Saardi v. R., 99 DTC 767, [1999] 4 CTC 2488 (TCC)

Lamarre 7.C.J.:

The Appellant is appealling an assessment made by the Minister of National Revenue (“Minister”) under the Income Tax Act (“Act”) with respect to the 1992 taxation year.

In so assessing the Appellant, the Minister treated an amount of $50,000, which was received by the Appellant in 1992 from his former employer in an out-of-court settlement, as a retiring allowance and included it in the Appellant’s income in accordance with subparagraph 56( 1 )(«)(ii) and subsection 248(1) of the Act.

The Minister submits in the alternative that the amount of $50,000 should in any case be included in the Appellant’s income in accordance with subsection 5(1) of the Act. The Minister also assessed the Appellant a penalty of $4,843.96 in accordance with the provisions of subsection 163(2) of the Act.

In so assessing the Appellant, the Minister relied on the assumptions of fact set out in paragraph 15 of the Reply to the Notice of Appeal as follows: a) Between 1984 and 1987 the appellant moved to the United States and worked either for Mr. Mahendra Patel or Performance Dyeworks Inc. or MGM Textiles Industries Inc.;

b) At the end of November 1988 the appellant quit the job;

c) Later the appellant moved back to Canada;

d) On February the Sth, 1989 the appellant instituted legal proceedings in the superior court no. 500-05-000728-897 against Mr. Mahendra Patel, Performance Dyeworks Inc. and MGM Textiles Industries Inc. claiming the following amounts:

$87,750.00 for wages due for the year 1984;

$79,950.00 for wages due for the year 1985;

$72,150.00 for wages due for the year 1986;

$34,750.00 for wages due for the year 1987;

$25,000.00 for loss of profit on selling his house;

$2,600.00 for moving expenses;

$7,000.00 for medical expenses;

e) On February 17, 1992 a settlement out of court was signed;

f) In accordance with the release, receipt and discharge signed in the process of the out-of-court settlement, an amount of $50,000.00 was paid to the appellant:

g) At that time the appellant was a Canadian resident;

h) For his 1992 taxation year, the appellant declared a total taxable income of $7,500.00;

i) The 3rd paragraph of the release, receipt and discharge stipulates that: It is an essential term and condition of these presents that the parties agree that the sums paid herein are paid as damages and that Plaintiff shall not receive any T-4 or similar statement of income for tax purposes.

The Appellant submits that the settlement proceeds were received in reimbursement of the costs and expenses incurred by him during or before starting his new employment in the United States and that the amount so received constituted neither a retiring allowance taxable under subparagraph 56( !)(«)(ii) nor taxable income under subsection 5(1) of the Act. In the alternative, the Appellant submits that he incurred legal costs in the amount of $16,354.37 with respect to the lawsuit and that the amount to be included in his income should be reduced by that same amount. The Minister does not oppose this alternative submission except that counsel for the Respondent is of the view that the Appellant should not be entitled to his costs if the appeal is allowed on that basis alone, as this point was raised only in the appeal before this Court and if it had been raised before, the said legal fees would have been taken into account in the assessment. The Appellant also claims that the penalty is unjustified in the circumstances.

Facts

I heard the testimony of the Appellant and of Mr. Kam Lee who is a corporate tax auditor with Revenue Canada and who audited the Appellant’s tax return. The facts that led to the Appellant’s suing his former employer and eventually receiving the amount in issue are well summarized in the Declaration that he filed in the Superior Court of Quebec in January 1989 and that was filed as Exhibit A-l at the hearing herein.

According to the Appellant, he was asked by his former employer, Mr. Mahendra Patel, to move to the United States to open a dyeworks there. Apparently, the Appellant agreed to move to the United States on the condition that his former employer pay, in addition to his regular salary, all moving and relocation expenses and additional tuition fees incurred by the Appellant to relocate his children in different schools. It was also understood that the former employer would provide the Appellant and his family with insurance to cover their medical expenses in the United States.

The total amount claimed by the Appellant in his lawsuit against his former employer was $309,200 US of which $274,600 US was claimed for unpaid wages. The balance included an amount of $25,000 US for loss of profit on the sale of his residence in Montreal. The Montreal residence, which was in the name of the Appellant and his wife, was put up for sale in 1984 after the Appellant’s family moved to the United States. The asking price was $104,000 CDN and it sold for $64,000 CDN. The former employer did pay the rental fee for a one-bedroom house in the United States plus $250 per week in salary to the Appellant before his family moved to the United States in September 1984. As the family lacked space in that house, they had to move to a bigger one and at that time the former employer stopped paying their rent. The family lived thereafter on the Appellant’s salary and on the capital from the sale of the Montreal residence.

In his lawsuit, the Appellant also claimed an amount of $2,600 US for moving expenses incurred by the family when they moved from Montreal to the United States. Another amount of $7,000 US was claimed for medical expenses that were incurred by the Appellant in the United States for his daughter, who was sick during that time. The Appellant explained that his former employer had provided him and his family with an insurance card that was not valid.

On February 17, 1992 the Appellant accepted an out-of-court settlement with respect to that lawsuit and signed a release, receipt and discharge (Exhibit A-2) that the parties agreed would constitute a transaction under article 1918 et seq. of the Civil Code of Lower Canada. The Appellant had previously refused two offers of $15,000 CDN and $25,000 CDN respectively, and apparently was not ready to accept less than $50,000 CDN, which he estimated was the amount of his personal loss. In consideration of the sum of $50,000 CDN, which is actually the amount in issue here, the parties released and forever discharged each other from all actions or any demands whatsoever by one or the other party and agreed to further hold the former employer harmless as to any possible claim by the Appellant’s wife or children. Under this agreement, the Appellant and his wife also undertook “to cease and desist from any and all repetition of allegations” concerning the Appellant’s former employer and corporations related to the former employer that were not defendants in the Appellant’s lawsuit.

In this agreement (Exhibit A-2), the parties agreed that an essential term and condition of the settlement was that the sum paid constituted damages and that the Appellant should not receive any T4 slip or similar statement of income for tax purposes.

The Appellant testified that his former employer was implicated in a fraud in the United States and that is why a secrecy clause was put in the agreement at the request of his former employer. As for the non-taxability of the amount in question, the Appellant relied on advice of his counsel who at that time told him that the payment received constituted damages and therefore was not taxable. This is why the Appellant did not declare that amount in his tax return. The Appellant testified that he is not well educated (he has a fifth grade education) and for that reason relied on his counsel’s advice.

During the audit, Mr. Lee met Mr. Mahendra Patel, who gave him a T4 slip issued in the name of the Appellant with respect to the amount of $50,000. Mr. Lee acknowledged that this T4 slip was not filed in 1992. A letter dated July 21, 1993 and not signed by the former employer was included along with the T4 slip in Exhibit R-4. Apparently, the former employer did not include the $50,000 payment to the Appellant in the summaries filed prior to February 28, 1993 because the Appellant had not provided his address or his social insurance number.

Analysis

The Respondent submits that the amount of $50,000 should be characterized as a retiring allowance and therefore be taxable in the Appellant’s hands pursuant to subparagraph 56(l)(a)(ii) and subsection 248(1) of the Act.

A retiring allowance is defined in subsection 248(1) as an amount received, inter alia, “in respect of a loss of an office or employment of a taxpayer, whether or not received as, on account or in lieu of payment of, damages or pursuant to an order or judgment of a competent tribunal”.

The key element is therefore to establish first whether the amount so received was directly related to a loss of employment, and if so, whether it was intended as compensation for that loss. If the amount received was “in respect of” the loss of employment, then it can be characterized as a retiring allowance. In Nowegijick v. R. (1983), 83 D.T.C. 5041 (S.C.C.), Dickson J. of the Supreme Court of Canada said the following at page 5045:

The words “in respect of” are, in my opinion, words of the widest possible scope. They import such meanings as “in relation to”, “with reference to” or “in connection with”. The phrase “in respect of” is probably the widest of any expression intended to convey some connection between two related subject matters.

It is true that for the purposes of determining whether the sum received by the Appellant was a retiring allowance, the words “in respect of” in paragraph 248(1 )(/?) “direct that a broad scope of inclusion be considered as to what constitutes a sufficient connection between the loss of employment and the amounts received” (see Anderson v. R. (1997), 98 D.T.C. 1190 (T.C.C.), referred to by counsel for the Respondent). However, even on such a wide interpretation, I do not find in the present case that there is a sufficient connection between the receipt of the money by the Appellant and the loss of his employment. The amount received by the Appellant did not arise from his loss of employment but rather from the settlement of a lawsuit claiming from his former employer amounts due by that employer before the Appellant’s loss of employment.

Indeed, the purpose of the lawsuit was to obtain reimbursement for wages unpaid while the Appellant was working for the former employer, and damages related to expenses incurred by the Appellant when he accepted an offer from his former employer to move and open a new dyeworks in the United States. I therefore find that this is a case where the damages received were extraneous to the loss of employment and cannot be characterized as the payment of a retiring allowance.

The Minister submits alternatively that the amount of $50,000 is remuneration that is caught by subsection 5(1) of the Act. To be taxable under subsection 5(1), an amount received must be a salary, wages or other remuneration, including gratuities, for services rendered or to be rendered.

The evidence disclosed that the Appellant settled his lawsuit against his former employer for $50,000 CDN. The Appellant had initially claimed $309,200 US, of which $274,600 US was for unpaid wages. The balance was for damages suffered with respect to the loss of profit on the sale of his residence in Montreal, with respect to moving expenses, and with respect to medical expenses that he incurred in the United States because his former employer did not provide him with valid medical insurance. The amount claimed for unpaid wages represented 90 percent of the total claim and the balance of 10 percent was claimed as damages. The Appellant accepted $50,000 CDN out of a claim of $366,866 CDN, that is, approximately 10 percent of the total claim. In the release, receipt and discharge, the parties indicated that it was an essential term and condition of the settlement that the parties agreed that the sum paid by the former employer to the Appellant constituted damages.

The Appellant in his testimony explained that he had refused two previous offers of $15,000 and $25,000 respectively by his former employer. He indicated that he was not ready to accept less than $50,000, as this was his estimate of the amount of his personal loss from having agreed to accept a new job in the United States.

I find that this is sufficient evidence to infer, on the balance of probabilities, that the award was intended to compensate the damages suffered by the Appellant in agreeing to move to the United States to start his new job. In reaching that conclusion, I also rely on the remarks of La Forest J. in Schwartz v. R., [1996] 1 S.C.R. 254 (S.C.C.) at page 285, who said the following with respect to the apportionment of the damages by the Minister in that case:

Logically, the Minister should not have the burden of presenting, in every case where the apportionment of a general award is at issue, specific evidence amounting to an explicit expression of the concerned parties’ intention with respect to that question. However, there must be some evidence, in whatever form, from which the trial judge will be able to infer, on a balance of probabilities, which part of that general award was intended to compensate for specific types of damages.

In the present case, the parties to the out-of-court settlement were at liberty to settle their litigation by mutual agreement and to characterize the transaction in such a way as to minimize the tax payable on the transaction. Here, 10 percent of the amount claimed in the lawsuit was in respect of damages and the Appellant agreed to accept compensation for that portion only. As Linden J.A. stated in Hoefele v. R. (1995), 95 D.T.C. 5602 (Fed. C.A.) at page 5606:

The facts of each case are unique and Courts must deal with them accordingly. It is just common sense, therefore, for taxpayers to consider the tax consequence of their financial dealings and to structure them wisely so as to keep tax liability to a minimum.

Further, I do not find that the unsigned letter from the former employer put in evidence by the Respondent, stating that a T4 slip was not issued because the Appellant refused to give his social insurance number and address, is sufficient evidence to attack the credibility of the Appellant. The Appellant testified in a straightforward manner and had been a witness to misconduct by his former employer. The Appellant had to sue his former employer because of the latter’s failure to comply with the conditions of employment agreed upon before the Appellant began his new employment in the United States. Although I have not heard the former employer’s version, I am satisfied that the Appellant was in good faith all along and that he found himself in a situation that he could not have foreseen.

I therefore accept the fact that the amount of $50,000 was paid to compensate the personal loss suffered by the Appellant in agreeing to move to the United States and was not a payment of unpaid wages.

As to the taxability of the award for damages, obviously it is not taxable under paragraph 5(1 )(«) as these damages cannot be considered remuneration for services rendered. The Respondent did not argue that a benefit was conferred within the meaning of subsection 6(1) of the Act. Be that as it may, I do not believe that there was any taxable benefit conferred on the Appellant. As Linden J.A. said in Hoefele, supra, an amount received is not taxable if it does not improve the economic situation of the Appellant, if it is reimbursement of an amount for which an employee would otherwise have been “out-of-pocket”. As stated by Noël J. in Ransom v. Minister of National Revenue (1967), 67 D.T.C. 5235 (Can. Ex. Ct.) at pages 5243-44:

In a case such as here, where the employee is subject to being moved from one place to another, any amount by which he is out of pocket by reason of such a move is in exactly the same category as ordinary travelling expenses. His financial position is adversely affected by reason of that particular facet of his employment relationship. When his employer reimburses him for any such loss, it cannot be regarded as remuneration, for if that were all that he received under his employment arrangement, he would not have received any amount for his services. Economically, all that he would have received would be the amount that he was out of pocket by reason of the employment.

The decision in Ransom, Which was cited with approval by the Federal Court of Appeal in Hoefele, dealt with the reimbursement of an employee by his employer for the loss incurred by that employee on the sale of his residence by reason of his new employment. I find that the same reasoning also applies to moving expenses and medical expenses.

As Linden J.A. said in Hoefele, supra, at page 5605, “it does not make any difference whether the expense is incurred to cover costs of doing the job, of travel associated with work or of a move to a new work location, as long as the employer is not paying for the ordinary, everyday expenses of the employee”. Here, because the former employer did not provide valid medical insurance nor pay for moving expenses, the Appellant had to incur by reason of his employment in the United States expenses that he would not have incurred had he not accepted that employment.

For all these reasons, I therefore conclude that the amount of $50,000 received by the Appellant in the 1992 taxation year was not taxable and consequently the Appellant did not have to include the said amount in his income for that year pursuant to subsections 5(1) and 248(1) and subparagraph 56(l)(a)(ii) of the Act.

Consequently the appeal is allowed, with costs, and the penalty shall be cancelled.

Appeal allowed.