including one by Morguard Properties Ltd (“Morguard”) which managed real estate for several Canadian pension plans. The reason for the Morguard involvement in the management of such real estate was that it enabled the pension plans themselves to continue to enjoy favourable tax treatment under the Income Tax Act which they could not enjoy if they were to carry on an active business. Additionally, a corporation that held funds belonging to pension plans could not enjoy favourable tax treatment under the same statute unless all of its shares were owned by the pension plans.

The continuing existence in 1977 of the 1975 stock options in favour of Greiner and Stephens posed a possible obstacle in the way of the pension plans acquiring all of the issued and outstanding common shars of MEPC Canada. While each of the 1975 stock option agreements contemplated a subdivision, redivision, consolidation or change of its shares, it made no provision for the possibility of MEPC Canada amalgamating with another corporation. In fact, when, in due course, MEPC UK took formal steps to divest itself of its investment in MEPC Canada, the technique selected involved the incorporation by the pension plans of a new company known as Pensionfund Properties Ltd (“PPL”), and the amalgamation of MEPC Canada with that company. The amalgamation agreement, made on August 26, 1977, required the holders of the MEPC Canada common shares to exchange them for second preference shares of PPL having a par value of $13.60 each, and the redemption of those and certain first preference shares immediately following completion of the amalgamation.

On August 4, 1977, MEPC Canada addressed a memorandum to Greiner and Stephens as holders of the April 7, 1975 stock options advising each of them of certain actions that had been taken by the board of directors of that company. The memorandum reads, in part, as follows:

The Board of MEPC, on August 4, 1977, passed a resolution to the effect that if the shareholders of MEPC approve the amalgamation, then you as a holder of some 1975 options will have the right to exercise all or part of the 1975 options or surrender all or part of the 1975 options, such exercise or surrender to take place after the shareholder approval of amalgamation and prior to the time the amalgamation becomes effective. Naturally you retain the right to exercise any options which under the terms of the 1975 agreement you are already entitled to exercise, and the resolution simply allows you to deal now with 100% of your options. The timing on shareholder approval of the amalgmation is expected to be around September 19, 1977, but this date may be changed by a few days.

This memorandum was accompanied by a document which Messrs. Greiner and Stephens were asked to execute and return, the operative part of which reads as follows:

. . . the undersigned hereby agrees that he will either (i) exercise the option to purchase such number of the Optioned Shares as he may desire or (ii) surrender the option to purchase such number of the Optioned Shares as he may desire in consideration of the payment of the difference between the exercise price applicable thereunder and the sum of $13.60 for each Optioned Share, such exercise or surrender, as the case may be, to take place immediately after the shareholders of the Corporation approve the Newco amalgamation and prior to the time at which the Newco amalgamation becomes effective. The undersigned further agrees that any option to purchase the Optioned Shares which is not exercised or surrendered as aforesaid prior to the time at which the Newco amalgamation becomes effective shall be deemed conclusively to have been terminated, cancelled and surrendered up to the Corporation immediately prior to the Newco amalgamation.

Greiner signed this agreement on August 16, 1977 and returned it to the company, while Stephens signed it on August 17 and he, too, returned it to the company. In due course, on September 22, 1977 the shareholders of MEPC Canada voted to approve the amalgamation with PPL. Six days later, on September 28, 1977, Greiner executed an “Election and Release Agreement” in favour of MEPC Canada. By the terms of this document, Greiner

. . . hereby surrenders the option to purchase 15,000 common shares of the Company for a price of $6.40 (representing the difference between $13.60 and $7.20) for an aggregate consideration of $96,000.00.

The following day Stephens entered into a similar agreement in respect of his option to purchase 10,000 common shares of MEPC Canada, for an aggregte consideration of $64,000. Each surrender agreement included a general release of MEPC Canada in respect of claims arising out of the amending agreements of August 16, and 17, 1977. In their 1977 income tax returns, both Greiner and Stephens sought to have the respective sums of $96,000 and $64,000 treated as non-taxable receipts representing damages for breach of the April 7, 1975 stock option agreements. This position was rejected by the Minister.

In the meantime Walter Badun, Chairman of Morguard met with Greiner at Toronto on August 11, 1977. Greiner’s employment contract with MEPC was discussed as was his future with Morguard, the manager of the pension plans, and the parties were able to reach agreement. In due course by letter dated August 19, 1977, Badun confirmed the agreement to Greiner as follows:

I would like to confirm our conversation of August 11, 1977 for your employment with us subject to the competion by ourselves and Pensionfund Properties Limited of the purchase of MEPC Canadian Properties Limited on the following terms and conditions.

1. Your present contract with MEPC Canadian Properties Limited will be cancelled on the day that the first preference shares are called;

2. On this day you will receive a one time payment of $200,000.00;

3. On or before this date, you will pay back in total the oustanding balance on your personal house loan;

4. On this day, your will purchase your personal car at book cost;

5. Your salary and benefit package for a one year term starting on the day that the

first preference shares are called will be on the basis of $75,000 per year;

6. You agree to stay with us a minimum of one year unless we agree otherwise. If we do agree that you leave before the one year is up then the minimum total monthly pay which is part of your annual pay shall add up to $43,750.00;

7. If at the end of the initial 12 month period, we agree that you will continue

employment, we will set a level of remuneration accordingly at that time;

8. If at the end of the 12 month period, you wish to leave, we will not have any

further obligations as far as termination pay other than that noted above.

The job that you will have with us is that of President of Morguard Properties Limited and will carry the additional title of Chief Operating Officer. In the initial instance, this will mean you will be completely responsible for all the operating of all the surviving MEPC Canadian Properties Limited operations as well as gradually integrate into them our present Morguard Properties Limited holdings.

I believe the above outlines in general the discussion that we had. If you wish this expanded into more detail or legalized, please give me a call and we will discuss it.

Greiner testified that he regarded his 1975 employment contract, which in August 1977 had 39 months to run, as having a value of $75,000 per annum on the basis that in addition to the base salary he was entitled to other benefits including directors fees, an automobile and club memberships. By his calculation, therefore, the unexpired term of the contract had a value of $243,750. He testified that he was prepared to accept $200,000 and, further, that the difference of $43,750 was to be included as part of his employment remuneration under the one-year contract with Morguard, his intent being that he would receive at least that amount under the employment contract which also provided for annual remuneration of $75,000. In due course, after completion of the MEPC and PPL amalgamation and the calling of the PPL preference shares on September 30, 1977, Greiner was paid the $200,000 amount mentioned in the letter agreement and he commenced employment with Morguard as president and chief operating officer. He sought in his 1977 income tax return to have this sum treated as capital gain on the basis that it arose out of the disposition of his employment contract wiht MEPC Canada. This position was rejected by the Minister who brought the entire sum into income. In this action, Greiner maintains that the amount is a non-taxable capital receipt or, alternatively, that it is a capital gain only one-half of which is taxable.

Surrender of Stock Option Rights

I turn first to consider whether the amounts of $96,000 and $64,000 received by Greiner and Stephens, respectively, in September, 1977 by virtue of surrender of their 1975 stock option rights are taxable under the Income Tax Act. The respondent contends that they are, and the learned trial judge agreed, holding that they are taxable under paragraph 7( 1 )(b) of the Act. That provision reads:

7. (1) Subject to subsection (1.1), where a corporation has agreed to sell or issue shares of the capital stock of the corporation or of a corporation with which it does not deal at arm’s length to an employee of the corporation or of a corporation with which it does not deal at arm’s length,

(a) . . .

(b) if the employee has transferred or otherwise disposed of rights under the agreement in respect of some or all of the shares to a person with whom he was dealing at arm’s length, a benefit equal to the value of the consideration for the disposition shall be deemed to have been received by the employee by virtue of his employment in the taxation year in which he made the disposition.

The appellants contend that the learned trial judge erred in so holding. They submitted that the amounts in question do not fall to be taxed under paragraph 7(1 )(b) because neither of them had “transferred or otherwise disposed of rights under the agreement” within the meaning of that provision, but rather had received the amounts upon the surrender of their respective stock option rights. They contend that a surrender of rights is not a transfer or disposition of rights within the meaning of paragraph 7(1 )(b).

In support of their contention the appellants relied upon the decision of this Court in The Queen v Hagerman Hue st is, [1975] CTC 560; 75 DTC 5393. There, the taxpayer had acquired an option to purchase shares in the corporation by which he was employed. Subsequently, but while the stock option was still in effect, an offer was received by the corporation for the purchase of its assets. The offer was formally accepted and, shortly therafter, the corporation also resolved that it be wound up. It then entered into a settlement agreement with the taxpayer whereby he would receive certain shares of the purchasing corporation in lieu of the rights he had held under the stock option agreement. The trial judge concluded that the taxpayer had not received a benefit that was taxable under the predecessor of paragraph 7(1 )(b) but rather that he had received damages for breach of the stock option agreement. This Court agreed in the result, holding that the taxpayer could not be said to have “transferred or otherwise disposed of rights under” the stock option agreement within the meaning of those words as they appeared in that provision. That decision was affirmed without reasons by the Supreme Court of Canada.* [1]

In that case it was clear that at the time the settlement was reached, the taxpayer’s stock option rights as such had already passed out of existence and, accordingly, that no rights remained to be transferred or otherwise disposed of “under” the agreement. In the present case, the rights created by the stock option agreements remained very much alive and were in fact the subject to each surrender agreement. That being so, I do not think the decision in Hagerman Huestis is at all determinative of the question before us. After referring to certain dictionary definitions of the verb “dispose” and examining the words “or otherwise disposed of” in the context of paragraph 7(1 )(b), the learned trial judge concluded that the taxpayers had each ’‘disposed” of their respective rights under the stock option agreement by surrendering them in the manner already described.

What is taxable under paragraph 7(l)(b) is the “benefit equal to the value of the consideration for the disposition”. In order to determine whether the amounts received are taxable as benefits under that provision one must look to see whether the amounts were received as a consequence of each taxpayer having “transferred or otherwise disposed of rights under the agreement . . . to a person with whom he was dealing at arm’s length’’. It was not contended that, in surrendering their respective rights, either taxpayer was not dealing at arm’s length with MEPC Canada. That being so, did Parliament by the use of the words “transferred or otherwise disposed of rights under the agreement” intend to render taxable the consideration received by the taxpayer from the option or for the surrender of their respective rights? I can find nothing in the language of paragraph 7(l)(b) to suggest that it was intended to be restricted in its application only to a transfer or other disposition of rights to a person other than the optionor. Moreover, having regard to the context in which the words “otherwise disposed of” appear, I would respectfully agree with the conclusion arrived at by the learned trial judge. Those words appear to me to be sufficiently broad as to include an amount received as consideration for the surrender of rights that are thereby extinguished,* [2] in contrast with an amount received as consideration for rights that are “transferred” and, as such, that remain in existence. I therefore conclude that each of the appellants received the amounts in question as consideration paid by MEPC Canada for the surrender to that corporation of their respective rights under the stock option agreements as a consequence of those rights having been “transferred or otherwise disposed of” by each of them under the agreements within the meaning of paragraph 7(1 )(b).

The respondent put forward alternative submissions for the taxability of the amounts received by each of the appellants upon the surrender of their respective stock option rights, namely, that such amounts are taxable under the provisions of subsection 5(1) and paragraph 6(3)(a) or under paragraph 6(l)(a) of the Act. As I am satisfied that these amounts are taxable under paragraph 7(l)(b) it is unnecessary to consider these alternative submissions.

The appellant in both appeals strenuously argued that MEPC Canada by its actions prior to the amalgamation, particularly as represented by its memorandum of August 4, 1977, had breached its stock option agreements with each of them or, at the very least, that its actions amounted to an anticipatory breach of those agreements. Thus, it was contended that the amounts received by each appellant represented damages and as such were not taxable under paragraph 7(1 )(b) or under any other provision of the Act in that neither appellant had any choice but to execute the amending agreements and to surrender the options. In support, each appellant pointed to clause 4 of his stock option agreement which provided that it was to “cease and terminate and be of no further force or effect whatsoever” in the event of discharge of the purchaser as an employee of MEPC Canada. Each also relied upon the August 4, 1977 memorandum which stated, inter alia, “Unless you either exercise or surrender as indicated above then those options not dealt with will be cancelled and terminated on amalgamation . . . .” The amending agreements were executed on August 16 and 17, 1977, whereas MEPC Canada did not enter into the amalgamation agreement until August 26, 1977. Moreover, the amalgamation could not be completed without the prior approval of the MEPC Canada shareholders whose approval was not given until September 22, 1977. In my view, the circumstances do not disclose that either appellant was under any compulsion to execute the amending agreement or to surrender his option. Their actions in doing so were entirely voluntary. I can find nothing to establish that MEPC Canada had breached its stock option agreement with either of the appellants, or that a breach was even threatened.

Termination of Employment Contract

I turn next to consider whether the amount of $200,000 received by the appellant is taxable under the Act. The learned trial judge though that it was and he held accordingly. It was his view that the amount was taxable under paragraph 6(3)(b) on the basis that it was paid by Morguard. Alternatively, he thought it would be taxable under paragraph 6(3)(a) as a payment made to Greiner by MEPC Canada. Paragraph 6(3)(b) reads in part:

6. (3) An amount received by one person from another

(a) . . .

(b) on account or in lieu of payment of, or in satisfaction of, an obligation arising out of an agreement made by the payer with the payee immediately prior to, during or immediately after a period that the payee was an officer of, or in the employment of, the payer

shall be deemed for the purposes of section 5, to be remuneration for the payee’s services rendered as an officer or during the period of employment, unless it is established that, irrespective of when the agreement, if any, under which the amount was received was made or the form or legal effect thereof, it cannot reasonably be regarded as having been received

(c) as consideration or partial consideration for accepting the office or entering into the contract of employment,

(d) as remuneration or partial remuneration for services as an officer or under the contract of employment, or

(e) in consideration or partial consideration for a covenant with reference to what the officer or employee is, or is not, to do before or after the termination of the employment.

The appellant contends that the $200,000 amount is not taxable under these provisions, but rather that it represented proceeds received for the disposition of his rights under the contract which in August 1977 had 39 months to run. It was contended that the rights disposed of constituted “property” as defined in subsection 248(1) of the Act and accordingly that the disposition gave rise to a capital gain within the meaning of section 39 of the Act. In support of this submission the appellant placed reliance upon the decision of this Court in The Queen v Atkins, [1976] CTC 497; 76 DTC 6258, among other cases. In that case, the taxpayer received an amount from his employer following termination of his employment in circumstances where it was conceded that the dismissal was without notice. The trial judge held that the amount was not taxable under subsection 5(1) of the Act and this Court agreed. Jackett, CJ, speaking for the Court, stated (at 6258-9):

Once it is conceded, as the appellant does, that the respondent was dismissed “without notice”; monies paid to him (pursuant to a subsequent agreement) “in lieu of notice of dismissal” cannot be regarded as “salary”, “wages” or “remuneration” or as a benefit “received or enjoyed by him . . . in respect of, in the course of, or by virtue of the officer or employment”. Monies so paid, (i.e., “in lieu of notice of dismissal”) are paid in respect of the ‘breach’ of the contract of employment and are not paid as a benefit under the contract or in respect of the relationship that existed under the contract before that relationship was wrongfully terminated. The situation is not altered by the fact that such a payment is frequently referred to as so many months’ “salary” in lieu of notice. Damages for breach of contract do not become “salary” because they are measured by reference to the salary that would have been payable if the relationship had not been terminated or because they are colloquially called “salary”. The situation might well be different if an employee was dismissed by a proper notice and paid “salary” for the period of the notice even if the dismissed employee was not required to perform the normal duties of his position during that period.

The learned trial judge would not agree that the principle of that case was applicable. He concluded that the amount was taxable under paragraph 6(3)(b) as a payment arising out of an agreement made by Morguard with Greiner, immediately prior to a period that Greiner became an officer of or in the employment of Morguard. In so concluding the learned trial judge made several important findings that bear directly on this issue. Among these, he found that:

. . . the payment of the $200,000.00 was ultimately and essentially linked with his employment contract with Morguard as its President and Chief Operating Officer.

He also found that ‘‘a very friendly and attractive agreement” had been entered into by Greiner and Morguard “acting on his own behalf and in the interests of MEPC Canada and the new purchasers”. He concluded that, even if the monies were furnished by MEPC Canada, Morguard was still the payer under its employment contract with Greiner. In my view, his findings are amply supported by the evidence and we should not disturb them.

The appellant contended that a binding admission was made by the respondent in the pleadings that the $200,000 amount was paid by MEPC Canada and relies on the pleadings for support. I do not read the respondent’s pleadings as including any such admission. It is true that the amended statement of defence alleged that at the time of his assessment the Minister made certain “assumptions” including that this payment was made by MEPC Canada on direction from PPL to Morguard. That direction, which was entered into evidence by the appellant, is dated September 30, 1977. In virtue of its role in the transaction between MEPC Canada and PPL, Morguard had earned an acquisition fee amounting to some $637,000. By the terms of the direction Morguard was asked to pay Greiner the $200,000 amount “out of the acquisition fee”. Thus in making that payment Morguard did so out of its own pocket. The learned trial judge found on the evidence before him that the payment “was part and parcel of the entire agreement between the plaintiff Greiner and Morguard”. Having regard to the evidence and to the finding of the learned trial judge, I fail to see how the assumption made by the Minister should bind him as an admission when evidence entered by the appellant at trial was to the contrary. In all of the circumstances I would not interfere with the findings made by the learned trial judge upon the evidence taken as a whole and in light of his assessment of the witnesses. On the basis of those findings and for the reasons given by him, I would agree with the learned trial judge that the $200,000 amount is taxable under paragraph 6(3)(b) of the Act.

I would further agree that if, as the learned trial judge concluded in the alternative, the amount was paid by MEPC Canada, it would be taxable under the provisions of paragraph 6(3)(a) of the Act. That provision requires a taxpayer to include in his income as “income from an office or employment”:

(3) An amount received by one person from another

(a) during a period while the payee was an officer of, or in the employment of, the payer, or

(b) . ..

which by that provision is deemed “for the purposes of section 5, to be remuneration for the payee’s services rendered as an officer or during the period of employment”. I agree that the amount cannot properly be regarded as damages, but rather as an amount received by Greiner in 1977 while he was an officer of or in the employment of MEPC Canada under his employment contract of December 8, 1975.

In view of the above, I find it unnecessary to consider an alternative argument put forward by the respondent that the payment would be taxable under the provisions of section 3 of the Act.

I would therefore dismiss this appeal. As this appeal and the appeal in appeal No A-758-81, Anthony K Stephens v The Queen, were argued together, and as the parties have agreed that there should be one set of costs in the circumstances, I would award costs in this appeal but not in appeal No A-758-81.