Ogden Funeral Homes Ltd. v. The Queen, 94 DTC 1405, [1994] 1 CTC 2564 (TCC)

O’Connor, J.T.C.C.:—These appeals were heard in Toronto, Ontario on February 8, 1994 pursuant to the General Procedure of this Court. The issues in these appeals were

(a) whether the appellant was entitled to deduct an amount of $4,599.39 in the 1988 taxation year, being the cost of air travel from Australia to Toronto by Grant Ogden, ("Grant"), the appellant's General Manager and Secretary- Treasurer;

(b) the deductibility of amounts which the appellant laid out for Grant in the taxation years ended June 30, 1987, June 30, 1988 and June 30, 1989; and

(c) the deductibility of certain rental losses in said years.

The respondent, actin through the Minister of National Revenue ("Minister"), had disallowed all of these deductions, relying principally on paragraphs 18(1 )(a) and 18(1)(h) of the Income Tax Act, R.S.C. 1952, c. 148 (am. S.C. 1970-71-72, c. 63) (the "Act").

Another issue which was raised in the notice of a peal related to the deductibility of certain capital cost allowances on an aircraft but this issue was dropped by the appellant at the outset of the hearing.

Facts

The appellant’s principal business was the operation of a funeral home in Scarborough, Ontario. The appellant was wholly owned by 556310 Ontario Inc. and the shares of this holding company were in turn owned as follows, namely seven by Douglas Ogden ("Douglas"), one by his son Grant and one by each of Grant's two sisters. Grant was the general manager and secretary-treasurer of the appellant and Douglas was the president. Grant and Douglas were the principal persons involved in the carrying on of the funeral home business.

On the first issue the evidence was that in early April of 1988 negotiations were being carried out principally by Douglas with respect to the purchase by the appellant of an interest in Millcroft Inn which is located near Toronto. At the time Grant was in Australia scheduled to return on April 18. Douglas had been in communication with Grant on the matter and shortly prior to April 13 Douglas telephoned Grant and demanded that he return immediately to handle certain difficulties which had arisen in the negotiations. Grant purchased the necessary air ticket and returned on April 13 to Toronto via Los Angeles and Chicago. The cost of the ticket in Canadian dollars was $4,599.39 and a copy of the ticket is filed as Exhibit A-4. Grant was not able to obtain a refund on his regularly scheduled return of April 18 because of that ticket's conditions. The Minister’s principal position was that because of the lack of documentation showing the precise closing date for the scheduled purchase and the contradictions in the testimony as to this date, it had not been proven that Grant really had to return for a valid business purpose. The Court finds it difficult to accept the Minister's position. There must have been some real urgency requiring Grant's return. Otherwise he could simply have returned on April 18, the scheduled return date. Grant testified that his father definitely needed him and had ordered him to return to conclude the negotiations. The Court accepts his testimony and finds that the said amount was a deductible expense of the appellant.

The second issue relates to whether the appellant is entitled to certain deductions which the Minister alleges represented personal expenses of Grant, not incurred for business purposes and not reasonable. The deductions which were disallowed to the appellant were $23,235 in 1987, $19,587 in 1988 and $19,695 in 1989. Also according to the testimony and as appears from exhibits A-5 and R-3 amounts largely relating to said expenses were taxed in the hands of Grant. The amounts so taxed to Grant were $21,562 in 1987, $15,610 in 1988 and $19,062 in 1989.

The testimony revealed that Grant in consultation with his father ran the operations of the funeral home. There was no written contract of employment but he received a certain salary as well as the use of a car and was entitled to certain perquisites which were realized by the use of a credit card of the appellant. The expenditures charged to the credit card were reviewed on a regular basis with Douglas and agreed to. The Minister argues that even though Grant has been taxed on the amounts mentioned above the appellant cannot deduct same alleging that the amounts were granted to Grant in his capacity as a shareholder rather than as an employee and were personal expenses of Grant. The Court cannot accept respondent's position and holds that to the extent the amounts have been taxed in the hands of Grant then the appellant is to be entitled to the deductions. Based on the evidence, these amounts were part of his remuneration package, were advanced to him as an employee and were taxed to him.

It should be observed that if the $4,599.39 expenditure mentioned above forms part of the amounts taxed in the hands of Grant then it need not have received separate treatment. In other words it would be governed by this conclusion on the second issue and is not to be doubly counted. The reason the Court dealt separately with the said amount of $4,599.39 is that that is the way it has been approached in the notice of appeal and in the reply and the amended reply.

With respect to the third issue of disallowed rental losses of $20,875 in 1987, $21,149 in 1988 and $17,278 in 1989, the facts, as revealed by the testimony and the exhibits, are as follows. In 1981 the appellant purchased a property in Markham, Ontario (the "farm") comprising 23 acres and a fieldstone home which had been constructed thereon in the 18005. The appellant argues that the farm was purchased with the intention of operating a second funeral home on the site and with a secondary intention of subdividing for residential purposes if the proposed Pickering airport development had gone forward with an anticipated influx of residents. In fact from the date of purchase of the farm it was leased to Grant at a fair market value rent and later in 1989 the appellant sold the farm to Grant for a price equal to fair market value. Also under the direction of Grant considerable renovations were made to the home in 1986 and the cost of said renovations the parties have agreed was $229,076. On the basis of all of the evidence, principally the facts that the property was zoned agricultural, that no efforts were ever made to change the zoning, that no plans were ever put forward as to the utilization of the property either as a funeral home or as a residential subdivision, that the property was occupied from inception by Grant, that all of the renovations were effected under the direction and to the taste of Grant and his wife, the Court finds that the appellant did not acquire the farm for business purposes and did not have a reasonable expectation of profit from it as a rental property. Consequently the appellant cannot deduct the alleged rental losses related to the farm.

It is to be noted that the financial statements for the appellant for the years in question actually showed a small positive amount of rental income. However the respondent tooK the position that the statements were deficient in that they omitted to show as an expense the interest on certain mortgages placed on the farm at or about the time of the renovations. The details of these mortgages follow. In July 1986 a $100,000 mortgage was placed on the farm and the proceeds of same were used to fund the renovations. On September 3, 1986 a new mortgage of $400,000 was placed on the farm and the proceeds of this mortgage were applied as follows, namely $100,000 to pay the July mortgage and $300,000 applied partly to fund the renovations and partly to improve the working capital of the appellant. Since the interest on the portion of the proceeds used for improving the working capital of the appellant would be a proper deductible expense it became necessary to determine exactly what portion of the proceeds was allocable to the farm and what portion was allocable to the improvement of the working Capital.

In calculating the interest allocable to the farm the Minister has used the agreed total figure for the cost of the improvements, namely $229,076, has allowed no interest deduction in respect thereof, but has permitted a deduction of the interest on the remaining proceeds, i.e., $170,924. The appellant contests both these figures as well as the $400,000 figure. With respect to the $400,000 the appellant argues that only the net proceeds of the loan after deducting legal fees, i.e. an amount of $394,000, is to be used. The appellant seeks the lower figure because this would increase the deductible portion of the interest. The Court cannot accept this position because the interest is chargeable on the entire amount of $400,000 and not only on the net proceeds after legal fees.

As to the $229,076 figure, counsel for the appellant argues that only an amount of $136,900 should be considered as allocable to the farm because some of the renovation costs were funded by sources other than the loan proceeds. Counsel pointed mainly to a bank statement of the appellant upon which hand written notes have been added indicating when the mortgage funds were advanced and argues that since the bulk of the proceeds ($297,000) was only advanced after the renovations were completed, such amount (with the exception of an amount of $40,000 conceded by counsel) cannot be allocable to the farm. The Court finds this approach unacceptable. Firstly, when the mortgage is placed only on the farm and not on any other assets, there is an initial impression that the proceeds were meant for the farm. Secondly, it would have been possible for the appellant to advance amounts to Grant for renovations and then offset those amounts when the final mortgage proceeds ($297,000) were paid to the appellant. Thirdly, the amount of $40,000 was chosen arbitrarily and could well have been higher. Fourthly, the appellant's own notices of objection state that approximately $200,000 was used for the renovations. The Court also observes that Grant personally guaranteed the $400,000 mortgage and when he purchased the farm from the appellant in 1989 he assumed the full amount outstanding at that time, namely $300,000. The Court concludes that the appellant has not discharged its burden to demolish the Minister’s assumptions of fact on this issue.

The Court after careful consideration of the figures and calculations and the testimony finds that the calculations of the Minister, which are deducible from chart 1 in paragraph 10 of the amended reply are correct.

Said Chart 1 reads as follows:

Consequently the reassessment to be made pursuant to this judgment (in addition to treating issues one and two in the manner set forth above) will disallow the net rental losses as per Chart 1 above and will permit the appellant the deduction of the interest on $170,924. The reassessment is also to consider further whether there should be any adjustment in the adjusted cost base of the farm resulting from the foregoing conclusions. The appellant is entitled to no further relief.

Considering that some of appellant's positions have been accepted and some rejected, there shall be no costs to either party.

Appeal allowed in part.