Plante v. The Queen, 83 DTC 5378, [1983] CTC 341 (FCTD)

Walsh, J:—By previous order an action No T-5713-80 Hubert Plante v Her Majesty The Queen was heard immediately following the present action, the facts being substantially the same. The evidence produced in the present proceedings will be applied to the action brought by Hubert Plante to the extent that it is applicable. At the commencement of the hearing counsel representing both plaintiffs stated that Hubert Plante would not be present for reasons he could not explain, hence in his action there will be no evidence from him to substantiate his claim save to the extent of the evidence produced in the present action. The issues in both cases depend on the interpretation to be given to paragraph 18(1 )(a) and (b) and especially to section 31 of the Income Tax Act as applied to the 1976 and 1977 taxation years. These articles read as follows:

18. (1) In computing the income of a taxpayer from a business or property no deduction shall be made in respect of

(a) an outlay or expense except to the extent that it was made or incurred by the taxpayer for the purpose of gaining or producing income from the business or property;

(b) an outlay, loss or replacement of capital, a payment on account of capital or an allowance in respect of depreciation, obsolescence or depletion except as expressly permitted by this Part.

31. (1) Where a taxpayer’s chief source of income for a taxation year is neither farming nor a combination of farming nor a combination of farming and some other source of income, for the purposes of sections 3 and 111 his loss, if any, for the year from all farming businesses carried on by him shall be deemed to be the aggregate of

(a) the lesser of

(i) the amount by which the aggregate of his losses for the year, determined without reference to this section and before making any deductions in respect of expenditures described in section 37, from all farming businesses carried on by him exceeds the aggregate of his incomes for the year, so determined from all such businesses, and

(ii) $2,500 plus the lesser of

(A) /2 of the amount by which the amount determined under subparagraph (i) exceeds $2,500 and

(B) $2,500, and

(b) the amount, if any, by which

(i) the amount that would be determined under subparagraph (a)(i) if it were read as though the words “and before making any deductions in respect of expenditures described in section 37” were deleted,

exceeds

(ii) the amount determined under subparagraph (a)(i);

and for the purposes of this Act the amount, if any, by which the amount determined under subparagraph (a)(i) exceeds the amount determined under subparagraph (a)(ii) is the taxpayer’s “restricted farm loss” for the year.

(2) For the purpose of this section, the Minister may determine that a taxpayer’s chief source of income for a taxation year is neither farming nor a combination of farming and some other source of income.

There is little dispute as to the facts, the issue arising out of the interpretation being given to them in the light of these articles. Reynald Plante entered into a loose form of partnership with his brother Hubert Plante, the partnership not being registered. They bought a farm of 157 acres without buildings between St Albert and Embrun in the Province of Ontario, with Reynald Plante putting up most of the money. The intent was to breed and train race horses, Hubert Plante having some knowledge of harness racing in which he had been engaged for some three to four years. A stable was built on the property to accommodate seven horses at a cost of some $20,000 in 1975 and in 1976 a residence was built for plaintiff Reynald Plante at a cost of some $50,000 as well as a coach house and a training track occupying some 35 acres, most of the construction work having been done by the brothers. Horses, sulkies and other necessary equipment for the maintenance and training of race horses and a trailer for the transportation of them and the rigs were purchased for the operation of the farm. Some 30 acres were set aside for pasture for the horses and for growing hay. After depreciation the farm losses were $22,376.12 in 1976 and $24,844.99 in 1977. Each of the brothers deducted one half of these losses from his other income.

In the case of Reynald Plante who was also a chartered accountant he claimed automobile expenses in the amount of $7,238.80 for 1976 and $5,880.38 for 1977 as having been incurred in connection with the exercise of his profession. The Minister, applying section 31 of the Act, limited the farm losses of each brother to $5,000, and in the case of Reynald reduced his claim for automobile expenses by $3,001.45 for 1976 and $2,315.02 for 1977. Appeals to the Tax Review Board were dismissed in both cases.

In assessing the two brothers the Minister takes the position that Reynald Plante was working as an accountant during the years in question and used his car partially for work and partially for personal use, while Hubert Plante was in the employ of the Minister of Agriculture Ontario during the years in question. While admitting that the brothers exploited the farm together in partnership the Minister contends that the principal revenue of each partner came from another source during the years in question. Hubert Plante trained race horses before the commencement of the partnership and the losses of the partnership increased from year to year, the purses which the partnership obtained from racing the horses being insufficient to result in a reasonable profit for the partnership. Moreover an air landing field was built on a part of the farm. The Minister further alleges that the capital invested in the equipment of the farm was marginal in comparison with the capital used for the purchase of the land and the construction of Reynald Plante’s residence. Neither brother had any experience in farming and according to the Minister both devoted the majority of their time to their other work. The Minister concluded that for the years in question he presumes that plaintiff’s revenue did not come either principally from agriculture nor from a combination of agriculture and another source, hence the application of the $5,000 maximum loss provision of section 31 of the Act in each case.

There is no reason to doubt the sincerity of plaintiff Reynald Plante nor his ambitious intentions of eventually withdrawing from the accounting profession and devoting his full time to the race horse business. He was realistic enough to appreciate that in the initial years the expenses would greatly exceed the income and as he has a family to support he continued to carry on his accounting profession at the same time by working very long hours. He felt that it would be five years before the farming enterprise became profitable, and produced a chart showing that for the first four years ending April 30, 1976 to 1979 respectively the total revenue only increased very gradually from $10,380 to $14,164 even before claims for depreciation of over $11,000 in each year and payments of $5,000 per annum due on loans. The inventory of horses during this period, and in fact until the year ending April 30, 1981, only varied from three to five horses, approximately the same number of horses being purchased each year.

In the year ending April 30, 1980, gross revenue increased dramatically to $47,910 but net revenue before depreciation was only $646. In the following year gross revenue dropped again to $20,231 but net revenue increased to $41,052. He explained that the accounting methods required by the Act do not permit the capitalization of amounts paid for the purchase of race horses. The full purchase price becomes an expense item the year in which the purchase is made, and conversely full proceeds of sale of a horse are taken into income in the year in which it is sold. This can make for wide fluctuations in income of an operation of this sort depending on the dates when horses are bought and sold, as good race horses can be expensive to buy and, especially if they win a number of races, can then be very profitable to sell.

In June 1982 he bought out his brother who is now breeding race horses with someone else and Reynald Plante, although knowing little about horses himself, now has two employees to help him. He has gone in more for buying and selling horses, purchasing better quality animals. He attends auctions in the United States and Canada for this purpose. His farm revenue now comes about equally from the purses won by the horses and from the sale of them. In any event the financial results of the operation have improved dramatically. In the year ending June 30, 1982, (a fourteen months period as that was when he bought out his brother) he had a gross revenue of $100,698, a net revenue of $38,239, by this time had loans of $160,000 to pay off, an inventory of 13 horses on the farm, and had sold 17 during the period. In the year ending June 30, 1983, his gross revenue from farming operations was $183,985, with net revenue of $39,342 and the loans payable had been reduced to $110,000. He anticipates that he has now turned the corner and that the business will be profitable.

He testified that during the 1976 and 1977 years in question in the present appeals he devoted about forty hours a week to the farming operation and about the same time to his accounting practice. His clients are in Hull, Ottawa, Aylmer, St Albert and elsewhere involving extensive driving to visit them. He visits some of them once a month, some less frequently. He is now spending more time on the farming operation than on his accounting, although records of his accounting income for the years ending December 31st in each year from 1976 to 1983 (the latter year being estimated) do not so indicate, as in fact his accounting revenue has risen from $27,245 in 1976 to an estimate of $48,000 in 1983. He testified that, although he now has fewer clients, increased charges which he makes as a result of inflation have maintained his accounting revenue although he devotes less time to this work.

He insisted that he never considered the farm as a hobby, and in fact has put all his savings into it. He only owns one car plus a farm truck. The family seldom get to use the car except to go to church and perhaps once a week to Embrun or St Albert, a distance of some 5 miles, for groceries which he estimates to represent about 3,000 miles a year for personal use as against a total mileage of 36,000 to 40,000 driven. The actual expense figures are not contested by defendant but merely the amount of mileage represented by personal use of the car, and in the absence of any substantiating figures from plaintiff defendant is not bound to accept his estimate. Defendant also admits his expense figures for the farm operation, save for depreciation on his home, but contends that the amount of loss which he can claim is limited to $5,000 by virtue of section 31. He testified that his house would have cost about $80,000 and is now probably worth about $90,000 to $100,000, but Objects to depreciation on it being disallowed in the calculation of the income for the farm. He paid the partnership $300 a month for the use of his house and attributed $1,200 in his return as a business expense against his accounting income as he maintained his office in the basement of the house. He states that he is a pilot and only uses a very small portion of the 156 acres as a landing field. When he bought his brother out he paid him $25,000 for his interest in the farm. He conceded that in 1976 he may not have spent more than 25 hours per week on the farm, 60% to 65% of his time devoted to his accounting practice, but the situation is now reversed with the horses occupying 60% to 65% of his time leaving little time for his accounting.

While both parties referred to a number of cases on this always difficult and controversial issue, including a number of judgments rendered by lower Courts after the Supreme Court case of Moldowan it is that case of William Moldowan v Her Majesty The Queen, [1978] 1 SCR 480, on which principal reliance must be placed in the interpretation of section 31 (at that time section 13 of the Act). In that case Justice Dickson at pages 487-8 summarizes the three classes of farmers envisaged by subsection 31(1) as follows:

In my opinion, the Income Tax Act as a whole envisages three classes of farmers:

(1) a taxpayer, for whom farming may reasonably be expected to provide the bulk of income or the centre of work routine. Such a taxpayer, who looks to farming for his livelihood, is free of the limitation of s 13(1) in those years in which he sustains a farming loss.

(2) the taxpayer who does not look to farming, or to farming and some subordinate source of income, for his livelihood but carries on farming as a sideline business. Such a taxpayer is entitled to the deduction spelled out in s 13(1) in respect of farming losses.

(3) the taxpayer who does not look to farming, or to farming and some subordinate source of income, for his livelihood and who carries on some farming activities as a hobby. The losses sustained by such a taxpayer on his non-busi- ness farming are not deductible in any amount.

He goes on to state at 88:

The reference in s 13(1) to a taxpayer whose source of income is a combination of farming and some other source of income is a reference to class (1). It contemplates a man whose major preoccupation is farming. But it recognizes that such a man may have other pecuniary interests as well, such as income from investments, or income from a sideline employment or business. The section provides that these subsidiary interests will not place the taxpayer in class (2) and thereby limit the deductibility of any loss which may be suffered to $5,000. While a quantum measurement of farming income is relevant, it is not alone decisive. The test is again both relative and objective, and one may employ the criteria indicative of “chief source” to distinguish whether or not the interest is auxiliary. A man who has farmed all of his life does not become disentitled to class (1) classification simply because he comes into an inheritance. On the other hand, a man who changes occupational direction and commits his energies and capital to farming as a main expectation of income is not disentitled to deduct the full impact of Start-up costs.

At 486 he states:

Whether a source of income is a taxpayer’s “chief source” of income is both a relative and objective test. It is decidedly not a pure quantum measurement. A man who has farmed all of his life does not cease to have his chief source of income from farming because he unexpectedly wins a lottery. The distinguishing features of “chief source” are the taxpayer’s reasonable expectation of income from his various revenue sources and his ordinary mode of habit of work. These may be tested by considering, inter alia in relation to a source of income, the time spent, the capital committed, the profitability both actual and potential. A change in the taxpayer’s mode and habit of work or reasonable expectations may signify a change in the chief source, but that is a question of fact in the circumstances.

In the present case defendant does not raise the issue that there was no reasonable expectation of profit and admits that the operation of the farm was a valid agricultural enterprise and not a mere hobby. However it is contended that in the years at issue of 1976 and 1977 plaintiff could not look to farming for his livelihood and in fact admits that he was forced to keep up his accounting practice to provide for his family and the capital for the start up costs of the farming business. In fact he has not yet been able to abandon his accounting practice altogether although he undoubtedly intends to do so, and in the years in question he continued to devote more time to it than to farming enterprise.

In commenting on the Moldowan case in a publication entitled Taxation of Farmers and Fishermen published by Richard De Boo Publishers in 1980, D K McNair, states at 135:

This decision has cleared up a number of uncertainties as to the application of this section of the Income Tax Act. It can now be regarded as settled that farming can be a source of income in a year, even though it is carried on at a loss in that year, provided that there is a reasonable expectation of profit. Also, it has been established that the test for a taxpayer’s chief source of income will be based on his way of life rather than on the amount of income earned from farming which, while relevant, will not be determinative.

Justice Dickson did however at 487 state:

It is clear that “combination” in s 13 cannot mean simple additon of two sources of income for any taxpayer. That would lead to the result that a taxpayer could combine his farming loss with his most important other source of income, thereby constituting his chief source. I do not think s 13(1) can be propërly so construed. Such a construction would mean that the limitation of the section would never apply and, in every case, the taxpayer could deduct the full amount of farming losses.

thereby rejecting the notion that the chief source of income could be determined by the simple process of addition of farming income and that from another source.

The Income Tax Department itself in its Interpretation Bulletin of October 25, 1978 [IT-322R] closely follows this finding. Dealing with the first class it concludes under 1(a)

(a) a taxpayer whose chief source of income is farming or a combination of farming and some other source of income. Such a taxpayer’s farming operations may reasonably be expected to provide the bulk of income or the centre of work routine and are the taxpayer’s major preoccupation. Such a farmer may deduct the full amount of the farming loss from other income in the year of the loss. The phrase “a combination of farming and some other source of income” means that while the chief source of income is farming there are also subordinate sources of income such as employment, business or property that may be unrelated to the farming operations.

On the second page of the Bulletin under No 3 dealing with Source of Income it states:

3. For a source of income to be a taxpayer’s chief source of income in a particular taxation year it is not necessary that the income produced from it be greater in that year than the income from all of the taxpayer’s other sources of income nor, in fact, from any of the taxpayer’s other sources of income. Section 31 envisages that a taxpayer may have a farming loss without prejudicing the status of farming as a chief source of income in the taxation year in which the loss occurs. Accordingly, the test of simply comparing net income from each source as the test for determining the chief source of income in a taxation year is not valid. Gross income, net income, capital investment, cash flow, personal involvement and all other factors may be relevant considerations. Due weight must be given to the taxpayer’s plans for development of the operation and his activities in implementing the plans. The Department takes the view that where a farming business was a chief source of income in previous years and is being carried on in the same manner in a loss year, that the limitations of section 31 will not necessarily apply and the farming business will normally form part of a contribution of sources of income that constitute the chief source of income in the loss year.

In the present case of course there was no chief source of income from farming for plaintiff in the years preceding 1976 and 1977. In dealing with farming business under No 4 it states among the criteria to be considered

(b) time spent on the farming operation in comparison to that spent in employment or other income-earning capacity. If the taxpayer spends most of his or her time during the crop season attending to the farm, there is a strong presumption that he or she is carrying on a farming business. This is particularly so where the taxpayer has farming background or experience;

(c) the development of the farming operation and commitments for future expansion according to the taxpayer’s available resources. This test is based on the capital investment of the taxpayer in the operation over a number of years and on the acquisitions of buildings, machinery, equipment and inventory by the taxpayer.

While plaintiff Reynald Plante clearly comes within (c), (b) is not applicable during the years in question.

Another clear commentary on the Moldowan case is made by 'R St-Onge, QC in the Tax Review Board case of Harold Stanton Hadley v MNR, [1981] CTC 2060; 81 DTC 66, and I fully agree with his comments at 207 [74]:

There is no doubt that the Moldowan Supreme Court decision applies in the case at bar and not the numerous other cases referred to by counsel for the appellant for these two reasons:

(1) the main principles enunciated in the Moldowan decision find their application in the case at bar;

(2) all the other cases referred to the Board by the appellant are lower court decisions and pre-Moldowan.

According to the relevant sections of the Act, the limitative section does not apply to the full-time farmer or the farmer who has investment income or sideline occupations, but in spite of these other sources of income, remains a farmer with a reasonable expectation of profit.

On the contrary, the limitative section applies to the businessman, the doctor, the lawyer, whatever their investments and activities, provided they carry on their farming operation with a reasonable expectation of profit and remain practising businessmen, doctors, lawyers, or other professions or occupations. However, if they do not have a reasonable expectation of profit, they are not allowed to claim losses under the said limiting section (hobby farm).

In conclusion I find that although plaintiff might now be classified in the first category and possibly might well have been since 1982 when he dissolved the partnership with his brother Hubert Plante and made substantial changes in the direction and nature of the enterprise, devoting more time to it and investing substantial additional sums to purchase, breed and sell horses, rather than confine his activities to the racing of horses with which enterprise his brother had much more familiarity than he had, he cannot be considered in the 1976 and 1977 tax years as being classified other than in the second category with his farming losses limited to $5,000.

With respect to Hubert Plante the situation is even clearer. No evidence was given as to the amount of time he devoted to the horse racing activity of the partnership and although he was made a partner, presumably because of his knowledge and experience in this field which Reynald Plante lacked, although he put comparatively little money into it. He had full time employment at least until 1980 or 1981 according to the evidence of Reynald Plante and was working for the Minister of Agriculture of Ontario, so it appears unlikely, in the absence of any evidence to the contrary, that he could devote any substantial amount of his time to the horse racing operations of the partnership.

One other issue remains, namely the disallowed car expenses of Reynald Plante. The Minister in his reassessment which is under appeal reduced the portion of allowable expenses of the automobile from 40% to 30%. In order for plaintiff to establish a very small percentage of use made by him for personal reasons as against business use he should have kept some sort of mileage log; instead in evidence he merely referred in general to the long distance from his farm to where most of his clients are located. He gave no figures as to these distances and was vague as to the number of calls he made on each of them. However I am satisfied that the majority of mileage used was for business purposes, even though it appears likely the personal use by the family was greater than he claimed. Under the circumstances I would fix 20% as a reasonable amount to attribute to personal use and refer this portion of his appeal back to the Minister for reassessment in accordance with this finding. Save for this the appeal will be dismissed. As this success by plaintiff is a very minor one dismissal will be with costs.