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Citation: 2006TCC200
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Date: 20060330
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Docket: 2002-3821(IT)G
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BETWEEN:
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RUBEN CORVALAN,
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Appellant,
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and
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HER MAJESTY THE QUEEN,
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Respondent.
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REASONS FOR JUDGMENT
CampbellJ.
[1] In computing his income for the 1997 taxation year, the Appellant claimed a business loss in the amount of $131,052.24. The Minister of National Revenue (the "Minister") reassessed the Appellant and reclassified this business loss as a capital loss.
[2] The Appellant worked as a mining engineer for Manhattan Minerals Corp. from 1993 to 1999. On various occasions between 1993 and 1996 Manhattan Minerals Corp. granted the Appellant irrevocable options to purchase capital stock in the company. The relevant option for the purposes of this appeal is the 1996 option, pursuant to which the Appellant had the right to purchase up to 30,000 common shares at an option price of $4.55 per share. This option expired on July 30, 2001. The Appellant exercised this option in February 1997 when the shares were trading at a price of $10.30 per share. He sold the 30,000 shares on November 25 and 26 and on December 1, 1997, when they were trading at a significantly lower value, resulting in a loss. When the Appellant claimed this loss as a business loss on account of income, the Minister reassessed and re-characterized the loss as a loss on account of capital. There is no issue with respect to the calculation of the loss. The issue is confined to whether the Appellant's loss on the disposition of the shares in 1997 is to be characterized as a business loss or as a capital loss.
[3] The parties submitted the following Partial Agreed Statement of Facts:
For the purposes of the proceedings in Ruben Corvalan v. HMTQ TCC 2001-3821(IT)G and any appeal therefrom, the following facts are agreed to by the Appellant and the Respondent:
1. The Appellant is an individual who resides at 2436 West 13th Avenue Vancouver, B.C., V6K 2S8.
2. Manhattan Minerals Corp. is a company incorporated pursuant to the laws of British Columbia and has an office at Prime Capital Place, 300-808 West Hastings Street, Vancouver, BC (the "Company").
3. The Appellant was employed by the Company from 1993 through 1999 as a mining engineer on various projects. In particular, between 1996 and 1999, the Appellant was employed by the Company as the general manager of the Tambo Grande Exploration Project in Piura, Peru.
4. On various occasions between 1993 and 1996, the Company granted the Appellant the option to acquire common shares of the Company. At various times between 1993 and 1997, the Appellant exercised options to buy shares of the Company.
5. In particular on or about the (sic) July 30, 1996, the Company granted the Appellant an irrevocable option to purchase from time to time 30,000 common shares in the capital stock of the Company as fully paid and non-assessable at the price of $4.55 per share (the "1996 Option").
6. The expiry date of the 1996 Option was July 30, 2001.
7. During 1995, the Appellant sold shares of the Company. The Appellant reported the disposition of those shares as a capital gain. The amount of the taxable capital gain reported in his 1995 T1 Income Tax Return was $833.61.
8. During 1996, the Appellant sold shares of the Company. The Appellant reported the disposition of those shares as a capital gain. The amount of the taxable capital gain reported in his 1996 T1 Income Tax Return was $58,114.91.
9. The Appellant exercised the 1996 Option in February, 1997 and acquired 30,000 shares of the Company at that time. The shares of the Company were trading at a price of about $10.30 at that time.
10. During 1997, the Appellant sold shares of the Company for reported proceeds of disposition in the amount of $176,072.76. In particular, the Appellant reported that he sold 11,000 shares of the Company in February 1997 and that he sold the 30,000 shares of the Company that he acquired under the 1996 Option on November 25, 26 and December 1, 1997 (together the "Shares").
11. The Appellant calculated the Adjusted Cost of Base ("ACB") of the Shares as follows:
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11,000 Optioned Shares
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11,000 shares @ option price of $1.85/share
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$20,350.00
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Add:
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Stock option benefit ($3.75 fair value per share
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less $1.85 per share option price)
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$20,900.00
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A $41,250.00
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30,000 Optioned Shares
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30,000 shares @ option price of $4.55/share
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$136,500.00
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Add:
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Stock option benefit ($10.30 fair value per
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share less $4.55 per share option price)
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$172,500.00
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Less:
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Deduction permitted under paragraph 110(1)(d)
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$43,125.00
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B $265,875.00
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Total adjusted cost base of 41,000 shares:
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A + B =
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$307,125.00
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12. The Appellant reported the disposition of the Shares as a business loss in his 1997 T1 Income Tax Return, calculated as follows:
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Net sales, commissions or fees:
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$176,072.76
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MINUS: Cost of Goods Sold:
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$307,125.00
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Business Loss:
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($131,052.24)
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13. The Appellant claimed a deduction in his 1997 T1 Income Tax Return in the amount of $43,125 pursuant to 110(1)(d) of the Act to reduce the amount the employee stock option benefit included in his income pursuant to subsection 7(1) of the Act.
14. By Notice of Reassessment dated February 16, 2001, the Minister of National Revenue (the "Minister") reassessed the Appellant to tax and interest in respect of his 1997 income by disallowing the Appellant's claim of a business loss in the amount of $131,052 and recharacterizing the $131,052 loss as a capital loss incurred by the Appellant in 1997 (the "Reassessment").
15. The Appellant duly filed a notice of objection to the Reassessment.
16. On or about July 8, 2002, the Minister issued a notice of confirmation disallowing Mr. Corvalan's loss of $131,052 as a business loss.
The Evidence:
Ruben Corvalan
[4] The Appellant was born in Chile and moved to Canada in 1974. Between 1975 and 1991 he was employed by several different Canadian companies. He was granted stock options while employed at these companies but never exercised them. From 1993 until 1999 he was employed in the capacity of a professional mining engineer for B.C. Manhattan Minerals Corp. ("Manhattan Minerals").
[5] Manhattan Minerals initially hired the Appellant to work on a mining project in Mexico which attained commercial production in early 1997. In 1996, he started work as general manager of another project located in Peru called the Tambo Grande Project. In early 1997 the mining site had still not been fully explored. A feasibility study had not been conducted and many uncertainties still surrounded the future of this project, particularly with respect to Manhattan Mineral's ownership and exploration rights to the site. This project was originally the subject of an agreement between Mineral Peru, a state owned corporation, and a French company called Bureau de Recherches Geologiques Minieres ("BRGM"). BRGM's rights to the Tambo Grande project arose pursuant to this agreement with the Peruvian government. Manhattan Minerals acquired an interest in this project from BRGM although at the time it was still uncertain if the Peruvian government would provide validity to the agreement it had with BRGM. While negotiations were ongoing with the government in Peru, there was also opposition to the exploration and development of this project from the local community and the farmers in the area. All of these problems had prevented development of the project past the exploration phase. When the Appellant began work on this project, negotiations with a new Peruvian government had commenced. Although he was not directly involved with the negotiations between Manhattan Minerals and the Peruvian government, he stated that he was constantly participating in discussions about the status of the project with the management of the company and was advised of the progress by the president of the company as well as the chief financial officer ("CEO"). The Appellant also played a large part in the successful negotiations conducted with the local farmers to obtain access to their land so that further exploration could be conducted.
[6] According to the Appellant, he constantly monitored the share value of Manhattan Minerals. He stated that everyone at the company was aware of the share value and believed the value would continue to grow. At this time the trading volume and price were increasing. Despite the problems facing Manhattan Minerals, the Appellant was aware that the price of its stock rose from $4.55 in mid-1996 to over $10.00 by February 1997. It was also believed that the Bre-X deposit in Indonesia would produce good results. The Appellant reviewed the company's public statements and monitored the stock each day. In addition he had discussions with his colleagues. The Appellant stated he kept monitoring the book value of the company and he was aware that the company suffered losses in 1995, 1996 and 1997.
[7] On July 30, 1996 the Appellant was granted an employee stock option to acquire 30,000 shares at $4.55 per share. This was the third employee stock option he had been granted, the first two being granted on March 31, 1993 and July 24, 1994. The Appellant purchased shares pursuant to the 1993 and 1994 options. When he disposed of shares of Manhattan Minerals in 1995 and 1996, he reported a capital gain on those dispositions.
[8] The Appellant testified that he exercised his 1996 stock option in February 1997 because he and his wife were interested in purchasing a house. They had never owned a home and he felt this would give them an opportunity to make the purchase possible. They started to look for a house in 1996. He stated that his intention when he exercised his option and acquired the shares was "To sell it [the shares] practically everything. In a short period of time, buy a house." (Transcript, page 42). He stated that he did not exercise this option to acquire 30,000 shares with the intention of deriving dividends because, with the technical and financial difficulties the project was experiencing, he thought the only way Manhattan Minerals could make money was to sell the project to another company. He got the money to exercise this option by selling shares he already owned in the company. In addition, according to his evidence on examination-in-chief, he borrowed money from his wife and his broker loaned him funds to finance the transaction.
[9] The Appellant's evidence was that he intended to sell all of the 30,000 shares, acquired pursuant to this option, almost immediately but this proposed plan was frustrated when an "... incident occurred at the company" (Transcript, page 44) and one of the directors told him not to sell. Subsequently the Appellant had discussions with the CEO, Robert Willis. The Appellant felt the CEO was questioning his loyalty to the company. According to the Appellant he was left with the impression that he would be fired if he sold his shares. He did not recall when he talked to the CEO but stated that it was immediately after he exercised the option. He decided not to sell his shares as he had planned to do and consequently did not purchase a house. When he finally sold the shares in late 1997, he did not care at that time if he did lose his job.
[10] On cross-examination, in reference to his meeting with the director, when he was told not to sell his shares, the Appellant was unable to recall exactly how long after he initially exercised his option that this discussion occurred. However the Appellant acknowledged that he continued to sell 11,000 shares in the company, apart from the 30,000 shares he had just purchased, subsequent to this discussion. In response to questioning about how he financed the relevant transaction, he acknowledged that, according to the documentation, he financed it entirely on margin without the benefit of a loan from his wife, as he had stated in his direct examination.
[11] The Appellant was referred to a memorandum which had been sent to all company employees by the CEO, Robert Willis on March 11, 1997, which stated: "Effective March 12/97 the corporate affairs of the company will be fully disclosed. Therefore, any market activities contemplated by anyone are approved." The Appellant agreed that he received this memo after his meeting with the CEO but he did not think that it had any bearing on the previous conversation he had with the CEO. This was a public memo but their conversation was a private one that he assumed would override any public memo distributed to employees. He acknowledged that the CEO never actually told him he would be fired if he sold the shares but rather it was his assumption from their discussions at the meeting.
[12] Eventually the share value dropped so low, the Appellant no longer worried about termination of his job and rather than losing additional money he sold the shares in late November and early December 1997 for $2.00 a share. This was such a huge loss for him he stated that he was totally broke. When he sold he did not obtain permission from the company to sell nor did he lose his job. He reported a business loss in his 1997 tax return of $131,052.24 in respect to this disposition. The Appellant acknowledged that he treated the two prior dispositions of shares in 1995 and 1996 as capital gains. When he disposed of his shares in Manhattan Minerals in 1995 he had no idea how to treat it but he reported a capital gain based on information provided to him by a friend. He did not recall if he completed his own return or not but said he may have. In 1996 Bruce Jamieson & Company prepared his return and based on the documents the Appellant gave them his gain on the disposition of shares was again reported as a capital gain. The 1997 return was completed and filed by Deloitte & Touche without specific instructions provided by the Appellant respecting the disposition.
[13] On cross-examination, the Appellant admitted that, when he incurred a loss, he treated the disposition as business income but when he sold shares for profit he treated the disposition as capital. The Appellant also testified on further cross-examination that he did not sell his shares, although he knew the price was inflated and could fall at any time, because he was given the impression by the CEO that if he sold the shares he would be fired. He admitted that the CEO never actually told him he would be fired and he never raised the topic again with the CEO. He acknowledged that his 30,000 share holdings comprised less than one per cent of the total 24 million outstanding shares of the company. In addition on March 10, 1997, three million special warrants at $7.00 per special warrant were exercised followed by another special warrant of four and one-half million special warrants at $9.00 each.
[14] The Appellant stated that he purchased stock in other companies in addition to Manhattan Minerals, although he had no documentation to support this. He also admitted that he had no formal education or training in securities trading.
Elena Corvalan
[15] The Appellant's wife confirmed his testimony that they always intended to purchase a house in Canada. In 1996 and 1997 this seemed to be closer to occurring because of the profit that could be made on the acquisition and sale of the shares. She testified that they hired a real estate agent in Vancouver to locate a home for them and at one point even placed a deposit on a house. However the financing could not be completed and that purchase did not proceed. The Appellant's wife attributed this collapse to the fact that the Appellant felt he was being pressured to not sell his shares.
Joey Goverde
[16] Mr. Goverde, a divisional compliance officer for BMO Nesbitt Burns, confirmed that when the Appellant purchased the 30,000 shares in Manhattan Minerals they were simply added to his existing account, where he already owned 11,000 shares for a total of 41,000 shares. He also testified that no notifications were ever sent to Manhattan Minerals and therefore the only way the company could discover if the Appellant had purchased or sold shares would be if the Appellant or someone else specifically advised the company.
The Appellant's Position:
[17] In reviewing the factors which recent case law has applied in similar cases, the Appellant argued that he had a profit-making scheme and therefore never intended to retain the shares for any substantial period of time. He never thought these shares would yield dividends and he did not acquire them for that reason. Although the Appellant was not told he would lose his job if he sold his shares, he had the impression from the CEO that this would occur and therefore he did not sell at the time. It was also submitted that he did not get company permission to sell when he decided to dispose of his shares because at that point he was in financial ruin and did not care if he lost his job. He also explained that he felt that his conversation with the CEO applied only to the 30,000 share block and not to the 11,000 shares which he also owned and started selling after this conversation. The Appellant also submitted that the 1995 and 1996 share transactions were irrelevant in determining the Appellant's intention in acquiring and disposing of the shares in 1997. We do not know if those transactions were properly reported in 1995 and 1996 and the Appellant should not be bound to treat the 1997 transaction the same way that he treated the dispositions in 1995 and 1996. In addition he had no tax or accounting experience or knowledge. Appellant counsel cited the case of Friesen v. The Queen, 95 DTC 492 in support of the argument that the Appellant's subsequent 1997 transaction should not be bound by the manner in which a gain had been reported in previous years.
The Respondent's Position:
[18] In applying the two tests from the Supreme Court decision in Irrigation Industries Ltd. v. Canada (Minister of National Revenue), [1962] S.C.R. 364, the Respondent argued that the Appellant was a mining engineer with no education, training or certification in stock trading. Although the Appellant stated that he was afraid to sell his shares after speaking with the CEO of the company, the evidence suggests that he still sold some shares in the company after this encounter. It would not be credible that a CEO, who knew of the large issuance of millions of shares, would be overly concerned about 30,000 shares held by the Appellant. In addition, Joe Goverde stated that the Appellant could have sold his shares and the company would never have known about it.
[19] The Appellant acquired stock options by virtue of his employment and did not deal with the shares sold as a dealer in securities would have. If the Appellant had engaged in an adventure in the nature of trade, the Respondent submitted the following actions would have occurred:
(1) The Appellant would have recorded previous share dispositions as business income rather than capital;
(2) He would have sold shares in February 1997 when they were trading at almost $11.00 per share;
(3) He would have questioned his employer further about the consequences of selling his shares, especially since he had already sold 11,000 with no negative consequences;
(4) He would have followed up with his employer on a regular basis to see whether or not he would have the employer's blessing to sell the shares;
(5) He would have sold the shares in March 1997 after receiving the memo explicitly authorizing market activity.
[20] In applying the second test set out in Irrigation Industries, the Respondent argued that there were not enough transactions to point to an adventure in the nature of trade. By way of example the Court, in Sandnes v. Canada, [2004] T.C.J. No. 149, found that 23 transactions were not significant enough. In comparison there were only 12 transactions in this appeal. The Appellant also provided no evidence that he purchased or sold shares in any other corporation. The Appellant reported the disposition of shares in previous years as capital gains and there was no significant change in 1997 that would warrant a new characterization of the shares.
Analysis:
[21] The parties have asked this Court to answer the question of whether the loss realized upon the disposition of the shares in Manhattan Minerals in late 1997 was on account of capital or on account of income. If the transaction is part of the Appellant's business, the loss would be a business loss. By definition a "business" is broad and includes an adventure in the nature of trade. There is a myriad of cases in this area which deal with the question of determination of capital vs. income.
[22] The decision of the Federal Court of Appeal in Robertson v. Canada, [1998] F.C.J. No. 401 is similar to the present case. In that case the main issue was whether a transaction, including a stock option and the subsequent sale of the stocks, was on account of income or capital. The Federal Court of Appeal stated at paragraphs 20 to 25 as follows:
20 The Tax Court judge applied the proper test, namely whether the appellant, at the time of purchase, intended to resell the shares as soon as possible for a profit. [See Note 11 below] This amounts to asking whether early resale substantially motivated the appellant in purchasing the remaining option shares.
Note 11: See P.W. Hogg, J.E. Magee, "Principles of Canadian Income Tax Law", 2d ed. 1997, para. 16.3(b).
21 The Tax Court judge was mindful of the difficulty of the task he was about to embark on. He said:
There is a myriad number of cases dealing with the jurisprudence on the question of capital or income. These involve a wide variety of factual situations and assistance to this problem can often best be obtained where factual situations are similar to the present case, and where the Courts have pronounced legal principles on the subject. Unfortunately, there is little agreement by the Courts. Where one finds for capital, another will find for income in often quite similar situations.
22 Once he had summarized the contentions of the parties, the Tax Court judge stated:
Did the Appellant have the intention to resell the shares as soon as possible? Counsel for the Appellant suggested that his client was under pressure to acquire shares of his employer in the expectation of selling them at an early date at a profit. The case of The Queen v. George H. Garneau, 77 D.T.C. 5190 held that in such a situation the sale was on income account. Here at the time of purchase, there is no evidence that the Appellant wished to sell as soon as possible. His evidence was that on advice from accountants, shares were sold to crystallize a capital gain. The Appellant also believed when selling in November 1990, he was crystallizing a capital loss. Only later it would seem that the real benefit to the Appellant was to claim an adventure in the nature of trade and an income loss. Undoubtedly the Appellant was not too sophisticated in share options and sales resulting therefrom and he changed his mind from capital to income only at a later date. This was so despite his important corporate position.
The fact that a previous sale was reported on capital account does not set the rule for future sales. This proposition was set out by Bell, J. in Harry A. Friesen v. The Queen, 95 D.T.C. 492.
...
While there were many other cases referred to by both counsel, the Court believes that there was sufficient evidence that the Appellant was not dealing in an adventure in the nature of trade. The acquisition of the securities was not a part of a profit-making idea but rather was to take advantage of the generosity of the Appellant's employers. The profit nature was not ignored but not paramount. The operation had not sufficient of the characteristics of an adventure in the nature of trade but rather was an investment which did not permit in law the Appellant to change his mind as time and conditions passed.
23 The general test to be followed, so as to distinguish between capital gain and business income from an adventure in the nature of trade, can be found in Californian Copper Syndicate (Limited and Reduced) v. Harris: [See Note 12 below]
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Note 12: (1904), 5 TC 159 at 166 (Scot. Ct. of Ex.), cited with approval in Minerals Ltd. v. M.N.R.,[1958] S.C.R. 490 at 496, in Irrigation Industries Limited v. M.N.R., [1962] S.C.R. 346 at 354, and in Friesen v. The Queen 95 D.T.C. 5551 at 5554 and 5558 (S.C.C.); W.E. Crawford and R.E. Beam, "Adventure or Concern in the Nature of Trade"; "Badges of Trade as the Key Indicator of Taxpayer Intention" (1996) 44 Can.T.J. no. 3, 888 at 890.
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What is the line which separates the two classes of cases may be difficult to define, and each case must be considered according to its facts; the question to be determined being -- Is the sum of the gain that has been made a mere enhancement of value by realising a security, or is it a gain made in an operation of business in carrying out a scheme for profit-making?
24 The case at bar constitutes an isolated transaction. But as explained by Lord Radcliffe in Edwards v. Bairstow et al.: [See Note 13 below]
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Note 13: [1955] 3 All E.R. 48, as quoted in M.N.R. v. McIntosh 56 D.T.C. 1004 at 1007 (Ex. Ct.). That decision was later confirmed by the Supreme Court of Canada in McIntosh v. M.N.R., [1958] S.C.R. 119.
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[T]his was an isolated case. But, as we know, that circumstance does not prevent a transaction which bears the badges of trade from being in truth an adventure in the nature of trade. The true question in such cases is whether the operations constitute an adventure of that kind, not whether they by themselves or they in conjunction with other operations, constitute the operator as a person who carries on a trade.
(Emphasis added)
25 As noted by W.E. Crawford and R.E. Beam, [See Note 14 below] an "adventure", by the nature of that word, is likely to be an isolated transaction. Many isolated transactions are not, however, "in the nature of trade". There must be some activity, some features of business in the transaction dealt with which makes it an adventure in the nature of trade. [See Note 15 below] What must be looked for is whether there are "badges of trade" or behavioral factors which might assist in tracing the course of conduct of the taxpayer. [See Note 16 below] From these, inferences might be drawn as to whether a taxpayer was engaged in an operation of trade or simply investing.
(Emphasis added)
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Note 14: Loc. cit. at 893.
Note 15: See the case of No. 341 v. . M.N.R. 56 D.T.C. 231 (T.A.B.), by Tax Appeal Board which quotes from the Indian case of Rajputana Textile (Agencies) Ltd. v. Commr. of Inc-Tax (1953), 24 ITR 46 at 56 (Bombay H.C.).
Note 16: See J.W. Durnford, Profits on the Sale of Shares:
Capital Gains or Business Income? A Fresh Look at Irrigation Industries (1991) No. 5, 35 Can. T.J. 837 at 887. See also Friesen v. The Queen 95 D.T.C. 5551 at 5568, Iacobucci J. dissenting, but with which the majority (at 5554) agreed on that point.
[23] The factors that are representative of an adventure in the nature of trade have often been referred to as "badges of trade". These badges of trade are objective tests for determining what is an adventure in the nature of trade. In contrast, the individual's intention is a subjective factor. This factor is also important and should be weighed against the objective factors in arriving at a final determination.
[24] In Friesen v. The Queen, 95 DTC 5551, the Supreme Court of Canada took the opportunity to discuss adventures in the nature of trade and how they fit into the scheme of the Act in light of some of these badges of trade. At page 5554, the Court stated:
The concept of an adventure in the nature of trade is a judicial creation designed to determine which purchase and sale transactions are of a business nature and which are of a capital nature. This question was particularly important prior to 1972 when capital transactions were completely exempt from taxation. The question was succinctly stated by Clerk, L.J. in Californian Copper Syndicate v. Harris (1904), 5 T.C. 159 (Ex., Scot.), at p. 166:
Is the sum of gain that has been made a mere enhancement of value by realising a security, or is it a gain made in the operation of business in carrying out a scheme for profit-making?
The first requirement for an adventure in the nature of trade is that it involve[s] a "scheme for profit-making". The taxpayer must have a legitimate intention of gaining a profit from the transaction. Other requirements are conveniently summarized in Interpretation Bulletin IT-459 "Adventure or Concern in the Nature of Trade" (September 8, 1980) which references Interpretation Bulletin IT-218 "Profit from the Sale of Real Estate" (May 26, 1975) for a summary of the relevant factors when the property involved is real estate.
IT-218R, which replaced IT-218 in 1986, lists a number of factors which have been used by the courts to determine whether a transaction involving real estate is an adventure in the nature of trade creating business income or a capital transaction involving the sale of an investment. Particular attention is paid to:
(i) The taxpayer's intention with respect to the real estate at the time of purchase and the feasibility of that intention and the extent to which it was carried out. An intention to sell the property for a profit will make it more likely to be characterized as an adventure in the nature of trade.
(ii) The nature of the business, profession, calling or trade of the taxpayer and associates. The more closely a taxpayer's business or occupation is related to real estate transactions, the more likely it is that the income will be considered business income rather than capital gain.
(iii) The nature of the property and the use made of it by the taxpayer.
(iv) The extent to which borrowed money was used to finance the transaction and the length of time that the real estate was held by the taxpayer. Transactions involving borrowed money and rapid resale are more likely to be adventures in the nature of trade.
[25] In The Queen v. Vancouver Art Metal Works Limited, 93 DTC 5116 (FCA), at page 5119, Létourneau J. stated:
I have no doubt that a taxpayer who makes it a profession or a business of buying and selling securities is a trader or a dealer in securities within the meaning of paragraph 39(5)(a) of the Act. As Cattanach, J. stated in Palmer v. R., "it is a badge of trade that a person who habitually does acts capable of producing profits is engaged in a trade or business". It is, however, a question of fact to determine whether one's activities amount to carrying on a trade or business. Each case will stand on its own set of facts. Obviously, factors such as the frequency of the transactions, the duration of the holdings (whether, for instance, it is for a quick profit or a long term investment), the intention to acquire for resale at a profit, the nature and quantity of the securities held or made the subject matter of the transaction, the time spent on the activity, are all relevant and helpful factors in determining whether one has embarked upon a trading or dealing business.
[26] This decision was cited with approval in Rajchgot v. Canada, [2004] T.C.J. No. 403 and Sandnes.
[27] One of the leading cases in this area is the Supreme Court decision in Irrigation Industries v. M.N.R. At page 347 the Court set out the "positive tests" that are indicative of an adventure in the nature of trade, which were originally considered in M.N.R. v. James A. Taylor, [1956] C.T.C. 189:
(1) whether the person dealt with the property purchased by him in the same way as a dealer would ordinarily do, and (2) whether the nature and quantity of the subject-matter of the transaction may exclude the possibility that its sale was the realization of an investment or otherwise of a capital nature, or that it could have been disposed of otherwise than as a trade transaction.
[28] At pages 350 and 351 of this decision, the Court stated:
It is difficult to conceive of any case, in which securities are purchased, in which the purchaser does not have at least some intention of disposing of them if their value appreciates to the point where their sale appears to be financially desirable. If this is so, then any purchase and sale of securities must constitute an adventure in the nature of trade, unless it is attempted to ascertain whether the primary intention at the time of purchase is to retain the security or to sell it. This, however, leads to the difficulty mentioned by my brother Cartwright that the question of taxability is to be determined by seeking to ascertain the primary subjective intention of the purchaser at the time of purchase.
I cannot agree that the question as to whether or not an isolated transaction in securities is to constitute an adventure in the nature of trade can be determined solely upon that basis. In my opinion, a person who puts money into a business enterprise by the purchase of the shares of a company on an isolated occasion, and not as a part of his regular business, cannot be said to have engaged in an adventure in the nature of trade merely because the purchase was speculative in that, at that time, he did not intend to hold the shares indefinitely, but intended, if possible, to sell them at a profit as soon as he reasonably could. I think that there must be clearer indications of "trade" than this before it can be said that there has been an adventure in the nature of trade.
[29] And at page 352 in referring to corporate shares the Court stated:
Corporate shares are in a different position because they constitute something the purchase of which is, in itself, an investment. They are not, in themselves, articles of commerce, but represent an interest in a corporation which is itself created for the purpose of doing business. Their acquisition is a well-recognized method of investing capital in a business enterprise.
[30] From my review of the relevant caselaw, the intention of the Appellant, at the time of the acquisition of the shares as to whether he is acquiring for resale at a profit or long term investment, is critical in determining whether the acquisition is in the nature of an investment or part of a business. The Appellant's intention must be resolved within the framework of the Appellant's entire course of conduct, having a view to factors such as frequency of transactions, duration of the holdings, nature and quantity of the securities held, time spent on the activity and special knowledge possessed with regard to the securities.
Frequency of the Transactions:
[31] The Appellant exercised the stock options he received by virtue of his employment with Manhattan Minerals on three occasions from 1994 to 1997. He exercised the options and sold shares with the intention of obtaining funds to purchase a home. His wife testified that in the years 1995, 1996 and 1997, they wanted to purchase a home in Canada. In 1995 and 1996, he disposed of shares in the company on two separate occasions for a profit and reported those as capital gains. In February 1997 he exercised his stock option and purchased 30,000 shares on margin account. The 30,000 shares were added to an already existing account where he held 11,000 shares according to the evidence of Joey Goverde. The 11,000 shares in Manhattan Minerals were sold in the month of February 1997 as follows: 2,000 shares on February 19; 4,000 shares February 21; and 5,000 shares on February 24. Although the Appellant testified that in this period he purchased and sold shares in other corporations in addition to the shares of his employer company, he provided me with no specifics or other documentary evidence whatsoever to corroborate his oral testimony. Although I have no reason not to believe the Appellant, this broad assertion should have been supported with some type of documentary evidence. The share transaction in 1997 is not an isolated transaction but it is clear that the Appellant's trading activity is limited to the sale of corporate shares of his employer over a couple of years. During 1997, the Appellant purchased 30,000 shares and sold 41,000 shares, all within the context of his status as an employee. The number of transactions in 1997, even if I consider them in conjunction with the transactions in prior years, is not indicative of someone carrying on the business of buying and selling for quick profit. The frequency of the transactions here, without specific reference to the other "badges of trade", do not point to a trading activity.
Duration of Holdings:
[32] There was nothing in the evidence as to how long shares were held in years prior to 1997. In 1997, 11,000 shares were sold in three different allotments during the month of February. The 30,000 stock option purchase in February 1997 could have been disposed of for a significant profit and used to purchase a home but the Appellant chose not to sell at that time. His evidence was that the CEO of the company impliedly discouraged him from selling the shares and as a result he waited about nine months, until the end of November 1997, to sell. Even if I accepted the Appellant's evidence on this point, I think it would only be reasonable to expect that an employee would return to that CEO, after receipt of the corporate memo explicitly authorizing market activity, to at least confirm if his impression of their conversation was in fact correct. An inquiry as to why he could not sell at that time in light of this memo would also be warranted for several other reasons; first, his stated reason for exercising the option was to obtain immediate funds to purchase a house, second, he knew there were problems with this project and that the share price could be volatile and third, the small number of shares he held relative to the corporate issuance of millions of shares. In addition 11,000 shares were sold in February 1997, without permission of the employer, so the conversation with his CEO did not deter him from selling some shares after this encounter. The evidence of Joey Goverde was that the employer would never know about the sale unless the Appellant provided that information, as his brokerage company did not send a statement to the employer. The Appellant's conduct is not indicative of a trader looking for a quick profit. If he truly believed that the disposition of the 30,000 shares would affect his job, he allowed his personal concerns to override a business approach to the disposition of the shares which prevented him from making the appropriate inquiries, something a trader would not do, particularly in light of the corporate memo authorizing market activity. The evidence on this factor points to the Appellant exercising the options by virtue of his employment and not as a trader engaged in an adventure.
The Nature and Quantity of the Holdings:
[33] The shares were held entirely in the employer corporation in 1997 as they had been in prior years. There is no evidence to support the Appellant's claim that he invested in other corporations. The number of transactions in 1997 (the purchase of 30,000 in February, the disposal of 11,000 during February and the disposal of 30,000 during November) is not significant enough to point to an adventure in the nature of trade. By comparison, in the decision of Miller J. in Sandnes where 23 transactions were found not to be significant enough, in this case we have far fewer transactions occurring. The Supreme Court of Canada in Irrigation Industries stated that the acquisition of corporate shares is indicative of investing capital in a business enterprise. There was no evidence of activity in other corporations in this appeal. In addition the Appellant reported the disposition of his shares in previous years as capital gains. Although I do not believe that the Appellant is necessarily bound to treat subsequent transactions as he had done previously, based on the evidence before me, there were no significant changes that would warrant a new characterization of the shares in 1997.
Time Spent:
[34] The Appellant testified that he reviewed the company's public statements, discussed the stock with colleagues and monitored the stock daily. These activities are indicative of actions that would be taken by employees of a company, where they have purchased shares pursuant to stock options and consequently have a continuing interest in that investment. Such actions alone with nothing further are not indicative of a trader engaged in an adventure.
Special Knowledge:
[35] The Appellant is a mining engineer with no education, training or certification in stock trading. He did not specifically recall where he obtained his financing for purchasing the stock in 1997 providing different evidence in direct and in cross-examination. He required no special knowledge to acquire the employee stock options offered to him by virtue of his employment that would indicate he had special knowledge akin to a trader.
Conclusion:
[36] The Appellant and his wife were eagerly hoping to purchase a home. I believe he wanted to sell his shares to make a profit. Unfortunately he did not sell the shares in time and he incurred huge financial losses. However I do not think that there is sufficient evidence to substantiate the Appellant's claim that he was engaged in an adventure in the nature of trade. After assessing each of the above factors individually, when I look at the Appellant's entire course of conduct, it is one of an employee of Manhattan Minerals, who is acquiring shares offered to him at various times through employee stock options. His intention was to exercise these options for investment purposes with a view to a future source of funding for a house purchase. The stock activities here are in no way indicative of the activities of a trader in securities. The overall impression one is left with is that the Appellant's activities are those of an investor and in fact his approach to the disposition of shares in prior years was to report those dispositions as capital. While prior treatment of dispositions may not be determinative of present dispositions, they can be indicative of intention on the part of a taxpayer. The Appellant stated he may have completed his own return in 1995 but in both 1995 and 1996 he signed his returns. There was consistency in both of the years in the reporting when the dispositions yielded a gain. There was nothing in the evidence to distinguish the 1997 transactions from the prior transactions except that in 1997 there were losses instead of gains.
[37] For these reasons the appeal is dismissed with costs.
Signed at Ottawa, Canada, this 30th day of March 2006.
Campbell J.
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