Seaboard Advertising Co. Ltd. v. MNR, 65 DTC 5188, [1965] CTC 310 (Ex. Ct.)

Noël, J.:— This is an appeal from the decision of the Income Tax Appeal Board, 34 Tax A.B.C. 182, dated December 16, 1963, dismissing the appellant’s appeals from its income tax assessments for 1960 and 1961 whereby amounts of $12,274.36 and $21,041.66 for the respective years which had been deducted by the taxpayer, were added to its income.

The appellant, a Vancouver, B.C. corporation, was then, and still is, engaged in the business of outdoor advertising by means of poster panels (10 by 2 feet in size, where the copy of advertising material is produced on paper and then pasted on the surface of the panel) and bulletins (10 by 50 feet in size where the advertising message is hand-painted on panels which are then installed in the location) and gets its business by dealing either directly with advertisers or through advertising agencies. The land or the sites upon which these boards or posters are erected are rented from their owners for varying amounts and periods of time, a matter of negotiation in each case by the appellant’s sales agents. Footings are then installed on back braces and then panels are set up with mouldings and electric fixtures. The contract entered into with the advertisers states the length of time the contract is to run, the size and number of panels involved, whether or not it is through an agency, whether or not the panels are illuminated. The normal services rendered during the term of the contract are to insure that proper lighting and structures are maintained and that the bulletins are repainted whenever necessary.

The appellant, in 1959, purchased the assets and the business of a competitor, a corporation called SignKraft Advertising Limited, the second largest in the area after the appellant, because according to the appellant’s president, Mr. Don Norris Finlayson, it was difficult to obtain sites at the time. Amongst the assets purchased was a class related to uncompleted bulletin advertising contracts. The appellant submitted that the payment for the acquisition of this class should be deductible under Section 12(1) (a) of the Act as an expenditure incurred ‘for the purpose of gaining profit’’. The respondent, on the other hand, refused deduction on the ground that the payment was a capital expenditure under Section 12(1) (b) of the Act. The appellant also objects to a net amount of $1,724.35 added to its taxable income for the year 1960 which the taxpayer had deducted, and which represented audit and legal fees, regarding acquisition of business from SignKraft Advertising Limited ($2,000) less pro rata portion attributed to inventories and accounts receivable, i.e., $275.65 to which amount the parties agreed at the hearing should be added the sum of $869.60, thus forming a total of $1,145.25 instead of $1,724.35. I assume that this amount was disallowed as an expense on the basis that it related to the capital used in the business.

By an agreement (Ex. A-2) dated September 28, 1959, but effective as of July 31, 1959, the appellant purchased from SignKraft Advertising Limited, as indicated in the preamble of the deed ‘‘the business and goodwill of the vendor and the property and assets of the vendor hereinafter set forth . . .’’ for the sum of $230,000 (which, according to clause 9 of the agreement was ‘‘the aggregate consideration for the assets sold hereunder’’ [herein called the ‘‘total price”]) :

Machinery, equipment and for billboards leased

under location leases	$ 31,500
Inventory	2,100
Work in progress	2,200
Customer contracts	100,000
Location leases	10,000
Investment	1,800
Trade accounts	26,800
Goodwill	55,000
	$230,000

As a matter of fact, the only items the appellant did not purchase were an oil burner, certain amounts due from employees, prepaid expenses, an advance to a director and the real estate consisting of an office factory building which, however, the appellant took over by lease for five years for the purpose of using it but which was not used and was subsequently sublet by the appellant.

With regard to the factory building, the appellant’s managing director was asked if the premises had been leased for the appellant’s own activities and answered:

‘CA. Well, at the start we thought that we possibly may run SingKraft as a division but after a short time it became evident

that this was not justified so we brought the equipment and everything out back into our own factory and then sublet SignKraft . . .’ ’

The transaction, however, as appears in the above listed items, comprised the goodwill of the SignKraft business as well as a prohibition for the latter to operate in Canada an advertising business for a period of ten years, as set down in clause 7 of the agreement and an undertaking by the vendor that a similar prohibition shall be obtained from its president, Mr. H. V. Hartree, as set down in clause 18 of the agreement. Clauses 7 and 18 read as follows:

“7. The Vendor doth hereby bargain, sell, assign, transfer and set over unto the Purchaser all of the goodwill attaching to and forming part of its business as a going concern not hereinbefore sold to the Purchaser, including all the Vendor’s right in and to the trade name ‘SignKraft’, with the full and exclusive use and benefits and advantages thereof (herein called the goodwill and name’) to hold the [sic] unto the Purchaser, its successors and assigns, to and for its and their sole and only use forever, for the consideration of Fifty-five thousand dollars ($55,000), and the Vendor covenants and agrees with the. Purchaser. that within one month after the execution of these presents it will cause'its corporate name to be changed to some name dissimilar:to ‘SignKraft Advertising Limited’ and that it will not either by itself or in partnership or in conjunction with any other person or persons, or as agent _.- for any other person, firm or company, for a period of ten

(10) years from the date of the execution of these presents, either directly carry on or engage in or be concerned in, in Canada, the business of outdoor advertising.

18. Forthwith upon the execution hereof the Vendor shall cause H. V. Hartree to execute an agreement with the Purchaser whereby he covenants that he will not either by himself or in partnership or in conjunction with any other person or persons or as agent for or employee of any other person, firm or company, for a period of Ten (10) years from the date of execution hereof either directly. or indirectly carry on or engage in or be concerned in, in Canada, the business of outdoor advertising.’’

I might point out here that although, as hereinabove indicated, the appellant had the right to the name ‘‘SignKraft’’ it neglected to properly protect it and eventually lost it to a competitor.

The assets purchased were all incorporated with the appellant’s. The equipment was used by the latter until it no longer was useful although there may still be one piece of equipment in operation. The investment of $1,800 was sold. Upon the acquisition by the appellant of the assets of SignKraft, a SignKraft division was created within the appellant’s corporation and an attempt was made to account for revenue and expenses of that division as a separate one dealing not only with the uncompleted SignKraft contracts but also with other negotiated by Seaboard under the name “SignKraft Division’’. This division, however, did not run to the end of the appellant’s fiscal period: but only from the period August 1, 1959, to February 29, 1960, 1.e., seven months after which, as put by the appellant’s secretary Mr. Guy James Lewall (cf. p. 91 of the transcript) “we dumped everything back into the Seaboard accounts and carried on’’.

Exhibit A-4 comprises a list of the 53 customer contracts purchased by the appellant for the sum of $100,000 and indicates that these contracts, as of July 31, 1959, had a total unearned contract value of $230,709 although the appellant received over the period covered by the unexpired contracts, an amount of $205,764 only due to the fact that some of these contracts did not actually mature such as, for instance, the Blackwall Ferries contract, where the structure blew down and could not be reerected and one other firm which went into bankruptcy and where a loss was sustained. The difference, however, between the $100,000 expended for these contracts and the $205,764 received was not clear profit as the appellant, as appears from Ex. A:-5, was required to pay the rent on the locations as well as power and other expenditures in a total amount of $77,649.19 during the unexpired terms of the contracts and the profit on these contracts would be further reduced if a proper allocation of overhead was applied to them. The commencement dates of these 53 contracts vary but some started in 1956, 1957, 1958 and 1959 and some expired in 1959, 1960, 1961, 1962, 1963 and even 1964. As a matter of fact, these 53 contracts by their terms expired as follows :

(1) 26 within one year; value $28,252.50

(2) 12 within from one to two years; value $75,354.50

(3) 9 within from two to three years; value $29,673

(4) the remaining 6 within four to five years; value $97,429.

There are in addition 17 renewal contracts (cf. Ex. R-1) of a value of $83,325.19 which with the 53 contracts total $314,034.19. It may also be of some interest to note that of the 53 advertisers, three only had remained with the appellant at the time this appeal was heard (April, 1965), the others, according to the president of the appellant, having elected to use other media (cf. p. 69 of the transcript).

The vendor guaranteed the value of the above contracts to be not less than $200,000 and the contract provided for adjustment of the sale price in the event that the total failed to amount to the figure guaranteed.

The two amounts of $12,274.36 for 1960 and $21,040.66 for 1961 which the respondent refused to deduct were the amortized portion of the amounts paid to SignKraft Advertising Limited for these customer bulletin advertising contracts, which portion had been determined by an arbitrary allocation obtained by spreading evenly the income obtained from these contracts over a period of five years at the rate of 1/60 per month [sic].

It appears from the above that although a price tag was placed on the various items purchased by the appellant to make up the aggregate amount, the agreement document clearly states that such aggregate amount is the consideration for the assets sold and further indicates that the intent of the purchaser was clearly to purchase the business of the vendor.

Should I have any doubts in this regard, the evidence of the appellant’s president, Mr. Don Norrison Finlayson at pp. 67, 80 and 81 of the transcript would dispel them:

p. 67:

“Q. Would it be that you were buying the whole business except those personal matters such as loans from employees to the former SignKraft Company, the title to the real estate, other than that you took them over lock, stock and barrel, to use an informal phrase? A. We bought the assets of the company.”

pp. 80-81:

“Q. I made a suggestion to you there and I am going to make the same suggestion to you here that you acquired virtually all that was required for a complete signboard business from SignKraft. I use the word ‘virtually’ because we know you did not acquire some things. Let’s look at the list now, which is on page 2 of the notice of appeal. You got everything, even the good will for $55,000.00? A. Yes.

Q. Now, would you agree with me that you did acquire virtually a total operating business from SignKraft? A. Yes, but we didn’t purchase the actual plant, the visible factory.

Mr. GOULD: That is covered in the contract.

Q. You also in the acquisition contract made a contract that you would keep secure the employment of every employee except Hartree himself. Perhaps I should show you that. A. Yes, we did.

Q. At any rate you took over in toto the personnel as well except Hartree? A. Yes.”

It is also of some importance to note that the appellant company in purchasing the business and the goodwill of SignKraft and by prohibiting this company, and its president Mr. Hartree, from operating as an advertising firm in Canada for a period of ten years obtained a near complete domination of the market with the exception of the David Hall firm. This appears also from the transcript at p. 69 where the president of the appellant corporation, in cross-examination, stated as follows:

“Q. Now, in 1959 when you acquired this business you achieved an overwhelming domination of the market all except for David Hall? A. Yes.

Q. And would that put you in—I am groping for a figure, 90 to 10, your old complex of the old Seaboard and SignKraft, put you in ratio with David Hall? A, Possibly, yes.

Q. How long did that situation prevail or do you still have an overwhelming share of that particular market ? A. Yes, we do.

Q. Still roughly about the same, 90 to 10? A. Yes.”’

The appeal, as already mentioned, involves consideration of Section 12(1)(a) and (b) of the Income Tax Act which reads as follows:

“12. (1) In computing income, no deduction shall be made

in respect of

t

:

(a) an outlay or expense except to the extent that it was made or incurred by the taxpayer for the purpose , .of gaining or producing income from property or a business of the taxpayer,

(b) an outlay, loss or replacement of capital, a payment on account of capital or an allowance in respect of depreciation, obsolescence or depletion except as expressly permitted by this Part,’’. .

The issue here is whether the payment of $100,000 made by the appellant to SignKraft Advertising Limited, in the above described circumstances, is deductible under the above section. There are in effect two questions which arise here: (1) was the expenditure of $100,000 (subsequently amortized for the years 1960 and 1961) made for the purpose of gaining or producing income, and (2) if it was so made, was such payment an allowable income expense or was it a capital outlay?

Turning to the facts of the present case it is clear that the payment of $100,000 and its amortized portions made by the appellant was for the purpose of gaining or producing income from its business as the income of the appellant is derived from renting sites, obtaining advertisers, erecting thereon advertising boards and to earn this income it must obtain the sites, the advertisers and erect the signs. The appellant in purchasing these unexpired contracts was obtaining thereby the means by which it earned its income and carrying on the object of its business as set down in its memorandum of association (Ex. A-1) in paragraphs (a) (1) and (b) thereof which reads as follows:

“ (a) (1) To carry on a general advertising and commercial

display business in all its branches, both as principals and agents;

(b) To purchase or otherwise acquire, manufacture, sell, lease or otherwise deal in, erect, construct, equip, maintain, and operate advertising and other signs illuminated by electricity . . .’ ’

Indeed, whether its means of earning its income was obtained by sending out sales agents to advertisers or dealing with the latter directly at its office, or by purchasing a number of unexpired advertising contracts in bulk, it, in all of these cases, was expending money for the purpose of gaining or producing income from its business.

The only point, therefore, remaining. is whether the sum so expended is a capital outlay which would be prohibited from deduction within the meaning of Section 12(1) (b) of the Act.

The appellant takes the position that the true reason for the purchase made herein was the acquisition of the location leases and that for such purpose it was willing to purchase, in addition to the sites, that portion of the business and goodwill of SignKraft which would readily or conveniently be amalgamated with its own business. Its counsel admitting that although, in fact, the appellant acquired substantially all the business of SignKraft with the exception of a few assets, urged that what must be considered here is what was intended by the agreement, perusal of which he says will show that the real intention was to sell certain assets only upon which prices were placed and that although mention of an aggregate consideration is made in section 9 of the agreement, this merely means that a total of a number of individual items was arrived at for each of which, however, a separate consideration was intended by the parties. This, according to the appellant, is supported by the fact that this is the way the respondent has treated this transaction in allowing the appellant to depreciate the machinery equipment and billboards valued at $31,500, to charge off the inventory at $2,700 and the work in progress at $2,200 and by allowing capital cost allowance for the location leases or the sites at $10,000 whereby the appellant was allowed to write this amount off over the length of the unexpired term of the leases.

The appellant further submitted that whatever was acquired in the nature of acquiring the whole business of SignKraft and for getting rid of a competitor, were paid by the payment for the goodwill in the amount of $55,000 which, of course, was treated as a capital payment.

The argument advanced by the appellant that the true reason for the purchase was the obtention of the sites covered by the 53 contracts, can, however, hardly be accepted in view of the fact that a total of $230,000 was paid and the value attached to the sites by the appellant itself was only in the amount of $10,000. Mr. Don Norrison Finlayson, president of the appellant, was examined on this point at pp. 79-80 of the transcript:

“Q. That was your motivation. Have you any explanation or do you think it necessary to have paid $230,000 for a group of assets when all you really wanted was one valued at ten.

A. I don’t know the reason.”

In effect, the appellant achieved far more than the acquisition of sites in this transaction, it indeed obtained the elimination of its main competitor thereby gaining a virtual monopoly of the market as well as a number of unexpired contracts, half of which cover more than one accounting period with renewals of same and even possible renewals of renewals, as appears from the evidence of the appellant’s president at p. 74 of the transcript :

“Q. Of course that doesn’t mean the end, what I have in my hand (mind) that doesn’t mean the end of these contracts because there would be renewals of renewals in some instances.

A. M’hm.

Q. And there are still three running? A. Yes.”

The appellant here cannot therefore take the position that these contracts were of a limited duration as all these things are, in my view, of a very enduring nature and constitute something which was well worth paying $230,000 for.

Indeed, the object and effect of the payment of this large sum was clearly to obtain for the appellant a substantial and lasting advantage of being in a position through its business life to insure and retain its virtual monopoly of the market as well as an endurable (which does not mean perpetual) advantage or benefit in the long term contracts obtained.

It therefore appears to me that a correct appraisal of the agreement entered into by the appellant with SignKraft, is that by this transaction a business as a going concern was bought as an enduring asset rather than a purchase of severable disparate parts.

There can in effect be no doubt in this regard if proper consideration is given to the following: the agreement recites that the purchaser has agreed to purchase a business and its goodwill as well as the right to the trade name SignKraft ; from July to September 1959 the vendor carried on the business as the agent of the purchaser; the vendor as well as its president undertook not to carry on in Canada the business of outdoor advertising for a period of ten years; the purchaser leased the vendor’s real property for five years; the purchaser undertook to employ in its service all the present officers and employees of the vendor with the exception of its president, Mr. H. V. Hartree.

The appellant finally took the position that there is essentially no difference between sending out salesmen to acquire contracts, charging the costs thereof to operations or going to an agency such as SignKraft which had accumulated contracts and purchasing them in block for a price and that these 53 contracts purchased are similar to the 1,200 existing contracts of the appellant corporation which, of course, cannot be considered as a capital asset.

It is indeed difficult to see why work in progress in an amount of $2,200 which is simply customer contracts before the display is actually put on the bulletin board or the preliminary work done in order to erect the necessary advertising pursuant to the contract, was allowed by the Minister as a deductible expense and customer contracts disallowed as both deal with the same situation, the work in progress being merely one step back in the same operation. In the work in progress stage, the contract has been obtained but the sign has not been painted nor erected, but it still forms part of the customer’s contract which will come into being and from which revenue will be derived at some date in the future.

The difficulty here is that because the contracts so purchased represent the services the appellant renders and sells as a business and the expenditure of $100,000 paid for these contracts bears a fair comparison with a monetary charge on the business production of a given year in view of the definite accounting periods during which these contracts respectively mature and produced income, they could, therefore, be treated as analogous to stock in trade. However, it would seem that it is not possible to treat them as such, where they are acquired by an expenditure made in the process of purchasing a business with the conse- quent. procurement of enduring benefits such as we have here. Such an expenditure must be considered not as part of the cost of carrying on a business, but as part of the cost in acquiring a business. In City of London Contract Corporation Limited v. Styles, 2 T.C. 239, which decision was rendered in 1887 and which was referred to in John Smith & Son v. Moore, 12 T.C. 266, by Lord Sumner as never having been questioned, and where a company acquired a business including unexpired income producing construction contracts, that part of the purchase price being allocated to the cost of these contracts was not permitted to be deducted from profits on the basis that it was not deductible as it was part of the capital invested in the business.

It therefore follows that unfortunately for the appellant herein, and until such time that either the general prohibition on the deduction of capital expenditures in Section 12(1) (b) of the Act is repealed or that deduction of an expenditure such as here is allowed under the capital cost allowance regulations of the Act, deduction of same shall have to be refused.

Subject to the assessment being varied in accordance with the agreement arrived at between counsel regarding audit and legal fees in the amount of $1,145.25 instead of $1,724.35 being added to the appellant’s income for the year 1960, the appeal is therefore dismissed with costs.

-ni ‘ NICHOLAS DETORO, Appellant,

and

MINISTER OF NATIONAL: REVENUE, Respondent.

Exchequer Court of Canada (Cattanach, J.), July 19, 1965, on appeal from an assessment of the Minister of National Revenue.

Income tax—Federal—Income Tax Act, R.S.C, 1952, c. 148—Sections 3, 4, 139(1) (e)—Real estate transaction—Erection of apartment building by corporation followed by sale of shares by shareholders— Whether profit income or capital gain.

The appellant and an associate, Stanley W. Carr (whose appeal was heard concurrently), joined together in 1958 to form a corporation for the purpose of acquiring property and erecting an apartment building thereon. Construction commenced early in 1959 and was completed in December. Early in 1960 the apartment building was listed for sale, the associates having’ in the meantime acquired other land on. which to construct a larger apartment building. An offer was in due course accepted but it was later agreed that rather than buy the property from the corporation the purchasers would acquire the corporation’s shares from the appellant and his associate. The Minister sought to treat the profit so realized as income from a “business” within the meaning of Sections 3, 4 and 139(1) (e) whereas the appellant contended that it was a capital gain from the sale of an investment.

HELD:

(i) That the fact that the profit arose from the sale of shares rather than from the sale of the real property was immaterial;

(ii) That the onus of disproving the Minister’s assumption that one of the original purposes had been to sell the building fell on the appellant;

(iii) That the appellant and his associate, being experienced, respectively, in the construction and financing fields, could not have been oblivious to the eventualities which did in fact happen and it must be inferred that they foresaw and planned for that alternative from the outset;

(iv) That the appeal be dismissed.

CASE REFERRED to :

Kh. Kk. Fraser v. M.N.R., [1963] Ex. C.R. 364; [1963] C.T.C. 130;

[1964] C.T.C. 372.

Colin G. Bergh, for the Appellant.

G. W. Ainslie and Alban Garon, for the Respondent.

CATTANACH, J.:—This is an appeal from assessment to income tax levied by the Minister on the appellant for the 1961 taxation year.

The appellant began his working life as a construction worker specializing, at first, as a tile setter, but subsequently engaged in the building of single family dwellings in and about the City of Toronto. While the appellant could and did build the odd home pursuant to contract, nevertheless the greater number of homes which were built by him were built on a speculative basis, that is with no specific purchaser in view.

In 1958, because of competition from developers and builders on a large scale, the appellant’s business was no longer profitable so he abandoned it and cast about for another means of livelihood.

During the appellant’s career as a speculative builder, he had become well acquainted with Stanley W. Carr, who is also an appellant from assessment to income tax for his 1961 taxation year arising from the same transaction as gives rise to the present appeal. Mr. Carr had been the employee of a firm of financial agents and as such had been engaged in placing mortgage monies on behalf of his employer. In. this capacity, Mr. Carr first became acquainted with the appellant and their business relationship ripened into a personal friendship.

In the fall of 1958 it came to the appellant’s attention that a parcel of land in the City of Toronto, municipally known as 151 St. George Street, was for sale at a price of $73,000. This particular parcel had a frontage of 57 feet, 5 inches and the parcel immediately adjacent to the north had a frontage of 56 feet, 7 inches, while the property immediately adjacent to the south had a frontage of 57 feet. The remainder of the block was taken up by two apartment buildings.

The municipal by-law in effect at that time and to which the property was subject. permitted the construction of an apartment building with a floor area three and one-half times the lot area with side yards of no less than 10 feet. Such by-law would permit of the erection of an apartment building containing 48 suites. The owners of the site, upon which there was an old house of substantial size, had made an application for and had been granted a building permit for such a building by the municipal authority.

It became known to the appellant that no further building permits of this nature were available from the City of Toronto with respect to the immediate area because of the prospective enactment of a further zoning by-law prohibiting. the erection of any building on a lot having a front lot line of less than 90 feet, any part of which would be within 15 feet of the side lot lines and further that the floor area should not exceed two times the lot area. A by-law to this effect, being by-law No. 20623 was in fact given first reading by the City of Toronto on April 13, 1959 and was subsequently approved by the Ontario Municipal Board on June 29, 1959 thereby coming into force.

The appellant also ascertained that the building permit obtained by the then owners of the site prior to the end of the 1958 calendar year would be available to a purchaser, as would other permits which might have been similarly obtained with respect to other sites in the area. The appellant investigated further and found that no applications for building permits had been made with respect to the lots immediately adjacent to 151 St. George Street to the north and south, which for purposes of convenience will hereinafter be referred to as 149 and 153 St. George Street. The appellant therefore concluded that an apartment could be erected on 151 St. George Street and that the likelihood of competitive buildings being erected on 149 and 153 St. George Street was remote because the restrictive terms of by-law No. 20623 would render such projects economically unfeasible.

The appellant thereupon telephoned his friend Stanley Carr, who was likewise impressed with the prospect of an apartment building on 151 St. George Street and readily: agreed to the suggestion of the appellant that they should purchase the site and build an apartment house thereon. The arrangement between them was that the appellant, because of his building experience, should undertake the detailed supervision of the acquisition of the site, the erection. of the building and subsequent to its completion the management and operation thereof. Carr, for his part, would supply the necessary funds from his personal resources and arrange mortgage financing and the like since that was where his experience lay. However, because of the possible implication of Carr entering into competition with clients of the firm of financial agents by whom he was employed, it was arranged that he should otherwise be inactive in the matter and that the appellant should assume the active and dominant role in all negotiations.

Accordingly on September 17, 1958 an agreement for the purchase of the land was entered into, in trust for a company to be formed, at a price of $73,000 which funds were provided jointly on behalf of the proposed company by the appellant from the proceeds of the sale of his construction business and by Carr from his personal savings.

By letters patent dated December 23, 1958 a company was incorporated under the name of 151 St. George Street Limited and in accordance with the terms of purchase the land was registered in the name of the company.

All of the issued shares in the capital stock of the company were issued to the appellant and Carr in equal proportions.

‘On December 23, 1958 a building permit was granted to the company to excavate and build foundations. On May 3, 1959 a further building permit was issued to the company to erect a 48-suite apartment building on that site. The appellant in his testimony, described these permits as renewals of the previously issued permits although on their faces they are originals.

Demolition of the previously existing buildings on the site was begun on December 1, 1958. The apartment building was completed in December 1959 but had been fully leased and occupied in September 1959.

Interim financing of the construction of the building was by means of a bank loan of $75,000. A mortgage loan of $315,000 was obtained by the company from London Life Insurance Company out of which the bank loan was repaid and construction costs paid. Prior to this mortgage having been obtained, a mortgage commitment had been received from Investors Syndicate for a sum of $300,000. The total cost of the building and land was $436,396.74. The difference was made up from capital of the company and advances by the appellant and Carr with Carr putting up the greater amount.

In February or March of 1959, prior to the completion of this apartment at 151 St. George Street, the appellant and Carr became aware, through the architect employed by them, that other clients of that architect were desirous of building apartments at 153 and 149 St. George Street and to do so would make application to amend zoning by-law No. 20623 so as to restore the restriction of 10 foot side yards and a floor area of 312 times the lot area rather than the restriction of 15 foot side yards and a floor area of two times the lot area as provided in by-law No. 20623.

On learning of the possibility of a change in the zoning by-law affecting 149 and 153 St. George Street the appellant approached the owners of 149 St. George Street forthwith to ascertain if they would be willing to sell, which they were. Accordingly the appellant and Carr, as trustees, on April 20, 1959, executed an offer to purchase (which was accepted) 149 St. George Street for $85,000, paying a deposit of $500, with $28,500 to be paid upon closing and a first mortgage back to the vendors for the balance. The offer contained a provision that an existing building could be demolished and that if a building permit for an apartment was not forthcoming then the appellant and Carr might terminate the contract if they wished.

Similarly the owners of 153 St. George Street were approached and an offer to purchase that property was executed on July 9, 1959 by the appellant and Carr as trustees, which offer was also accepted, also at a price of $85,000 payable by a deposit of $1,000, $10,000 on closing and a first mortgage back to the vendors for the balance of $74,000. This offer was subject to the same conditions respecting the acquisition of a building permit as was the offer to purchase 149 St. George Street.

On July 17, 1959 a document was executed by the appellant and Carr acknowledging that 153 St. George Street was held by them in trust for Samuel Roy, a builder, and that 149 St. George Street was held in trust for a limited company to be formed in which the appellant and Carr were to be the only shareholders.

Subsequently the beneficiary of the trust respecting 149 St. George Street was changed to become the wives of the appellant and Carr who purchased the property with their own funds and from the proceeds of a loan arranged for them by Carr. This property was sold subsequently by the wives at a profit upon which income tax was levied and paid.

The appellant and Carr then became the initiators of an active and persistent campaign to have by-law No. 20623 amended as it affected 149 and 153 St. George Street. This campaign was begun by a letter dated December 4, 1959 to the Department of Buildings and Development of the City of Toronto from the architect employed by the appellant and Carr for building permits for two buildings similar to that on 151 St. George Street and with dimensions identical thereto to be erected on 149 and 153 St. George Street.

By a report to the Committee on Buildings and Development, dated February 2, 1960, the Commissioner of Planning recommended against the requested exemption from the residential standards of by-law No. 20623 being granted. A similar recommendation dated February 11, 1960 was made by the City Solicitor and the Commissioner to the Committee.

The Committee, after a meeting held on March 2, 1960, at which the architect appeared in support of his application, recommended to City Council that the zoning by-law be amended to permit of the erection of the proposed apartments on 149 and 153 St. George Street. City Council called for a poll of the owners of property in the area which resulted in 24 being in favour, 8 opposed, 12 did not reply and 2 were disinterested. (It is obvious that the appellant and Carr were in favour of the amendment.) City Council thereupon enacted by-law No. 20623 to permit the erection on 149 and 153 St. George Street of apartment houses having lesser side yards, and greater floor space area than prescribed in by-law No. 20623.

However, the approval of the Ontario Municipal Board was a condition to by-law No. 20995 coming into force.

The appellant and Carr next retained counsel to obtain an early appointment before the Board and to represent them at that hearing. By its decision dated July 25, 1960, the Ontario Municipal Board approved the by-law stating that, in its opinion, the erection of the proposed apartments would not harmfully. affect the proper enjoyment of the adjoining lands for their present uses and that an undue hardship would be inflicted upon the owners of 149 and 153 St. George Street if the by-law were not approved.

By an agreement between Samuel Roy (the beneficiary of the trust respecting 153 St. George Street) and the appellant and Carr entered into on an unspecified day in May 1960, Roy agreed to pay the appellant and Carr $10,000 for their services in keeping the contract for the purchase of 153 St. George Street alive, by arranging numerous extensions, and for obtaining the amendment to the zoning by-law. It was subsequently agreed between Carr and the appellant that the appellant should retain the $10,000 so paid by Roy since the appellant had con- ducted the bulk of the negotiations.

Immediately upon the completion of the construction of the apartment building on 151 St. George Street, the appellant and Carr began assembling other property on St. George Street for the purpose of erecting a larger apartment building thereon.

On December 28, 1959, the appellant, as trustee for the company to be incorporated, made an offer. to. purchase property known municipally as 268 St. George Street for $45,000. A deposit of $500 was made, $14,500 was to be paid on closing with a first mortgage back to the vendor for the balance of $30,000. It was also agreed that upon payment of $10,000 on account of principal the existing building on the lot could be demolished. The offer was conditional upon a building permit for the erection of an apartment being obtained, This offer was accepted by the owner.

On January 26, 1960 an offer was also made to purchaSe numbers 274, 276 and 278 St. George Street for a price of $137,500, which offer was accepted. A deposit of $5,000 was paid, $30,000 wast to be paid on closing, an existing mortgage would be assumed and a mortgage for the balance would be given back to the vendor. This offer was also conditional upon the purchaser being able to obtain a building permit to erect an apartment before the closing date.

Extensions to both these offers were from time to time requested by the appellant and Carr and were granted, subject to the terms of payment of additional amounts.

During the course of the construction of the apartment building at 151 St. George Street, the appellant was approached by a real estate agent with an offer to purchase the building on behalf of Venezuelan interests which offer the appellant, after consultation with Carr, refused.

Early in 1960 a listing was given to a real estate agent named Tasse to sell the apartment at 151 St. George Street. The appellant also advised at least eight real estate agents that the property was for sale and supplied them with an estimate of income and expenditure.

On September 27, 1960, the Company, 151 St. George Street Limited accepted an offer to purchase 151 St. George Street at a price of $440,000 which exceed the cost of the land and building by a very small amount. It was a condition of the offer that the transaction be closed by October 31, 1960.

On October 14, 1960 the Company, the appellant and Carr received an offer from Judges Landreville and Cooper for the property at 151 St. George Street at a price of $480,000 which represented a profit of approximately $40,000. This offer was accepted on behalf of the Company subject to the condition of the prior’ offer of September 27, 1960 not being perfected by October 31, 1960. In the opinion of the appellant and Carr the prior offer was not perfected prior to October 31, 1960 and accordingly the offer of October 14, 1960 was accepted without qualification on October 31, 1960.

By an agreement dated October 31, 1960 between Judges Landreville and Cooper of the one part and the Company, the appellant and Carr of the other part, it was provided that rather than the real estate being sold to them, they would purchase all outstanding shares in 151 St. George Street Limited, the beneficial owners of all such shares being the appellant and Carr for the like sum of $480,000.

The offeror of the offer dated September 27, 1960 began litigation which: was settled so the actual sale of the shares: was delayed until 1961. The profit from this sale of shares is the subject matter of the appellant’s assessment to Income tax for 1961 from which the present appeal is taken.

Immediately following the sale of the shares in 151 St. George Street Limited the appellant and Carr erected an apartment building at 268, 274, 276 and 278 St. George Street through the interposition of a joint stock company named 276 St. George Street Limited in which the appellant and Carr were the only shareholders and apartment buildings were erected on 149 and 153 St. George Street by persons other than the appellant and Carr.

The appellant’s case is set out in his Notice of Appeal as follows :

" At no relevant time has the Appellant purchased and sold real estate for the purpose of earning income and at no time has the Appellant dealt or traded in shares of the capital . stock of corporations as a business.

The relevant facts indicate that the sale of the shares of 151 St. George Street Ltd. by the Appellant did not constitute a sale of inventory but rather a forced realization of a capital investment in order that it might be preserved _, intact and so that the proceeds of sale could thereupon be reinvested in like security in 276 St. George Street Ltd. from which company the Appellant receives and enjoys investment income properly subject to income tax.

The Minister has accordingly erred in assessing the Appellant to tax on the fortuitous gain received by him in 1961 on the sale of shares of 151 St. George Street Ltd. within the meaning of Sections 3, 4 and 139(1) (e) of the Income Tax “Act.”

In answer to the foregoing the Minister contends :

"‘That the acquisition by the Appellant and the said Stanley Carr of a certain parcel of real property known as 151 St. George Street, in the City of Toronto, and its realization in the form of shares of capital stock of a company known as 151 St. George Street Ltd., together with a further realization of the shares of such company at a profit to the Appellant of $18,440.73 is income from a business within the meaning of the word as defined in the Income Tax Act. ’ ’

The question for determination is whether the profit realized on thé sale of the shares at 151 St. George Street Limited constituted a profit realized from a venture that commenced with the acquisition of the real property known as 151 St. George Street and was, therefore, a profit from a business within the meaning of Sections 3 and 4 of the Income Tax Act and the extended meaning of "‘business’’ as defined by Section 139(1) (e) to include an adventure or concern in the nature of trade or, as contended by the appellant, the land was acquired and the apartment house built thereon exclusively as an investment for the purpose of receiving rental income therefrom and that the disposition thereof, through the sale of shares constituted the realization of a capital asset.

In my view, the fact that the profit was made by the appellant and Carr from the sale of the shares in the Company and not from the sale of the real property, is immaterial. The original offer from Judges Landreville and Cooper, which the appellant and Carr conditionally accepted, as the only shareholders and officers of the company, was for the acquisition of the real property from the Company. The offerors subsequently suggested that the shares of the Company be purchased rather than the real property to obviate the necessity of the incorporation of a further company to hold the property to be purchased, to which arrangement the appellant and Carr readily agreed. They had decided that the real property should be sold by the Company. Without it, the Company was of no further use to them. While they were not the initiators of the proposal they concurred in its so this was, therefore, merely an alternative method that the appellant and Carr adopted to complete the venture commencing with the acquisition of the real property. See R. K. Fraser v. M.N.R., [1963] Ex. C.R. 364; [1963] C.T.C. 130, per Cameron, J. at pages 345 et seq. and in the Supreme Court of Canada, [1964] C.T.C. 372, at page 376.

On behalf of the appellant it was stressed that the site at 151 St. George Street was possessed of such unique attributes as would ensure the success of the project. However, the owners of 149 and 153 St. George Street were both willing to sell prior to December 1958, the deadline date after which building permits for apartments would not be granted. While it is true that the then owners had not applied for building permits, either for themselves or on account of any other persons, there was a three-month period during which building permits might have been granted with respect to numbers 149 and 153 if they had been applied for. Therefore, the unique characteristic of 151 St. George Street, upon which the appellant and Carr rely as indicative of their intention to retain that site with an apartment constructed thereon as an income producing capital asset, did not exist on September 17, 1958, the date of their acquisition of the property and did not arise until December 31, 1958. The construction of the apartment had been begun prior to the date when this unique quality became a certainty.

Further this unique quality did not persist for any length of time. In February 1959, two months after it was a certainty that permits would not be issued for buildings on the adjoining lots, the appellant and Carr learned that there was a possibility of a change in zoning regulations to permit of the construction of apartments on 149 and 153 St. George Street. The appellant and Carr testified that such apartments, twenty feet from their building, would depress the rents that they could demand and thereby lessen their estimated returns.

However, it should be borne in mind that in the block there were already two apartments on the other sides respectively of 149 and 153 St. George Street. It was represented to the Ontario Municipal Board, on behalf of the appellant and Carr, that the continued existence of the old houses on 149 and 153 St. George Street, one of which was operated as a rooming house, constituted an eyesore and that their removal would improve the area. The Board, upon the evidence adduced before them, concluded that the erection of apartments on 149 and 153 St. George Street would not harmfully affect the proper enjoyment of adjoining lands for their present uses, that is to say, that the apartment on 151 St. George Street would not be harmfully affected. Therefore, it is difficult to conclude that the appellant and Carr seriously felt that the erection of apartments in close proximity on both sides of their apartment would effectively destroy it as a source of investment income, or so drastically reduce that income as to render its immediate disposal a necessity.

On learning of the possible amendment of the zoning regulations the appellant and Carr testified that they were faced with the following decisions:

(1) to oppose the by-law;

(2) to acquire 149 and 153 St. George Street and retain those lots as vacant land ; or

(3) to acquire effective control of the adjoining lots, press for the amendment of the zoning by-law to permit the erection of apartments thereon and before any such apartments were erected thereon, dispose of 151 St. George Street.

The appellant and Carr adopted the third course.

miracle attached to a particular product which makes it a pharmaceutical by reason of the fact that the quantity or amount recommended for daily consumption contains only 900 calories.

The evidence of the defendant’s witnesses also was that “Metrecal” is in essence vitamins and minerals, with a carrier. The vitamins and minerals contained in this product are, according to the evidence, contained also in some proportion in some foodstuffs. The evidence also is that ‘‘Sustagen’’ is a very closely related product, but has no soy content and no flavour. This latter product was used in the treatment of infants and old people.

Obviously the defendant hit upon a very economic product and entered upon a merchandising technique that resulted in a substantial mark-up over competitive and non-competitive food products. The fact is, as everyone knows, that the word ‘‘diet’’ on the label of any particular food product facilitates merchandising of the product at a substantial mark-up over what could be obtained if the product were marketed as a non-diet food.

In any event, however, irrespective of whether the various forms of ‘‘Metrecal’’ are pharmaceuticals, the fact that they are also foodstuffs within Schedule III to the Excise Tax Act in my opinion exempts them from sales tax. It is my respectful opinion that, on a true interpretation of the Act, once it is found that an article is a foodstuff, then in order for it not to be exempt from taxation by reason of its being a pharmaceutical also there would have to be in Schedule III or elsewhere in the Act clear words denying the article exemption from sales tax by the employment of such words as ‘‘ other than a pharmaceutical”, as was done in the case of farm and forest products listed in Schedule III.

In the result, therefore, the action is dismissed, with costs. PENDER ENTERPRISES LIMITED, Appellant,

and

MINISTER OF NATIONAL REVENUE, Respondent.

Exchequer Court of Canada (Noël, J.), August 4, 1965, on appeal from a decision of the Tax Appeal Board, reported 84 Tax A.B.C. 26.

Income tax—Federal—Income Tax Act, R.S.C. 1952, c. 148—Sections 11(1)(a), 20(4), (6)(g), 139(5)(a), (b), (5a)—Capital cost allowance—Capital cost of leasehold interest assigned to taxpayer— Whether transaction at arm’s length.

For a consideration of $47,973.50 the appellant acquired an existing cafe business together with an assignment of the lease, to which a value of $32,000 was attributed. However, the business had just been acquired a short time before by the previous owner, who had paid nothing for the lease which, in any case, was an informal, oral arrangement. Moreover, the appellant’s two shareholders, who held one share each, were the vendor’s brother-in-law and cousin. In the Minister’s view, (1) the rôle of the vendor in negotiating the lease with the owner was as trustee or nominee of the appellant, so that there was in fact no disposition of a lease from the vendor to the appellant, (2) because the lease had just been negotiated a short time before, and presumably at a fair economic rent, $32,000 was not a reasonable amount to attribute to the proceeds of disposition under Section 20(6) (g), or (8) the transaction was not at arm’s length so that the capital cost of the lease to the appellant was nil. The Minister therefore declined to recognize any capital cost relevant to the leasehold interest so acquired.

HELD:

(i) That there had been an assignment of the lease by the vendor to the appellant;

(ii) That based on the economic value of the lease to the appellant (calculated as a rate of estimated turnover in the business) rather than on the value to the owner of the premises, the amount of $32,000 was not an unreasonable consideration for the disposition of the leasehold interest to the appellant;

(iii) That although the appellant’s president (the vendor’s brother- in-law) had a casting vote, the fact that there were only two shareholders meant that a general meeting could not be called without the other shareholder’s consent so that the president could not make use of his extra vote and did not control the appellant within the meaning of Section 139 (5a) (b) ; Section 139(5) (a) therefore did not apply to render the transaction not at arm’s length;

(iv) That in the light of the intimate business and family relationships that existed the appellant’s officers were not acting independently and the transaction was not at arm’s length within the meaning of Section 139(5) (b) ;

(v) That the capital cost of the leasehold interest acquired by the appellant was nil, being the capital cost to the previous owner within the meaning of Section 20(4) (a) ;

(vi) That the appeal be dismissed.

CASES REFERRED to :

Buckerfield’s Ltd. et al. v. M.N.R., [1965] 1 Ex. C.R. 299 ; [1964]

C.T.C. 504;

Vancouver Towing Co. Ltd. v. M.N.R., [1946] Ex. C.R. 623;

[1947] C.T.C. 18;

MN.R. v. Sheldon’s Engineering Ltd., [1955] S.C.R. 637:

[1955] C.T.C. 174.

Richard C. Anderson, for the Appellant.

Kenneth E. Meredith and T. E. Jackson, for the Respondent.

EL, J.:—This is an appeal from a decision of the Tax Appeal Board (34 Tax A.B.C. 26) dated October 30, 1963, dismissing the appellant’s appeal from its income tax assessments whereby amounts of $6,400 for each of the years 1955, 1956 and 1957 and $6,933.37 for the year 1958, which had been deducted by the taxpayer as capital cost allowances in respect of the cost of a lease, were added to its income.

The appellant, sometime in the year 1954, purchased from one Bruce Sung a restaurant situated at Whitehorse, in the Yukon Territory, for $47,973.50 which in the bill of sale was broken down as follows :

Deduction of the leasehold interest at $32,000 was refused by the Minister for the following reasons :

1. There was in fact no disposition of a lease made from Sung to Pender Enterprises Ltd.

2. In any event, the sum of $32,000 attributed as the value of the lease by the appellant could not be reasonably regarded as being consideration for the disposition of the lease or as the consideration for depreciable property of a prescribed class and consequently the appellant is deemed by virtue of paragraph (g) of subsection (6) of Section 20 of the Income Tax Act to have acquired the depreciable property comprised in the sale to it by Bruce Sung at a capital cost equal to the sum of $473.50 only, 1.e., the cost of the restaurant equipment.

3. If there was in fact a disposition or a sale made of the lease by Sung to Pender Enterprises Ltd., which is a disposition of depreciable property, then such disposition was not at arm’s length within Section 139(5) (a) or alternatively Section 139(5) (b) and by virtue of subsection

(4) of Section 20 of the Act the capital cost to the appellant of the said leasehold interest is deemed to be the capital cost thereof to the original owner Bruce Sung and

the capital cost thereof to him was nil.

The relevant provisions of the Income Tax Act are the following :

“20. . . .

(4) Where depreciable property did, at any time after the commencement of 1949, belong to a person (hereinafter referred to as the original owner) and has, by one or more transactions between persons not dealing at arm’s length, become vested in a taxpayer, the following rules are, notwithstanding section 17, applicable for the purposes of this section and regulations made under paragraph (a) of subsection (1) of section 11:

(a) the capital cost of the property to the taxpayer shall be deemed to be the amount that was the capital cost of the property to the original owner ;

(b) where the capital cost of the property to the original owner exceeds the actual capital cost of the property to the taxpayer, the excess shall be deemed to have been allowed to the taxpayer in respect of the property under regulations made under paragraph (a) of subsection

(1) of section 11 in computing income for taxation years before the acquisition thereof by the taxpayer.

(6) . . .

(g) where an amount can reasonably be regarded as being in part the consideration for disposition of depreciable property of a taxpayer of a prescribed class and as being in part consideration for something else, the part of the amount that can reasonably be regarded as being the consideration for such disposition shall be deemed to be the proceeds of disposition of depreciable property of that class irrespective of the form or legal effect of the contract or agreement; and the person to whom the depreciable property was disposed of shall be deemed to have acquired the property at a capital cost to him equal to the same part of that amount;’’ (The italics are mine.)

“139. . . .

(5) For the purposes of this Act,

(a) related persons shall be deemed not to deal with each other at arm’s length; and

(b) it is a question of fact whether persons not related to each other were at a particular time dealing with each other at arm’s length.’’

‘‘ 139 (5a)—Relationship defined

(5a) For the purpose of subsection (5), (5c) and this subsection, ‘related persons’, or persons related to each other, are

(a) individuals connected by blood relationship, marriage or adoption ;

(b) a corporation and

(i) a person who controls the corporation, if it is controlled by one person,

(i) a person who is a member of a related group that controls the corporation, or

(iii) any person related to a person described by subparagraph (i) or (ii) ;”’

In August 1953 one Bruce Sung acquired a restaurant business carried on at Whitehorse, Yukon Territory, known as the Tourists Services Cafe, which was part of a complex consisting in a retail and wholesale food operation, a motel, a service station, a cocktail bar and a beer parlour, This business, according to counsel for the appellant, was acquired by Sung ‘‘for nothing, so to speak’’ and had been operated intermittently by previous operators to whom it has been leased and the owners, Tourist Services Limited, had not, up until then, been satisfied with the manner in which it had been conducted. Sung states that his agreement with the owners at the time of his acquisition was that he would take over the lease of the restaurant premises for two years with a renewal option for another two years, but that at this stage there was nothing in writing.

On November 16, 1953, Mr. Sung wrote a letter (Ex. A-3) to Tourist Services Limited, forwarding copies of an agreement for rental of the building in which he was operating this cafe and asking them to sign it. This agreement (Ex. A-2) is dated August 1953 and provides for a lease to commence on September 1, 1953, and to end on August 31, 1954, at a rental of $900, payable at the rate of $75 per month and contained a renewal clause which reads as follows:

“The lessor covenants with the lessee that if the lessee duly and regularly pays the said rent, and performs all and every the covenants, provisos and agreements herein, and on the part of the lessee to be paid and performed, the lessor will, at the expiration of the said term grant to the lessee a renewal lease of the said lands and premises for a further term of one, two or three years at the option of the lessee at the same rent and subject to the same covenants, provisos and agreement as are herein contained.”’

On November 21, 1953, Tourist Services Limited wrote to Mr. Sung (Ex. A-1) with regard to the above proposed agreement suggesting the following changes therein:

“1. Page 2—Lessor has equipped the restaurant as fully as

intended by them—Lessee to keep it so equipped or make additions thereto themselves, if desired.

2. Page 3—Rental rate and time element covering future rental agreements to be decided upon expiry of original agreement.

3. Also if the Cafe is not operated in a businesslike manner satisfactory to T.S. Ltd. that the Lessor may have the privilege of terminating the agreement on 7 days notice.’’

The above agreement, however, was never signed and Mr. Sung continued operating the said restaurant on the basis of what he termed a verbal commitment that he had occupation of the restaurant premises for an initial period of two years with an option for him to renew for a further two or three years and he was then, prior to December 1953, paying the landlord a rental of $100 or $125 a month.

It is around December 16, 1953 that the appellant Pender Enterprises Ltd. entered the present picture if Ex. A-10 can be relied on. These are minutes of a meeting of directors of this company ‘‘held at the registered office of the Company, at 203-4 Holden Building, 16 East Hastings Street, in the City of Vancouver, in the Province of British Columbia, on Wednesday, the 16th day of December, A.D. 1953” and contain a recital that Bruce Sung had offered to sell to the company and the latter had accepted to buy the restaurant business operated at Whitehorse, Y.T., for a price of $47,974.50 as well as the Keno Hill Steam Laundry, situated at Elsa, Y.T., for a price of $25,000.

Pender Enterprises Ltd. was incorporated on May 15, 1953, and the subscribers to the memorandum of association of the company were Mr. Richard Philip Anderson (one share) and Leslie Raymond Peterson (one share). Both of these gentlemen are the attorneys of the appellant as well as of Mr. Sung. On December 16, 1953, one share of the company was transferred to Sam Lee and one to James Wong and at the same date Sam Lee was appointed president and James Wong the secretary. Sam Lee is Bruce Sung’s brother-in-law as the latter is married to the former’s sister and James Wong is a cousin of Bruce Sung as the latter’s mother and Wong’s father are sister and brother.

On January 2, 1954, Mr. Sung wrote a letter (Ex. A-4) to Mr. J. Smith of Tourist Services Limited introducing his cousin, James Wong, an employee of one of his companies and one of his right-hand men, as follows:

“I have requested Mr. Wong to take up with your firm the matter of our lease on the restaurant which still remains to be completed. He has my full authority to negotiate the terms of the rental.’’

On February 4, 1954, James Wong, on the stationery of Columbia Caterers Ltd., one of Mr. Sung’s companies, wrote to Tourist Services Limited forwarding three copies of the lease ‘‘for our tenancy in your cafe adjunct’’ and stating the following :

“Incorporated in the new agreement are the points which we discussed during the writer’s recent trip to Whitehorse. We trust that you will find this satisfactory.

You will note that the writer has affixed his signature for Mr. Bruce Sung. We would appreciate your letter accepting this signature, as per the instruction of Mr. Bruce Sung’s letter of authorization to your Mr. Smith.

Please return two copies of the lease to this office, properly affixed with your seal.”

The lease, Ex. A-5, dated blank February 1954, was then entered and it provides for a rental of the restaurant premises in favour of Bruce Sung for a ‘‘term of 2 years commencing on January 1, 1954 and ending on the 31st day of December 1955”’

(sic) at a rental of $1,200 payable at the rate of $100 a month with a renewal lease for a further term of two years at the option of the lessee at a rental of $125 per month.

A conditional bill of sale dated February 1, 1954, (Ex. A-7), was produced which witnesses that Bruce Sung delivered to the appellant, Pender Enterprises Ltd., the following goods described as follows:

‘“‘The business known as the Tourists’ Services Cafe, situate at Whitehorse, Y.T., together with the said name and the good-will thereof and all the goods and chattels situate therein, including stock-in-trade, .. . .

For the purpose of this agreement the business shall be valued as follows :

Assignment of lease—$32,000.00

Goodwill—$15,000.00

Stock—$500.00

Equipment—$474.50 ’ ’

On the same date, i.e, February 1, 1954, Pender Enterprises Ltd., by its president Sam Lee and its secretary, James Wong, signed a promissory note (Ex. A-8) in favour of Bruce Sung for the sum of $47,973.50 with interest thereon at the rate of 3%.

By an indenture of the 1st day of March 1954 (Ex. A-9) and “in consideration of the sum of one dollar and other good and valuable consideration’’ paid by Pender Enterprises to Bruce Sung, the latter assigned to the appellant ‘‘that portion of the premises commonly known as ‘ Whitehorse Auto Camp ’ in Whitehorse, in the Territory of Yukon, now used as a restaurant, and formerly operated by Tourist Services Ltd. together with the furniture, fixtures and equipment situate therein together with the residue unexpired of the said term and the said lease and all the benefit and advantage to be derived therefrom.”

This assignment also contained the following :

“IT IS expressly agreed between the parties hereto that the responsibility of the Lessee herein for the premises herein and payment of rents and observance of Lessee’s covenants shall be effective February 1st, 1954.”

From February 1, 1954, to the end of December 1954, the appellant in fact paid a rental of $200 instead of $100 as set down in the lease, Ex. A-5. In the summer of 1954 J. Wong negotiated with the landlord whereby a rental of $200 was agreed to upon the landlord more than doubling the seating capacity of the restaurant.

In 1955 Mr. B. H. Sung acquired all of the shares of Tourists’ Services Ltd. so that at that stage Sung was in control of the landlord and the appellant was the tenant. In 1956 Tourist Services Ltd. increased the rent of the premises to $400 a month which Sung explains by saying at that time there were further additions made to the place at a cost of $5,000 and also because, as he admits at p. 42 of the transcript:

“A. . . . The business itself was doing very well, and I think that was the reason that Mr. Rathie’’ (his financial adviser and accountant) ‘‘and I at that time, you know, decided that possibly they could stand to pay a little more rent.’’

In 1957 the rent was again increased to $466 a month and in 1958 to $500 a month. All these increases were made on a verbal basis without any change being made to the written lease.

In 1958 a portion of the shares (40) of Tourist Services Ltd., i.e., 20% of the outstanding capital, was acquired by the appellant at a price of $82,645.02. These 40 shares are now worth in the neighbourhood of $250,000.

The sequence of the above mentioned facts are, however, somewhat confused due to the assertion by J. Wong that although Bruce Sung stated, at p. 31 of the transcript, that about the middle of December 1953 a decision was reached as to the purchase of the restaurant business and the price at which Sung would sell it to the appellant was decided upon and this, of course, is supported by the minutes of December 16, 1953, of the appellant, Ex. A-10, this would not be so as, according to Wong, the price of the business was fixed only in March or April of 1954 and instructions to make up these minutes were given in March or April also and then backdated to December 16, 1953. The explanation given by J. Wong for such an unusual procedure was that they wanted to record the transfer of shares from the original incorporators, Mr. Anderson and Mr. Peterson to Wong and Lee prior to the end of the year, which, however, does not explain why the minutes with regard to the restaurant deal could not have reflected the true nature of this transaction as well as the true date (cf. p. 65 of transcript, Wong).

Wong also states that the conditional sales agreement, Ex. A-9, dated March 1, 1954, was also made at a later date, 1.e., some time in March or April 1954.

He finally submitted that all these events took place at the same time when at p. 66 of the transcript he stated in answer to the following:

“Q. Do you suggest that all these events took place together then, firstly that the lease was signed, and secondly that the assignment was given; thirdly that the price between you and Mr. Sungh was agreed upon. All those events were more or less contemporaneous, were they? A. They jelled about that time.”

Wong and Lee, in addition to being related to Mr. Sung, had been employed by two of the latter’s companies for a long time (Wong since 1942 and Lee since 1950) and were both admittedly his right hand men. Mr. Sung had operations in British Columbia as well as in the Yukon and they both were his senior employees. Mr. Sung explained their functions at p. 26 of the transcript as follows:

“The Court:

Q. Tell me, Mr. Lee and Mr. Wong, what would be their functions and responsibilities in that organization ? A. Like we had the contracts with Keno Hill and Consolidated Mining & Smelting, and they would go out and inspect these jobs or, if required, stay to manage these jobs at different times, and we were acting as—one of our main functions was purchasing and procurement of food stuffs.

Q. Are they experts in purchasing? A. Yes, Mr. Wong is the purchasing agent for our group of companies.

Q. Would you consder them your right-hand men ? A. Very much so.

Q. Both of them? A. Yes.”’

Mr. Sung in 1954 through 1957 had a company called Columbia Caterers which carried out the management of his companies. It provided the whole administrative and operating functions for all his companies such as auditing and payroll services hiring and firing of personnel and purchasing as well as paying the bills. It also provided the same services for the appellant Pender Enterprises Ltd.

In 1957 or 1958 those functions were taken over by Sung Management Ltd., another of Mr. Sung’s companies.

These management companies charged a fee for such services and as put by Mr. Sung at p. 26 of the transcript :

“A. . . . the fees charged were enough to cover our overhead, because we maintained a staff of our own then about fourteen people in Vancouver, here, and people like Mr. Lee and myself, and Mr. Wong and various other employees were paid their salaries out of this management fee we charged.”

It may be interesting to note that both Wong and Lee entered the employ of Columbia Caterers Ltd. in 1952 or 1953 and have been with that company until 1957 or 1958, when Sung Management Ltd. was formed and when they both became employed by the latter. Although the salary of both was paid by the above companies, Wong was called upon at times to render services to Mr. Sung, as the latter admitted he did when, for instance, he went up on behalf of Sung to supervise the operations of the cafe at Whitehorse in the initial stages.

The discussions between Lee, Wong and Sung with respect to the purchase by the appellant of the restaurant business started, according to Sung, two or three months after he had started operating the business and, as put by Sung at pp. 18 and 19 of the transcript :

“A. . . . as soon as I had some experience in the business and knew it was going to be a profitable business, then I had something to talk about.’’

Asked by the Court why he did not retain this business for himself, he answered at p. 19 :

“A. I had other interests, my lord, and these kept me quite busy, and in business we have just got to zig and zag a little, I guess.’’

He later added that selling the business to Wong and Lee ‘‘1s one way of getting them to remain with me ’ ’ which, however, by making them independent would appear to me to be the best way to defeat his purpose.

He then stated that Wong and Lee were on a salary basis and not on a participation basis but later contradicted this assertion by saying that he was able to offer them a participation in his business. The evidence on this particular point, at p. 19 of the transcript, is rather interesting and worthy of reproduction :

“THE COURT:

Q. Was that a problem, retaining your skilled men or good men ? A. It always had been and always will be.

Q. They were on a salary basis with ou ? A. Yes, my lord.

Q. Not a participation basis on the profits or anything like that ? A. No. No, sir.

Q. How had you managed to retain them so long? A. Well, now, I have been able to offer them participation by allowing them to buy stock in the companies that I do operate.”?

Sung stated that from the prices he charged, and the fact that Whitehorse was in an economic boom at the time because of the mining and construction activities in that area, he knew that he was able to make a very substantial profit, from the operation of this restaurant and, as expressed at p. 20 of the transcript :

“A. ... I wanted to make sure that these two gentlemen were going to be there to help me run this thing; so I had felt this little deal on this restaurant was going to be a very good profitable deal; so I asked them if they wanted a chance to make some—something in this.”

Wong and Lee discussed the price with Sung’s auditor, accountant and adviser at the time, Mr. Andrew Rathie, of McDonald Currie, who helped them to arrive at the price of $47,973.50.

The price of $32,000 for the leasehold interest of the business was also established with the assistance of Mr. Rathie whom Sung admits advised him as well as Mr. Wong and Mr. Lee (cf. p. 43 of the transcript). Wong however states that he had estimated prior to the purchase of the business by the appellant that it could do a minimum of $10,000 of sales per month or $120,000 per year and, as he stated at p. 52 of the transcript ‘‘and using that as a basis we worked our figures back as to how much rent could be paid on that basis, and how much profit we should be able to earn.”

According to Wong, the national norm of rental in relation to eross profit for a business of this sort would be 614% and the rental here, therefore, should have been on a projected gross revenue of $120,000, $7,800 if Pender Enterprises Ltd. was paying the going rate. Sung, however, had a lease for a period of two years at $100 a month and a right to renew for a further two years at $125 a month. What was basically done, therefore, to arrive at the figure of $32,000 for the leasehold interest was to take the annual economic rent as calculated above, deduct therefrom the annual rent under the lease and multiply the difference by five to cover a five year period. Wong explained how the five- year period was taken as a basis of calculation at p. 78 of the transcript as follows :

“A. Well, in our discussions with Andy Rathie he suggested five years, and I don’t think we realized that it should have been four years, because actually that was the terms of the original lease, but somehow we got talking about five years and that seemed to be the track we got on to.

Q. There was really a mistake in a sense? A. Yes.’’

In December of 1953 the directors of Pender resolved to buy this business for $47,978.50. In the following January 1954, Wong ostensibly, on behalf of Sung, went to Whitehorse to negotiate the lease. Sometime after February 1, 1954, a lease was signed and as late as March 1, 1954, that lease was purported to be assigned by Sung to Pender Enterprises Ltd.

On the basis of the above facts, the respondent urges that as the essential decision by Pender Enterprises Ltd. to purchase was made before any lease existed there, therefore, (a) could be no assignment of depreciable property with regard to this lease and (b) Sung could only have held this lease, negotiated after the decision to purchase the business, as trustee or nominee of Pender Enterprises Ltd.

Now although the manner in which the lease and rentals were negotiated and the documents were set up are somewhat confusing and may have some bearing on the overall picture of the transactions which took place here with regard to the question as to whether this was in fact an arm’s length transaction or not, I do not consider that they establish that (a) the decision to purchase was made before any lease existed nor

(b) that the lease after December 16, 1953, could only be held by Sung as trustee or nominee of Pender Enterprises Ltd.

In my view a correct appraisal of what took place here is that long before December 16, 1953, Sung had possession of the restaurant premises, was operating a business there since the preceding August or September and held a commitment from the landlord that he had a lease for four years. This appears from the evidence adduced herein and particularly in Sung’s cross-examination at p. 31 of the transcript:

“*Q. Now, then, is it not true, Mr. Sungh, that at the date, that is the middle of December 1953, no lease existed between yourself and Tourist Services Ltd.? A. No written lease, but I had a verbal commitment from these people, if I didn’t have I would not have gone into the business. ”

And at p. 32 :

‘THE COURT: Q. Had they committed themselves to renting the premises to you for a certain period of time? A. Yes, my lord, they did.

Q. How long? A. I believe the initial period was to be two years with an option for me to renew for a further two or three years.

Q. Who told you this? A. At the time I was dealing with Mr. Smith and Mr. Barker—not Mr. Barker—Barker and Mr. Elliott, they were the owners of the company. Mr. Smith was their general manager. ”

I now come to the second submission made by the respondent herein that the sum of $382,000 attributed as the value of the lease by the appellant could not be reasonably regarded as being the consideration for the disposition of the lease under Section 20, subsection (6)(g) of the Act.

This submission, as I understand it, is that if $100 a month rental (which was obtained when Sung took the restaurant business over) is the best that Tourist Services could get, then that is the test of the economic rent so that within the first few months after the take over the economic rent and the actual rent would be identical and based on the above rental figure for a period of four years would total at the most an amount of $4,800 instead of $32,000. It is urged for the respondent that this leasehold interest could not have achieved, within a matter of months, a value far in excess of what the landlord held it was worth and that by hindsight the reasonable economic rent might well be said not in any event to exceed $500 a month.

The question as to whether this amount of $32,000 can ‘‘reasonably be regarded as being the consideration for such disposition’’ can be determined by the evidence which, on this matter, in my view, indicates that the amount of $32,000 is in fact something less than the true value of this leasehold at the time the transaction took place if consideration is given to the fact that when one of Mr. Sung’s companies took over another restaurant, the Whitehorse cafe in 1957, in the same locality, a rental of $1,000 was paid on an annual volume of business of about $175,000, when the annual volume of the restaurant taken over by the appellant or its gross sales were for the same year $161,000 (ef. p. 55 of the transcript).

It does not indeed appear to me that the value to be attributed to a lease is necessarily the value to the landlord particularly when such as here, several attempts had been made to rent the premises out to a successful operator and where it seems that the main interest of the owner was to insure that the premises would be taken over by a good tenant who would supply a satisfactory restaurant service to the users of the commercial complex of which this restaurant was a part. Mr. Sung, upon taking over the operation of the restaurant with the knoweldge and facilities he had, was able, during a short period of operation, it is true, to instil new life into this business and by establishing its potential, gave it an increased market value.

In view of the above, it therefore follows that the amount of $32,000 does not appear to me to be an unreasonable consideration for the disposition of the leasehold interest herein.

I will now deal with the Minister’s assumption that if in fact a valid disposition or a sale was made of the lease by Sung to the appellant, then such disposition was not at arm’s length within the meaning of Section 139(5) (a) or, alternatively, Section 139(5) (b) of the Act. If, indeed, this transaction was not at arm’s length, then by virtue of subsection (4) of Section 20 of the Act, the capital cost to the appellant is deemed to be the capital cost thereof to the original owner and as Sung paid nothing for this lease, the capital cost to the appellant would be nil.

The Minister’s assumption under this heading is that the present transaction would be not at arm’s length because it took place with a related person by marriage, i.e., Sung’s brother-in- law, Lee, who held 50% of the shares of the appellant company but who, being its president, under clause 38 in Table A of the articles of association of the appellant “presides as chairman at every general meeting of the company and, under article 48, in the case of an equality of votes, whether on a show of hands or on a poll, is entitled to a second or casting vote’’.

The submission here is that as there are only two shareholders in the appellant corporation, Wong (one vote) and Lee (one vote), Lee by this preponderent vote would thereby control the appellant corporation and being a brother-in-law of Sung, and therefore related by marriage, would be covered by Section 139 (5a) (b) (iii) of the Act, which would make any transaction between Sung and a corporation controlled by his brother-in-law a non-arm’s length one thereby rendering under Section 20(4) of the Act the capital cost of the acquisition of the leasehold to the appellant nil as Sung, the original owner, paid nothing for it. However, this would be so only if Lee had control of the appellant corporation and I must now enquire as to whether, under the above circumstances, Lee had such control. This matter of control of a corporation was dealt with by Jackett, P. in Bucker field’s Ltd. et al. v. M.N.R., [1965] 1 Ex. C.R. 299 at 302: [1964] C.T.C. 504 at 507 where he stated that:

“Many approaches might conceivably be adopted in applying the word ‘control’ in a statute such as the Income Tax Act to a corporation. It might, for example, refer to control by ‘management’, where management and the board of directors are separate, or it might refer to control by the board of directors. The kind of control exercised by management officials or the board of directors is, however, clearly not intended by Section 39 when it contemplates control of one corporation by another as well as control of a corporation by individuals (see subsection (6) of Section 39). The word ‘control’ might conceivably refer to de facto control by one or more shareholders whether or not they hold a majority of shares. I am of the view, however, that in Section 39 of the Income Tax Act, the word ‘controlled’ contemplates the right of control that rests in ownership of such a number of shares as carries with it the right to a majority of the votes in the election of the board of directors. See British American Tobacco Co. v. C.I.R., [1943] 1 All E.R. 13, where Viscount Simon, L.C., at page 15, SAYS :

‘The owners of the majority of the voting power in a company are the persons who are in effective control of its affairs and fortunes.’ ”

Now although this interpretation was given in connection with Section 39 of the Income Tax Act, I can see no reason why it should not apply as well to Section 139 (5a) of the Act in which case Lee could not have control of the appellant corporation as he held only 50% of its shares and, therefore, could not be said to have a number of shares such that he carries with it the right to a majority of the votes in the election of the board of directors or that his shareholding in the company was such that ‘‘he was more powerful than all the other shareholders in the company put together in general meeting’’ as set down by Cameron, J. in Vancouver Towing Company Limited v. M.N.R., [1946] Ex. C.R. 623 at 632; [1947] C.T.C. 18. It indeed appears to be clearly settled that control of a corporation requires at least a bare majority in shareholding and as Lee here has not this majority, he cannot be considered as controlling the appellant and I say this notwithstanding the articles of association adopted by the appellant which gives its president a prepon- derent vote in the case of an equality of votes at every general meeting of the company. Indeed, such a power given to the president of the present corporation, in view of the particular circumstances of the instant case, could not, in my view, give Lee effective control over the appellant corporation which he would not otherwise have by virtue of his shareholdings because any control he would wish to exercise by virtue of his prepon- derent vote could not, in practice, be implemented. There being two shareholders only, Lee could not hold a general meeting of the appellant corporation without Wong’s consent and as one director cannot constitute a meeting, he could not use his preponderent vote.

It therefore follows that Lee not having the effective control required, the transaction between Pender Enterprises and Sung cannot, under Section 139(5) (a) and 139(5a) (111) be deemed to be not at arm’s length.

The only matter which now remains to be considered is whether the persons involved here were in fact dealing at arm’s length under Section 139(5) (b) of the Act.

The expression ‘‘to deal with each other at arm’s length” is not defined in the Act. However in M.N.R. v. Sheldon’s Engineering Limited, [1955] S.C.R. 687 at 648; [1955] C.T.C. 174 at 179, Locke, J. clarified the term somewhat by stating :

“The expression is one which is usually employed in cases in which transactions between trustees and cestuis que trust guardians and wards, principals and agents or solicitors and clients are called into question.”’

The intimate business and family relationships of both Lee and Wong with Sung and the various corporations involved, as disclosed by the evidence, was of a nature such that the transaction involved would, in my view, have to be included in the above described categories.

Furthermore, the onus clearly lies on the appellant to show error on the part of the Minister in his assessment in holding that the transaction herein was not at arm’s length and this onus, in my view, has not been satisfied by the appellant here. This, indeed, appears from the various relationships of the individuals and companies involved herein which I have already described and particularly from the following: Lee and Wong, the shareholders of the appellant, were in the employ of Sung and had been employed by him for a long time prior to the transaction involved herein and they still are; Wong negotiated the lease herein for Sung. In the first years of operation and afterwards, Pender Enterprises Ltd. paid substantial sums to Sung’s companies, Columbia Caterers Ltd. and Sung Management Ltd. ; the deal was set up and the price of sale as well as the leasehold was determined by Sung’s accountant and financial adviser, Mr. Rathie. Sung, through his management companies, received statements from Pender Enterprises Ltd. every year, which enabled him to keep a tab on the appellant and raise the rent when desirable. The above alone might have been sufficient to establish that the deal was not of an independent nature and, therefore, not at arm’s length. There is, however, more and this, in my view, confirms the non arm’s length nature of this transaction, in that in the course of the operation of the restaurant business, whatever lease Pender Enterprises Ltd. had, was never respected and although in 1954 the increase of the rent might have been justified by the increase of the size of the premises, there is no such reason for the subsequent increases in rent which took place particularly in 1957 and 1958, at a time of course when Sung was the owner of the landlord, Tourist Services Ltd. The evidence of Wong at pp. 58 and 59 of the transcript is illuminating in this respect :

“MR. ANDERSON :

Q. Mr. Wong, you will recall Mr. Meredith asking Mr. Sungh why the rental was increased to $400 a month and $500 a month. Can you tell the court why that was? A. Well, those years we were doing a very substantial volume of business, and it was just agreed that it would be only fair for us to pay a higher rental.

THE COURT : Q. Did you decide that on your own, together with Mr. Lee or did Mr. Sungh ask you to increase the rent? How was it arranged? How did you come to pay more rent than what you were paying before? When was this done?

A. Well, it was just like—it is very informal as is with all our meetings. We sit down and it is just a casual talk, and—I am going by memory now—but he probably says, You fellows are doing pretty good, how about a little more rent?’ So we probably bandied it back and forth and finally it was agreed, ‘All right, it is fair that we should pay a little more rent.’ ??

It is, in my view, a fair inference from the foregoing that in the dealings between Sung and Pender Enterprises Ltd., the parties were not acting independently but as highly interdependent parties and Sung, at the time of the transaction and throughout the period under review, was in a constant position of advantage or interest with regard to the appellant corporation to a point where in fact the parties involved here cannot be considered as dealing at arm’s length.

The appeal, therefore, in respect of the assessments to income tax for the years 1955, 1956, 1957 and 1958 is dismissed with costs.