Hiwako Investments Ltd. v. The Queen, 78 DTC 6281, [1978] CTC 378 (FCA)

The Chief Justice:—This is an appeal from a judgment of the Trial Division dismissing with costs an appeal from a judgment of the Tax Review Board dismissing an appeal in respect of: assessments under ‘Part I of the Income Tax Act for the 1967 and 1968 taxation years.

The sole issue between the parties is whether a profit made by the appellant of over $1,000,000 on a purchase of a property consisting of some eight separate residential apartment buildings and a sale thereof some eleven months later was a profit from a business within the extended meaning of that word in the applicable version of the Income Tax Act, the relevant portion of which reads paragraph 139(1 )(e):

(e) “business” includes a . . . undertaking of any kind whatsoever and includes an adventure or concern in the nature of trade . . .

The appellant company is a company created as a vehicle for operations of a private individual, named Koch. The business and investment activities of that individual are set out with care in the judgment of the learned Trial Judge and it is unnecessary to repeat them. I propose, therefore, only to refer to such of the facts as I need mention to explain my conclusions.

At the outset, it should be said that, when purchased, the property was ready for profit producing operation and that Mr Koch made immediate arrangements for such an operation by the appellant—whether the result would have been a profit (or loss) from property or a business does not appear to have been regarded, during the various stages of these proceedings, as relevant. There would not appear to be any doubt that, if the appellant had retained the property indefinitely and so operated it, it would, from the point of view of the income tax legislation, have been either an income producing property or a capital asset of a business and, in either case, for the purpose of computing income for the purposes of the income tax legislation, it would have been the subject of capital cost allowance. If that had been the complete story, when the appellant disposed of the property—regardless of how long it had so operated it—a profit or loss from the disposition would not have been profit or loss from property or from a business, whichever category the operation fell in.

The sole question to be decided is whether the profit realized by the sale of the property that was being operated as a profit-producing property (or was being used as the principal capital asset of a business) was properly characterized as profit from a “business” by the assessments attacked by the appeal.

My study of the record does not persuade me that such sale completed an adventure or concern in the nature of trade. Moreover, in my view, there is no evidence on which such a conclusion could be reached.

As I understand it, the only evidence relied on in support of that conclusion is, in essence, that the appellant had in mind, in making the purchase, the prospect of inflation in land values. However, in my view, the choice, as an investment, of an income producing property (such as developed real property or “growth” stock) with a prospect of increasing capital value to offset chronic depreciation in the value of money, as opposed, for example, to a choice of bonds designed to produce a fixed amount on maturity, is not evidence of a purchase for re-sale amounting to the launching of an adventure or concern in the nature of trade.* [1] I do not read the evidence in this case as being open to an inference that a prospect of re-sale at a profit was a motivating reason for the purchase and I do not read the learned Trial Judge’s finding of fact in the last paragraph of his judgment as amounting to more than a finding that the investment was in a profit producing property that would increase in value and that circumstances in the future might dictate a change in investments.

The relevant part of the learned Trial Judge’s Reasons reads:

Taking all of the evidence into account, I am not persuaded that, when the plaintiff acquired Flemingdon Park, its only intention was to hold it as an investment. Koch is an experienced, sophisticated and sagacious businessman who has operated boldly in a number of difficult business environments and with a remarkable measure of success. He was, on the evidence, the sole moving force behind the plaintiff. The proposition that, when he decided to buy Flemingdon Park, he was motivated solely by the desire for a secure, income earning investment is simply not credible. I very much doubt that, for many years at least, Koch has bought anything in the international marketplace, where he is so successful and knowledgable, without, as an operating consideration, the thought that changing conditions, either at the situs of the acquired property or elsewhere, might dictate its disposition. In my view, taking the evidence as whole, it is most likely that the potential for capital appreciation as well as income was very much in Koch’s mind when he bought Flemingdon Park from its reluctant owners.

This is, in my view, a finding that Koch had in mind, when causing the appellant to purchase this income producing property, that

(a) at some future time circumstances might dictate a change in investments, and

(b) there was a probability of ‘‘capital appreciation”.

In my view, this is not a finding on the basis of which it may be inferred that there was an adventure or concern in the nature of trade. It amounts to no more than a finding that there was a wise investment appreciation of the facts, viz, that the property would be re-sold if and when there were such a change in circumstances as to make such a re-sale the sensible course of action and that, if such re-sale became advisable, the property would have appreciated in value. In so far as profit-producing property is concerned, the classical statement of the matter is found in Californian Copper Syndicate v Harris (1904), 5 TC 159 at 165.

It is quite a well settled principle in dealing with questions of assessments of Income Tax, that where the owner of an ordinary investment chooses to realise it, and obtain a greater price for it than he originally acquired it at, the enhanced price is not profit in the sense of . . . the Income Tax Act . . . assessable to Income Tax. But it is equally well established that enhanced values obtained from realisation or conversion of securities may be so assessable, where what is done is not merely a realisation or change of investment, but an act done in what is truly the carrying on, or carrying out, of a business. The simplest case is that of a person or association of persons buying and selling lands or securities speculatively, in order to make gain, dealing in such investments as a business, and thereby seeking to make profits. There are many companies which in their very inception are formed for such a purpose, and in these cases it is not doubtful that, where they make a gain by a realisation, the gain they make is liable to be assessed for Income Tax.

What is the line which separates the two classes of cases may be difficult to define, and each case must be considered according to its facts; the question to be determined being—is the sum of gain that has been made a mere enhancement of value by realising a security, or is it a gain made in an operation of business in carrying out a scheme for profit-making?

In my view, there was no evidence on which, in this case, it could be found that the profit from the sale here in question was a “gain made in an operation of business in carrying out a scheme for profitmaking”.

The question remains, however, as to whether, on the pleadings, there was an onus on the appellant, that was undischarged, to establish that he was not motivated in making the purchase by an intention to use the property in an adventure or operation in the nature of trade.

Such an onus would have to arise from the fact that the assessments were based on an assumption of facts that would support such a conclusion.* [2]

Part A of the Statement of Defence, which is headed “Statement of Facts”, alleges that, in making the assessments, the Minister of National Revenue assumed inter alia that the appellant purchased the property in question ‘with the intention of re-selling the same at a profit”. I doubt whether such an assumption would be sufficient to support the assessments. An intention, at the time of purchase, to re-sell at a profit does not, in my view, necessarily give the purchase and a subsequent sale the character of ‘an adventure or concern in the nature of trade”. Such an intention accompanies the purchase of “growth” stocks in the. course of the modern management of pension trust funds and, I should have thought, does not necessarily stamp such a purchase with a trading character. I do not see why there cannot, similarly, be such an intention in the course of managing a family trust without there being any character of trading involved.

However, it may be, although I doubt it, that it is at least arguable that the allegation in the Statement of Defence of the assumption of the Minister of National Revenue should be read with certain allegations in Part B of the Statement of Defence, which is entitled “STATUTORY PROVISIONS UPON WHICH THE DEFENDANT RELIES AND THE REASONS WHICH HE INTENDS TO SUBMIT”, viz:

13. The Deputy Attorney General of Canada states that the plaintiff purchased the said Flemingdon Park property speculatively and for the purpose of trading and turning the same to account at a profit and the plaintiff’s conduct amounted to the carrying on of a business in real property.

15. In the alternative the Deputy Attorney General of Canada states that if the plaintiff purchased the said property with the intention of retaining it as investment property, the plaintiff also had the alternative intention of selling and turning the same to account at a profit in the event that the primary intention did not prove profitable so that in selling the said property the plaintiff realized its alternative intention of deriving profit from the said property and thus the said profit was properly included in the plaintiff’s income as profit from a business within the meaning of Section 139(1)(e) of the Income Tax Act.

So read, it might be argued that the Statement of Defence alleges, in the alternative, that the assessments were based on the assumption

(a) that the appellant purchased the property in question “speculatively and for the purpose of trading and turning the same to account at a profit”, or

(b) if the appellant purchased the property with the intention of retaining it as investment property, the appellant also had the alternative intention of selling and turning the same to account at a profit in the event that the primary intention did not prove profitable.

With reference to the first of these alternatives, it seems clear that the learned Trial Judge was satisfied on the evidence that the appellant acquired the property to hold it as an investment because he said that he was not persuaded that, when the appellant acquired the property, “its only intention was to hold it as an investment” and also said that “it is most likely that the potential for capital appreciation as well as income was very much in Koch’s mind when he bought . . .” (The italics are mine.) In my view, the evidence shows, and the learned Trial Judge so holds, that the purchase and sale was not a simple venture in the nature of trade transaction but was, at least in part, an investment in profit producing properties. The onus if any, on the first alternative, was therefore rebutted.

With reference to the alternative plea in the Statement of Defence, if it may be considered as an allegation of an “assumption”, I do not think that it can be taken as a plea that the Minister assumed in making the assessments, that a motivating reason for the purchase of the property was an expectation that it would be sold for a profit (in the event that it did not prove to be a satisfactory profit producing property) of such a nature as to stamp a subsequent sale as a trading transaction.

In my view, an intention at the time of acquisition of an investment to sell it in the event that it does not prove profitable does not make the subsequent sale of the investment the completion of an “adventure or concern in the nature of trade”. Had the alleged assumption been that there was an expectation on the part of the purchaser, at the time of purchase, that, in the event that the investment did not prove to be profitable, it could be sold at a profit, and that such expectation was one of the factors that induced him to make the purchase, such assumption, if not disproved, might (I do not say that it would) support the assessments based on “trading” if not disproved. In my view, however, even on the most liberal interpretation of the Statement of Defence, it cannot be interpreted as alleging such an “assumption”.

In my view, therefore, there was no assumption that was not disproved by the evidence that would support the assessments.

In reaching this conclusion, I am not, as I understand it, overruling any finding of fact by the learned Trial Judge but I am concluding, that, on the facts, as they appear both from his findings and from the evidence, the result should be different.* [3]

I might also add a word with reference to “secondary intention’’. In my view, this term does no more than refer to a practical approach for determining certain questions that arise in connection with “trading cases’’ but there is no principle of law that is represented by this tag. The three principal, if not the only, sources of income are businesses, property and offices or employments (section 3). Except in very exceptional cases, a gain on the purchase and re-sale of property must have as its source a “business” within the meaning of that term as extended by section 139. Where property is bought and re-sold at a profit or loss, the question whether the profit or loss must be taken into account for tax purposes depends, therefore, generally speaking, on whether

(a) it is a profit or loss from a “business” within the ordinary sense of that term, or

(b) it is a profit or loss from an undertaking or venture in the nature of trade.

It may be a profit or loss from a “business” in the ordinary sense of that word if the transaction falls within the scope of the business carried on.t [4] If property is acquired when there is no business even though one possibility in the mind of the purchaser is to use the property as the capital asset of a proposed business—or the purchaser has not considered how he will use it—a re-sale may be the consummation of a venture in the nature of trade.:§: [5] Where the subject of the purchase and re-sale is an active profit producing property, it may be more difficult to conceive of its having been acquired both as an investment in the sense of property to be held for the income arising therefrom and as a speculation in the sense of an undertaking or venture in the nature of trade. I am not aware of a clear cut decision with reference to a case of this kind but I do not regard it as theoretically impossible.

I am of opinion that the appeal should be allowed with costs in the Trial Division as well as in this Court, that the judgment of the Trial Division should be set aside and that the assessments of the appellant under Part I of the Income Tax Act for the 1967 and 1968 taxation years should be referred back for re-assessment on the basis that the gain accruing to the appellant in 1967 upon the sale of Flemingdon Park was not a profit from a “business” within the meaning of that word in the Income Tax Act.

Le Dain, J:—I agree that the appeal should be allowed for the reasons given by the Chief Justice. I wish to reserve my opinion, however, as to the proper application of the doctrine or notion of “secondary intention”. I agree that there is no basis for its application to the present case.