Rossmor Auto Supply Ltd. v. MNR, 62 DTC 1080, [1962] CTC 123 (Ex. Ct.)

THORSON, P.:—This is an appeal against the appellant’s income tax assessment for 1959. In its income tax return for its taxation year ending July 31, 1959, the appellant had deducted from what was otherwise its taxable income for the year the sum of $28,846.25 as the amount of a bad debt owing to it by John Veitch which it had written off in the year, but the Minister in his re-assessment of the appellant for the year added this amount to the amount which it had reported in its return. The appellant objected to the re-assessment but the Minister confirmed it and the appellant then brought its appeal to this Court.

The facts are not in dispute. Evidence was given for the appellant by Mr. Jack Fearnside and by Mr. John Veitch. Nowitnesses were called for the Minister.

The salient facts may be stated briefly. By an agreement, dated April 19, 1955, between Sydney Fearnside, thereinafter called Fearnside, who was the majority shareholder of the appellant, and John Veitch, thereinafter called Veitch, and Safety Freight Limited and Veitch Truck Lines Ltd., it was recited that Veitch had requested Fearnside to lend him the sum of $50,000 and that Fearnside had agreed to do so on the terms and conditions set out in the agreement. One of its terms was that in consideration of the loan Safety Freight Limited and Veitch Truck Lines Ltd., which were trucking companies controlled by John Veitch, would purchase all tires and tubes from Sydney Fearnside and have all their re-capping of tires done by him or as he directed. The loan of $50,000 was to be repaid with interest at 6 per cent as follows, namely, $15,000 on July 15, 1955, and the balance of $35,000 in monthly payments of $1,000 each commencing August 15, 1955. The loan of $50,000 to John Veitch and his companies was actually made by the appellant. It signed a promissory note for the amount payable to the Bank of Nova Scotia and the Bank placed this amount to the credit of John Veitch and his companies. Mr. Jack Fearnside said that the appellant signed the note so that John Veitch and his companies could have working capital. It was agreed that the amount of the note should be paid in the amounts and at the dates referred to by depositing the payments to the credit of the appellant at the Bank of Nova Scotia.

Mr. Jack Fearnside, the son of Sydney Fearnside who is now deceased, negotiated the agreement with John Veitch and said that the arrangements were made for the purpose of stimulating the appellant’s business by the sale of tubes and tires and the re-capping of tires. On his cross-examination, he amplified this statement and said that he had called on John Veitch to get some tire business for the appellant, that he had made several calls without success, that Mr. Wilmer Ferguson, an insurance agent for John Veitch, had suggested the idea of a loan to him and that the negotiations then led to the agreement referred to. He also said that the appellant did not make a practice of making loans in order to get business but it had done so to Frank McCallum Transport and had also made a loan of $1,800 to East-West Transfer to enable it to buy a certain property.

After the agreement was made the John Veitch companies, which were the biggest purchasers of tires and tubes in Manitoba, bought their tire and tube requirements from the appellant from about July 31, 1955, to January 20, 1957, on a 30-day credit basis but the appellant stopped selling to them after January 20, 1957, because they had ceased to pay their bills.

John Veitch and his companies made the first payment on account of the loan, as agreed upon, namely, $15,000 on July 15, 1955, but made no further payments, leaving an unpaid balance of $35,000, which the appellant carried as an asset in its statements of assets and liabilities included in the financial statements filed with its returns for the years 1955, 1956, 1957 and 1958. It had obtained a second mortgage on John Veitch’s garage as partial security for the loan and as a result of foreclosure and sale proceedings had realized a further amount, which was applied towards payment of the loan, leaving a balance of $28,846.25 still unpaid at the end of its 1959 taxation year.

It is not necessary to set out the reasons given by Mr. Fearn- side and Mr. Veitch for the failure of John Veitch and his companies to repay the loan, beyond saying that it was due to financial inability to do so. While the financial position of John Veitch and his companies had been good at the time the loan was made it had so deteriorated that they had no financial means. Safety Freight Limited, one of the companies controlled by John Veitch, had made a proposal under the Bankruptcy Act and John Veitch was himself in bankruptcy. He had no assets and there was no hope of the appellant receiving any further payment on account of its note to the Bank either from John Veitch or from his companies. At the end of the appellant’s 1959 taxation year the sum of $28,846.25 was still owing and the appellant wrote this amount off as a bad debt as set out in its financial statement filed with its return for 1959.

On these facts counsel for the appellant contended that it was entitled to the deduction claimed by it. In its notice of appeal the appellant claimed that the sum of $28,846.25 was part of an outlay by the appellant made for the purpose of gaining or producing income from the business of the appellant, namely, from the selling of tires and services, within the meaning of Section 12(1) (a) of the Income Tax Act, and in the alternative that the said sum was deductible as a bad debt being a loan made in the ordinary course of business by the appellant, part of whose ordinary business was the lending of money, within the meaning of Section 11(1) (f) of the Income Tax Act.

Section 12(1) (a) of the Income Tax Act, R.S.C. 1952, c. 148, reads as follows:

“12. (1) In computing income, no deduction shall be made in respect of

(a) an outlay or expense except to the extent that it was made or incurred by the taxpayer for the purpose of gaining or producing income from property or a business of the taxpayer,”

and Section 11(1) (f) of the Act is in the following terms:

“11. (1) Notwithstanding paragraphs (a), (b) and (h) of subsection (1) of section 12, the following amounts may be deducted in computing the income of a taxpayer for a taxation year:

(f) the aggregate of debts owing to the taxpayer

(i) that are established by him to have become bad debts in the year, and

(11) that have (except in the case of debts arising from loans made in the ordinary course of business by a taxpayer part of whose ordinary business was the lending of money) been included in computing his income for that year or a previous year;”

Counsel for the appellant contended that the facts brought the case within the exception referred to in Section 12(1) (a) and that the amount of $28,846.25 was deductible. He submitted that the evidence showed that the loan had been made by the appellant for the purpose of getting greater income from its business and that while the outlay was made in 1955 it became a deductible expense only in 1959 when John Veitch and his companies became unable to pay the note and that it then incurred a deductible expense of $28,846.25. It was his contention that the outlay had to become bad before it could be deducted. In support of his submission he relied on the decision in Calders, Ltd. v. C.J.R. (1944), 26 T.C. 214.

I am unable to accept counsel’s submission and, in my opinion, the decision referred to has no bearing on the question here in issue. As I view Section 12(1) (a), the outlay or expense that may be deducted in computing the taxpayer’s income for the year, namely, an outlay or expense made or incurred by the taxpayer for the purpose of gaining or producing income from property or a business of the taxpayer is limited to an outlay or expense that was made or incurred by the taxpayer in the year for which the taxpayer is assessed. That does not exist in the present case. Even if it could be said that the loan of $50,000 made by the appellant in 1955 was an outlay or expense of the kind contemplated by Section 12(1) (a), which, in my opinion, it was not, the fact is that the amount of $28,846.25 which the appellant deducted in its income tax return for 1959 and which counsel for the appellant now contends is deductible under the exception referred to in Section 12(1) (a) was not an outlay or expense that was made or incurred by the appellant in the taxation year 1959 for which it has been re-assessed and it was, therefore, not deductible under the section.

I had occasion in Consolidated Textiles Ltd. v. M.N.R., [1947] Ex. C.R. 77 ; [1947] C.T.C. 63, to consider the time when deductions could be made within the exception of Section 6(a) of the Income War Tax Act, R.S.C. 1927, c. 97, which reads:

* *6. In computing the amount of the profits or gains to be assessed, a deduction shall not be allowed in respect of

(a) disbursements or expenses not wholly, exclusively and necessarily laid out or expended for the purpose of earning the income;”

And I said, at page 82 [[1947] C.T.C. 69]:

“In my opinion, section 6(a) excludes the deduction of disbursements or expenses that were not laid out or expended in or during the taxation year in respect of which the assessment is made. This is, I think, wholly in accord with the general scheme of the Act, dealing as it does with each taxation year from the point of view of the incoming receipts and outgoing expenditures of such year and by the deduction of the latter from the former with a view to reaching the net profit or gain or gratuity directly or indirectly received in or during such year as the taxable income of such year.’’

In my judgment, what I said in that case is mutatis mutandis equally applicable in this one, and I find, therefore, that Section 12(1) (a) of the Income Tax Act does not permit the deduction claimed by the appellant.

Nor is the amount deductible under Section 11(1) (f). The debt referred to was not a debt arising from a loan made in the ordinary course of business by a taxpayer part of whose ordinary business was the lending of money. The lending of money was not a part of the appellant’s ordinary business. Moreover, it had never included any part of the debt owing to it in computing its income. Indeed, it had always considered the amount owing to it by John Veitch and his companies as a capital asset. That being so, I am unable to see how the fact that a capital asset that had lost its value as such could possibly have become a deductible operating expense. Nor, in my opinion, could the appellant have properly regarded the debt owing to it as an operating receivable. I find, accordingly, that Section 11(1) (f£) does not give the appellant any right to deduct the amount claimed by it.

It follows from what I have said that the Minister was right in re-assessing the appellant as he did and that the appeal herein must be dismissed with costs.

Judgment accordingly.