Campbell J.:
The question in this case is whether Global Communications Limited’s advances to a subsidiary, none of which were repaid, constitute a “bad debt” under s.20(1)(p) of the Income Tax Act, and is, therefore, tax deductible.
A. Agreed facts (L4/R4344/T0/BT1) test_linespace (272>258.02) 1.047 0052_2613_2779
The content of an Agreed Partial Statement of Facts is as follows:
I. Global Communications Limited (“Global”) carries on a general business of entertainment and communications. Global’s year end was August 31.
2. In August, 1978 Multicreations Limited (“Multicreations”), a wholly-owned subsidiary of Global, acquired all the shares of Tee Vee Records Inc. (“Tee Vee Canada”).
3. Tee Vee Canada had a wholly-owned subsidiary, Tee Vee Records, Inc. (“Tee Vee US”). Tee Vee US was in the mail order business and distributed products related to the entertainment field.
4. In the period from 1977 to 1980 Global had made advances totalling approximately $11,000,000.00 to various subsidiaries, employees and others.
5. By the end of 1982 Global had made advances totalling approximately $18,000,000.00 to 21 different parties.
6. During the years 1979 - 1980 various amounts were advanced by Global to both Tee Vee Canada and Tee Vee US including $2,055,608.00 and $1,365,676.00, respectively.
7. Global’s advances to Tee Vee US began on November 28, 1979.
8. Global’s contemporaneous business records (as accepted by Revenue Canada) in the form of invoices, general ledger statements, trial balances, and accounts receivable statements prepared, inter alia, in connection with the advances made to Tee Vee US, indicate that interest on such advances was being accrued at an interest rate of 16 3/4% in the company’s books. Such interest rate was computed as prime plus I 3/4%.
9. In August, 1980, Multicreations purchased all the shares to Tee Vee US from its wholly-owned subsidiary, Tee Vee Canada.
10. Pursuant to an agreement dated August 29, 1980 (the “Agreement”), Multicreations sold all the shares of Tee Vee US to Cable Advertising Sales, Inc. in an arm’s length transaction.
11. Under the terms of the Agreement, Global obtained the right to U.S. broadcasting rights for four one-hour television shows featuring Charlie Pride, Conway Twitty, Buck Owens and Frank Yankovic (the “Broadcast Rights”). Revenue Canada’s auditor did not dispute that such shows had no value to Global in Canada as Global could not air them in Canada.
12. Although the Broadcast Rights had some value for U.S. syndication purposes such value was insignificant and believed to be in the region of $25,000.00.
13. In preparing its 1980 income tax return Global deducted, pursuant to paragraph 20(1 )(p) of the Income Tax Act (Canada) (the “ Act”), a bad debt expense in the amount of $1,365,676.00 (the “Bad Debt Claim”). Such amount represented the advances made to Tee Vee US in 1979 - 1980 and had not been included in computing Global’s income in the year or a previous year.
14. The Minister of National Revenue (the “Minister”) issued a Notice of Reassessment No. 1261259 dated September 26, 1986 in connection with Global’s 980 taxation year (the “Reassessment”).
15. In the Reassessment the Minister added to income previously assessed the amount of $1,365,676.00 relating to the Bad Debt Claim.
16. By way of a Notice of Objection dated November 27, 1986 Global objected to the Reassessment (the “Objection”).
17. In response to the Objection the Minister issued a Notification of Confirmation dated October 26, 1988 confirming the Reassessment.
B. Statutory provision and the test (L12/R2816/T0/BT1) test_marked_paragraph_end (1330) 1.032 0053_4733_4901
Section 20(1 )(p) of the Act reads as follows:
s.20(1) Notwithstanding paragraphs 18(1 )(a), (b) and (h), in computing a taxpayer’s income for a taxation year from a business or property, there may be deducted such of the following amounts as are wholly applicable to that source or such part of the following amounts as may reasonably be regarded as applicable thereto:
(p) Bad Debts.--the aggregate of debts owing to the taxpayer
(1) that are established by him to have become bad debts in the year, and
(ii) 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 the year or a previous year;... Emphasis added]
For deductibility, it is agreed that the test that Global must meet is contained within the italicized phrase in s.20( l)(p)(ii).
With respect to the test, it is also agreed that the following statement from Discovery Research Systems Ltd, v. R. (1994), 94 D.T.C. 1510 (T.C.C.) at 1518 accurately outlines the elements that must be proved, and the approach that should be taken in evaluating the evidence:
Counsel have agreed that the core issue is directed to the applicability of subparagraph 20( 1 )(p)(ii) of the Act, the requisites being the establishment
I. of debts arising from loans, that
2. part of the Appellant’s ordinary business was money lending, that
3. the loans were made in the ordinary course of that business, and that
4. the loans became bad in the year.
These requisites are factual in nature. All of the relevant circumstances are to be considered utilizing a pragmatic business approach. As noted in Morflot Freightliners Ltd., supra, [89 D.T.C. 5182 (F.C.T.D.)] at 5185:
It has frequently been said in cases of this nature that one must try to characterize a situation from a practical business point of view to determine the intent with which the money was provided. [footnotes omitted]
C. Proven facts (L8/R4360/T0/BT1) test_marked_paragraph_end (272) 1.023 0054_4497_4627
The witnesses called by Global to prove the outlined elements, and who participated in Global’s 1980 decision making process, were Mr. John Craig, then Vice President of Finance, Mr. John Elder, then a corporate officer, and Mr. Cameron Johnson, then and now Treasurer. The obvious credibility of these witnesses was not challenged by the Minister.
As elaboration on the agreed facts, the evidence produced on the appeal proves the following facts respecting Global’s business activities leading to the Bad Debt Claim:
I. Global made advances to three categories of recipients: third party production companies, subsidiaries, and employees. With respect to advances to production companies, as a condition of Global’s broadcasting licence, it was required to provide financial assistance to Canadian content producers; some of these advances were interest bearing. With respect to advances to subsidiaries, the purpose was to generate income from interest, and also to generate demand by the subsidiaries for Global’s advertising time which would, in turn, generate income for Global; all of these advances were interest bearing. The loans to employees were for the benefit of those employees and were not interest bearing.
2. In 1980, on assets of $50 million, approximately 20% of Global’s assets were tied up in advances. All interest received by Global on these advances was declared as income.
3. When Tee Vee Canada, and consequently Tee Vee US were purchased, Global believed it was purchasing profitable businesses. Tee Vee Canada’s business was buying rights from artists, printing recordings of these artists, and placing the records with retailers for sale. The risk in the business was that the retailers could return unsold records. Tee Vee US’s business was advertising the sale of recordings on radio and television, and meeting the demand generated thereby by mailing records to purchasers. The risk in the business was that artists negotiated for the sale of minimum quantities of records sold, so there was an inventory risk rather than the return risk assumed by Tee Vee Canada.
4. In particular, Tee Vee US was seen as the jewel of the acquisition. Consequently, after careful analysis, Global made advances to Tee Vee US as the business required cash. It was intended that these advances be for working capital purposes and, because of positive profit trend projections, would be short term, being repaid within two to three years.
5. By June 1980, both Tee Vee Canada and Tee Vee US were in financial trouble. Accordingly, the decision was taken to wind up Tee Vee Canada and to sell Tee Vee US by a sale of shares rather than a sale of assets because of legitimate legal reasons having to do with the nature of the business. After the decision to sell was made, and until a buyer for Tee Vee US was found in August 1980, Global continued making advances to keep the company alive.
6. The purchaser of Tee Vee US insisted on getting a company with a defined level of liability, and in this respect, was unwilling to assume responsibility to repay the advances made by Global. As a result, in order to get what it could, Global took the decision to release that entity of indebtedness even though it knew it would not get recovery.
7. In addition, the sale of Tee Vee US involved consideration in five aspects: Multicreations received $50,000 in cash; Global indemnified the purchaser for Tee Vee US’s debt in excess of $700,000; Global received the Broadcast Rights referred to in paragraph 12 of the Agreed Partial Statement of Facts quoted above; in return for a payment of $200,000 from Global to Tee Vee US, Global received an assignment of manufacturing, advertising and distribution rights held by Tee Vee US under an agreement with ABC Records; and by vir-
tue of a consulting agreement, Multicreations would receive a share of Tee Vee US’s profits for 20 years.
D. Meeting the elements of the test expressed in Discovery Research (L8/R12/T0/BT1) 1.032 Systems (L256/R4710/T1/BT1) test_marked_paragraph_end (4698) 1.047 0056_1751_2135
1. “of debts arising from loans”
The only argument raised by the Minister against a finding that the advances are debts is that the advances were made by a principal to a subsidiary, and therefore could not be properly considered loans. Considering the persuasive precedents of Highfield Corp. v. Minister of National Revenue (1982), 82 D.T.C. 1835 (T.R.B.); and Discovery Research Systems, I find there is no impediment to making such a finding simply because of this relationship between lender and borrower.
In Highfield at 1845, Member Taylor states:
In summary, at this point I am not persuaded by the proposition that loans from a parent to a subsidiary cannot constitute a business or a part of a business, for inclusion as a deduction under section 18( 1 )(a); or that for the same reason a creditor is automatically disqualified as a “money lender” for purposes of section 20(1 )(I) of the Act.
Section 20(l)(l)(ii) contains the same words as those in issue in s.20(l)(p)(ii) in this case. In Discovery Research Systems, at 1519 Kempo T.C.C.J. states:
Evidentiary concerns arise in cases involving close relationships between the lender and the borrower calling for an appropriate examination of all the evidence. In any event the principal focus of the jurisprudence is that each case must be viewed and determined on its own facts and merits.
Global’s evidence is strong and consistent in advancing the proposition that the advances from Global to Tee Vee US were intended to be interest bearing loans. The advances were made according to an established professional loan assessment pattern, and all records kept respecting the advances reflect the intention that the advances be loans. There is no evidence to the contrary. Accordingly, I give no weight to the Minister’s argument on this ISSUE.
2. ^part of the Appellant’s ordinary business was money lending”
The Minister argues that Global’s ordinary business places it in a very different situation than the successful Appellant in Highfield which was an “investment banker”. I find, however, that this argument is not persuasive given Global’s routine and aggressive money lending practices. Given that, in 1980, 20% of Global’s assets were wrapped up in advances, I find that an important aspect of Global’s ordinary business was money lending.
3. “the loans were made in the ordinary course of that business”
The Minster argues that since the advances were made with no formal acknowledgement of indebtedness, no security, and since no interest was received, even if money lending is part of Global’s ordinary business, these advances do not meet this element of the test. That is, a borrower-lender relationship would not include this kind of transaction.
As the statement from Morflot Freightliners Ltd. set out above suggests, the advances must be viewed from a practical business point of view to determine the intent with which the money was provided. As found, the money was advanced on an assessment that Global would gain a benefit. The argument that a lending institution might not do the same is beside the point. In the ordinary course of its business, Global made the decision to loan Tee Vee US money and did so for sound business reasons. Accordingly, I find this element of the test is proved.
4. “the loans became bad in the year”
Respecting this element, the Minister submits that the debt was satisfied under the agreement for sale. I find there is no evidence to support this submission. While it is true that consideration in various forms was exchanged to close the sale, there is no evidence that the $1,365,676.00 debt owed by Tee Vee US to Global was paid. The evidence proves to my satisfaction that in order to salvage what it could from the sale of Tee Vee US, Global did nothing more than remove the obligation of Tee Vee US to pay the debt.
Any suggestion that the obligation to pay somehow survived the sale is contrary to the evidence and 1s, therefore, unsupportable.
Thus, I find that on execution of the agreement for sale on August 29, 1980, the loan by Global to Tee Vee US became bad in 1980.
E. Relief (L4/R4908/T0/BT1) test_marked_paragraph_end (4018) 1.008 0057_8319_8449
Since each element of the test identified in s.20(l)(p)(ii) has been met, this appeal is allowed and the matter is referred back to the Minister of National Revenue for reconsideration and reassessment so as to allow the deduction claimed by Global Communications Limited in the sum of $1,365,676.00 for its 1980 taxation year.
I award costs of this appeal to Global Communications Limited.
Appeal allowed.
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