W. Rudolph Construction Ltd. v. The Queen, 84 DTC 6454, [1984] CTC 457 (FCTD)

Muldoon, J:—The three brothers Rudolph were in the construction business in Winnipeg, Manitoba. The brothers, Ernest (now deceased), Leopold and Walter caused the plaintiff, W Rudolph Construction Ltd to be incorporated in 1960 as their vehicle of business. Ernest Rudolph was the bookkeeper, or one might almost say, the comptroller of that family corporation and its head office address was his residence at 42 Cameo Crescent, Winnipeg. Leo and Walter were construction supervisors. The three brothers each owned a third interest in the plaintiff corporation. They began by building houses and, around the late nineteen-sixties, graduated into the construction of custom-built houses.

Leo and Walter Rudolph testified at the trial. They both indicated that after eight years of house building the three brothers considered that the construction and sale of apartment buildings would be more profitable because they assumed that such construction would permit a more efficient employment of their time and efforts. About that time, also, they were finally removing themselves from their late father’s furrier and clothing business, Leo being the last, and all three brothers were then able to devote the whole of their time to the plaintiffs construction business.

In fact, the land for their first apartment building was purchased from the BACM corporation in November, 1966. Located at 455 Leila Avenue, Winnipeg, construction was started only in March 1968, of a 39-suite building which was called PARKWAY MANOR. The plaintiff sold this building in October, 1970, to Belvue Investments.

Details of the various acquisition, construction and sale transactions are shown in Exhibit 3 in these proceedings. The subsequent transactions, recorded in Exhibit 3, follow a generally similar sequence of land acquisition, followed by construction commencing between one and three years later, and sale being effected between one and four years after commencement of construction

As the brothers’ experience and expertise grew, so did their construction projects. They progressed to building ever higher twins of buildings. Thus, while their first such project, the Parkway Manor, at two-and-a-half storeys, contained 39 suites, the next was a pair consisting of the Birchgrove Manor, 1050 Moncton Avenue, at three storeys, containing 44 suites, and the Molson Manor, 1060 Moncton Avenue, also at three storeys, containing 41 suites.

There followed four apartment building constructions and sales on Prevette Street located on two lots, parcels A and B, shown on the plan of survey filed as Exhibit 4 in these proceedings. There was the four-storey Ashwood Manor at 50 Prevette Street, containing 60 suites: the land was acquired in September, 1969; the construction commenced in June, 1970; and the sale was effected in August, 1971. Then there were two apartment buildings sold together to the same purchaser. They were — the four-storey Brookman Manor at 80 Prevette Street, containing 60 suites: the land was acquired in September, 1969; the construction commenced in September, 1970; and the sale was effected, with the Glenmore Manor in December, 1972 — and — the five-storey Glenmore Manor, at 100 Prevette Street, containing 75 suites: the land had been acquired in May, 1969; construction commenced in August, 1971; and the sale was effected, with the Brookman Manor, in December, 1972. The fourth and last of the apartment buildings on Prevette Street, at No 120, was the five-storey Parkglen Manor: the land was acquired in May, 1969; the construction commenced in March 1973; and the sale was effected in June, 1977 to G W Louie Holdings Ltd of Calgary, Alberta. In this latter instance the buyer was found by Mr Ben Hashimoto of Blue Ridge Real Estate Ltd, to whom a commission in the amount of $27,150 was paid on a Sale price of $905,000.

Finally, nearby land at Panet Street and Munroe Avenue, parcel C on Exhibit 4, was acquired through three purchases in April, October and December, 1973, respectively. Three apartment buildings, intended to be considered as one “apartment complex” with common elaborate landscaping and other features, were constructed at this site, municipally known as 1150, 1152 and 1154 Munroe Avenue respectively, and were named the Windwood Gardens. According to Exhibit 3, the construction schedule for the Windwood Gardens was as follows:

Construction started 1150 Munroe — March 1974;

Foundation started 1152 Munroe — July 1974;

Construction started 1152 Munroe — March 1975;

Foundation started 1154 Munroe — September 1974;

Construction started 1154 Munroe — May 1975.

The number of suites in each apartment building of the Windwood Gardens complex was:

1150 Munroe — 83 suites plus office;

1152 Munroe — 84 suites;

1154 Munroe — 84 suites.

The sale was effected as of August 1, 1978, again to G W Louie Holdings Ltd, as a result of an exclusive listing sought by Mr Hashimoto and accorded to Blue Ridge Real Estate Ltd on November 8, 1977 (Exhibit 2 — Tab 11).

In all instances the brothers by their own efforts, or sometimes with the help of one Garry Adams, who operated an apartment rental service in Winnipeg, attempted to secure tenants in order to obtain as full occupancy as possible prior to the sales of all their apartment buildings. Both Leo Rudolph and Walter Rudolph in their testimony asserted that, in effect, the greater the occupancy, the better the prospects of sale. Leo Rudolph estimated in his testimony that when the exclusive listing for sale was given in November 1977, the Windwood Gardens complex was close to 90 per cent — perhaps 85 per cent — occupied by tenants. That means 25 — or perhaps as many as 37 — vacant suites. Walter Rudolph testified that he recalled that only 20 suites of the 251 were vacant at that time. While that discrepancy, of between 5 and 17 vacancies, would have been of some moment to the brothers at the time, it does not materially affect the outcome of this case. It seemed a sufficient rate of occupancy to attract a buyer, but the failure to obtain revenue from 20 to 37 suites would be a signifient disappointment of the actual owners’ expectation of profits in view of the mortgage loan repayment requirements. How that situation was to be assessed depends upon whether it was viewed with optimism or pessimism.

In all instances, except the Windwood Gardens, the plaintiff corporation, in reporting its income, treated the gain on sale of each apartment building as a business profit fully accountable in its income. That reporting and accounting procedure was in no way exceptional or exceptionable since it was fully conson- ant with the plaintiffs corporate purposes and objects set out in its Letters Patent of incorporation a copy of which is Exhibit 2, tab 16. However, in computing its income for its 1978 taxation year, the plaintiff treated its gain on the sale of the Windwood Gardens complex as a capital gain. By notice of reassessment dated August 15, 1980, the Minister of National Revenue reassessed the plaintiff in respect of its 1978 taxation year on the basis that the net proceeds (making due allowance for a reserve not due in 1978) were not a capital gain, but were a business profit, and therefore to be fully included in the plaintiffs income as active business income.

That, indeed, is the very subject of the dispute between the parties in this case.

On behalf of the plaintiff, it is contended, and the contention was emphasized by the testimony of the two surviving brothers, that the three brothers intended the Windwood Gardens complex to be retained for long-term investment to provide them a living, or at least a basic income, for their retirement years. They point to certain of the facts of the case as support for the plaintiffs contention.

The plaintiff asserts, and the defendant by pleading agrees, that the Windwood Gardens complex was larger, more luxurious and had many more attractive features than the apartment buildings previously constructed by the plaintiff. The plaintiffs unit cost of construction of suites was accordingly higher in the Windwood Gardens. Indeed, it was the culmination or climax of the plaintiffs apartment building construction enterprise. From the brothers’ testimony one can appreciate that the Windwood Gardens complex represented a triumphal achievement, in a progression of expanding success. But that is the nature of successful enterprise, and although bigger, and probably in some senses better than the previous constructions, the Windwood Gardens complex was after all a property composed of three apartment buildings with recreational and parking facilities and landscaping features. These aspects do not weigh heavily in favour of the plaintiffs contention.

In its statement of claim the plaintiff adds that it “also moved its office into the . . . complex”, but that allegation is not borne out by the evidence. No doubt the plaintiff did establish a rental office on the premises of the Windwood Gardens in the space which could have been dedicated to a suite for rent. In order to achieve as great a rate of occupancy as possible it made good sense to have such an office on the very site. However, the plaintiff never moved its office so long as it owned the Windwood Gardens. The plaintiffs office, as the copies of its financial statements, and income tax returns filed as exhibits herein disclose, was and remained during all material times at 42 Cameo Crescent, the residence of the late Ernest Rudolph, in Winnipeg. The opening of a rental office in the Windwood Gardens certainly does not count in favour of the plaintiffs contention.

Something was said about the ultimate physical unity of the complex. The situation and alignment of the buildings without regard to the internal boundaries of the three parcels of land, for example, required that the complex, after construction, be treated — and disposed — as a unit. This, it was argued points to the brothers’ intention from the outset to hold the complex as a long-term investment. In view of the plaintiffs experience of having sold the Birchgrove Manor and the Molson Manor together in 1973 to a single purchaser, and likewise the Brookman Manor and the Glenmore Manor in 1972, the practical inseverability of the Windwood Gardens complex does not tell in favour of the plaintiffs contention.

At best for the plaintiff, this last and the previous two factors are of neutral import. Therefore, regarded for cumulative weight or effect, they remain at best cumulatively neutral. Objectively then, to this point, one finds a construction company pursuing its corporate objects and purposes, building and selling apartment houses in the ordinary course of its business.

In order to explain the plaintiffs short-term holding of the Windwood Gardens, with its small equity and big mortgage debt, before according Blue Ridge Real Estate Ltd, in November 1977, an exclusive and sole authority to sell the property for the plaintiff, the matter of rent-control in Manitoba was raised both in the pleadings and by oral testimony. The plaintiff in this regard, refers to the Rent Stabilization Act, SM 1976, Cap 3, CCSM, Cap R85, which was proclaimed in force as of May 15, 1976. (Manitoba Gazette No 20, May 15, 1976 at 595) Subsection 2(1) of the Act provided:

2(1) Except as otherwise provided in this Act, this Act applies to all tenancies of residential premises in Manitoba notwithstanding any agreement or waiver to the contrary entered into or given before or after the coming into force of this Act.

The Act applied to all tenancies of the residential premises in the Windwood Gardens, without exception.

The Rent Stabilization Act was apparently enacted by the Manitoba Legislature in accordance with both federal and provincial efforts to curtail inflationary forces at the time. Suffice it to note that by section 13 rental increases for the period from July 1, 1975 to September 30, 1976 were strictly limited to not more than 10 per cent, and by section 15 any increase of rental payment after September 1976 was to be specified and permitted only in accordance with regulations made by the Rent Stabilization Board with the approval of the Lieutenant Governor in Council. It seems obvious that these measures would limit the expectations of gain both for those who intended to operate a residential apartment business as landlords, as well as for those who intended to operate such a business as the vendors’ successor landlords. It was noted without objection in argument that in November 1977, there was a provincial general election whereby the government of the day, at whose instance the Act had been passed, was replaced by a new ministry. Apparently the question of rent control was openly canvassed by the contending parties and, on April 28, 1978, the new Minister of Consumer Affairs announced the new ministry’s intention to modify the rent control program by relaxing its stringency. Whether or not the brothers were actually aware of these events from day to day, their counsel certainly made reference to them, especially the retroactivity of section 13 of the Act. Relaxation of the program would of course have brought relief both to holders and vendors of rental residential premises.

In paragraph 8 of the statement of claim it is alleged that the plaintiff received the offer of G W Louie Holdings Ltd for the purchase of the Windwood Gardens. That allegation is contradicted by the oral and documentary evidence. The brothers who testified said that their late brother Ernest fixed an exceptionally high sale price for the Windwood Gardens in response to Mr Hashimoto’s request to be permitted to be their agent in finding a purchaser. The exclusive listing for sale (Exhibit 1, tab 11) is the document which was executed in November 1977, (not the offer to purchase) and it exacted a price of $5,183,500. They testified that the plaintiff had received previous requests to list the premises for sale, but that in fixing the price in excess of $5 million they agreed they would sell for that, if the persistent Mr Hashimoto could find a buyer, but that they did not then expect that he could.

It is not easy to assess the intentions formed six to nine years previously by three partners on the basis of the not disinterested testimony of the two survivors, especially when it was the now deceased brother who was the business head and comptroller, so to speak, of the enterprise. No weight is to be accorded at this late date of the hearsay of their auditor, Mr Neufeld, in that regard, especially since he continued to report the land as inventory available for sale, and regarded it as stock in trade, as he allowed on cross-examination. It is to be noted that Leo Rudolph’s expressed reason for wanting to retain the Windwood Gardens as a retirement project was his arthritis. Walter Rudolph testified that he wanted to retire from building for family reasons. He allowed in testimony however that there are “easier ways to retire”. About the time at which Mr Hashimoto was seeking authority to find a buyer, the brothers apparently having decided that the Windwood Gardens complex was their last construction of apartment buildings, Walter Rudolph nevertheless suggested to his brothers that the plaintiff should again “build a few houses and we’ll make a few bucks”.

One must wonder then about how credible the now asserted intention only to retire from the construction business is in light of what the brothers really did about it. The survivors’ words now must be weighed against their proved deeds at the time.

If, as Walter Rudolph testified, the brothers fixed an “outrageous price” that which he termed a “don’t bother us price” in order to relieve themselves of Mr Hashimoto’s persistence, because of their allegedly firm and fixed intention to hold the Windwood Gardens as an investment asset, why then did they extend and protract his authority? According to the exclusive listing for sale, that authority was to have terminated on January 15, 1978. It was rather more consistent with an intention to sell these last-built apartment buildings, like the previous ones, by extending the agent’s authority beyond that date, than it was to cleave to the now expressed intention to hold them as an investment. After all, the plaintiff did not accept the purchaser’s offer until April 8, 1978.

The plaintiff reveals no objectively appreciable evidence of any intention to treat the Windwood Gardens any differently from its other stock in trade. As was noted by Mr Justice Ritchie in the case of G W Golden Construction Limited v MNR, [1967] SCR 302 at 307:

. . . these lands were being held for resale as part of the appellant’s inventory. It is of some significance to note in this connection that the lands were entered in the books of the company in an account under the heading “Land for Resale*’.

In that decision Ritchie, J also referred to the cases of Regal Heights Ltd v MNR, [1960] SCR 902; [1960] CTC 384; 60 DTC 1270; 26 DLR (2d) 51 and Fraser v MNR,[1964] SCR 657; [1964] CTC 372; 64 DTC 5224; and 47 DLR (2d) 98, which are of interest and application in regard to the case at bar.

Here it is objectively impossible to distinguish the earlier transactions whose profits were correctly characterized as business income, from the sale of the Windwood Gardens. Any intention to obtain income from the operation of the complex cannot be shown to have surmounted or displaced the intention to sell the Windwood Gardens at a profit on the same footing as the earlier buildings had been sold. This latter intention must have co-existed in the brothers’ minds from the time the plaintiff acquired the lands on Munroe Avenue until they accepted the offer to purchase the Windwood Gardens, if it were not their dominant intention.

On the evidence then and the clear inferences to be drawn from it, the Minister’s assumptions are warranted. The profit realized from the sale was income from the plaintiffs business and was properly assessed as such.

For all of the foregoing reasons, then, the plaintiffs action by way of appeal is dismissed with costs.