Moldowan v. The Queen, 77 DTC 5213, [1977] CTC 310, [1978] 1 S.C.R. 480

Dickson, J (per curiam):—At issue in this appeal is the right of the appellant to deduct for tax purposes the entire amount of farming losses suffered by him in the 1968 and 1969 taxation years. The several tribunals which have to date considered the matter have held adversely to the appellant.

Central to the appeal is the construction of subsection 13(1) of the Income Tax Act, RSC 1952, c 148, as amended, an awkwardly worded and intractable section and the source of much debate. It reads, in English:

13. (1) Where 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, his income for the year shall be deemed to be not less than his income from all sources other than farming minus the lesser of

(a) his farming loss for the year, or

(b) $2,500 plus the lesser of

(i) one-half of the amount by which his farming loss for the year exceeds $2,500, or

(ii) $2,500.

(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.

(3) For the purposes of this section, “farming loss” means a loss from farming computed by applying the provisions of this Act respecting the computation of income from a business mutatis mutandis.

and in French:

13. (1) Lorsque le revenu d’un contribuable pour une année d’imposition ne provient principalement ni de l’agriculture ni d’une combinaison de l’agriculture et de quelque autre source, son revenu pour l’année est considéré comme n’étant pas inférieur à son revenu obtenu de toutes sources autres que l’agriculture, moins le plus faible des deux montants suivants:

(a) ses pertes provenant de son exploitation agricole pour l’année, ou

(b) $2,500 plus le moindre des chiffres suivants:

(i) la moitié du montant par lequel ses pertes provenant de son exploitation agricole, pour l’année, excèdent $2,500, ou

(ii) $2,500.

(2) Pour l’application du présent article, le Ministre peut décider que le revenu d’un contribuable pour une année d’imposition ne provient principalement ni de l’agriculture ni d’une combinaison de l’agriculture et de quelque autre source.

(3) Aux fins du présent article, une perte provenant d’une exploitation agricole est une perte provenant d’une exploitation agricole, calculée en appliquant les dispositions de la présente loi relatives au calcul du revenu tiré d’une entreprise, mutatis mutandis.

The effect of subsection 13(1) is to limit to $5,000 the farming losses which a taxpayer may claim as a deduction in a taxation year. The appellant’s farming losses exceeded this amount in the years 1968 and 1969. He contends that his chief source of income for those taxation years was either farming or a combination of farming and some other source of income, and therefore the constraint of the section does not apply to him. In an alternative argument, he submits that subsection 13(1) is meaningless and incomprehensible; therefore, it should not be applied to his detriment. In effect, he would have us write the subsection out of the Act. I do not think we can accede to that submission. We must endeavour to construe the language of Parliament. It is not an impossible task.

The appellant is a Vancouver businessman. During the years 1960 to 1967 he was a half-owner of, and employed by, Active Trading. Ltd, a scrap company. His annual salary during those years ranged from $11,500 to $15,900. In 1967 he sold his interest in Active Trading Ltd, and in the same year started another company, Cascade News Ltd, for the distribution of racing forms, from which company he received dividends. The following year he organized Cascade Fasteners Ltd as a manufacturer of screw products and from that company received a salary in 1969 amounting to $17,833.40.

Parallel to these activities the appellant was actively engaged from the early 1960’s in training, boarding and racing horses for himself and others. He began with one or two horses but upon the disposal of his interest in Active Trading Ltd he extended his horse-racing activities. He leased an acre of land adjoining Lansdowne Race Track in the municipality of Richmond, a Vancouver suburb, upon which was located a small house, occupied by his trainer, three paddocks and some box Stalls. During the years 1962 to 1969 he bought 53 horses at a total cost of $183,463 and sold horses to the value of $121,091. He raced horses at tracks in British Columbia, Eastern Canada and in the United States, winning purses totalling $184,018.

From his “farming” operations the appellant realized a small profit in 1963 ($1,593) and in 1964 ($1,368) but after 1964 he sustained a succession of losses, peaking in 1968 ($21,097) and 1969 ($20,810). Thereafter, he reduced his farming activities, discontinued the Lansdowne operation and disposed of almost all of his horses.

A summary of the appellant’s income for the years 1960 to 1972 is set out below:

In reporting his income for the 1968 and 1969 taxation years the appellant deducted the full amount of the farming losses suffered in those years, $21,097.46 and $20,810.72, respectively.

In the earlier proceedings argument was addressed to the question of whether a ministerial determination of chief source of income had been made pursuant to subsection 13(2), but before this Court counsel for the Crown stated that he was abandoning any support which subsection 13(2) might provide. Therefore, the sole issue in the appeal is whether the farming business carried on by the appellant in 1968 and 1969 was his chief source of income or whether it, in combination with another source, was his chief source of income. If the answer is in the affirmative the appellant is not precluded by subsection 13(1) of the Income Tax Act from deducting the full amount of the farming losses; if the answer is in the negative he is subject to the limitation imposed by subsection 13(1) and entitled to a deduction of $5,000 only in respect of farming losses for each of the 1968 and 1969 taxation years. In the absence of section 13 a taxpayer carrying on a farming business would combine his entire profits and losses from inside and outside Canada and be liable to income tax on the net taxable income.

The first thing to note when one comes to examine section 13 is the extended meaning which the Income Tax Act has given to the word “farming”. Paragraph 139(1)(p) of the Act provides:

(p) “farming” includes tillage of the soil, livestock raising or exhibiting, maintaining of horses for racing, raising of poultry, fur farming, dairy farming, fruit growing and the keeping of bees, but does not include an office or employment under a person engaged in the business of farming;

In maintaining horses for racing, the appellant was “farming” for the purposes of the Act.

The next thing to observe with respect to subsection 13(1) is that it comes into play only when the taxpayer has had a farming loss for the year. That being so, it may seem strange that the section should speak of farming as the taxpayer’s chief source of income for the taxation year; if in a taxation year the taxpayer suffers a loss on his farming operations it is manifest that farming would not make any contribution to the taxpayer’s income in that year. On a literal reading of the section, no taxpayer could ever claim more than the maximum $5,000 deduction which the section contemplates; the only way in which the section can have meaning is to place emphasis on the words “source of income”.

Although originally disputed, it is now accepted that in order to have a “source of income” the taxpayer must have a profit or a reasonable expectation of profit. Source of income, thus, is an equivalent term to business: Dorfman v MNR, [1972] CTC 151 ; 72 DTC 6131. See also paragraph 139(1)(ae) of the Income Tax Act which includes as “personal and living expenses” and therefore not deductible for tax purposes, the expenses of properties maintained by the taxpayer for his own use and benefit, and not maintained in connection with a business carried on for profit or with a reasonable expectation of profit. If the taxpayer in operating his farm is merely indulging in a hobby, with no reasonable expectation of profit, he is disentitled to claim any deduction at all in respect of expenses incurred.

There is a vast case literature on what reasonable expectation of profit means and it is by no means entirely consistent. In my view, whether a taxpayer has a reasonable expectation of profit is an objective determination to be made from all of the facts. The following

criteria should be considered: the profit and loss experience in past years, the taxpayer’s training, the taxpayer’s intended course of action, the capability of the venture as capitalized to show a profit after charging capital cost allowance. The list is not intended to be exhaustive. The factors will differ with the nature and extent of the undertaking: The Queen v Matthews, [1974] CTC 230; 74 DTC 6193. One would not expect a farmer who purchased a productive going operation to suffer the same start-up losses as the man who begins a tree farm on raw land.

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 and 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.

There has been difference of opinion on whether the word “combination’’ in subsection 13(1) requires some “connection” by way of physical relationship or integration or inter-connection between farming and the subordinate activity which provides another source of income. Paragraph 3(f) of the Income War Tax Act of 1917, as amended, made reference to “connection” in defining the permissible deductions from income derived from the chief business, trade, profession or occupation of the taxpayer in determining his taxable income. Paragraph 3(f) read:

(f) deficits or losses sustained in transactions entered into for profit but not connected with the chief business, trade, profession or occupation of the taxpayer shall not be deducted from income derived from the chief business, trade, profession or occupation of the taxpayer in determining his taxable income.

The word “connected” is not found in section 13 of the present Act. As Thorson, P said, obiter, in Simpson v MNR, [1961] CTC 174; 61 DTC 1117, there is no reason why there must be such a limitation. I share this view. See also Dorfman v MNR (supra) at page 154 [6134] and Bert James v MNR, [1973] CTC 457 at 464; 73 DTC 5333 at 5337.

It is clear that “combination” in section 13 cannot mean simple addition 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 subsection 13(1) can be properly 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.

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 subsection 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 carried on farming as a sideline business. Such a taxpayer is entitled to the deductions spelled out in subsection 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 carried on some farming activities as a hobby. The losses sustained by such a taxpayer on his non-business farming are not deductible in any amount.

The reference in subsection 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.

In the instant case, it is common ground that the appellant was farming and that his farming constituted a source of income. There are concurrent findings below that farming was not his chief source of income. I would not disturb those findings. Additionally, I do not think it can fairly be said that appellant was a person whose chief source of income was a combination of farming and some other source of income in the sense I have indicated. He devoted considerable effort towards launching new ventures. Horse-racing consumed only several hours of his day and that for part of the year only. His commitment of capital was cautious. The nature of the enterprise is risky. It is difficult reasonably to plan to devote energies to it principally in the expectation of a steady living. He suffered constant and increasing losses with the exception of two years in which minor profits were made. Although none of the above is alone determinative, together they suggest only one business venture of several, with nothing distinguishing in the way of ‘a chief source of income”.

In my opinion this appeal fails. Counsel for the Crown told the Court that the Crown was prepared to forgo costs in this Court in the event of success.

I would accordingly dismiss the appeal without costs.