Citation: 2009 TCC 398
Date: 20090807
Docket: 2006-2246(IT)G
BETWEEN:
ERIC R. LANGILLE,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
REASONS FOR JUDGMENT
Boyle J.
I. Introduction
[1]
Mr. Langille has
been a successful businessman in both the dairy farming business and in the
insurance brokerage business. He studied at Nova Scotia Agricultural College prior to running the family’s substantial Annapolis Valley
family dairy farm for a number of years. Thereafter he qualified and became
licensed in both the real estate and insurance sectors and continues to own a
very successful insurance brokerage. His appeal raises two distinct tax
questions. The first relates to losses incurred by him in the period 1999 to
2001 in respect of the ongoing winding up and liquidation of substantial
farming assets, including large amounts of land, following the termination of
the substantial dairy farming operations ten years earlier. The second issue
relates to his post-farming career as an insurance broker and the 2001 rollover
of his then substantial sole proprietorship insurance brokerage business to a
private corporation owned by him or by him and his immediate family.
[2]
The taxpayer called two
witnesses as did the Crown. No issues of credibility were raised and I have no
concerns with the testimony of any of the witnesses. However, to the extent the
Crown asked its witness from Transamerica Life Insurance Company (“Transamerica
Life”) and its witness from the Canada Revenue Agency (“CRA”) whether amounts
were properly taxable, I have entirely disregarded their testimony. That is
properly a matter for argument by counsel and for me to decide.
II. Farm-Related Losses
[3]
The Langille family
operated a very substantial dairy farm in Nova Scotia’s Annapolis Valley for a number of years. The farm occupied
approximately 3,000 acres and had approximately 1,000 cows. It was
the largest dairy farm in Eastern Canada and was one of the largest family
dairy farms in the country. It was a substantial farm and a substantial
business in its own right. The parties agree it was a very extensive farming
business.
[4]
After operating the
farm in a family partnership for a period of approximately 20 years, the
Langille family decided to no longer continue its farm operations. Given the
commercial agriculture realities they faced, there was no expectation that
there would be interest from prospective buyers of the farm as a going concern.
Accordingly, the operations were discontinued and the assets of the business
began to be liquidated. The liquidation of the livestock, the stationary
equipment and the mobile equipment was a reasonably straightforward, efficient
and prompt process. Given the amount of land involved, not surprisingly this
proved to be more problematic. There were initial attempts to sell the farm as
a single farm in one or two parcels. A couple of offshore offers were received
but ultimately both potential transactions fell through. There was no local
Canadian interest in a farm of this size in the Annapolis Valley. On the
advice of real estate advisors it was decided to break up the property into a
larger number of parcels for sale. Land sales followed and, according to the
taxpayer, one or two parcels sold every two or three years with some
regularity. The parcels of land owned by the taxpayer have been continuously
listed for sale since the dairy operations ceased. In the years in question,
the final remaining lots were listed with one of Mr. Langille’s brothers’
real estate brokerages since that brother’s post-farming career is in real
estate.
[5]
The evidence indicated
there were lots of competing, formerly operating farm properties for sale in
the Annapolis Valley as many operating farms also wound up in
the same timeframe and much of the area converted to hobby farms.
[6]
In the years in
question, 1999 to 2001, a number of parcels remained unsold and apparently one
sale is scheduled to close in May 2009 leaving three parcels still for sale.
[7]
The evidence did not
disclose either the number or average size of the parcels of farmland, nor was
I told how many had been sold or been unsold in the period up to 2001. I would
have expected this information might have been helpful to the position of one
side or other. I am left not knowing if we are talking about a dozen 200-acre
parcels of farmland or a 3,000-acre community subdivided for residential estate
home construction.
[8]
Throughout the period
since dairy farm activities ended to the end of the years in question the land
has remained in agricultural production. This was done both to maintain the
economic value of the land for sale as well as for sound farmland management
reasons. Apparently Mr. Langille has not been able to find anyone willing
to crop the land for the past three years. The taxpayer received modest
share-cropping revenues from the unrelated person cropping his land. These
revenues ranged from $700 to $1,200 annually in the years in question. The taxpayer
incurred expenses associated with the remaining parcels of cropped farmland for
bank interest on the remaining refinanced historical farm debt, modest property
taxes, a three-quarter ton farm truck that continued to be used to access,
maintain and show the property, and related miscellaneous expenditures.
Mr. Langille reported declining net business losses in 1999, 2000 and 2001
in the amounts of approximately $10,000, $5,000 and $1,300 respectively.
[9]
I am satisfied that the
net business losses claimed by Mr. Langille in 1999 to 2001 were properly
deductible. The evidence is that a sensible, commercially reasonable and entirely
business-like approach was followed in liquidating the dairy farm assets
following the suspension of its business operations. It is not unreasonable to
think that the disposal of approximately 3,000 acres of farmland in the Annapolis Valley,
after deciding there was no future viability of carrying on commercial farming
operations on it, would not be a quick process. The taxpayer made business
decisions on how to liquidate and maximize his proceeds thereby minimizing his
shutdown expenses consistent with the advice he received, continuously tried to
market and sell the remaining property, and did not use the property for any
personal purposes. In the circumstances of this case, the period 1988 or 1989
through 2001 continues to be a reasonable period in which to continue to
successfully conduct the liquidation in commercial fashion.
[10]
This approach to
expenses incurred during a winding up period for a discontinued business was
adopted by C. Miller J. in Heard v. Canada, [2001] 4 C.T.C. 2426
(see especially paragraph 15). The reasons of C. Miller J. in Heard
were quoted approvingly by Hershfield J. in Mikhail v. Canada, [2002] 2
C.T.C. 2612 (at paragraph 34). The reasons of C. Miller J. and Hershfield
J. are not diminished by the fact they were written in a pre-Stewart REOP world
(Brian J. Stewart v. The Queen, 2002 SCC 46,
2002 DTC 6969).
[11]
As I wrote in Caballero
v. The Queen, 2009 TCC 390, at paragraph 6:
It is possible to commence to carry on a business for purposes of
the Income Tax Act (the “Act”) before the business is
operational. A business can be expected to have different types and different
levels of activities throughout its course. What it does during its start-up or
winding down phases can be expected to differ significantly from what it does
during its operational phase. It may even have periods of relative dormancy
when its normal operations are interrupted.
In this case, I find we have a business that is
continuing to be carried on in the year in question in the course of completing
the winding down of the farming activities it had ceased to operate.
[12]
As stated by the House
of Lords in South Behar Railway Company Limited v. I.R.C., [1925] A.C.
476 at 488: “Business is not confined to being busy; in many businesses long
intervals of inactivity occur.” In that case the decision was: “The concern is
still a going concern though a very quiet one.”
[13]
It was the respondent’s
position that in the years 1999 to 2001 the taxpayer simply was not in a farming
business. His activity in those years did not establish he was genuinely
farming. The respondent did not consider the historical substantial commercial
farm operations relevant. The CRA was either looking only at what was happening
in the years 1999 to 2001, or treated those years’ activities as reflective of
the past farming history of Mr. Langille. In the words of the CRA witness,
that farm history was so far removed she just did not factor it in. Further,
she was not aware there had been regularly recurring land sales since 1988.
This means that the respondent was not looking at those losses as resulting
from business shutdown expenses.
[14]
As a general rule,
there is no reason that business shutdown or termination expenses incurred
post-closure of operations cease to be deductible business expenses in ordinary
commercial and business-like circumstances. If it were otherwise, Canadian
businesses, whether manufacturers, mills, mines or otherwise, would be denied
recognition of a potentially significant portion of the expenses associated
with their taxable revenues. That would not be right and there are no express
provisions of the Income Tax Act which would require it as a general principle.
While no evidence was received on this point, I doubt very much that it would
be in accordance with ordinary commercial principles or with Canadian generally
accepted accounting principles.
[15]
The Crown argued that,
after the dairy operations ended or at least for the years in question, the
land was held for personal enjoyment or for investment purposes. There was no
evidence to support the remaining listed lands being personal use property or
being used for personal enjoyment. In order for me to conclude the lands ceased
to be related to the shutdown dairy business and its use changed to being held
as a capital investment asset, I would have to at least be persuaded that the
taxpayer was not carrying on throughout a reasonable disposition of the farming
assets. The evidence presented does not support such a conclusion and, where
there is no personal or hobby aspect to a venture, it is not for the CRA to
second-guess or overlook business decisions made by business owners relating to
their businesses if the decision is not unreasonable.
[16]
On the Crown’s theory,
section 45 would have applied at some point upon a change from an income-producing
use to a non-income-producing use or from a business income-producing use to a
property income-producing use by Mr. Langille. There is no evidence to
support the position that the property ever ceased to be held or used for the
purpose of gaining or producing business income. Section 45 was not
pleaded by the Crown.
[17]
Mr. Langille’s
appeal as it relates to the 1999 to 2001 losses resulting from the shutdown and
winding up of the dairy farm will be allowed.
III. Incorporation of Sole Proprietorship
[18]
Following his
retirement from full-time farming activities in 1988, or in 1989, Mr. Langille
pursued certification and careers in both the insurance and real estate
brokerage sector. He obtained his qualifications and his licences for both.
While he pursued working at both for a year, he settled in to solely life
insurance and related products after his first year. One of his brothers
similarly qualified and was licensed in both insurance and real estate and
pursued both as his post-farming careers, but after a while settled on only
working in the real estate brokerage business. That is the brother with whom
the remaining farmland parcels were listed in the years in question.
[19]
Mr. Langille
evidently was very successful in the insurance sector and left his employment
with a major insurance company in 1999 to form his own insurance brokerage. He
established it as a sole proprietorship named Maritime Financial Services
(“MFS”). MFS was an independent brokerage and placed policies with a large
number of major insurance companies. Mr. Langille’s insurance career
continued to prosper as MFS.
[20]
In the fall of 2001
Mr. Langille decided it would make good sense to incorporate MFS as
Maritimes Financial Services Incorporated (“MFSI”) which he did. In October
2001, he consulted the firm Grant Thornton for advice on whether and how
to incorporate his brokerage business. Later that month he received Grant Thornton’s
written recommendations on how to proceed. In late October or early November,
Grant Thornton got Mr. Langille’s instructions to proceed and
Grant Thornton then began providing instructions and directions to
Mr. Langille’s counsel for the incorporation and business transfer.
Grant Thornton delivered its written instructions to the law firm on Friday,
November 16. That letter ended with the request that they be advised as
soon as possible if the work could not be completed by end of day Monday,
November 19.
[21]
Grant Thornton had
been discussing the transaction with the lawyer involved throughout that week
of November 12 to 16. MFSI was duly incorporated as a Nova Scotia company on Monday, November 19. Its Memorandum of Association was
signed that day and its Nova Scotia Certificate of Registration shows a November
19 date of registration. The section 85 Asset for Share Purchase Agreement
signed by Mr. Langille is dated as of November 22 and specifies a closing
date of November 22. The Bill of Sale is also signed by Mr. Langille and
dated November 22, as is Mr. Langille’s Employment Agreement with MFSI.
[22]
While all appears to
have been done according to plan, apparently it was not. Mr. Langille said
it was his intention that MFSI was to have been operating the former MFS
business some time the week before, being the week of November 12 to 16. This
is because there was a push on to get it done as soon as possible so that the
tax advantages of incorporation could begin as quickly as possible before more
commission cheques were received.
[23]
The significance of the
extra week is that during the week preceding the incorporation and the
execution of the MFSI documents, Mr. Langille received and deposited two
commission cheques totalling approximately $150,000 payable in respect of insurance
on a single insured placed by his brokerage with Transamerica Life. That policy
was issued by Transamerica Life and in effect on November 9. Transamerica
Life’s commission cheque was issued on November 9. It was deposited in
MFS’ RBC Royal Bank account on November 14. The second commission cheque
was deposited on November 16.
[24]
Mr. Langille has
been reassessed to include those amounts in his 2001 income because the CRA
believes the services were performed by him carrying on business as MFS and the
cheques were received and cashed by him operating as MFS before MFSI was even incorporated.
The respondent’s further position is that even if the rights to those
commissions were transferred to MFSI by Mr. Langille, the income
characteristics of the transferred amounts or rights remained
Mr. Langille’s.
[25]
Mr. Langille’s
position is that the commission income was not his but properly that of MFSI.
Two main reasons are advanced in support of this. First, it was
Mr. Langille’s intention to have had the incorporation and business
transfer completed before the cheques were cashed. According to
Mr. Langille, he confirmed that the business transfer was sufficiently
advanced with Grant Thornton before depositing the cheques to be able to
treat them as MFSI’s commission income. The partner from Grant Thornton
who testified was unable to recall having had that conversation specifically
although he was aware that there was a desire to implement the transaction as
quickly as possible.
[26]
The second reason put
forward on behalf of the taxpayer is that under the terms of the MFS Agency Agreement
with Transamerica Life, the commission cheques were only 1/12th “earned”
income and 11/12th advance or loan. This is because Transamerica Life
paid an amount to its agents equal to an annualized commission for the sale of
a policy even though it was only obliged to pay commission monthly as the
policyholder’s monthly payments were received. If the policy lapsed or was
surrendered or cancelled, the remaining unearned commission amount was
expressly repayable as debt owing by the agent to Transamerica Life as issuer. As
it turned out, the particular policy remained in effect and the agent’s
commission amount was fully earned without any need for charge back.
[27]
Several other quirky
facts should be noted. Firstly, MFSI did not, as things turned out, report this
commission income. This is because the CRA had already proposed the
reassessments adding them to Mr. Langille’s income before MFSI’s first
year tax returns were due.
[28]
Secondly, even though
Mr. Langille did not include the amounts as income, he did deduct in his
personal return the related expenses including the significant sub‑commissions
payable by him to other brokers involved in the sale of the particular policy.
I am told by both Mr. Langille and the Grant Thornton witness that this
was an oversight.
[29]
Thirdly, after the incorporation
and the transfer of business to MFSI, MFSI continued throughout 2001 to use the
business bank account opened by Mr. Langille personally for his MFS
business. I do not know if or when this changed.
[30]
Lastly, I also know that
the May 2001 Transamerica Life Agency Agreement with MFS specifically provides
that the agent rights of Mr. Langille operating as MFS are not assignable
and that he may not transfer any entitlement to compensation under the agreement
without Transamerica Life’s prior written consent. No such consent or the need
therefor was ever addressed in evidence.
[31]
I cannot accept that in
a case such as this the taxpayer’s intention is relevant to applying the income
tax law to the actual events and transactions which occurred. Intention could
be relevant if the taxpayer was seeking rectification, but that would have to
be pursued in a different court. Expressed intention could also be relevant in
a claim by the taxpayer against his advisers but that too would have to be pursued
in a different court. Lastly, intention may be relevant in support of a pre-incorporation
transaction argument. No such argument was advanced at the hearing. I do not
know why; my only knowledge of Nova Scotia law on this point was that there were
no express provisions governing pre-incorporation transactions in the Nova Scotia company legislation. Following the hearing, brief
written submissions were received from the appellant on this point. I am
not persuaded that a pre-incorporation transaction ratification can extend to
the documented post-incorporation asset transfer and related agreements. Nor am
I satisfied on the evidence before me that MFSI ever ratified the transactions.
[32]
On the facts of this
case, it is clear that virtually all of the agent services to be provided in
connection with the policy(s) issued on November 9, 2001, which
entitled the agent to receive the Transamerica Life cheque on November 9
(and a second cheque at or about the same time), and which entitled the agent
to commissions pursuant to the Agent Agreement with Transamerica Life, had been
provided before November 9. In such circumstances, a transfer of the right
to receive the amount after the services were substantially provided does not
also have the effect of transferring the income nature of the right from the
transferor to the transferee. In this case, the right and entitlement to
receive the amount under and in accordance with the Agency Agreement accrued
first to Mr. Langille operating as MFS. The subsequent transfer of that
right to the amount under the Agency Agreement, even if valid, does not change
the fact that the value of the right to receive the amount, comprised at least
in part of an absolute entitlement to commission and perhaps in part as an
advance contingently convertible into outright commission, was earned by
Mr. Langille for agent services rendered by him operating as MFS. It would
no more transfer the income characteristics to the transferee than would a factoring
transaction convert a retailer’s revenues into the revenues of the transferee
factoring financial institution.
[33]
It was suggested that
the Crown’s position may have been further supported had it pleaded
subsection 56(4) in its reply. The failure to do so is not fatal on the
facts of this case. Subsection 56(4) is not necessary in a case such as
this. Subsection 56(4) operates to permit transfer of rights to income
from property upon a transfer of the property. This is not a property income
case.
[34]
The contingent aspect
of the so-called “unearned” portion of the commission for which the advance was
made under the terms of the Agency Agreement may have given rise to a valuation
argument based upon the possibility that all or part of it may have to be
repaid. No valuation evidence or argument was advanced and that may be because
the transfer document and section 85 election would preclude it. I do
not know and have not considered it.
[35]
Further, if MFSI was
not incorporated until November 19, and no pre-incorporation transaction
doctrine is applied, MFSI as a distinct person‑like legal entity could
not have earned any income before it came into being. This type of retroactive
taxation would be like trying to assess a natural person for tax on income
generated while the person was still in the womb or a mere glint in someone’s
eye.
[36]
There are significant
Canadian tax decisions involving essentially similar issues with insurance
brokerage commissions. The most recent is Destacamento v. The Queen,
2009 TCC 242, 2009 DTC 1155, an informal decision of V.A.
Miller J. In that case the taxpayer was unsuccessful as regards the
unearned portion of the commission that was also set up as a loan. An older
oft-cited decision is that of the Exchequer Court of Canada
in Robertson Ltd. v. M.N.R., [1944] Ex. C.R. 180, 2 DTC 655. Robertson
involved an advance fee held as a deposit as distinct from an advance against future
reasonably anticipated but unearned commissions set up as a loan. While the
taxpayer in Robertson was successful, the case predated
paragraph 12(1)(a) and section 32 dealing expressly with
payments for services not yet earned and with unearned insurance commissions.
[37]
While Mr. Langille
may have been able to advance an alternative argument that the unearned
commission should only be included in his personal income in 2002 when it was
earned and no longer a loan, he did not do so. Such an argument would have to
deal with the wording and perhaps the intent behind paragraph 12(1)(a)
and section 32, especially since section 32 deals with insurance
commissions and expressly refers to unearned commissions. It may be that a
court could be persuaded that the loan structure adopted by Transamerica Life
in this case falls outside those provisions. However, absent persuasive
argument I am unwilling to consider disagreeing with my colleague V.A. Miller
J. in Destacamento.
[38]
Mr. Langille
cannot succeed in his appeal in respect of his insurance brokerage commission
revenues. Virtually all of the income-producing activity and effort was that of
MFS. All that was left for MFSI to do was maintain good client relations in the
form of continuing expertise and support availability with the insured to try
to ensure the policy was not cancelled, surrendered or permitted to lapse
during its term. While much of the amount or right transferred to MFSI was
essentially an advance against future commission entitlements, those future
commissions were in respect of a policy already issued and in respect of the
existing term of that policy not dependent upon a renewal decision by the insured.
As it turned out those advance commissions did end up being earned commissions.
[39]
In conclusion, the
taxpayer’s appeal will be allowed as it relates to the business losses claimed
in respect of the shutdown and winding up of the farm, and will be dismissed in
respect of the insurance brokerage commission revenues. I will, as asked,
delay signing written judgment for 30 days to permit the parties to make
written submissions on costs.
Signed at Ottawa, Canada, this 7th day of August 2009.
"Patrick Boyle"
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