Citation: 2007TCC339
Date: 20070613
Docket: 2006-1769(IT)I
BETWEEN:
MARILYN E. MARTIN,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
REASONS FOR JUDGMENT
Rip, A.C.J.
[1] Marilyn E. Martin
appeals from income tax assessments for 2001, 2002 and 2003 in which the
Minister of National Revenue ("Minister"), pursuant to subparagraph
20(1)(l)(ii) and paragraph 20(1)(p) of the Income Tax Act ("Act"),
denied Mrs. Martin's deduction of a reserve for doubtful debts (and a deduction
for bad debts) in computing her income from a business. The Minister denied the
deduction on the basis that Mrs. Martin's ordinary business did not include the
lending of money.
[2] At all relevant
times Mrs. Martin was a lawyer practising in partnership with Mr. David Reesor
in Calgary. Her clients included
Natural Springs Canada Inc. ("Natural Springs") and its wholly-owned
subsidiary, Tri-Pure Water Ltd. ("Tri-Pure"). Natural Springs was
listed on the Alberta Stock Exchange and, later on, the Canadian Venture
Exchange.
[3] Tri-Pure owned and
operated a water bottling business. Natural Springs had also owned Polypah
Industries Inc., a company that manufactured plastic bottles; it ceased
operations in 1995.
[4] The original
promoters and shareholders of Natural Springs transferred their interests in
the company and by December 1991, Mrs. Martin was President and Director of
Natural Springs. She owned approximately five percent of the issued shares of
Natural Springs, her husband, about seven percent. Mr. Reesor and three other
persons were also directors. Mrs. Martin was also President and sole director
of Tri-Pure. During this time she continued to practice law; however, ten
percent of her time was then devoted to law and the balance to Natural Springs
and Tri-Pure.
[5] Mrs. Martin stated
she got involved with Natural Springs with the view to "expanding my
opportunity beyond the law firm". She said she was looking "to escape
law". She made the loans to enable the companies to be successful. By
insisting on proper security and being an "insider" she was confident
she would be repaid on account of capital and would be paid interest. Natural
Springs had raised $180,000 in an initial share offering. At the time of the
loans she preferred to make the loans rather than having either company go to
the bank for a line of credit.
[6] Natural Springs was
incorporated in 1987 and until a little after it acquired Tri-Pure, it also
sold bottled water. Natural Springs had started its water business from a plant
in a Hutterite community. The plant was financed by the community and Natural
Springs paid a royalty to the community. The arrangement with the community
"collapsed" in 1997 and Natural Springs then transferred its
"line" to Tri‑Pure in Calgary.
[7] Starting in 1997,
Mrs. Martin commenced making a series of loans to Natural Springs and Tri-Pure.
Mrs. Martin explained that Natural Springs and Tri‑Pure were "start-up"
companies and "start-ups" usually required funding. Natural Springs
had financial problems since incorporation. Her law firm and another director also
agreed to lend money to the companies. The loans by her were payable on demand
as to capital and interest; the interest rate was 20 percent per year,
simple interest.
[8] Mrs. Martin
testified that she loaned money to the companies because they required
additional working capital. Tri-Pure or Natural Springs — it is not clear which
company — had negotiated at least three contracts for supply of water and
expected profits from these contracts. Mrs. Martin had confidence in the
future. However, the "deals" collapsed, the last one in 2001.
[9] The first loan to
Natural Springs in the amount of $1,500 was on October 15, 1997; a second
loan of $10,000 was made on June 16, 1998, a third loan of $9,000 was made on
July 10, 1998 and a final loan, in the amount of $1,000 was made on September
13, 2000. In all, Mrs. Martin loaned Natural Springs $21,500. There were no
repayments of capital.
[10] Mrs. Martin advanced
funds to Tri-Pure on 14 occasions, the first loan of $3,000 was made on
November 3, 1997, the last loan also of $3,000, was made on September 1, 2000.
The aggregate of loans to Tri-Pure was $48,955.94, payments on capital totalled
$2,618.39.
[11] Neither company paid
Mrs. Martin any interest on the loans nor did she demand interest. Each month
Mrs. Martin sent to each company a statement indicating, among other things,
the dates and amounts of the loans and the interest accrued to the end of the
month in respect of each loan. As at December 31, 2003, Tri-Pure had
accrued interest owing of $43,615.11. As at September 31, 2000, Natural Springs
owed accrued interest of $659.73 with respect to the loan of September 13,
2000.
[12] Each loan by Mrs.
Martin to Natural Springs and Tri-Pure was secured. Each company's directors
approved each loan to their corporation and authorized or ratified the granting
of a promissory note by the corporation recording the terms of the particular
loan. In 1994 Natural Springs granted to Reesor Martin a general and continuing
security, including a general assignment of book debts, to secure its debt to
Reesor Martin. Tri-Pure guaranteed the debt of Natural Springs to
Reesor Martin. In 1998 Reesor Martin and another creditor agreed to
subordinate their respective security interests in the assets of Natural
Springs and Tri-Pure to the interests of the appellant and her husband, who also
advanced funds.
[13] All security
agreements were registered by Mrs. Martin in accordance with Alberta securities legislation.
Notices were filed as required by the Alberta Stock Exchange, the Alberta
Securities Commission and, later, the British Colombia Securities Commission.
In other words, Mrs. Martin and the corporations dealt with the loans in the
same conservative and businesslike manner as would be done by an institutional
lender.
[14] Mrs. Martin
explained that the loans she made to Natural Springs and Tri‑Pure were
essentially open lines of credit so long as she was content with the security
and the business operations of the companies. She never intended to convert the
loans to equity. The interest rate of 20 percent permitted her to recover the interest
she paid on money borrowed to lend to the companies, risk and a rate of return
for profit. Mrs. Martin used her own funds and money borrowed from personal Visa
and Mastercard credit cards to fund the loans. She borrowed $13,618.39 from
these sources to make loans to Tri-Pure and $11,500 for loans to Natural
Springs. Approximately 40 percent of amounts she advanced to these corporations
were borrowed as at the end of 1999 and approximately 50 percent were
borrowed at the end of 2000. The balance of borrowed amounts were reduced in
future years. Interest rates Mrs. Martin paid for the borrowed funds, she said,
ranged between 15 percent and 18 percent per year.
[15] At no time did Mrs.
Martin hold herself out as a money lender. She did not advertise as such nor
did she do anything to tell the world she was in the money lending business.
She did not maintain a separate bank account for her money lending activity.
The only loans Mrs. Martin made were to Natural Springs and Tri-Pure. Again, she
made the loans fully expecting to be repaid.
[16] Once the third
opportunity to supply water collapsed in the fall of 2001, Mrs. Martin decided
to execute on her security against both companies. This was done on December 1,
2001. Assets were seized; however, title to the assets remained with debtors so
as to permit Tri-Pure to carry on in the ordinary course. The hope was that the
company's goodwill would continue and permit an ordinary sale of the business
as a going concern. Mrs. Martin looked for a potential purchaser of equipment
and of the operating company, including the leases of the premises from where
operations were carried out. In the meantime she managed the business
operations. At all times Natural Springs made the necessary reports to the
Alberta Securities Commission and filed financial statements with the pertinent
stock exchanges.
[17] There is no doubt
Mrs. Martin treated her loans as would an institutional and cautious lender of
money. As an "insider" she knew each company's potential. She obtained
the maximum security possible for her advances. She saw the loans as an
opportunity to make money.
[18] On the other hand
Mrs. Martin was a lawyer with a law practice, even though 90 percent of her
time was devoted to Natural Springs and Tri-Pure. She did not hold herself out
as a money lender. She dealt with only two borrowers, both in whom she had an
interest, direct or indirect. The principal amounts of the loans were payable
on demand; the interest on the loans was payable on demand. No such demands
were made, except for $2,618 of principal. There was no continuous income
stream from the loans that a person whose ordinary business includes the
lending of money would expect.
[19] It is doubtful Mrs.
Martin was carrying on a money lending business, let alone that such a business
was her ordinary business within the meaning of subparagraph 20(1)(l)(ii)
of the Act. The provision reads as follows:
|
20. (1) Notwithstanding paragraphs 18(1)(a), (b) and (h),
in computing a taxpayer's income for a taxation year from a business or
property, there may be deducted such of the following amounts as are wholly
applicable to that source or such part of the following amounts as may
reasonably be regarded as applicable thereto:
|
20. (1) Malgré les alinéas 18(1)a), b) et h), sont déductibles dans le calcul du
revenu tiré par un contribuable d'une entreprise ou d'un bien pour une année
d'imposition celles des sommes suivantes qui se rapportent entièrement à
cette source de revenus ou la partie des sommes suivantes qu'il est
raisonnable de considérer comme s'y rapportant :
|
|
(l) a reserve determined as the total
of
. . .
|
l) la provision égale au total des
montants suivants :
[...]
|
|
(ii) where the taxpayer is a financial
institution (as defined in subsection 142.2(1)) in the year or a taxpayer
whose ordinary business includes the lending of money, an amount in respect
of properties (other than mark-to-market properties, as defined in that
subsection) . . .
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(ii) si le contribuable est une
institution financière au sens du paragraphe 142.2(1) au cours de l'année ou
si son activité d'entreprise habituelle consiste en tout ou en partie à prêter
de l'argent, un montant au titre de biens (sauf un bien évalué à la valeur du
marché au sens de ce paragraphe) [...]
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[20] Paragraph 20(1)(p)
of the Act permits the deduction of bad debts, provided that the loan
was made by a taxpayer whose ordinary business includes the lending of money.
[21] In Loman
Warehousing Ltd. v. Canada, Bowman J., as he then
was, explained that:
25 The
expression "whose ordinary business includes the lending of money"
requires a determination of just what the taxpayer's "ordinary
business" is. The ordinary business of the appellant is warehousing, not
lending money to other companies in the group. Some effect must be given to the
word "ordinary". It implies that the business of lending money be one
of the ways in which the company as an ordinary part of its business operations
earns its income. It also implies that the lending of money be identifiable as
a business. . . .
[22] Bonner J.,
emphasized the effect that must be given to the word "ordinary" in
the phrase "ordinary business": Yunger v. Canada.
[23] Appellant's counsel
argued that the facts in these appeals are similar to those in Discovery Research
Systems Ltd. v. Canada.
Assuming that case was correctly decided, the basic facts are quite different
from those before me. For example, the taxpayer in that case made loans to nine
different corporations; the lender owned no shares in three of the borrowing
corporations. Also, the loan agreements contained a specific rate of interest
and terms of repayment.
[24] On the facts before
me, it is quite a stretch to conclude that Mrs. Martin's ordinary business was or
included the lending of money. Firstly, she was in the business of practising
law; secondly, she was an officer and director of the two corporations to which
she devoted most of her time. There is no evidence, either, that the law firm's
ordinary course of business included the lending of money. Mrs. Martin made no
effort, nor was she inclined to lend money to other persons. That she ensured
that the loans were well secured, that the directors of each borrower approved
the loans, that she sent monthly statements to the two corporations, does not
make the loans a business activity. Cautious investors not in the business of
lending money may normally do the same. The money Mrs. Martin advanced to
the two corporations was on capital account, not in the course of business.
Even if one concludes that the loans were ventures in the nature of trade and
thus a business within the meaning of subsection 248(1) of the Act, such
a business is not one's "ordinary" business.
[25] The appeals are
dismissed.
Signed at Ottawa, Canada, this 13th
day of June 2007.
"Gerald J. Rip"
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