Stokesly Investments Ltd. v. MNR, 96 DTC 1754, TCJ. No. 1146, [1996] 3 CTC 2928 (Informal Procedure)

Bell J.T.C.C.: — The issues in this appeal are:

1. Whether the following sums in the following years claimed as non-capital losses by the Appellant are deductible,

1982: $75,304.38

1983: $31,456.26

1984: $23,353.89

1985: $6,909.06

2. Whether the Appellant’s claim in the amount of $80,414.12 as a reserve for doubtful debts is allowable.

Facts

The Appellant was incorporated in 1955 to invest in discounted second mortgages and did so by obtaining bank loans and buying large numbers of second mortgages. For many years this operation was profitable and the Appellant reported its interest and premium earnings as income for income tax purposes. Mr. J.B. Lansdell (“Lansdell”), president of the Appellant and one of two agents for the Appellant, testified that in 1963 Marlowe- Yeoman was formed to syndicate investments for professional people. He said that it was a corporate partnership, Marlowe and Yeoman each being corporations, and that it invested in shopping centres, provided building financing and participated in all fields of realty investing and financing. Although the evidence is not clear, it appears that it regarded each separate project as a syndicate. Lansdell stated that the Appellant participated in all such syndicates. He then testified that because of the immense amount of administrative work involved in opening, operating and closing a syndicate he decided to form the General Mortgage Syndicate (“GMS”) with the intention of reinvesting cash generated from mortgage repayments in the purchase of more mortgages. Lansdell said that the Appellant had 17,000 units [1] in the GMS.

Lansdell testified that the GMS was successful until 1981 and that all income earned had been reported as business income and that the members had paid tax thereon. He said that the severe recession of 1982, attributed to the National Energy Policy, caused the units of GMS to decline in value. The substantial 1982 losses were reported to members as non-capital losses and were, according to Lansdell, claimed as deductions by them for income tax purposes.

He then testified that the Department of National Revenue decided that the GMS was a trust and that the losses could not be claimed by members. A test case, initiated by one Patricia M. Fraser (“Fraser”), was instituted in the Tax Court of Canada and was dismissed, was appealed to the Federal Court-Trial Division and was dismissed and was then appealed to the Federal Court of Appeal (Fraser v. Minister of National Revenue, [1991] 1 C.T.C. 314, (sub nom. Fraser v. R.) 91 D.T.C. 5123; affirmed 95 D.T.C. 5684 (F.C.A.)) and was dismissed. In the Trial Division, Reed J. found that the GMS was a trust and that losses were not deductible by the members stating that by virtue of subsections 104(1) and (2) of the Income Tax Act (“Act”) a trust is taxed as an individual.

The Appellant claimed the foregoing losses in the 1982, 1983, 1984 and 1985 taxation years, such losses being a write-down of inventory, its submission being that its units in the GMS were inventory. Lansdell argued that the Appellant had been in the business of second mortgages, real estate financing, et cetera, for years and that it was continuing in that business, albeit in altered form, as a unit holder of GMS. He enforced his submission with reference to his testimony as to the administrative reasons for the alteration of structure, from a number of syndicates, each with one venture, to one syndicate for all ventures. My understanding of the facts is that Lansdell, the principal of the Appellant, was also effectively the manager of the GMS operations. In spite of the fact that the Fraser appeals failed, I have decided to allow the Appellant’s appeal with respect to these losses. It had been in business, including activities such as those of the GMS, since 1956 and the selection of structure for its business operations does not, in my view, change the character of its business. That structure was the GMS and instead of direct ownership in its assets, the Appellant, like the investors it sought, participated by owning units, which I find to be its inventory. It is an acceptable principle of Canadian tax law to value inventory at the lower of cost and market. This gave rise to the losses suffered by the Appellant.

Turning to the second issue, Lansdell said that the Appellant was in the money lending business and that it had loaned some $160,000 to Mario we-Yeoman [2] , that it was a bad loan and that in its 1982 taxation year the Appellant claimed a provision for doubtful accounts of one-half of that amount. Specifically, the sum so claimed was $80,414.12. Lansdell testified that the Appellant was in a number of “other activities” and had made a number of loans. However, he gave no specific evidence as to the loan in question. He referred to the Appellant’s income tax return showing interest for the year in the amount of $69,692.31. However, he did not give any evidence as to the source of that interest, as to whether it was from lending money or deposits in interest bearing accounts, et cetera. He described the Appellant as a “wheeling dealing company” and said that he could not give the Court details about any loans to third parties. I was not impressed with his testimony respecting what he described as a loan to Marlowe- Yeoman.

Barry Gillmore (“Gillmore”), chartered accountant, also an agent for the Appellant, submitted that it did not matter whether the sum of $80,414.12 was claimed as a reserve or as an allowable business investment loss. Neither Lansdell nor Gillmore referred to paragraph 20(1 )(1) of the Act. It provides, essentially, that there may be deducted as a reserve a reasonable amount in respect of doubtful debts that have been included in computing the income of the taxpayer for that year or a preceding year. It

also provides that there may be deducted an amount in respect of doubtful loans of a taxpayer whose ordinary business included the lending of money made in the taxpayer’s business of lending money. No details sufficient to satisfy me that the Appellant qualified for this deduction on either of those bases were advanced to the Court.

Gillmore, with respect to the allowable business investment loss argument, said that there was “also an ABIL possibility”. However, that submission cannot succeed because under paragraph 39(1 )(c) of the Act a business investment loss from the disposition of property is the amount of capital loss from the disposition, to which subsection 50(1) applies, of property that is a debt owing to the taxpayer by a Canadian- controlled private corporation that is a small business corporation. Subsection 50(1) provides that where a debt owing to a taxpayer at the end of a taxation year is established by the taxpayer to have become a bad debt in the year and the taxpayer elects in the taxpayer’s return of income for the year to have that subsection apply, the taxpayer shall be deemed to have disposed of the debt for proceeds equal to nil and to have reacquired it after the end of year at a cost equal to nil. There is no evidence to support a finding that these circumstances existed.

Accordingly, the appeal is allowed to the extent of the losses described in the first issue.

Appeal allowed.