Simon-Carves of Canada Ltd. v. MNR, 89 DTC 98, [1989] 1 CTC 2149 (TCC)

Sarchuk, T.C.J.:— Simon-Carves of Canada Ltd. (SCAN) appeals with respect to an assessment of tax for its 1981 taxation year. At issue is the payment by the appellant of the amount of $388,768 to Simon United States Holding Inc. in respect of which the respondent assessed the appellant for withholding tax of $58,315.

In order that the sequence of events giving rise to the assessment can readily be followed a brief outline of the corporate relationships is warranted. The appellant is a private company resident in Canada and at all material times carried on business in Canada. It is an engineering company principally involved in the developing and building of production processing facilities for diverse industries such as mining steel production, food processing, grain handling and storage, coal carbonization and conversion, coal preparation and handling and metallurgical and chemical processing. At the relevant time, all of the shares of the appellant were registered in the name Simon-Carves Ltd. (SCL) which held the shares in trust for Simon Process Contracting Ltd. (SPCL). At all material times SCL was a wholly- owned subsidiary of SPCL, and SPCL, was a wholly-owned subsidiary of Simon Engineering PLC, and all excepting the appellant are corporations resident in England.

Simon Engineering PLC also carried on business in the United States of America through three United States corporations. Simon-Carves Inc. (SCI), incorporated in 1978, was a wholly-owned subsidiary of Simon United States Holdings Inc. (SUSHI). SUSHI was a wholly-owned subsidiary of Simon United States Corporation (SUSC) which in turn was a wholly-owned subsidiary of Simon Engineering PLC. The structure of these two sectors of the Simon Group of companies is shown in graphic form in Exhibit A-1.

One witness was called on behalf of the appellant, Mr. James Barton Love. He is a barrister and solicitor called to the bar of Ontario in 1975. Since early in his career he has been involved with the appellant's affairs, initially as one of its solicitors and since July 1985 as its sole director and president. Because he was the only witness called it is relevant to note that his knowledge of the events leading up to the incorporation of SCI and to the payments in issue is based in part on such documents and records of the appellant as were available to him and in part on discussions held at various times with officers of the appellant. Love was not, at the relevant time, involved directly in the appellant's decision-making process and portions of his testimony reflect no more than his recollection of what he was told by officers of the appellant and others.

In 1976 Mr. Robert Symington was president of the appellant. In the course of several meetings/discussions with him Love learned that Symington believed that the Canadian market in coal process engineering had become saturated resulting in limited growth potential. The appellant had a large staff of trained draftsmen and engineers in its Toronto office, and unless other work could be found, this aspect of the appellant's business had essentially run its course. Symington was proposing the establishment of some form of operation in the United States, perhaps a sales office. He hoped that most of the work required for contracts originating in the United States would be carried out by the appellant in Toronto and its Canadian personnel would continue to work out of the appellant's head office. As the appellant's solicitor, Love sought the advice of United States counsel as to the alternatives available, both from a corporate and fiscal perspective. Included in the recommendations he received by way of a letter dated April 29,1976 (Exhibit A-2), was that rather than carrying on a branch operation it would be prudent both commercially and for tax purposes to operate through a company which would limit the liability that the appellant might have operating in a foreign market. That advice was accepted and the appellant sought approval to proceed from the Group Chairman in England. It was understood by Love that the decision to operate in the United States through a limited company was that of the appellant but was one which required the advice and implicit approval of “various people back in England".

Coincidental with these activities, although not directly related, a reorganization of the Simon Group of companies was taking place. As a matter of organizational convenience, all of the United States companies were to be under one U.S. holding company, (SUSHI), with the advantage of dealing with the banking functions amongst that corporate group; and with the added benefits of consolidated tax reporting. According to Love it was necessitated from its very date of incorporation that SCI be a part of the consolidated U.S. Group.

Although the shares were wholly owned by SUSHI, following its incorporation SCI was managed and operated by the appellant. The offices of the appellant and SCI were the same. All operating decisions with respect to SCI were made through the appellant's office in Toronto. Its bookkeeping was done in Toronto and Coopers & Lybrand's Toronto office managed its audit. Symington, the president of the appellant, became the president of SCI while Mr. Quinton, the appellant's secretary-treasurer, held the same post with SCI. The SCI operation consisted of an office in Pittsburgh, Pennsylvania managed by Mr. Blanchflower, the appellant's vice-president, and one or two clerical support staff.

As Love understood the arrangement, SUSHI was to have no role with respect to the business of SCI, other than a banking function which he described as follows:

. . . SUSHI acted as it did for all the U.S. companies, as a banker to fund the cashflow requirements; so it, in effect, managed SCI's bank account.

When Mr. Quinton would write cheques in Toronto to pay the payables of SCI, they would go down to be honoured by a U.S. bank, which was something that SUSHI managed. To the extent that there were excess funds in that account— which, in this case, there never were—they would have gone into SUSHI's general account and put out for investment purposes. To the extent that funds were required in that account, SUSHI would have put funds in from its general account to cover the cashflow requirement that was present at that time.

At all relevant times the business of SCI was carried on in this manner.

In March 1981 the appellant took excess funds that it had on deposit in Canada and put them on deposit with SUSHI in the United States. According to Love this was done to provide SUSHI “with the comfort that it was not acting as a lender but merely as a banker" and that operationally deficits of SCI would be financed by the appellant and not out of moneys belonging to other members of the U.S. Group of companies.

Several documents were tendered in relation to these loan transactions including letters from John Quinton, the appellant's secretary-treasurer to the American agent, dated February 19, 1981 and May 6, 1981 (Exhibits A-6 and A-10); a draft copy of the loan agreement (Exhibit A-7); and telexes dated April 16, 1981 and April 23, 1981 whereby Mr. Quinton, acting on behalf of the appellant, arranged the transfer in each case of $500,000 (Cdn.) to the Barclay's Bank, Water Street, which was SUSHI's bank (Exhibits A-8 and A-9). The evidence is that there were a number of such transfers of funds between the appellant and SUSHI to the extent that at one point of time the amount on deposit with SUSHI was as high as $4 million (Cdn.). For each transaction a loan agreement was executed, setting out precisely the period during which the funds would be put out, the rate of interest and the date of repayment to the appellant.

By 1981 it had also become apparent that SCI was not going to be successful. Its financial statements for 1979 and 1980 disclosed that it had sustained losses in both years and showed a deficit of $298,000 (U.S.) at the end of 1980. The Simon United States Group of companies, and in particular SUSHI, were quite concerned because of the amount of moneys that SUSHI had been required to advance to SCI for operational purposes and in May 1981 it was decided to close down its operations. According to Love by the time the SCI office was closed further "draws" had been made on the line of credit provided by SUSHI, all of which ultimately created a liability of some $320,000 (U.S.) from SCI to SUSHI.

On May 11,1981 the appellant was instructed by SCL to apply $320,000 (U.S.) of the moneys it had invested with SUSHI to satisfy the liabilities of SCI to SUSHI and to purchase all the outstanding shares of SCI from SUSHI for $10,000 (U.S.) (Exhibit A-11). On May 28, 1981 when the April 16 loan fell due on (Exhibit A-8), SUSHI reduced the amount repayable to the appellant by the amount of $320,000 (U.S.) being an amount equal to the liabilities. With respect to the share purchase, at some point of time after May 28, 1981, once again:

. . . somebody raised the question of who was to be responsible for the $10,000.00 U.S. that had been used to capitalize SCI when it was incorporated, and there were various discussions about how that was going to be dealt with.

Ultimately the appellant was directed to clear the share capital payment off SUSHI's books and for this purpose a transfer of SCI shares from SUSHI to SCAN was made and the sum of $10,000 (U.S.) was paid from the appellant's loan account to SUSHI.

In summary, prior to the dissolution of SCI on August 13, 1981, the appellant, pursuant to the instructions it received, completed the transactions and paid the amount of $388,768 (Cdn.) to SUSHI. These payments ultimately led to the assessment in issue.

The issue in this appeal is to be resolved by reference to the provisions of sections 15, 56, 214 and 215 of the Income Tax Act (the Act), the relevant parts of which read:

15 (1) Where in a taxation year

(b) funds or property of a corporation have been appropriated in any manner whatever to, or for the benefit of, a shareholder, or. . .

56 (2) A payment or transfer of property made pursuant to the direction of, or with the concurrence of a taxpayer to some other person for the benefit of the taxpayer or as a benefit that the taxpayer desired to have conferred on the other person shall be included in computing the taxpayer's income to the extent that it would be if the payment or transfer had been made to him.

212 (2) Every non-resident person shall pay an income tax of 25% on every amount that a corporation resident in Canada pays or credits, or is deemed by Part I or Part XIV to pay or credit, to him as, on account or in lieu of payment of, or in satisfaction of,

(a) a taxable dividend (other than a capital gains dividend within the meaning assigned by subsection 130.1(4), 131(1) or 133(7.1),

(b) a capital dividend, or

(c) where the corporation is a public corporation, a stock dividend (other than a dividend referred to in paragraph (a)) paid by the corporation (other than any such stock dividend paid in shares of the same class of the capital stock of the corporation as that on which the stock dividend was paid).

214 (3) For the purposes of this Part,

(a) where section 15 or subsection 56(2) would, if Part I were applicable, require an amount to be included in computing a taxpayer's income, that amount shall be deemed to have been paid to the taxpayer as a dividend from a corporation resident in Canada;

215 (1) When a person pays or credits or is deemed to have paid or credited an amount on which an income tax is payable under this Part, he shall, notwithstanding any agreement or any law to the contrary, deduct or withhold therefrom the amount of the tax and forthwith remit that amount to the Receiver General on behalf of the non-resident person on account of the tax and shall submit therewith a statement in prescribed form.

215. (6) Where a person has failed to deduct or withhold any amount as required by this section from an amount paid or credited or deemed to have been paid or credited to a non-resident person, that person is liable to pay as tax under this Part on behalf of the non-resident person the whole of the amount that should have been deducted or withheld, and is entitled to deduct or withhold from any amount paid or credited by him to the non-resident person or otherwise recover from the non-resident person any amount paid by him as tax under this Part on behalf thereof.

The respondent takes the position that the appellant SCAN has been properly assessed. The payment in issue was made by it to SUSHI pursuant to the direction of its shareholder SCL, a "taxpayer" for the purposes of subsections 56(2) and 214(3) of the Act. This payment was a benefit that the "taxpayer" SCL, desired to have conferred on another person, SUSHI, within the meaning of subsection 56(2) of the Act. Accordingly the amount of $388,768 has properly been deemed to have been paid to SCL as a dividend by the appellant pursuant to the provisions of paragraph 214(3)(a) of the Act. Tax is exigible from SCL on this amount under paragraph 212(2)(a) of the Act. The respondent further says that in these circumstances the appellant has been properly assessed for withholding tax of $58,315 pursuant to paragraph 212(2)(a); subsections 215(1) and 215(6) of the Act and Article 10 of the Canada-United Kingdom Income Tax Convention.

The appellant's position is that there was no benefit either to SCL, the shareholder of the appellant, or to SUSHI, the recipient of the funds in issue. In the alternative the appellant takes the position that if there was indeed a benefit, that benefit was not conferred at the direction of SCL.

With respect to the first position counsel submitted that there existed an unusual and critical factor in the present case because the transactions involved an interrelated group of companies and circumstances where SCL could derive no benefit from the transaction. It had no direct interest in whether SUSHI obtained the funds or not. The transfer of funds to SUSHI was not intended to directly benefit "the taxpayer" SCL. Its position was not advanced in any way by moving the funds to SUSHI, and as an intermediary member of the larger group of companies, it was in essence neutral. Counsel further submitted that from a practical standpoint the transaction worked to the detriment of SCL in that its subsidiaries’, that is the appel- lant's, revenues were depleted by the amount paid to SUSHI and that was in actual fact a depletion of the resources which were potentially available to be distributed to SCL. He also argued that there was no benefit to SUSHI. From the outset SCI was the appellant's project initiated for its own personal reasons. SCI was established to tap a potential market in the United States and it was managed and directed by the appellant. The role of SUSHI was that of an intermediary as a banker only, and although it was the focus for all payments to and from SCI, it was always understood within the Group that “ultimately if this thing does not fly (the appellant) will assume responsibility". SUSHI was to be nothing more than a resource, "as a backstop in relation to the liabilities of this company SCI which was SCAN'S responsibility".

According to counsel for the appellant there was no benefit of any nature to SUSHI and the amounts credited to it by way of the payments in issue:

. . . are clearly in relation to the obligations of SCI . . . are clearly meant to do what had been intended by SCAN from the outset; that is, SCAN would be responsible for the corporation. So that SUSHI, in the circumstances where it pays the indebtedness of SCI and gets reimbursed by SCAN, is nothing more than a conduit . . . It does not reap a benefit as a result of that chain of events. What we have is the monies going to SUSHI and paying interest; correspondingly, the monies being borrowed by SCI and SCI paying interest. So, in Mr. Love's words, it’s a wash vis-à-vis SUSHI.

He submitted that Love's testimony supported a conclusion that there was something in the nature of a guarantee or some form of commercial/ moral, albeit not legally binding, obligation to indemnify SUSHI with respect to the operations of SCI.

I have concluded that a benefit or advantage did accrue to SUSHI as a result of the transactions in issue. Notwithstanding the fact that the appellant, SCL, SCI and SUSHI are all members of the same "Group" of companies, the fact remains that each of them is a separate person with its own legal rights and obligations. The evidence adduced and arguments submitted seek to gloss over that basic proposition. The fact is that whatever the motivation, a decision was taken by the appellant's parent (or its parent) not to permit the appellant to operate in the United States through a wholly- owned subsidiary. The capitalization of $10,000 was subscribed by SUSHI. SCI's operating expenses were financed by loans and/or a line of credit arranged by SUSHI. The funds were advanced by SUSHI to SCI and interest was charged monthly at the prime rate (Exhibit R-3). Clearly it was intended that SCI be a profitable enterprise. As such these profits would have been liable to United States tax and on a consolidated basis would have formed part of SUSHI's total tax liability. When SCI failed it was in effect bankrupt and SUSHI was the major if not sole creditor to the tune of some $320,000 U.S. It also held shares in SCI which became worthless. It is conceded that no recovery was possible on either the loan or the shares. Whether such losses could be or were the subject of a tax benefit to SUSHI is irrelevant. Ultimately the appellant was directed by SCL to reimburse SUSHI and it did so, albeit not necessarily willingly. The recovery of its losses and investment was Clearly a benefit or advantage accruing to SUSHI.

Counsel’s argument that the loan transactions which commenced in March 1981 were security for the risk that SUSHI was taking in the operations of SCI, and that by inference the repayment was nothing more than honouring the appellant's guarantee for the cost of operation of SCI, is not supported by the evidence. Love's assertion that there was an "understanding" that because the appellant was intended to benefit from the SCI arrangement it was the person who should incur the responsibility of making sure that the obligations of SCI were met who must be considered with care. Not only is much of his evidence in this regard hearsay, it is unsupported by any documents, letters of understanding, memoranda, aid-mémoire, or other material. There is also no independent evidentiary support for Love's assertion that at the time loan arrangements were made in 1981, they were made with the purpose of ensuring that SUSHI would have recourse to the appellant to recover the moneys advanced by it to SCI, nor is there any evidence beyond Love's assertion that it was "the arrangement in the family as it were, that this was more or less a security for the amounts being advanced by SUSHI”.

On the other hand the evidence does establish that the appellant's investments with SUSHI were not limited to an amount sufficient to provide SUSHI with the comfort it is alleged to have sought but continued for a substantial period of time and involved investments in excess of $4 million. Furthermore, it is more than passing strange that the appellant and SUSHI, who were careful to draft and redraft a loan agreement until it was satisfactory to both parties, would totally ignore any reference to this alleged security aspect. The documents indicate that the transactions were structured as straightforward loan agreements —moneys advanced, interest to be paid, principal to be repaid.

I am not satisfied that any guarantee or obligation existed. The evidence of Mr. Love, in my view, does not permit me to draw the inference that counsel for the appellant seeks.

Counsel for the appellant also argues that it is not possible to find that SCL directed the transfer of the funds to SUSHI because of a desire to confer a benefit upon SUSHI, the transfer being effected because quite apart from the question of legal obligation the appellant considered that it was in its best commercial interests to pay these funds. Therefore, it was argued, these were not circumstances where the moneys were paid at the direction of SCL because SCL wanted a benefit to go to SUSHI. The total motivation for the payment was that of the appellant. Proof of the fact that the decision was that of the appellant and was not a payment directed by SCL, could be found in the fact that according to the appellant the responsibility for SCI in every sense of the word was always intended to be that of the appellant. There was a sound commercial purpose not to leave the creditors of SCI “holding the bag" and particularly if the appellant were to retain a good and reputable lasting reputation. These factors constituted a good business reason for ensuring that SUSHI recovered the moneys it advanced to SCI. Accordingly the direction to repay SUSHI did not in reality come from SCL but came from the appellant.

Two documents were referred to by Mr. Love. The first, a letter dated May 11, 1981 written by C.A. Lomberg, chairman of SCL, to the directors of the appellant reads in part:

By authority of a meeting of Directors held on 11 May 1981 Simon-Carves Ltd. the sole shareholder of Simon-Carves of Canada Ltd. hereby declares pursuant to section 140(2.1) of the Canada Business Corporation Act that the Directors of Simon-Carves of Canada Ltd. shall cause Simon-Carves of Canada Ltd. to purchase the shares of Simon-Carves Inc. a Delaware corporation, for 10,000 US dollars and to satisfy the liabilities of that corporation.

On May 25, 1981 Mr. Quinton presented this letter to the board of directors of the appellant who complied with the direction received and passed the requisite resolution (letter and resolution Exhibit A-11). Love explained the genesis of the direction by describing Quinton as a very careful man who was concerned about the proposed plan to have the appellant transfer funds to SUSHI and who "wanted to be sure that these sorts of substantial payments were recorded in the corporate records". He was of the view that Quinton, quite mistakenly, believed that SUSHI had obtained a tax (or other) benefit from its involvement with SCI and that Quinton was reluctant to propose to the directors of the appellant that the arrangement be approved. Love suggested that Quinton utilize the provisions of section 140 of the Canada Business Corporations Act. This was done and in due course, allegedly at the request of the appellant, the direction was made and the letter from the chairman, Mr. Lomberg, followed.

Counsel's contention that the steps taken by SCL pursuant to section 140.4 ofthe Canada Business Corporations Act were not taken in its capacity as a shareholder of the appellant is not tenable. In its shareholders' declaration made pursuant to the provisions of subsection 140(2.1) of the Canada Business Corporations Act SCL deliberately restricted the power of the directors of the appellant and directed them to cause the appellant to purchase the shares of SCI and to satisfy the liabilities of that corporation. What its reasons were for so doing are unclear at best, notwithstanding Mr. Love's retrospective analysis of Quinton's concerns. The manner in which SCL ensured that the appellant carried out the will of its shareholders is clear evidence of the degree of control that it was capable of exercising over the appellant. This is reflected in a letter (Exhibit R-3) dated October 23,1981 in which Quinton, the secretary-treasurer of the appellant, reported a transaction to its accountants, Coopers & Lybrand (Exhibit R-3) in the following words:

Late in 1980 it became clear that the market would not support both Simon- Carves Inc. and Allen & Garcia and it was decided to close down the former. This was done at the end of 1980 and in early 1981 Simons U.K. instructed SCAN to repay the Simon-Carves Inc. loan to SUSHI and to buy the shares from SUSHI. . .

In this context useful reference can be made to the decision of the Federal Court, Trial Division in Smith v. The Queen, [1986] 1 C.T.C. 418; 86 D.T.C. 6196 where Mr. Justice Addy, in similar circumstances, made the following comment at page 420 (D.T.C. 6198):

The concurrence or participation of the taxpayer to the conferring of the benefit need not be active. It may well be passive or implicit and can be inferred from all the circumstances, not the least of which being the degree of control which the taxpayer is entitled to exercise over the firm or corporation conferring the benefit (see M.N.R. v. Alan Bronfman, [1965] C.T.C. 378; 65 D.T.C. 5235).

The submission that the transaction was not directed by SCL is not supported by the evidence.

One further argument was submitted. If a benefit was paid the amount of the benefit cannot be quantifiable or provable as being $388,768. The value of the benefit in this particular case is sufficiently uncertain and intangible so that it cannot qualify as a benefit pursuant to the provisions of sections 15 and 56 of the Act. If there was any benefit to SUSHI it was not real, present and measurable in order to be taxed.

There is, to put it bluntly, no support for this position.

There was in this case a payment or transfer of property to a person other than the taxpayer made pursuant to or with the concurrence of the taxpayer for the benefit of some other person on whom the taxpayer desired to have

the benefit conferred, and the payment or transfer would have been included in computing the taxpayer's income if it had been received by him instead of the other person. The assessment was made correctly in accordance with the relevant statutory provisions.

The appeal is dismissed.

Appeal dismissed.