Smythe et al. v. Minister of National Revenue, 69 DTC 5361, [1969] CTC 558, [1970] SCR 64

JUDSON, J. (all concur) :—These income tax appeals are the result of re-assessments made by the Minister against the appel- lants for the 1961 taxation year. Their appeals to the Exchequer Court have been dismissed. In my opinion, these further appeals should also be dismissed.

The re-assessments were made on the ground that the appellants had received and failed to report as income for the year 1961 undistributed income of a company—C. Smythe Limited— in which they were shareholders. Their shareholdings in that company were in these proportions:

The Minister took no proceedings against A. M. Boyd.

In the year 1961 C. Smythe Limited was an active company with substantial assets and ‘‘undistributed income on hand” amounting to $728,652. When transactions which I next propose to outline had been completed this undistributed income was in the hands of the shareholders of C. Smythe Limited in the form of $275,386 in cash and $453,316 in the form of noninterest bearing debentures of a newly incorporated company,

C. Smythe for Sand Limited. From this point on I will refer to the two companies as the “old company’’ and the ‘‘new company”. The application for incorporation of the new company is dated December 13, 1961. The letters patent are dated December 15, 1961, although they were not issued and recorded by the Provincial Secretary until January 4, 1962. This makes no legal difference to the transactions in question.

1. On December 15, 1961, the directors of the old company authorized the sale by the old company of all its assets to the new company.

2. On December 15, 1961, the directors of the new company met and :

(a) authorized the allotment of 10,000 common shares of the company to the shareholders of the old company in the same proportion as their respective holdings in that company ;

(b) authorized the creation of non-interest bearing debentures not exceeding $2,750,000 to mature 15 December 1981 ; and

(c) approved the purchase of all the assets of the old company.

3. On December 20th, F. H. Cameron Ltd. and Dabne Enterprises (two Vancouver based companies) agreed to purchase all the issued shares of the old company for cash at dollar for dollar on capital and 95 per cent on undistributed income.

4. On December 22nd, it was agreed that the closing of this transaction would be in Vancouver on December 28th.

5. On December 27 th, final figures for. closing were agreed upon, namely :

Total assets of old company (including undistributed

income of $728,652) $2,611,769

Discount of 5 per cent of undistributed income ... $36,433

Add further fee to F. H. Cameron Ltd. and Dabne

Enterprises Ltd.	5,000	41,433
Purchase price of shares	$2, 570, 336

6. On December 27th, arrangements were made with the Toronto-Dominion Bank in Toronto. whereby the bank made a loan of $316,769 repayable on January 2, 1962, to the new company. This loan was secured by a fixed deposit of $800,000, title to which had been transferred by the old company to the new company.

7;. On December 28th, arrangements were made with the Toronto-Dominion Bank in Toronto for à draft in the amount of $2,611,769 to be drawn on the Toronto-Dominion Bank in Vancouver at debit to the new company and made payable to the old company.

8. On December 28th, the Bank of Montreal in Vancouver opened an account in the name of the old company authorizing F. H. Cameron and Bone (one of his associates) as signing agents. The Bank also lent $1,285,000 to F. H. Cameron Ltd. and $1,280,000 to Dabne Enterprises and obtained. promissory notes for these amounts, which were credited to the respective accounts of the two companies. Immediately two drafts were drawn upon these accounts for $1,285,168 (F. H, Cameron Ltd.) and $1,285,168 (Dabne) and made payable to the Toronto- Dominion Bank, Vancouver.

9. On December 28th, during the middle hours. of the day, simultaneous meetings were held at the head office of the Toronto-Dominion Bank, Toronto, and the main branch of the Toronto-Dominion Bank in Vancouver. The outcome of the meetings was that all the shareholders of the old company resigned as officers and directors of that company and its seal, records and share capital were handed over to Cameron and his associates. There was an exchange of bank drafts; the Toronto-Dominion draft of $2,611,769 was credited to the old company’s account in the Bank of Montreal, Vancouver, while the Bank of Montreal drafts in the amount of $2,570,336 were transferred to the Toronto-Dominion Bank, Vancouver. In Toronto, the latter bank credited $2,295,000 to the account of the new company and paid out the following amounts:

And finally, a balance sheet of the new company drawn before these transactions but giving effect to them showed a bank overdraft of $316,769, paid-up capital of $10,000 and noninterest bearing debentures (which were held by the shareholders) in the amount of $2,285,000, totalling in all $2,611,769.

10. On January 2, 1962, two cheques, each for a sum of $1,305,600, were drawn against the account of the old company at the Bank of Montreal, Vancouver, by Cameron and his associate Bone. These were deposited in the accounts of F. N. Cameron and Dabne Enterprises Ltd. and simultaneously, these accounts were debited to repay the loans made by the bank.

11. On January 2nd (at 4.30) the directors of the old company authorized that company to invest $2,611,200 in preference shares of F. N. Cameron Ltd. and Dabne Enterprises, which it did.

In summary, the result of these transactions is as follows:

There is only one possible conclusion from an examination of * these artificial transactions and that must be that their purpose

was to distribute or appropriate to the shareholders the “undistributed income on hand’? of the old company. No oral or other documentary evidence is needed to supplement this examination. There was, however, an abundance of other evidence. This was a well-considered scheme adopted on the advice of professional advisers after other means of extraction of the undistributed income—including payment of a tax under the provisions of Section 105B of the Act—had been weighed and rejected.

In my opinion, Section 81(1) of the Act clearly applies and imposes the taxation demanded by the notices of re-assessment. Section 81(1) reads:

81. (1) Where funds or property of a corporation have, at a time when the corporation had undistributed income on hand, been distributed or otherwise appropriated in any manner whatsoever to or for the benefit of. one or more of its shareholders on the winding-up, discontinuance or reorganization of its business, a dividend shall be deemed to have been received at that time by each shareholder equal to the lesser of

(a) the amount or value of the funds or property so distributed or appropriated to him, or

(b) his portion of the undistributed income then on hand.

It is unnecessary to appeal to any other sections of the Act. This section covers specifically the case before us.

Gibson, J. in the Exchequer Court defined the main issue for decision in the following terms :

The main issue for decision is whether or not these transactions resulted in the conferral of a benefit on the appellants within the meaning of subsection (2) of Section 137 of the Income Tax Act; and in the event that the decision on the main issue is in the affirmative, a subsidiary issue for decision is whether the amount of such benefit should be assessed under Section 8(1) or Section 81(1) of the Income Tax Act.

With respect, it is unnecessary and undesirable that the issue should be defined in these terms. I think the case is plainly covered by Section 81(1) of the Act and that it is unnecessary to express any opinion on the scope of Section 137(2) of the Act. There appears to be no doubt that the re-assessments were made under Section 81(1) of the Act on the basis that there had been a winding-up, discontinuance or reorganization of the old company. Gibson, J. in doubt on this point although he expressed the opinion that had he been the assessor, he would have come to the conclusion that there was no winding-up, discontinuance or reorganization of the business of the old company within the meaning of Section 81(1).

With this opinion I do not agree and I would base my judgment on this section and this section alone. These assessments should be made under this section and the necessary consequences of a tax credit under Section 38(1). This, I understand, is what the assessor did.

The Exchequer Court leaves the result untouched but bases its judgment on the application of Section 187(2) and Section 8(1). If these were applied there would be no dividend tax credit. There is an inconsistency here in the judgment of the Exchequer Court. I would hold that there was a winding-up and a discontinuance of the business of the old company, although it is apparent that there was no formal liquidation under the Winding-up Act or the winding-up provisions of the Ontario Corporations Act.

I am content to adopt the judgment of Maclean, J. in Merritt v. M.N.R., [1941] Ex. C.R. 175 at 181; [1940-41] C.T.C. 226 at 230 :

I entertain no difficulty over the construction to be given the words “winding-up, discontinuance or reorganization”, as used in Section 19(1) of the Act. In construing those words we must look at the substance and form of what was done here. In the

case In re South African Supply and Cold Storage Company, [1904] 2 Ch. 268, Buckley, J. had to consider whether or not there had been a winding-up “for the purpose of reconstruction and amalgamation”, and he said “that neither the word reconstruction nor the word amalgamation has any definite legal meaning. Each is a commercial and not a legal term, and, even as a commercial term has no exact definite meaning”. I think that would be equally true of the words of Section 19(1) which I have just mentioned. There was no “winding-up” of the Security Company by a liquidator, but there was in fact, I think, a winding-up of the business of that company and I think the word “winding-up” may be given that meaning here, although I need not definitely so decide because, in any event, there was a “discontinuance” of the business of the Security Company, and whether that was brought about by a sale to or amalgamation with the Premier Company is, in my opinion, immaterial. I therefore think there is no room for any dispute of substance but that the Security Company discontinued its business in a real and commercial sense, and that for a consideration it disposed of all its property and assets, however far that may carry one in deciding the issues in this case. There is, therefore, no necessity for attempting any precise definition of the words “winding-up, discontinuance or reorganization”. What was done with the business of the Security Com- ‘ pany fell somewhere within the meaning and spirit of those words. Neither do I entertain any doubt that there was a distribution of the property of the Security Company among its shareholders, in the sense contemplated by Section 19(1) of the Act, under the terms of the Agreement after its ratification by the shareholders of the Security Company. It is immaterial, in my opinion, that the consideration received by the appellant for her shares happened to reach her directly from the Premier Company and not through the medium of the Security Company.

This judgment was appealed to this Court and is reported in [1942] S.C.R. 269; [1942] C.T.C. 80. This Court affirmed the conclusion of Maclean, J. that there had been a winding-up, discontinuance or reorganization. The partial reversal of Mac- lean, J. was based solely on a different interpretation of the scope of the application of the then Section 19(1)—namely, what taxation years it applied to. Section 19(1) was the predecessor of the present Section 81(1) and for the purpose of these reasons, there is no difference between the two.

When this series of transactions was completed, the old company had preference shares of the two dividend-stripping companies—F. H. Cameron Ltd. and Dabne Enterprises Ltd.— in Vancouver, and no other assets. The assets behind the preference shares of these two companies were shares of companies which had been through the same mill as the old company in this case.

The plain facts are that at the end of all this activity

(a) the shareholders of the old company were shareholders in the new company in the same proportions as they held shares in the old company. They had subscribed for these shares and their position as such shareholders is not questionable.

(b) But when the old company transferred its assets to the new company, the total consideration should have been received by the old company.

(ce) That consideration was $2,611,769. If the new company wished to secure the purchase price by debentures, these should have been issued and delivered to the old company. Instead, we find cash and debentures in the hands of the shareholders of the old company. These are appropriate ways of making such a distribution but these ways would involve the payment of tax. Particularly, there was no sale of the shares of the old company to the dividend- stripping companies. The shares were transferred to these companies, with a fee of $41,433, for the purpose of enabling them to perform certain shuffles with the cheques and bank drafts to produce the result stated in these reasons. Taxation cannot be avoided by the transactions that were put through in this case. The orderly series of moves made on the closing in Vancouver does not. assist the appellants.

I would dismiss these appeals with costs and affirm the reassessments made under Section 81(1).