Strayer, ].: —
Relief Sought
This is an appeal from the assessments by the Minister of National Revenue in respect of the plaintiff's 1980 and 1981 taxation years by which the Minister added to the plaintiff's income the amounts of $31,395 in respect of 1980, and $154,000 in respect of 1981. Counsel for the defendant indicated during the hearing that if the assessments were upheld the correct amount in respect of 1981 should be $142,800, a reduction based on a change of date for determination of the value of certain shares in question.
Facts
The plaintiff taxpayer was born in Germany and educated there in graphic arts. He lived in Ireland during much of the 1960's and there became a good friend of Patrick Hickey. He came to Canada in 1970 but continued his friendship with Mr. Hickey with whom he also had close family associations. Mr. Hickey, whose address is later shown as in England, was associated with James G. McQuillan of Northern Ireland and Francis A. McCrossan of England as major shareholders in Crannog Holdings Limited ("Crannog"), a company with head office in the Isle of Man in the United Kingdom.
The plaintiff after some years in Vancouver aroused the interest of Mr. Hickey, who apparently is an accomplished speculator, in the possible promotion of companies listed on the Vancouver Stock Exchange. He had particular reference to the possibilities of acquiring the majority of shares and control of some dormant company without many assets but already listed on the exchange; of assembling enough money to commence some oil exploration and, if able to obtain some favourable appraisals based on the work done, of thereby enhancing the value of the shares and reaping a substantial profit for the promoters. He had an opportunity to observe this process in the course of designing and producing promotional literature at his graphics company in Vancouver. Mr. Hickey came to Vancouver in the summer of 1979 and they identified a company, Arex Resources Inc. ("Arex") as their chosen instrument. It is clear from what followed that the money and property required for this venture were essentially provided by Mr. Hickey and his United Kingdom associates and that the plaintiff and his brother-in-law Christopher Pritchard, both of Vancouver, provided a local presence and some ongoing supervision of affairs there. The collaboration of Mr. John McLoughlin, also of Vancouver, was acquired in the initial stages as he controlled Arex.
At an extraordinary general meeting of Arex on January 15, 1980 the name of the company was changed to Ohio Resources Corporation (“Ohio”). Shares in the new corporation were issued to shareholders or creditors of Arex, the most significant block being 233,587 shares issued to John McLoughlin. It was also decided at this meeting to acquire all the outstanding shares of Gordon Energy Corp. ("Gordon"), an Ohio company actually engaged in oil and gas exploration. Gordon had been wholly owned by Crannog which, in return for the sale of Gordon to Ohio, received a large block of shares in Ohio. It was further decided at this meeting that there would be a private placement of 400,000 shares of the company to such persons as the directors might determine, and thereafter there would be a rights offering entitling shareholders of the company resident in British Columbia to acquire two shares of the company for each one already held by them, at the price of 25 cents per share. The plaintiff and Messrs. McCrossan, McQuillan, and Pritchard were elected to the Board of Directors and Mr. McLoughlin continued as a director. Shortly thereafter the plaintiff was elected president of Ohio.
Later the private placement of shares was made to those persons chosen by the Board of Directors. The plaintiff and Mr. Pritchard each acquired 10,000 shares. 265,000 shares were sold to 1691 Investments Ltd. (the major shareholder of which was Crannog), 100,000 shares went to Hy-Brasil Resources Ltd. ("Hy-Brasil") (owned by Hickey, McQuillan, and McCrossan, in equal shares), 10,000 shares went to McLoughlin, and 5,000 shares to Laurie Lohn, the office manager of Ohio. These shares were made available at a price of 25 cents per share. Mr. Hickey provided the money to pay for the plaintiff's 10,000 shares. This money was, according to the plaintiff, provided as a loan although it has never been repaid.
In a filing statement filed with the Vancouver Stock Exchange on March 18, 1980, Ohio confirmed its intention to make the rights offering and announced in association with it a standby agreement or arrangement as follows:
In the event that not all of the offered shares are subscribed for the following persons have agreed to take down the unsubscribed for shares for the proportion set opposite their names:
Hy-Brasil Resources Ltd. | 60% |
Frithjof Grohne | 20% |
Christopher B. Pritchard | 20% |
According to the plaintiff’s evidence, the “standby agreement” was included as a further inducement to shareholders to take advantage of the rights offering, because it would assure those who did so that the full amount of $425,000 (the sale price of the shares potentially available at 25 cents per share) would be available to the company. In a further filing statement filed with the Vancouver Stock Exchange on May 27, 1980 Ohio repeated this commitment and specified that the rights to acquire shares covered by the rights offering would be exercisable by shareholders from June 27 to July 18, 1980. A circular to shareholders describing the rights offering also set out this "Stand-by Provision” and named the above persons who had "agreed" to subscribe for the remaining shares.
The plaintiff exercised the rights of an ordinary shareholder under the rights offering on or about July 4, 1980, acquiring 20,000 shares for which Mr. Hickey also paid under an arrangement similar to that in respect of the plaintiffs first acquisition of shares.
After the expiry of the rights offering, and after the settlement of a legal dispute between Ohio and Mr. McLoughlin, there were ultimately some 490,000 shares to be taken up pursuant to the standby agreement. Of these the plaintiff acquired 26,164 in 1980 and another 56,000 in August of 1981, all purchased at the price of 25 cents per share in accordance with the standby arrangement. When he actually purchased these shares their market value was a great deal more than 25 cents and it is this difference between the purchase price paid and the market value at time of purchase which the Minister has assessed as income in the total amount of $185,395 (now revised to $174,195). The plaintiff in fact later sold the shares (personally or through a family holding company) over several years up to and including 1984, receiving for them a total of only $93,000.
The original pleadings of the Minister stated his assumption that the amounts assessed as income were received by the plaintiff “by virtue of his employment with the company” and sections 6 and 7 of the Income Tax Act were relied on, inter alia. Subsequently, on January 24, 1989 some six weeks before trial, the statement of defence was amended by consent to allege in the alternative that these were amounts conferred on the plaintiff as a shareholder of Ohio and thus taxable as income under subsection 15(1) of the Act. A further alternative was added to the effect that these amounts were profits resulting from an adventure in the nature of trade and thus taxable in accordance with section 9 and the definitions in subsection 248(1).
Issues
Are the amounts of $31,395 in respect of 1980, and $142,800 (revised at trial from $154,000) in respect of 1981, representing the difference between the purchase price of 26,164 shares acquired by the plaintiff in 1980, and 56,000 shares acquired by him in 1981, both acquired under the standby arrangement at 25 cents per share, and their market value on the date of purchase, income of the plaintiff because they were received by him
(1) in respect of, in the course of, or by virtue of his “office or employment", thus bringing them within paragraph 6(l)(a) of the Income Tax Act and excluding them from the protection of subsection 7(5) of the Act so that they would also be considered income Within paragraph 7(1)(a);
(2) as a "benefit or advantage . . . conferred on a shareholder" by the corporation, thus bringing them within paragraph 15(1)(c) of the Act; or
(3) as profit from a "business" (within subsection 9(1)) as defined by subsection 248(l) to include “an adventure or concern in the nature of trade”.
Conclusions
Income from employment—The relevant provisions of the Income Tax Act are as follows:
6(1) There shall be included in computing the income of a taxpayer for a taxation year as income from an office or employment such of the following amounts as are applicable:
(a) the value of board, lodging and other benefits of any kind whatever. . . that was received or enjoyed by him in the year in respect of, in the course of, or by virtue of an office or employment. . .
7(1) . . .where a corporation has agreed to sell or issue shares of the capital stock of the corporation . . . to an employee of the corporation . . .
(a) if the employee has acquired shares under the agreement, a benefit equal to the amount by which the value of the shares at the time he acquired them exceeds the amount paid or to be paid to the corporation therefor by him shall be deemed to have been received by the employee by virtue of his employment in the taxation year in which he acquired the shares; .. . .
(5) This section does not apply if the benefit conferred by the agreement was not received in respect of, in the course of, or by virtue of the employment.
[Emphasis added.]
I accept that in accordance with the definitions in the Income Tax Act the plaintiff, as a director of Ohio, was "an employee" of that company. By section 248(1) it is provided that "employee" includes “officer”. That section defines "office" to include the position of a corporation director and provides that the term "officer" means a person holding such an office. Therefore for certain purposes a director of a corporation is an "employee" of the corporation even though he may not receive remuneration nor perform services in ways typical of ordinary employment.
This does not mean, however, that every benefit flowing to a president, director, or other officer of the corporation flows to him “in respect of, in the course of, or by virtue, of” such "employment". The test used in paragraph 6(1)(a) and subsection 7(5), as quoted above, by implication recognizes that the benefit may be conferred because of some relationship other than that of employment. I respectfully adopt the phraseology employed by the Supreme Court of Canada in The Queen v. Savage, [1983] C.T.C. 393; 83 D.T.C. 5409. While in that case the Court found the money to have been paid to the taxpayer as an employee, that being the only relationship she had with the company in question, Dickson, J. on behalf of the majority distinguished that case from others on the basis that [page 400, D.T.C. 5414]:
. . . there was no element of gift, personal bounty or of considerations extraneous to Mrs. Savage's employment.
I am satisfied from the evidence in the present case that the plaintiff participated in the standby arrangement, and thus enjoyed the advantage of buying shares at a fraction of their market value, because he had been a promoter of the company from the beginning and continued to advance the interests of the major shareholders in encouraging the purchase and holding of shares by members of the public. I find it significant that, by the terms of the standby arrangement quoted above, entitlement to purchase the shares not taken up in the rights offering was in effect divided equally among five persons, each to have the right to ownership or the benefits of ownership of 20 per cent of the shares available. That is, 60 per cent were to go to Hy-Brasil, a company owned in equal shares by Hickey, McQuillan, and McCrossan. These people were clearly promoters and not employees and for the purposes of this arrangement the plaintiff and Pritchard were treated the same as them. There were "employees" of the company in the normal sense and they were treated differently. They were paid salaries. Also, Mr. Lohn, the office manager at the time of the reorganization, was given an option to purchase up to 20,000 shares at various prices depending on when he purchased them. It will be noted that this was an option to buy which did not contain the obligation imposed on the plaintiff by the standby arrangement. The plaintiff received no salary in the normal fashion. He did receive travelling expenses and he said that in later stages he occasionally invoiced the company for some of the work he undertook. The plaintiff also testified that he did not perform day-to-day work for the company in the sense of managing its operations. He signed documents as president and he spent considerable time promoting sales of shares. His version of his activities was corroborated by another witness, Mr. Culter who became general manager in August of 1980, succeeding Mr. Lohn.
I believe the facts distinguish this case from the recent decision of the Tax Court of Canada in Taylor v. M.N.R. where a director who had received stock options was held to have received them as income within the provisions of subsection 7(1) of the Act. In that case there is nothing to suggest that the taxpayer had been involved in the development or promotion of the companies in question.
I therefore conclude that any advantage the plaintiff gained by the acquisition of the shares in question was not gained by him “in respect of, in the course of, or by virtue of” his employment with the company. Thus the advantage is not taxable as income pursuant to paragraph 6(1)(a) or paragraph 7(1)(a) of the Income Tax Act.
Income as shareholder—By its amendment to the statement of defence the defendant now invokes in the alternative subsection 15(1) which during the time in question provided as follows:
15(1) Where in a taxation year
(c) a benefit or advantage has been conferred on a shareholder by a corporation,
otherwise than
(f) by conferring on all holders of common shares of the capital stock of the corporation a right to buy additional common shares thereof. . .
the amount or value thereof shall . . . be included in computing the income of the shareholder . . .
Counsel for the plaintiff submitted, and counsel for the defendant concurred, that because this basis for the Minister’s reassessment was not among the assumptions of the Minister at the time of reassessment—this being apparent from the statement of defence—the onus is on the defendant at trial to establish the plaintiff's tax liability on this basis.
The most important question here is whether the standby arrangement conferred upon the plaintiff is a "benefit or advantage” within the meaning of paragraph 15(1)(c). The defendant contends that it did confer an advantage because in fact the plaintiff was enabled to acquire shares at a fraction of their market price. The plaintiff contends instead that the standby arrangement amounted to a contractually binding obligation on the part of the plaintiff and the other promoters included in it to buy the shares at 25 cents each whether their market value at the time of entitlement to buy was above or below that figure, and whether there was any advantage in acquiring the shares at any price. He distinguishes this from stock option arrangements where the beneficiary has a choice as to whether he will buy or not, depending on market conditions.
I believe there is sufficient evidence for me to find that there was a binding obligation on the part of the plaintiff and his colleagues to buy the shares regardless of current market value or demand. I believe that such an agreement involved consideration on both sides, there being an advantage given to the company in the sale of its shares to members of the public by the assurance that the shares would all be taken up and that a useful amount of money would be realized for the operations of the company. The plaintiff and his colleagues gained the advantage of being able to buy at a fixed price shares that would probably have a higher market value then or in the near future. Admittedly there was no written agreement proven between the company and the five members of the “control group" who were entitled under the standby arrangement, but there was considerable evidence of their obligation. It is referred to in the filing statements filed with the Vancouver Stock Exchange on March 18, 1980 and May 27, 1980. It is also set out in the circular distributed to the holders of common shares of Ohio inviting them to exercise their rights under the rights offering. Each of these documents bears the signature of the plaintiff and I have difficulty believing that he could have escaped the obligation to buy his portion of the shares not taken up in the rights offering, had a situation developed where there was little or no market for the shares. If the plaintiff had that obligation binding him, I believe this precludes the ultimate, potential, gain flowing to him through his acquisition of these shares being a "benefit or advantage . . . conferred . . ." on him whether as a shareholder or otherwise. It is more analogous to a trading contract which a customer of a company, who is also incidentally one of its shareholders, might make and from which he would ultimately profit. In respecting such a contract and giving the customershareholder his due under the contract, the corporation is not conferring on him a benefit or advantage but simply fulfilling its contractual obligations. In reaching these conclusions I have recognized that the onus of proving that this was a “benefit or advantage" is on the defendant. That onus has not been discharged. Therefore I find that the amounts in question should not be treated as income under subsection 15(1) of the Act.
Adventure in the nature of trade—This alternative ground for tax liability was also not included in the original assumptions upon which the reassessment was based. It too was added by way of an amendment to the statement of defence. For the same reasons as those explained in respect of the previous ground, the onus is on the defendant to demonstrate that the amounts in question represent profit from a business, rendered taxable by subsection 9(1) with "business" being defined in subsection 248(1) as including "an adventure or concern in the nature of trade".
The defendant has really produced no evidence to establish any pattern of conduct, or intent on the part of the plaintiff when he entered into the standby arrangement, of engaging in the business of buying and selling shares. I am not persuaded that this was other than an isolated speculation and I conclude that any gains, if realized, were of a capital nature only. According to the evidence, of the total of 112,000 shares of Ohio acquired by the plaintiff, he sold some 13,800 in 1980 and 1981. He transferred the remainder to a family holding company in 1981 and these were sold over the period 1982 to 1984. I see in this no pattern supporting the contention that this was an adventure in the nature of trade.
The appeal will therefore be allowed with costs and the reassessments of the plaintiff's income for taxation years 1980 and 1981 will be referred back to the M.N.R. for reconsideration and reassessment on the basis that the amounts of $31,395 in 1980 and $ 154,000 in 1981 were not income.
Appeal allowed.