Weatherhead v. MNR, 90 DTC 1398, [1990] 1 CTC 2579 (TCC)

Teskey, T.C.J.:—The appellant appeals his reassessments for the years 1982, 1983 and 1984.

Issues

The first issue is whether any or all of three real estate transactions were capital transactions or income. It was agreed that the appellant loses his appeals in regards to those transactions, if any, that the Court determines were capital transactions.

The second issue (if any or all of these three transactions are income transactions) is whether the appellant was carrying on the business of trading in real estate or were the transactions isolated adventures in the nature of trade. It was further agreed the appellant wins his appeals if the Court determines that he was carrying on the business of trading in real estate.

The third issue (if the Court determines that each or any one of the transactions were adventures in the nature of a trade) is whether the appellant can inventory the property or properties at their cost to him or their fair market value, whichever is lower, or in such manner as may be permitted by regulation.

Facts

The appeals concern three real estate transactions, namely:

1. Government Road Property (1981)

2. Prince Rupert Property (1981)

3. Dawson Street Property (1982)

The appellant is a businessman who up to 1978 worked for a large firm distributing coin-operated equipment. In 1978, he started his own business which was incorporated as Weatherhead Distributors Ltd. (Distributors). The company operated the same type of business namely that of distributing coinoperated equipment. Distributors was very successful due to the video game boom and recorded sales as follows:

From the time the company commenced operation, the appellant used the services of Arthur Lavern Cinnamon (Cinnamon) a chartered accountant with whom he consulted on a continuing basis. Business decisions and investment decisions were discussed with Cinnamon. Cinnamon's accounting firm dealt, to a large extent with land speculators and developers. These speculators and developers in 1979 and 1980 were turning in substantial profits.

Cinnamon knew John Butler (Butler) a real estate developer who operated as Meadowlark Developments (Meadowlark). In 1980 Meadowlark had agreed to purchase two parcels of property in Victoria, British Columbia and had negotiated two sales of these two Victoria properties. Neither Butler nor Meadowlark had sufficient funds to complete the purchases in order to complete the sales. Cinnamon and the appellant both loaned money to Meadowlark for the short (interim 30 day) period between purchase and sale. Cinnamon and the appellant were to receive their money back and a portion of the profits. How much money was put up and what portion of the profits were to be received is not in evidence. The only evidence given by the appellant and Cinnamon was that they each made $20,252.98 profit on the two Victoria property transactions which was treated as income. Although it was argued that these were real estate purchases, the Court finds that they were simply money lending transactions.

The appellant in February of 1981 purchased a Class 1 Ranch Point Estates Ltd. 9 per cent debenture due January 15, 1987 for $25,600. The holder of the debenture had the right after the debentured lands were subdivided to purchase one lot having a designated price equal to the debenture. The appellant exercised the option and eventually sold the lot in 1989 for $42,000 and advises that the gain or profit in the transaction is going to be treated as income in the 1989 tax returns. Obviously the option to convert the bond into ownership of a lot would not be exercised if the return was not going to be greater than the 9 per cent return the bond carried. No evidence was adduced as to when the option was exercised. The option was open to be exercised anytime after the plan of subdivision was registered and up until the day before the date of redemption of the bond (which was January 15, 1987). The Court determines that this was an investment with a fixed return up until the option was exercised presumably on January 14, 1987.

In 1978 Distributors started operations in a leased warehouse having 6000 sq. feet of space on Dawson Street, Burnaby, British Columbia. By 1981, it had run out of space and had leased additional warehouse space in Edmonton on a temporary basis. The appellant conceived the idea that he could buy a parcel of land, build a large warehouse of about 14,000 sq. ft.; lease to the company 8,000 sq. ft. on a long term lease then lease out the remaining areas and then sell the building fully leased at a profit. To this end, he caused to be incorporated a shell company without assets known as Daziel Investments Inc. (Daziel). Daziel was to act as an undisclosed bare trustee for the appellant. Its purpose was to make offers to purchase lands so that if the appellant, between acceptance of the offer and closing, decided not to complete for whatever reason, the vendor's only recourse would be against Daziel. Thus the only risk to the appellant, prior to closing, would be the deposit money and his expenses.

Government Road Property (Burnaby, B.C.)

In 1981 one of Distributors’ employees saw a real estate "for sale” sign on the property on Government Road. This lead to Daziel making an offer to purchase the "Government road property" and title was taken in the appellant's own name. After Daziel entered into an agreement to purchase the Government Road property, the appellant discussed, in detail, his plans with Cinnamon who contacted the real estate agent and obtained leasing rates for new warehouse space. The appellant had preliminary plans for the warehouse prepared and obtained cost estimates. With these figures, Cinnamon calculated that the appellant would clear approximately $250,000 on the purchase, construction of the warehouse, the leasing thereof and the sale.

Unfortunately for the appellant, it was discovered, after closing when a land Survey was being prepared for plot plan purposes, that the lands purchased were not the lands that had been shown. The actual purchased lands were unsuitable and had a hydro easement across it. The appellant sold the property, sued the real estate agent and his vendor. He had paid $285,000 for the property and sold it for $115,000 and settled the law suit for $170,000 in 1984.

Dawson Street Property (Burnaby, B.C.)

In the meantime, two vacant houses came on the market right next door to the company's leased premises on Dawson Street. The appellant entered into an agreement to purchase these properties in April of 1982. The Dawson Street property was in substitution for the Government Road property which was useless for his purpose. The appellant did not proceed immediately to build a warehouse on the Dawson Street property, believing it to be prudent to wait until the Government Road problem was resolved. By 1984, real estate values had fallen drastically, the economy was stalled and his plans to build a warehouse were abandoned. The Dawson Street property was then put up for sale and sold.

Also in 1981, the appellant purchased into the Gar-West Development which consisted of 16 residential units in a building which was designated as property in Class 31 of Schedule 11 of the Regulations under the Income Tax Act (Act) for capital cost allowance purposes. This is commonly referred to as a M.U.R.B. The purchase of the unit was closed on November 1, 1981. It was rented out and eventually sold in 1988. The Court considers it as an isolated tax shelter investment unconnected with the three purchases in question.

Prince Rupert Property

During 1981, the appellant discussed with Cinnamon several speculative real estate adventures, with the view that he may invest funds therein. In the fall of 1981, Cinnamon introduced the appellant to Grant MacPhail (MacPhail) a real estate speculator. In December of 1981, the appellant invested $15,000 into a joint venture with MacPhail and G. Oldaker Developments Ltd. (Oldaker) dealing with the Prince Rupert property. He claimed a tax right off [sic] that year of some $64,000 on this property. This was a highly speculative adventure as neither zoning, building permits, nor plans for a proposed eventual motel or other joint investors were in place. Because of difficulties, the appellant caused an agreement dated May 27, 1982 to be prepared (Exhibit 12). The agreement is only between Oldaker and the appellant. MacPhail is not a party. The appellant knew or strongly suspected that the Prince Rupert scheme was falling apart in May of 1982. MacPhail gave evidence that he was never interested in tax shelter development, nor had anything to do with tax shelters. He claimed his property projects were only for the purpose of making money and were not for tax shelter purposes. He seemed to believe that development for money was something different from developing tax shelter properties for sale. Although the agreement was never signed by Oldaker, Oldaker lived up to the agreement. Paragraph 10 thereof provides as follows:

It is agreed between the parties that Grant MacPhail will be engaged to perform certain functions in respect of the joint venture development for which he will be paid the sum of $75,000.00, his duties being to provide the additional joint venture participants, provide the accounting functions and tax shelter documentation, engage the architect and coordinate the design of the development, manage the construction aspects of the development and oversee the general contractor, the expenses of all of which shall be borne by the joint venture.

[Emphasis added.]

The Court rejects MacPhail’s and the appellant's testimony concerning the Prince Rupert property as not being for tax shelter purposes. Based on the 1981 income tax return and paragraph 10 of the agreement, the Court is satisfied that the original driving motive of the appellant was to shelter tax dollars and receive the large write off claimed in 1981 and at the same time enter into a development scheme which was not part of any overall business of trading in real estate. When the Prince Rupert scheme fell on hard times the appellant was forced to either abandon the scheme and take his loss or to take over the project in an attempt to recover his investment. He elected the latter.

It is significant that none of the appellant's relevant tax returns had a separate business statement for his alleged business of trading in real estate. The three properties in question namely Government, Dawson and Prince Rupert cannot be lumped together as claimed. Although this Court rejects the appellant's testimony concerning the motivating purpose of entering into the Prince Rupert deal, it accepts the testimony of the appellant and his accountant, Cinnamon, concerning the reasons and intentions behind the Government Road and Dawson Street properties.

The Court therefore finds that the Government Road property was a single adventure in the nature of trade done for the dual purpose of providing the company with adequate larger quarters and making a profit personally. The Dawson Street properties were purchased only as a replacement for the Gov- ernment Road property and for the same purposes. The Prince Rupert property was originally purchased for tax shelter purposes and resale at the most advantageous time. The appellant was in essence forced into taking over the Prince Rupert property. The Prince Rupert transaction must be considered as an isolated happening and is an adventure in the nature of trade and not part of a business of trading in real estate.

Although each case must be determined on its individual facts, the Court takes comfort in M.N.R. v. Taylor, [1956-60] Ex. C.R. 3; [1956] C.T.C. 189; 56 D.T.C. 1125 and Tara Exploration and Development Co. Ltd. v. M.N.R., [1970] C.T.C. 557; 70 D.T.C. 6370; [1972] C.T.C. 328; 72 D.T.C. 6288.

On the authority of Bailey v. M.N.R., [1990] 1 C.T.C. 2450; 90 D.T.C. 1321 the appellant is entitled to inventory to three properties at their cost to him or at their fair market value, whichever is lower, or in such manner as may be permitted by regulation.

For the above reasons, the appeals are allowed with costs. The assessments are referred back to the Minister for reconsideration and reassessment on the basis that these three properties are to be considered as inventory.

Appeal allowed.