REASONS
FOR JUDGMENT
Lyons J.
[1]
Thomas Gleig, Joana Barbulescu and Andrew Nick,
the appellants, each appeal the Minister of National Revenue’s reassessments of
the 2002 taxation year in which the Minister of National Revenue (the
“Minister”) disallowed Canadian Resource Expenditures (“CREs”) claimed by each appellant.
The Minister alleges that Blue Hill Bay Management Inc. (“Blue Hill”) was the
promoter of an unregistered tax shelter in connection with the sale to
prospective purchasers of an interest in Mineral Claims (“Claims”) owned by
Blue Hill.
[2]
In 2002, Blue Hill and each of the appellants,
plus other investors, entered into a separate Option Agreement and a separate Consulting
Services Agreement (the “Agreements”). Under the Option Agreements, the
appellants would each acquire a 0.2% interest in the Claims if they paid $2 upon
signing the Agreements, undertook a work program (hiring Blue Hill on their
behalf) to incur and pay CREs by certain dates payable by a Promissory Note
(the “Note(s)”) in an agreed amount referenced in the Option Agreement. Although
not referred to in the Agreements, each appellant paid an out-of-pocket payment
equal to 25% of their respective agreed amount. In filing their respective 2002
income tax returns, each appellant claimed the entire agreed amount as CREs.
[3]
The three appeals were heard on common evidence.
Each appellant testified on their own behalf. Walter Barnscher and Ann Chong, a
Canada Revenue Agency (“CRA”) auditor, testified on behalf of the respondent.
Generally, I accept the more detailed evidence of Mr. Barnscher as preferable and
more reliable than that of the appellants.
I. Issues
[4]
The issues are:
a) Whether the appellants acquired a “tax shelter” as defined in
section 237.1 of the Income Tax Act (the “Act”).
b) Alternatively, whether the transactions between Blue Hill and the
appellants were shams, and if so, whether the appellants made
misrepresentations attributable to neglect, carelessness or wilful default in
their 2002 income tax returns.
II. Background
Facts
[5]
Blue Hill was incorporated in British Columbia on
April 8, 1998. In 2002, it held a beneficial interest in the Claims located in
Anyox and Kitsault, British Columbia, as set out in Schedule “A” of the Option
Agreements.
[6]
Walter Barnscher was the directing mind, sole
employee and acted on behalf of Blue Hill.[1]
[7]
In late 2001 or early 2002, each appellant met individually
on one occasion with Walter Barnscher to discuss the potential purchase of an option
to acquire an interest in the Claims plus the steps in the arrangement,
including the ability to deduct the agreed amount on their 2002 income tax
return.
[8]
The appellants – as well as other investors – were
to enter, and did enter, into the following arrangements with Blue Hill to
obtain an option to acquire an interest in the Claims.
Option Agreement
[9]
Under their respective Option Agreement (the
“Option Agreements”), each appellant was granted and exercised their option to
acquire an interest (0.2%) in the Claims (“Interest”) by:
i)
paying $2 upon execution of the Option
Agreement;
ii)
undertaking a work program and incurring
qualifying CREs in their respective agreed amount on or before December 31,
2002; and
iii)
paying their respective agreed amount to Blue
Hill on or before December 31, 2003.
[10]
The agreed amounts were $40,000, $28,000 and
$32,000 allocable to Thomas Gleig, Joana Barbulescu and Andrew Nick,
respectively, (the “Amount(s)”).
Consulting Services Agreement
[11]
Under their respective Consulting Services Agreement
(the “Consulting Agreement”), each appellant engaged Blue Hill to undertake the
work, as operator and project manager, for the work program. Blue Hill
purchased exploration credits from Tenton Resources and other entities and
contracted out exploration work to a related company, Hidden Rock Drilling Inc.,
and other entities.
[12]
Each of the appellants testified that they assumed
that Blue Hill had undertaken the work program and incurred qualifying CREs.
Promissory Note
[13]
The work performed by Blue Hill would be payable
by each appellant pursuant to a Note, with a promise to pay Blue Hill or on
demand for the respective Amount, specified in the Option Agreement, plus interest,
at the rate of 6% per annum.
[14]
The Agreements and the Notes were effective
January 1, 2002.
Out-of-pocket payment
[15]
Mr. Barnscher testified that to participate in
the arrangement each appellant was expected to make an out-of-pocket payment (i.e.,
deposit) equal to 25% of the Amount and did so by cheque between October to
December 2002. The out-of-pocket payment was not referred to in the Agreements.
Invoice
[16]
An invoice dated December 31, 2002, was provided
by Blue Hill to each appellant relating to the work program. Each invoice shows
the Amount, less the “deposit” received, with a balance due.
[17]
Each appellant claimed their respective entire
Amount as CREs (comprised of Canadian Development Expenses (“CDEs”) and
Canadian Exploration Expenses (“CEEs”)) pursuant to section 66.3 of the Act
in the 2002 taxation year.
[18]
Walter Barnscher admitted that Blue Hill did not
directly perform any CDEs or CEEs and purchased mineral
claim credits from Tenton Resources and consulted with Hidden Rock Drilling
Inc. to fulfil its obligations under the Consulting Agreement. Blue Hill was
not a flow-through entity.
[19]
The reassessments of the appellants arose as a
result of the audit of Blue Hill by the CRA and were issued on March 8,
2009, three years after each of the appellants’ normal reassessment period in
subsections 152(3.1) and 152(4) of the Act.
[20]
Blue Hill did not register the property as a tax
shelter, was assessed a penalty pursuant to subsection 237.1 (7.4) of the Act
and failed to pay the penalty.
[21]
Before incorporating Blue Hill, Mr. Barnscher
had promoted a similar arrangement on behalf of Hidden Rock Drilling Ltd. in
which investors would contract and pay Hidden Rock Drilling Ltd. to either
assign or incur CEEs on their behalf.
III. Legislation
[22]
All statutory references in these reasons are to
the provisions of the Act and for the 2002 taxation year unless
otherwise indicated.
[23]
Subsections 237.1(1), (2), (6.1), (6.2) and
(7.4) are the relevant provisions which state:
237.1 (1) Definitions - In this section,
“promoter” in
respect of a tax shelter means a person who in the course of a business
(a) sells or issues, or promotes the
sale, issuance or acquisition of, the tax shelter,
(b) acts as an agent or adviser in respect
of the sale or issuance, or the promotion of the sale, issuance or acquisition,
of the tax shelter, or
(c) accepts, whether as a principal
or agent, consideration in respect of the tax shelter,
and more than one person may be a tax
shelter promoter in respect of the same tax shelter;
“tax shelter”
means any property (including, for greater certainty, any right to
income) in respect of which it can reasonably be considered, having
regard to statements or representations made or proposed to be made in connection
with the property, that, if a person were to acquire an interest in the
property, at the end of a particular taxation year that ends within 4 years
after the day on which the interest is acquired,
(a) the total
of all amounts each of which is
(i) an
amount, or a loss in the case of a partnership interest, represented to be
deductible in computing income in respect of the interest in the property
(including, where the property is a right to income, an amount or loss in
respect of that right that is represented to be deductible) and expected to
be incurred by or allocated to the person for the particular year or any
preceding taxation year, or
(ii) any
other amount represented to be deductible in computing income or taxable income
in respect of the interest in the property and expected to be incurred by or
allocated to the person for the particular year or any preceding taxation year,
other than any amount included in computing a loss described in subparagraph
(i),
would equal or exceed
(b) the amount, if any, by which
(i) the
cost to the person of the interest in the property at the end of the
particular year, determined without reference to section 143.2,
would exceed
(ii) the
total of all amounts each of which is the amount of any prescribed benefit that
is expected to be received or enjoyed, directly or indirectly, in respect of
the interest in the property by the person or another person with whom the
person does not deal at arm’s length,
but does not include property that is a
flow-through share or a prescribed property.
(2) Application
– A promoter in respect of a tax shelter shall apply to the Minister in
prescribed form for an identification number for the tax shelter unless an
identification number therefor has previously been applied for.
…
(6.1) Deductions and claims disallowed – No amount may be deducted or claimed by any person for any
taxation year in respect of a tax shelter of the person where any person is
liable to a penalty under subsection (7.4) or 162(9) in respect of the tax shelter
or interest on the penalty and
(a) the penalty
or interest has not been paid; or
(b) the penalty
and interest have been paid, but an amount on account of the penalty or
interest has been repaid under subsection 164(1.1) or applied under subsection 164(2).
(6.2) Assessments – Nothwithstanding subsections 152(4) to (5), such assessments,
determinations and redeterminations may be made as are necessary to give effect
to subsection (6.1).
…
(7.4) Penalty
– Every person who files false or misleading information with the Minister in
respect of an application under subsection (2) or, whether as a principal or as
an agent, sells, issues or accepts consideration in respect of a tax shelter
before the Minister has issued an identification number for the tax shelter is
liable to a penalty equal to the greater of
(a) $500, and
(b) 25% of the total of all amounts each
of which is the consideration received or receivable from a person in respect
of the tax shelter before the correct information is filed with the Minister or
the identification number is issued, as the case may be …
[Emphasis added]
IV. Position
[24]
The appellants’ position is that they each
entered into the Agreements for the option to acquire their respective Interests
which they believed would be a profitable and viable business. They paid 25% of
the face value of the Notes and intended to pay the balance on receipt of
demand from Blue Hill, therefore are entitled to the CREs claimed. Undertaking
the work program was incidental to their decisions to acquire the respective
interests in the Claims.
[25]
Furthermore, the transactions are not a sham and
they have not made any representations that are attributable to neglect,
carelessness, or willful default or have committed any fraud in filing their
respective income tax returns or in supplying any information to the Minister
under the Act.
[26]
The respondent’s position is that Blue Hill promoted,
with Walter Barnscher as its directing mind, the sale of the Interests to
prospective purchasers, the appellants included. All the constituent elements
are present to satisfy the definition of “tax shelter”
in subsection 237.1(1). Since this was an unregistered tax shelter and subject
to an unpaid penalty, the appellants are precluded from deducting any amount
pursuant to subsection 237.1(6.1) and are not statute-barred under subsection
(6.2).
[27]
Alternatively, the purported Notes and invoices
perpetrated a sham as the appellants were never required, nor made any effort,
to pay the Amounts.
V. Analysis
Tax Shelter
[28]
A tax shelter contained in section 237.1 refers
to “any property” with the requisite condition that statements or
representations must be made in connection with the assumed acquisition of the
property in advance of the actual purchase by a prospective purchaser to
constitute a tax shelter. The elements of the
definition of tax shelter consist of “any property” offered for sale where statements
or representations in connection with the property:
a) are made or propose to be made in advance of the sale of
the property;
b) by a prospective
seller, or agent, to a prospective purchaser to encourage or induce the
acquisition of the property;
c) communicating
or announcing a deductible amount, in respect of the property,
to be incurred by and available to the prospective purchaser in computing
income and as a consequence of the acquisition of the property; and
d) it can be objectively
determined within a certain timeframe (as detailed more fully in paragraph
40 of these reasons) that the amount that has been communicated to be deductible
equals or exceeds the cost to the prospective purchaser of the property,
determined at the end of the particular taxation year, less the amount of all
“prescribed benefits” expected to be received or enjoyed.[2]
[29]
The definition of tax shelter presupposes that
statements or representations must be made by or on behalf of a seller (Blue
Hill and Walter Barnscher, respectively) to a prospective purchaser.
Property
[30]
The appellants argued that the Agreements and
the Notes constitute the “property” for the purpose of the definition of tax
shelter. In my view, this is a mischaracterization. It is the potential interests in the Claims that were being marketed by Blue
Hill to prospective investors that constitute the property, not the Agreements
or the Notes.
Statements and representations of a
deductible amount
[31]
In Baxter, Ryer J.A. states, at paragraph
11, that there must be a communication, irrespective of form, to prospective
purchasers informing them that a deductible amount would become available to
each of them as a consequence of an acquisition by any of them of the property
that is offered for sale.
[32]
The appellants argued that the respondent did
not plead that Blue Hill or Mr. Barnscher represented to the appellants:
i) the amount of the expenses that the appellants
would be entitled to deduct on making the investments (nor whether such
expenses would be losses deductible in computing income);
ii) the expected revenue of Blue Hill; nor
iii)
the amount of the anticipated losses and if
those would be deductible for 2002.
[33]
According to the appellants, there was no
evidence that prior to their respective acquisitions of their interests in the
Claims that Blue Hill or Mr. Barnscher had made any such representations
nor that the Amount was deductible. Rather, he “had one meeting with each of
the Appellants at which he represented to each of the Appellants that they had
an opportunity to acquire an option to and purchase an interest in the Mineral
Claims” and “… explained to each of the Appellants that if they made the
investment and acquired the option to purchase the Mineral Claims they would be
able to deduct the expenses incurred by each of them qualifying Canadian
Resource Expenditures pursuant to the Consulting Services Agreement to be
entered into between Blue Hill and each of the Appellants.”
[34]
I have concluded that the appellants’ argument
cannot succeed because it incorrectly focuses on the actual acquisitions rather
than assumed acquisitions relating to prospective purchasers. In Baxter,
the Court, at paragraphs 36 and 52, concluded that the wording in the provision
“if a person were to acquire an interest in the property” demonstrates that the
definition of tax shelter is “forward-looking” and contemplates an assumed
acquisition of the Interests by prospective purchasers.
[35]
Walter Barnscher testified that he had stated to
prospective investors that if they participated in the arrangement that their
cost for tax purposes would be four times their out-of-pocket amount. He also
informed prospective investors that they would be able to claim a $40,000
expense on their income tax return if they made an out-of-pocket payment of
$10,000. That arrangement called for investors, including each appellant, to:
a)
enter into the Agreements with Blue Hill;
b)
pay $2 upon the execution of the Option
Agreement, undertake a work program to incur qualifying CREs in the agreed amount on or before December 31, 2002, and
pay the agreed amount, referenced in the Option Agreement, to Blue Hill on or
before December 31, 2003;
c)
sign a Note in the agreed amount payable to Blue Hill which investors were not required to pay;
d)
pay an out-of-pocket payment equal to 25% of the
agreed amount; and
e)
deduct the agreed amount in their income tax
returns.
[36]
After meeting with the appellants, including
other investors, Mr. Barnscher sent the Agreements (accompanied by a request
that they sign and return these to Blue Hill) and the Notes, pre-dated with the
effective date of January 1, 2002. He also sent an invoice dated December 31,
2002 for the agreed amount payable for work to be performed and a sample
Statement of Business Activities form in one package with a Memo, tendered as
Exhibit R-4, describing to the appellants how to expense the entire Amount on
their income tax returns.
[37]
Whilst the appellants testified that they
received an invoice for the work program towards the end of 2002, this
conflicts with Mr. Barnscher’s testimony that after he met with the appellants
in late 2001 or early 2002 he sent the invoice as part of the package.
[38]
Mr. Barnscher’s representation that an amount - four
times of their out-of‑pocket payment - would be deductible for tax
purposes in computing income, was made in the context
of an assumed acquisition of the property to prospective investors in advance
of the acquisition of, and connection with, the property. It also addresses
the proposed income tax consequences that would arise on the assumed acquisition.
Confirmation of this was provided in the package of documents sent after the
meeting. I find that this fulfills the requirement of
“represented to be deductible in computing income” under subparagraph 237.1(1)
(a)(i) of the definition of a tax shelter.[3]
Amount expected to be incurred
[39]
As to the second part of subparagraph 237.1(1)(a)(i),
an amount that is “expected to be incurred by … the person” would be satisfied
as a consequence of the assumed acquisition of an interest in the property as
an amount that can be incurred by a prospective purchaser (that is, the
appellants).
[40]
The Court in Baxter, at paragraph 14, notes that the
question posed is whether in light of statements or representations
communicated, it may reasonably be considered that at the end of any particular taxation year of the prospective purchaser ending
within the four-year period, the amount that has been announced or communicated
to be deductible to the prospective purchaser as a consequence of the
prospective acquisition of the property equals or exceeds the cost to the
prospective purchaser of the property, determined at the end of the particular
taxation year in question, less the amount of all “prescribed benefits”
expected to be received or enjoyed, directly or indirectly, in respect of that
property by the prospective purchaser.
Prescribed benefit
[41]
As an illustration, the invoice issued to Mr.
Gleig reflects the $40,000 (Amount) incurred, the $10,000 (out-of-pocket
payment or deposit) received and the $30,000 balance due. The appellants
testified that although they did not pay the balance due under the Notes, they
believed that they had to pay, and would pay, if they received a demand from
Blue Hill, failing which they would lose their respective Interest.
[42]
Mr. Barnscher confirmed that neither the balance
due, nor interest, under the Notes were paid by any of the appellants or other
investors nor did they inquire as to the status of the balance due. He
indicated that the appellants were not required to pay the balance due under
the invoices or the Notes and confirmed that Blue Hill made no attempts to
contact the appellants to demand payment of the Notes. I accept Mr. Barnscher’s
explanation and reject the appellants’ assertions that they believed they had
to pay. I find that the balance due under the Notes constitutes a prescribed
benefit, as defined in subsection 231(6) of the Income Tax Regulations,
CRC, c. 945, for the purposes of the definition of a tax shelter in subsection
237.1(1).[4]
[43]
In Mr. Gleig’s circumstances, under subparagraph
237.1(1)(a)(i), the amount represented to be deductible in computing
income in the 2002 taxation year and expected to be incurred was $40,000.
[44]
Since that amount exceeds the amount of $10,000
arrived at under paragraph 237.1(1)(b), it can reasonably be considered
that the calculation component of the definition of a tax shelter in subsection
237.1(1) is satisfied.[5]
[45]
Blue Hill meets the definition of a “promoter”
in paragraph 237.1(1)(a).[6]
The provisions in subsections 237.1(2) and (4) require that a promoter in
respect of the tax shelter must obtain an identification number from the
Minister before there can be any sale of a property constituting a tax shelter.[7] Clearly, Blue Hill did not
apply to the Minister for an identification number with respect to the
Interests marketed and a penalty was levied, which remains unpaid.[8]
VI. Conclusion
[46]
In the circumstances, Blue Hill as a promoter,
through Mr. Barnscher, marketed the sale of the Interests to investors. The
income tax deduction expected to be available to purchasers of the Interests was
a favourable marketing feature. The representation was made to prospective
investors on behalf of Blue Hill, communicating or announcing to them that if
they were to purchase an Interest, the acquisition cost of the Interest would
be fully deductible in computing income notwithstanding that only 25% had been
paid. The package of information was used in the sales campaign. In my opinion,
the Interests marketed, including the Interests acquired by the appellants, meet
the constituent elements of the definition to constitute tax shelters and a tax
shelter identification number should have been obtained before any of the
Interests were sold. Since it was unregistered and a penalty remains unpaid,
the appellants are precluded from deducting any amount. Therefore, the Minister
correctly disallowed the CREs in 2002 claimed by each appellant which resulted
in a net business loss.
[47]
The consequence of my finding that the Interests
marketed were tax shelters is that, by virtue of subsection 237.1(6.1), the
appellants are precluded from claiming any deduction in respect of the
acquisition cost of their respective Interest acquired because no amount may be
deducted by a person (the appellants) in respect of a tax shelter where
any person (Blue Hill) is liable to such a penalty which remains unpaid.
[48]
Notwithstanding the general time limitation
periods in subsection 152(4) relating to assessments and reassessments,
subsection 237.1(6.2) provides the Minister with the authority to reassess beyond
those time limits to give effect to subsection 237.1(6.1).
[49]
Since this suffices to dispose of the appeals,
it is unnecessary to deal with the alternative issue and arguments.
VII. Relief
[50]
The appeals are dismissed.
[51]
One set of party and party costs is awarded to
the respondent.
Signed at Nanaimo, British Columbia,
this 29th day of July 2015.
“K. Lyons”
Email this Content