Gilvesy v. The Queen, 96 DTC 1417, [1996] 3 CTC 2056 (TCC)

Rip J.T.C.C.: — This is an appeal by John Gilvesy from an income tax assessment for 1987 in which the Minister of National Revenue (“Minister”) added to his income the amount of $536,827, being the purported value of a benefit, an option to acquire property bearing civic number 272 Dundas Street in London, Ontario (“Dundas property”), conferred by him on his wife, Elizabeth Gilvesy: subsection 56(2) of the Income Tax Act (“Act”).

Prior to 1983 Mr. Gilvesy owned all of the issued shares in Gilvesy Construction Limited (“Construction”) and Gilvesy Developments Limited (“Developments”). These companies constructed buildings for sale and investment purposes. In some cases Mr. Gilvesy or the company which he controlled managed the property that was sold. Developments and Construction amalgamated on January 31, 1982 as Gilvesy Enterprises Inc. (“Enterprises”). Mr. Gilvesy’s banker was the Canadian Imperial Bank of Commerce (“CIBC”).

On or about November 24, 1982 Enterprises issued a demand debenture in the amount of $10,000,000 to the CIBC. One of the properties securing the debenture by way of first mortgage was the Dundas property.

Developments had purchased the Dundas property in 1979 for $675,000 for future development, recalled Mr. Gilvesy’s accountant, Frank Welsh. According to Mr. Gilvesy the Dundas property was a prestigious property in an ideal location in downtown London. Mr. Gilvesy was of the view the property was worth more than the purchase price. For a while, he was right. Property values went up “as time went on”. Mr. Gilvesy estimated the value of the Dundas property at one point in time had reached $1,200,000. He claimed he had a “sense of value” and real estate agents frequently approached him with informal offers which he refused to consider. He stated he “wanted to hold the property in our own portfolio”. Mr. Gilvesy thought the building was an important building in London; it had an “aura to it”. He volunteered that the CIBC thought he was a good builder “but a lousy businessman”. Enterprises owned other properties in London, other parts of Ontario, Canada and the United States.

In 1984 Mr. Gilvesy negotiated a line of credit with the CIBC for the Gilvesy group of companies, including Enterprises. Enterprises’ portion of the line of credit was $2,835,000; security for the line of credit included the personal guarantees and postponements of claims by each of Mr. and Mrs. Gilvesy and a second charge on the Dundas property.

In 1986 Enterprises and other companies owned by Mr. Gilvesy suffered financial reverses. The bank was concerned that “we were overexposed and wanted us to reduce the exposure”, Mr. Gilvesy testified. The CIBC put pressure on Mr. Gilvesy to dispose of certain real estate, including the Dundas property. The CIBC threatened “to sell if we didn’t”. Mr. Gilvesy acknowledged that in September 1986 he was offered $925,000 for the Dundas property but rejected the offer. According to Revenue Canada’s information in a letter of October 27, 1992 it sent to Mr. Welsh, Mr. Gilvesy rejected the offer since “he was negotiating the sale of 272 Dundas street with two financial institutions”. Mr. Gilvesy’s evidence was that the bank had started pressuring him to sell the property but in September he had not yet begun to take the bank’s threats seriously; this came later.

The CIBC had to approve any sale of property by Enterprises. This was not the first time the bank had pressured Mr. Gilvesy to sell real estate to reduce a company’s exposure. In one instance one of his companies had difficulty meeting a payroll and over a weekend he negotiated the sale of his interest in a property he owned with Mr. Michael G. DeGroote to Mr. DeGroote. Mr. DeGroote helped out Mr. Gilvesy on other occasions when Mr. Gilvesy required money by acquiring the latter’s interests in properties they jointly owned. Mr. Gilvesy described Mr. DeGroote as an astute buyer who is not overly generous. Mr. DeGroote is a successful businessman who also was president of a corporation where shares are traded on a Canadian stock exchange. He and Mr. Gilvesy were friends.

Mr. Gilvesy stated he attempted to market the Dundas property to people he had done business with before. One of these people was Michael DeGroote.

In January of 1987 Mr. Gilvesy and Mr. DeGroote negotiated a price of $850,000 for the Dundas property. Pine Hollow Holdings Limited (“Pine Hollow”), a company owned by Mr. DeGroote, made the offer; it was rejected by the CIBC. The offer was for less than the first and second mortgages outstanding on the property. Pine Hollow then raised the offer to $900,000, which was accepted by the bank. Mr. Gilvesy stated he did not know anyone at the time willing to pay more than $900,000 for the property. Nevertheless in cross-examination Mr. Gilvesy admitted thought the CIBC accepted too low a price. The transaction closed on February 2, 1987. Pine Hollow directed that the Transfer Deed be made out in the name of M.G.D. Holdings Inc. (“M.G.D.”).

At closing the CIBC attempted to stop the sale, Mr. Gilvesy said, because it wanted $2,500 that was in Enterprises’ bank account. The bank did get the money and allowed the sale to proceed. M.G.D. paid the sale proceeds to the CIBC.

In cross-examination Mr. Gilvesy declared that at the time of the Pine Hollow offer “things were beyond my control ... [it was] up to the bank”. He said that when one negotiates with Mr. DeGroote “you don’t tell Mr. DeGroote too many things ... You ask but you don’t tell him”.

Mr. Robert Israel, Mr. Gilvesy’s solicitor, testified that a few days prior to the closing date he received instructions from Mr. Gilvesy and M.G.D.’s solicitor to prepare an agreement (“option agreement”) to provide for the right of Robert Gilvesy, Mr. Gilvesy’s son, to acquire the Dundas property from M.G.D. before 1991. This option agreement in favour of Robert Gilvesy, dated February 3, 1987, was executed and then almost immediately rescinded in favour of Mrs. Gilvesy. Mr. Israel recalled Mr. Welsh recommended to Mr. Gilvesy that from a tax point of view it was more advantageous for the option to be in the name of Mrs. Gilvesy than in Robert’s name. Mrs. Gilvesy had tax losses which could be applied to any gain in the event the property was sold at a profit. Mr. Welsh gave similar evidence.

Mr. Gilvesy acknowledged he participated in discussions to decide who would get the option. One of the reasons for the option, according to Mr. Gilvesy, was that he “wanted to achieve my goals [with the property] ... [I] thought the property was going too cheap”. In his evidence in chief Mr. Gilvesy, contrary to Mr. Israel’s evidence, was adamant that the option agreement was negotiated only after the Agreement of Purchase and Sale with Pine Hollow was signed. He stated the option was agreed to the day after the sale closed.

Mr. Israel testified Mr. Gilvesy did not want the option himself since he was personally indebted to the bank and “anything that was taken by John would be encumbered by bank security”. The option agreement between M.G.D. and Mrs. Gilvesy, also dated February 3, was substantially on the same terms as that given to Robert Gilvesy and provided, among other things, as follows:

1. Grantee may exercise its option on or before December 31, 1990 by giving written notice of exercise to Grantor on or before such date. Any such notice shall specify that the Grantee wishes to purchase the Parcel. The Parcel purchased must be purchased in its entirety.

2. With respect to the Parcel, if Grantee has not given written notice of exercise as aforesaid by December 31, 1990, the option on the Parcel shall thereupon terminate and the Grantor shall arrange for its own management of the property.

5. The purchase price of the Parcel purchased by exercise of option shall be an amount equal to the total of the following:

(a) Grantor’s original purchase price for such Parcel, including all acquisition costs;

(b) Plus all amounts expended by Grantor respecting such Parcel during Grantor’s ownership;

(c) Plus or minus any losses or profits incurred by the Grantor respecting the Parcel;

(d) Plus interest equal to the prime rate from time to time of the Toronto- Dominion Bank, Hamilton, Ontario, computed on the balances outstanding, from time to time, of amounts under subclauses (a), (b) and (c) hereof and compounded monthly until Closing;

(e) Plus all Grantor’s costs of disposition and Closing.

Such purchase price shall be paid by Grantee to Grantor in cash, on Closing, subject to the usual adjustments.

6. It is agreed that this option shall not be registered, nor shall any notice thereof be registered, against the Parcel or in any land or public registry. If any such registration occurs then any unexercised option shall thereupon terminate.

7. Until the earlier of (a) December 31, 1990 or (b) Closing, Grantee agrees to manage the Parcel for and on behalf of the Grantor. Grantee agrees to carry out such management in accordance with the written instructions of the Grantor. Grantee shall provide Grantor with monthly financial statements within 20 days of the end of each calendar month, accounting for Grantee’s management.

8. In the event that either party should fail to perform any of its obligations under this agreement or should seek the aid of any bankruptcy or insolvency laws, then the other may elect to terminate this option by written notice to the other and any unexercised option shall terminate with the giving of such notice.

Mr. Gilvesy explained that Mr. DeGroote intended to make sure he made a good investment for himself. He wanted to make money. “He always made money.” The option was structured so that if the option were exercised, M.G.D. was guaranteed a return on its investment equal to the prime interest rate of the Toronto Dominion Bank. During the term of the option a Gilvesy company would manage the property for M.G.D. at no cost. Mr. Gilvesy stated Mr. DeGroote did not have the “same sense of feeling” for the Dundas property that he had. Mr. DeGroote was willing to sell if he got a minimum return. To Mr. DeGroote it did not make any difference, according to Mr. Gilvesy, whether he received the return on the sale of property or from rentals.

Mr. Gilvesy said Mr. DeGroote was “very firm but very fair”. He “didn’t have to give us an option ... [it] was not part of the transaction”.

Mr. Welsh, who dealt with Mr. DeGroote “over the years”, opined that Mr. DeGroote struck a hard bargain and “would not do a deal not to his advantage”. Mr. Welsh did not participate in negotiations with Mr. DeGroote for sale of the Dundas property.

Mr. Gilvesy declared that at the time the option was granted to his wife there was no other offer to purchase the Dundas property that he was aware of. His wife would purchase the property if someone came along to purchase it from M.G.D. According to Mr. Gilvesy his wife had no risk; she would not exercise the option unless a profit was assured.

Mr. Gilvesy described his wife as a “decorator”. He did not pretend that she was a property manager.

The Transfer Deed to M.G.D. was registered and land transfer tax was paid on registration. Enterprises ceased to carry insurance on the Dundas property after the sale. After the sale closed the Dundas property was managed by one of Mr. Gilvesy’s companies; Mr. Gilvesy was not sure which company, since the time of management was so short. All profits and losses during the time M.G.D. owned the Dundas property was that of M.G.D. Mr. Gilvesy said the manager of the property, whoever it was, considered any money it received as manager to be the property of M.G.D. Mr. Welsh testified Mr. Gilvesy instructed him to have a bank account opened in the name of M.G.D. and to send monthly bank statements to Mr. DeGroote’s office. Mr. Welsh testified that on the sale of the property by Enterprises, the proceeds of sale were included in that company’s income statement as a sale for income tax purposes.

Mr. Gilvesy testified that he had discussed rezoning the area of Dundas street where the Dundas property was located. Mr. Gilvesy could not recall the precise date of these discussions but he believed it was prior to the sale to M.G.D. However as late as March 5, 1987 Mr. Gilvesy wrote to an urban planner instructing him to proceed “as expeditiously as possible” to rezone the property.

At the time of sale to M.G.D. the main floor of the Dundas property was vacant. It was previously occupied by the Mercantile Bank of Canada but when that bank merged with the National Bank of Canada, the latter bank moved its operations to the second floor. A photographer rented the third floor. Mr. Gilvesy had been unsuccessful in finding a prestige tenant he had always wanted for the main floor.

By agreement dated April 29, 1987 Vadnet Developments Inc. (“Vadnet”) offered to purchase the Dundas property for $1,503,500, which M.G.D. accepted. Mr. Gilvesy signed the agreement for M.G.D. as its agent. The closing date was June 11, 1987. In June, 1987 - the day is in blank - Mrs. Gilvesy wrote to M.G.D. exercising her option to purchase the Dundas property. She also sent a direction to M.G.D. that the Deed and all documentation in connection with this sale be in the name of Vadnet or such other person as Vadnet may direct. The purchaser was 272 Dundas Investments Inc. (“Investments”). The transaction closed as scheduled.

Mr. Gilvesy testified that in his view Investments paid more for the property than M.G.D. because it “put the building to a different use ... and if you think [you will] change ... [you] may pay more”. Investments rented part of the main floor to a convenience store and also rented the basement.

Mrs. Gilvesy’s solicitors paid to M.G.D. from the proceeds of sale the amount of $951,672.69.

Mrs. Gilvesy reported the gain of $460,121.19 on the sale of the Dundas property in her 1987 tax return and applied $447,164 of non- capital losses from other years to the gain.

Mr. Israel confirmed the pressure Mr. Gilvesy was getting from the CIBC in late 1986. Loans were in default and they required restructuring. He recalled he had many meetings concerning the Gilvesy properties in 1986 with Mr. Gilvesy, Mr. Welsh and sometimes representatives of the CIBC and sometimes representatives of the Mercantile Bank. The CIBC wanted properties sold so that cash flow would increase. Unfortunately, Mr. Israel recalled, “1986 was a tough market”. The bank, he said, exerted pressure to sell any property. Demand loans were secured by demand debentures and “if you don’t sell when they say sell the bank could put in a receiver’. The bank loan agreement with Enterprises provided that CIBC’s approval was necessary for the sale of any building, Mr. Israel recalled.

The option agreement was dated February 3, 1987, Mr. Israel testified, so as to ensure the ability of M.G.D. to give the option. He discussed the option with Mr. Saule, corporate counsel for Mr. DeGroote. He and Mr. Saule did not consider in their discussions that the sale was a means of securing a loan.

Mr. Israel said that the CIBC had appraisals on all of Mr. Gilvesy’s properties. Based on his experience as a lawyer in London with a business practice Mr. Israel’s view was that the sale price paid by M.G.D. to Enterprises was “in range of fair market value”. He was not aware of anybody willing to pay more than $900,000 for the Dundas property.

Mr. Gilvesy was described by Mr. Israel as “shrewd” ... “creative in the real estate area” but he had a problem: “Mr. Gilvesy falls in love with locations without regard to carrying costs ... He holds on too long”.

Position of Revenue Canada

Respondent’s counsel submitted that the appellant is taxable pursuant to subsection 56(2) of the Act. Counsel did not rely on the definition of the word “disposition” in section 54, as stated in the Reply to the Notice of Appeal. The statutory definition of “disposition” excludes a transfer of property for the purpose only of securing a debt or a loan. Subsection 56(2) provides that:

A payment or transfer of property made pursuant to the direction of, or with the concurrence of, a taxpayer to some other person for the benefit of the taxpayer or as a benefit that the taxpayer desired to have conferred on the other person shall be included in computing the taxpayer’s income to the extent that it would be if the payment or transfer had been made to him.

In assessing, the Minister considered the transaction of purchase and sale of the Dundas property between Enterprises and Pine Hollow or M.G.D. was not at arm’s length. Mr. Gilvesy was a long-time personal friend and business associate of Mr. DeGroote and was “the directing mind behind the purchase, refinancing, transfer, optioning, rezoning and sale” of the Dundas property.

The Minister is of the view that the transfer of the Dundas property from Enterprises to M.G.D. was an accommodation between two personal friends, Mr. Gilvesy and Mr. DeGroote. The transfer was for the purpose only of securing a debt or a loan, and was a financing arrangement between Enterprises and M.G.D., in which M.G.D. was paid interest for the use of its funds while the Dundas property was sold to Investments. The Minister says that the transfer of the Dundas property from Enterprises to M.G.D. and the option agreement between M.G.D. and Mrs. Gilvesy would not have occurred but for the special relationships that Mr. Gilvesy had with Enterprises, his son Robert, his wife and Mr. DeGroote. Hence, according to the Minister, the option agreement between Mrs. Gilvesy and M.G.D. and the gain on the sale of the Dundas property to Investments was a benefit advantage conferred on Mr. Gilvesy in his capacity of shareholder of Enterprises by Enterprises. The value of the benefit or advantage was the amount by which the price received from Investments for the Dundas property exceeded the amounts that were paid to M.G.D.

The Minister also says that the option agreement to Mrs. Gilvesy and the gain on the sale of the Dundas property to Investments was a transfer of property made pursuant to the direction of, or with the concurrence of, Mr. Gilvesy to Mrs. Gilvesy, for the benefit of Mr. Gilvesy or as a benefit that Mr. Gilvesy desired to have conferred on his wife. At all material times, the Minister insists, Mr. Gilvesy’s intention was to have the gain on the disposition of the Dundas property accrue to Mrs. Gilvesy where, because of her non-capital losses from other years, the income tax effect would be more advantageous than if the gain accrued to either Enterprises or Mr. Gilvesy himself. The Minister asserts that Mr. Gilvesy caused Enterprises to confer a benefit on himself, that he conferred a benefit on Mrs. Gilvesy, and that the gain on the sale of the Dundas property to Investments is taxable in Mr. Gilvesy’s hands.

Contrary to the Minister, the appellant says the sale of the Dundas property by Enterprises to M.G.D. was a legitimate sale, and nothing else, which took place at fair market value.

Analysis

The position of the Minister would be tenable, in my view, if it could be established that the option had more than a nominal value on February 3, 1987. For the option to have more than a nominal value, the consideration paid by M.G.D. to Enterprises for the Dundas property would have had to be less than the property’s fair market value. If the purchase price was equal to fair market value then the option given to Mrs. Gilvesy had no value; at the time she received the option she could only purchase the property for what M.G.D. had paid for it, its market value. On the other hand if M.G.D. had acquired the property for less than fair market value, Mrs. Gilvesy could have exercised the option immediately at the price M.G.D. had paid for the property and sell it at a profit. The difference between the price she would have paid for the property and its fair market value at that time arguably could be considered as a benefit a person such as Mr. Gilvesy was in a position to confer on her. The value of such benefit would be included in Mr. Gilvesy’s income. There is no question Mr. Gilvesy desired that any profit resulting from the exercise of the option go to Mrs. Gilvesy.

It is only if the Dundas property was sold to M.G.D. at less than fair market value would cases cited to me by respondent’s counsel be relevant: Minister of National Revenue v. Bronfman, [1966] Ex. C.R. 172, 65 D.T.C. 5235; Winter v. R, (1990), [1991] 1 C.T.C. 113, 90 D.T.C. 6681 (F.C.A.); and Jones v. R., [1996] 1 C.T.C. 15, 96 D.T.C. 6015 (F.C.A.).

I am not satisfied that the fair market value of the Dundas property was greater than the price paid for it by M.G.D. I realize that Mr. Gilvesy rejected an offer of $925,000 for the Dundas property five months before Pine Hollow’s second offer of $900,000 was accepted. Based on the circumstances at the time - the bank’s pressure on Mr. Gilvesy in January 1987 had exacerbated - I do not believe the difference between the two offers was significant. The determination of fair market value, it has been said on too many occasions, is not an exact science. The sale price was controlled by an interested third party, the CIBC. One would expect the bank wanted to get the best price for the property; the more the bank got, the less it would be owed by Enterprises. Mr. Israel testified - and he was not cross-examined on this point - that the CIBC had appraisals on the Gilvesy properties, including the Dundas property. Again, one reasonably would presume the bank would not approve for sale a property that was not “in range of fair market value”, to use Mr. Israel’s words.

There is no evidence that the transaction of purchase and sale of the Dundas property by Enterprises to M.G.D. was for the purpose of securing a debt or loan between Enterprises and M.G.D. During the time the property was owned by M.G.D., it was liable for all losses from the property and the beneficiency of all profits. If Mrs. Gilvesy had not exercised the option, Enterprises would have no obligation to pay anything to M.G.D. Mrs. Gilvesy would have no obligation to M.G.D. It would be naive not to believe that the transaction of purchase and sale from Enterprises to M.G.D. and the granting of the option to Mrs. Gilvesy were not the result of the relationship between Mr. Gilvesy and Mr. DeGroote. Mr. DeGroote might well have entered into the transaction to accommodate his friend. However, one must not necessarily conclude that a transaction that appears to a third party not to be at arm’s length is not transacted at fair market value.

The appellant and his two witnesses described Mr. DeGroote as a tough negotiator who always looked to make money from a deal. If the option were exercised, Mr. DeGroote would earn a profit calculated by way of interest; if the option were not exercised the possibility of selling the property at a profit was a distinct possibility.

The answers by witnesses in evidence in chief and in cross- examination were consistent: that the transaction from Enterprises to M.G.D. was a sale and not a loan, and the price of purchase and sale was probably the best Enterprises could have expected at the time. I do not give much weight to the conflicting evidence of Mr. Gilvesy and Mr. Israel concerning the time the option was negotiated; I have assumed Mr. DeGroote caused M.G.D. to grant the option because of his relationship with Mr. Gilvesy and it is not significant whether the option was negotiated before or after closing.

Mr. Gilvesy directed property, the option, to be transferred to Mrs. Gilvesy. If he desired to have a benefit conferred on Mrs. Gilvesy to the extent that an amount equal to the value of the benefit would be included in his income, the amount of that benefit was nil. At the time Mr. Gilvesy made the direction the option had a nominal value. The value of the Dundas property could have decreased as easily as it increased after February 3, 1987. Mr. Gilvesy was optimistic that the property would increase in value - he even thought the property was worth more than $900,000 - but the reality at the time was that the property could only fetch $900,000. The option had no value. If Mr. Gilvesy or Enterprises took the option instead of Mrs. Gilvesy, no amount would be included in his or its income because neither could profit by exercising it on February 3, 1987. Hence no amount should be included in his income because he directed the option be made to Mrs. Gilvesy.

The appeal ought to be allowed, with costs.

Appeal allowed.