Ronald Michael Kornelow v. Minister of National Revenue, 91 DTC 431, [1991] 1 CTC 2403 (TCC)

Christie, A.C.j.T.C.:—The appellant appeals from reassessments of his liability to income tax respecting his 1985 and 1986 taxation years. The notice of appeal regarding 1985 is dated October 19, 1989. Paragraphs 24 and 25 thereof read:

24. By a Notice of Assessment the Respondent assessed the Appellant's taxable income for 1985, including in the Appellant's income for that taxation year 1985:

(a) the amount of $15,206 the Appellant claimed as deductible as an allowable business investment loss within the meaning of paragraph 38(c) and 39(1)(c) that may be deducted from income under paragraphs 3(d) and 111(8)(b) of the Income Tax Act, and

(b) the amount of $9,936 the Appellant claimed as deductible as interest expense claimed from income in the 1985 taxation year made or incurred by the Appellant for the purpose of earning income within the meaning of paragraph 20(1)(c) of the Income Tax Act.

25. The Appellant filed a Notice of Objection to the said Notice of Assessment. The Respondent issued a Notice of Confirmation by the Minister dated July 28, 1989. By this confirmation the Respondent still included the $25,142 the Appellant claimed as deductible as (i) an interest expense within the meaning of paragraph 20(1)(c) of the Income Tax Act (Canada) and (ii) an allowable business investment loss within the meaning of paragraph 38(c) and 39(1)(c) that may be deducted from income under paragraphs 3(d) and 111(8)(b) of the Income Tax Act (Canada) as it applied to the 1985 taxation year.

The notice of appeal regarding 1986 is dated November 19, 1988. Paragraphs 24 and 25 thereof read:

24. By a Notice of Assessment dated October 15, 1987 the Respondent assessed the Appellant's taxable income for 1986, including in the Appellant's income for that taxation year 1986, the $58,490 the Appellant claimed as deductible as an allowable business investment loss within the meaning of paragraph 38(c) and 39(1)(c) that may be deducted from income under paragraphs 3(d) and 111(8)(b) of the Income Tax Act.

25. The Appellant filed a Notice of Objection to the said Notice of Assessment dated December 22, 1987. Following discussions between the Appellant and the Respondent, the Respondent issued a Notice of Confirmation by the Minister dated August 24, 1988. By this confirmation the Respondent still included the $58,490 the Appellant claimed as deductible as an allowable business investment loss within the meaning of paragraph 38(c) and 39(1)(c) that may be deducted from income under paragraphs 3(d) and 111(8)(b) of the Income Tax Act (Canada) as it applied to the 1986 taxation year.

In the amended reply to the notice of appeal relating to 1986 and at trial counsel for the respondent conceded that in that year the Appellant did incur a business investment loss of $11,398.05, one-half or $5,699.02 of which is deductible as an allowable business investment loss.

The claimed deduction of interest in computing the appellant’s income for 1985 is in respect of money said to have been borrowed to invest in a corporation named Kornelow & Leggieri Construction Ltd. (K & L") which was in the business of manufacturing and installing fixtures in retail stores. It was incorporated on October 5, 1977, under the Business Corporation Act of Ontario. One-half of the shares of the corporation were owned by the appellant and the other half by the late Carmine Leggieri. The key facts regarding the deduction of interest are that K & L was dissolved on April 12, 1982, and it was the source to which the interest expense related. It is a condition precedent to deducting interest on borrowed money in computing income under subparagraph 20(1)(c)(i) of the Income Tax Act, R.S.C. 1952, c. 148 (am. S.C. 1970-71-72, c. 63) (the"Act") that the source to which the interest expense pertains, whether it be a business or property, shall be in existence when the expense is incurred. If the business in respect of which the borrowed money was used for the purpose of earning income is terminated, the source is thereby eliminated and with it the right to deduct interest paid on that money in computing income. The result is the same if the source is property and it ceases to exist because it no longer has commercial value or is disposed of by the taxpayer. In this regard, see; Deschenes v. M.N.R., [1979] C.T.C. 2690; 79 D.T.C. 461 (T.R.B.); Alexander v. M.N.R., [1983] C.T.C. 2516; 83 D.T.C. 459 (T.R.B.); Lyons v. M.N.R., [1984] C.T.C. 2690; 84 D.T.C. 1633 (T.C.C.); Emerson v. The Queen, [1985] 1 C.T.C. 324; 85 D.T.C. 5236 (F.C.T.D.) affd [1986] 1 C.T.C. 422; 86 D.T.C. 6184 (F.C.A.); Botkin v M.N.R., [1989] 2 C.T.C. 2110; 89 D.T.C. 398 (T.C.C.); The Queen v. Malik, [1989] 1 C.T.C. 316; 89 D.T.C. 5141 (F.C.T.D.) and Dockman v. M.N.R., [1990] 2 C.T.C. 2229; 90 D.T.C. 1804 (T.C.C.). It follows that the appellant cannot succeed on this component of the dispute.

With respect to the deductions for allowable business investment losses that are still in dispute the onus is on the appellant to establish that the reassessments in this regard are in error; Anderson Logging Co. v. The King, [1925] S.C.R. 45; [1917-27] C.T.C. 198; 52 D.T.C. 1209, and Johnston v. M.N.R., [1948] S.C.R. 486; [1948] C.T.C. 195; 3 D.T.C. 1182. This onus can be discharged by the appellant adducing evidence that satisfies the court on a balance of probabilities of the existence of such error.

I am in agreement with the submissions made by counsel for the respondent in argument that there was no satisfactory substantiation of the existence of the alleged allowable business investment losses. The principal witness at trial was the appellant and the primary focus of his evidence was identifying some thirteen documents that were made exhibits. Some of these show that these transactions occurred in the chronological order indicated: on June 30, 1978, in consideration of the Bank of Montreal dealing with K & L, the appellant and his wife guaranteed K & L debts and liabilities up to $35,000; on July 26,1979, K & L executed a promissory note in favour of the Bank of Montreal in the sum of $35,000; on September 18, 1978, K & L entered into a security agreement with the Bank of Montreal whereby as security for the payment of existing and future indebtedness it granted to the bank a security interest in its existing and future assets; on September 20, 1978, in consideration of the Bank of Montreal dealing with K & L, the appellant and his wife guaranteed K & L debts and liabilities up to $15,000; on July 17, 1978, Eileen Nolan, the mother-in-law of the appellant, borrowed $40,000 from the Royal Trust Corporation of Canada which was secured by a mortgage on her home and the appellant guaranteed the repayment of the money secured by the mortgage and in February 1986 the appellant and his wife borrowed $65,000 from the Guaranty Trust Company and this loan was secured by a mortgage on their home.

The difficulty from the appellant's point of view is that evidence is lacking that demonstrates on the basis indicated that K&L was legally indebted to him and this indebtedness gave rise to the allowable business investment losses in dispute respecting 1985 and 1986. In short, the appellant has not discharged the burden of proof resting on him regarding the reassessments. This aspect of the appeal also fails.

In the result the appeal is allowed and the matter is referred back to the respondent for reconsideration and reassessment on the basis that in respect of 1986 the appellant is entitled to deduct an allowable business investment loss of $5,699.02. He is not entitled to any other relief regarding 1985 or 1986. There will be no order about costs.

Appeal allowed.