Citation: 2012 TCC 352
Date: 20121009
Dockets: 2006-2525(IT)G
2006-2902(GST)I
BETWEEN:
GEOFFREY LAST,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
REASONS FOR JUDGMENT
Woods J.
[1] These are income tax and GST appeals by Geoffrey Last
concerning three income-earning activities: a car business, trading in shares
of InternetStudios.com, Inc. (“ISTO”), and temporary rentals of the appellant’s
residence. The issues generally involve the determination of revenue and expenses
from each of the activities.
[2]
The appeal under the Income
Tax Act (ITA) relates to the 2000,
2001 and 2002 taxation years. The appeal under the Excise Tax Act (ETA) relates
to the same period as well as 1998 and 1999.
[3]
By way of overview, the tables
below compare the positions of the parties in the income tax appeal. The first
table sets out the income as assessed by the Minister of National Revenue as
reflected in the amended reply. The second table summarizes the appellant’s
position as set out in his written submissions (para. 207– 209).
Income as assessed by the Minister
|
|
2000
|
2001
|
2002
|
|
Car Business
|
$ 39,949.75
|
$ 73,575.91
|
$ 314,545.02
|
|
Rental Income
|
|
|
69,523.99
|
|
ISTO trades –Cap. Gains
|
|
|
601,135.38
|
Income as
per the Appellant
|
|
2000
|
2001
|
2002
|
|
Car Business
|
$ 1,003.64
|
$ nil
|
$ (20,095.79)
|
|
Rental Income
|
5,052.80
|
8,460.29
|
34,707.90
|
|
ISTO trades – Bus. Income
|
|
|
117,414.00
|
[4]
There are two unusual
aspects to these appeals that are illustrated in the above tables and that are
useful to mention by way of background. First, the gains from the share trading
transactions were assessed by the Minister as capital gains and yet the
appellant submits that they should be assessed as business income which is
taxed at a higher rate. Second, the appellant agrees that rental income for
2000 and 2001 should be assessed even though it has not been assessed to date. These
matters will be discussed below.
[5]
At the commencement of
the hearing, it appeared that the parties had made minimal progress in limiting
the number of items of revenue and expenses that were in dispute. Significant
progress was made throughout the hearing, however, particularly in the area of
expenses. A summary of the concessions, which was provided by the Crown subsequent
to the hearing, is reproduced in an appendix to these reasons.
[6]
The discussion that
follows is organized under the headings below.
- Background
- Credibility of witnesses
- Burden of proof
- Share transactions – 2002
- Car business – 2000 and 2001
- Car business – 2002
- Rental income – 2000 and 2001
- Rental income – 2002
- GST
- Conclusion
I. Background
[7]
For several years, the appellant
has carried on an automobile brokerage and consulting business as a sole
proprietor under the name Last Motorcar Co. In general, income is generated
from two sources: (1) consulting fees for assisting customers who purchase
vehicles, and (2) profit from the purchase and resale of vehicles. The issues relating
to this business involve the amount of revenue earned and the expenses
incurred.
[8]
The appellant also carries on share trading activities.
The only period that is at
issue is the 2002 taxation year, in which
there is a dispute concerning the income attributable to trading in shares of InternetStudios.com,
Inc., or ISTO, which is the corporation’s former trading symbol.
[9]
ISTO was a non-operating U.S. public corporation when it was acquired by three Canadian-based individuals in 1999 during
the boom for technology start-ups (the “dot-com” boom). The vision of the founders,
Robert MacLean, Michael Edwards and Mark Rutledge, was to create an online
marketplace (like eBay) for filmed entertainment, such as movie rights.
[10]
ISTO initially raised a
significant amount of capital, but it ran out of funds early in 2001 just as
the business was becoming operational. As at March 31, 2001, ISTO had a
cumulative net loss of over $44 million and reported that it would have to
cease operations unless further capital could be raised. By that time, the dot-com
bubble had burst, and raising capital became very difficult.
[11]
The appellant became acquainted
with the founders of ISTO in the summer of 2001. He was instrumental in implementing
a plan early in 2002 under which the corporation’s shares were actively
promoted by individuals who were hired for this purpose, called the investor
relations team. According to a report filed with the United States Securities Exchange
Commission (SEC), as at July 25, 2002 ISTO had 7 independent contractors
providing “product development services, management consulting services and
capital raising services” (page 18, annual report).
[12]
At the same time that the investor
relations team were hyping the shares, the appellant was issued shares of ISTO which
he actively traded. He was assessed capital gains for that year in the amount
of $601,135 relating to this activity.
[13]
The Crown submits that the
appellant was involved in a “pump and dump” operation, in which shares of a
moribund company are promoted so that insiders can profit. The appellant vigorously
denies this, and suggests that the aim was to stabilize the corporation so that
it could raise further institutional financing and continue operations.
[14]
Whether the operation was a pump
and dump or not, the evidence strongly suggests that representations made in ISTO’s
filings with the SEC relating to the shares issued to the appellant were not
accurate, with the strong implication that the appellant’s trading activity was
contrary to SEC rules.
[15]
The share trading history of ISTO
is set out in the SEC filings. In the quarter ended March 31, 2000 the share
price was at a high of $448 (adjusted for a reverse stock split). In the
quarter ended December 31, 2001, which was just before the appellant started
trading, the price was at a high of $0.60 (2001 annual report, page 12). Following
the work of the investor relations team and the active trading by the
appellant, the share price increased. In the quarter ended March 31, 2003, the
price was at a high of $1.91. The last information that I could find in the
evidence was a trading price of $0.55 on April 8, 2004.
[16]
There are two issues involving
ISTO. The first is whether gains from the trading of ISTO shares is on income
or capital account. The second is whether the appellant is entitled to a
deduction for payments that he made to ISTO, either directly or for its
benefit. It is the position of the Crown that the payments are loans, which are
not deductible in the 2002 taxation year. The appellant takes the view that the
payments are not loans.
[17]
The third and final activity that
is relevant to these appeals involves leasing the appellant’s personal
residence on a short-term basis to persons in the entertainment industry. This
is a relatively minor issue.
II. Credibility of
witnesses
[18]
I would comment at the outset
about the reliability of the testimony of the witnesses, since the testimony is
relevant for many of the issues.
[19]
The appellant was a central
witness for his own case, and, for him to be successful, his testimony must be
found to be reliable on the many issues where there is not satisfactory
corroboration. In general, I am of the view that the appellant’s testimony fell
short of the mark on key issues and was not convincing.
[20]
First, the objective evidence does
not paint a promising picture regarding the appellant’s credibility. He has
shown a flagrant disregard for the statutory obligation to file proper and
timely returns under the ITA and the ETA. During the relevant period from 1998
to 2002, the returns were filed late or not at all, certain sources of income
were not reported, some of filings were inconsistent, and the appellant failed
to remit some of the GST that he had collected.
[21]
Second, in 2002 the appellant engaged in share trading activity that by
all appearances was undertaken pursuant to false statements in filings with the
SEC. The appellant struck me as a careful and astute person. It is just not
believable that he was innocent of any wrongdoing in this activity.
[22]
These circumstances do not
necessarily make the appellant’s testimony unreliable, but it suggests that great
caution should be exercised.
[23]
As for the testimony
itself, generally I have found that it was
often insufficiently detailed to be convincing, at times it was evasive, and on
some key aspects it was implausible.
[24]
The other witnesses that were
called for the appellant were:
-
Barrie Weiner, an accountant who
assisted the appellant at the objections stage, including with the preparation
tax returns,
-
Timothy Quocksister, a car dealer
who dealt with the appellant,
-
Robert MacLean, one of the founders of ISTO,
-
Michael Edwards, one of
the founders of ISTO, and
-
John Kirk, an experienced
member of the investor relations team.
[25]
The Crown called:
-
John Dunham, an accountant who
prepared tax returns for the appellant prior to the engagement of Mr. Weiner,
-
Diana Chen, an auditor with the
Canada Revenue Agency (CRA),
-
Robert Spankie, a CRA auditor, and
-
James Mise, a CRA appeals officer.
[26]
As for the testimony of these
witnesses, I have found their testimony to be generally reliable except for the
testimony of ISTO founders, Mr. Maclean and Mr. Edwards, and one of the accountants,
Mr. Dunham.
[27]
As for Mr. MacLean and Mr.
Edwards, they were two of three original founders of ISTO with active roles
similar to a CEO and CFO, respectively. Both had a financial background. Each
testified to having a limited understanding of the details of the plan
involving ISTO’s shares which was implemented in 2002. I found this testimony
to be implausible and disingenuous.
[28]
In an attempt to justify the
witnesses’ participation in SEC filings which appear to be improper, the
testimony simply described the share arrangements as complex. This is not a
satisfactory explanation. The evidence strongly suggests that documents filed
with the SEC and signed by Mr. MacLean (and the appellant), contain false
statements.
[29]
An example is an SEC quarterly report for the period
ended June 20, 2001 and signed by Mr. MacLean in July 2002. The report states
that a loan in the amount of $199,159 was received from nine individuals in
February 2001. It appears from the evidence that these were funds were not
provided by nine individuals in 2001 but were provided by the appellant in 2002.
The funds were used to subscribe for shares that were registered to nine
individuals but all the shares were beneficially owned by the appellant. Mr.
MacLean described the arrangement as a “debt-swap.” By all appearances, it was
simply an improper back-dating exercise.
[30]
As for the testimony of Mr.
Dunham, who had prepared the initial tax returns for the appellant, some of his
explanations were not plausible. For example, he stated that revenue in the
returns was over-stated and that he had an incorrect understanding of the
threshold for filing GST returns. According to his testimony, he had the
mistaken belief that there was no need to file GST returns if income was less
than $30,000. At the time that this advice was allegedly given, the GST regime
had been in place for many years and the threshold for filing would have been
commonly understood by persons with Mr. Dunham’s background. Overall, his
testimony was not convincing.
[31]
As for Mr. Weiner, I found his
testimony to be generally reliable except for an understandable bias in the
appellant’s favour.
III. Burden of proof
[32]
I would also make a brief comment
about the burden of proof because both counsel relied on principles which
differ somewhat from the most recent pronouncements by the Federal Court of
Appeal in cases such as McMillan v The Queen, 2012 FCA 126 and Newmont
Canada Corporation v The Queen, 2012 FCA 214.
[33]
The applicable
principle is described in McMillan
by Dawson J.A., at para. 7:
[…] In our respectful view, it is settled law that the initial
onus on an appellant taxpayer is to "demolish" the Minister's
assumptions in the assessment. This initial onus of "demolishing" the
Minister's assumptions is met where the taxpayer makes out at least a prima
facie case. Once the taxpayer shows a prima facie case, the burden
is on the Minister to prove, on a balance of probabilities, that the
assumptions were correct (Hickman Motors Ltd. v. Canada, [1997] 2 S.C.R.
336 at paragraphs 92 to 94; House v. Canada, 2011 FCA 234, 422 N.R. 144
at paragraph 30).
[34]
As for the meaning of prima
facie, this was discussed in House v The Queen, 2011 FCA 234, at
para 57:
[57] […] In Amiante Spec Inc. v. Canada, 2009 FCA 139, [2009] F.C.J. No. 603 (QL), our Court, at paragraph 23, explained
a prima facie case in the following terms:
[23] A prima
facie case is one "supported by evidence which raises such a degree of
probability in its favour that it must be accepted if believed by the Court
unless it is rebutted or the contrary is proved. It may be contrasted with
conclusive evidence which excludes the possibility of the truth of any other
conclusion than the one established by that evidence" (Stewart v.
Canada, [2000] T.C.J. No. 53, paragraph 23).
IV.
Share transactions – 2002
A. Background
[35]
The appellant actively traded shares
of ISTO in 2002. During this period, the shares were traded in the United States using quotation services, such as NASD OTC Bulletin Board and Pink Sheets
LLC.
[36]
The Minister assessed capital
gains from this activity for 2002 in the amount of $601,135. The proceeds of
disposition were determined based on a review of brokerage statements, mainly statements
of one brokerage firm called Golden Capital Securities Ltd. As for the cost of
the shares and the characterization of the gains as capital, the Minister accepted
the appellant’s representations.
[37]
The appellant does not dispute
that he realized gains of $601,135, but he submits that the gains are ordinary
income and not capital gains as assessed by the Minister. This unusual position
is being taken in order to enable the appellant to deduct expenses relating to
the income. The amount of the expenses that are being claimed are $483,721,
leaving a net profit, according to the appellant, in the amount of $117,414
(AWS, para 63).
[38]
As an alternative position if the
gains are determined to be on capital account, the appellant suggests that the
expenses should be added to the adjusted cost base of the ISTO shares.
[39]
A number of questions are engaged with respect to ISTO:
(1) What is the total amount of the payments? (2) What is their legal nature? (3)
Are the gains on income or capital account? and (4) If the gains are on income
account, is it appropriate for the Court to order a reassessment on this basis?
B. Amount and legal
nature of payments
[40]
When the appellant became
involved with ISTO, he became its primary source of funding and paid most of
its expenses. The expenses included legal and accounting expenses relating to
the SEC filings, fees of the investor relations team, and what were described
as legacy obligations, such as salaries that had not been paid.
[41]
The appellant submits that he paid
an aggregate of $483,721, of which $120,066 was for investor relations.
Significant documentary support for these payments was provided.
[42]
The Crown submits that the total is
only $429,572, and that the payments were not expenses incurred but were loans to
ISTO. This submission is supported by ISTO’s financial statements as at
December 31, 2002 and a document purporting to be an agreement between the appellant
and ISTO made in October 2003 under which the parties agreed to exchange this
loan for shares.
[43]
There was very little evidence to
support the appellant’s position that the payments were not loans, other than
the appellant’s own self-interested testimony. The testimony simply was not
believable.
[44]
The appellant testified
that he had an informal arrangement with ISTO and that his understanding was
that he was to be made whole for these expenditures in the sense of receiving
compensation for having to sell shares in order to finance the payments. He
also testified that the document made in October 2003 was not intended to be a binding
agreement unless financing could be obtained. The explanation as a whole was lacking in detail and was
not persuasive.
[45]
Counsel for the
appellant submits in the alternative that the payments are deductible because
ISTO’s obligation to repay was contingent. It is not necessary that I consider
the correctness of this as a legal principle because I am not satisfied that
ISTO’s obligation was contingent. The collection of the loan may have been uncertain
due to ISTO’s financial situation, but this does not make the obligation itself
contingent. To the extent that the appellant suggests that the obligation itself
is contingent, his testimony is not convincing.
[46]
I conclude that the appellant is
not entitled to a deduction for any of the payments in the 2002 taxation year.
[47]
In light of this
finding, it is not necessary that I make
a finding on the amount of the payments. Counsel for the appellant asked me to
do this in any event so that it would expedite a claim for a deduction in a
later year. I do not propose to do so because there is not sufficiently
reliable evidence that gives a complete picture.
C. Are
payments on income or capital account
[48]
The appellant submits
that the ISTO trading gains are business income. This position appears to be amply
supported by the evidence. However, I do not think that the Court should order
a reassessment on this basis since it would be statute barred. During argument,
I asked the parties to address whether it would be appropriate for the Court to
order the Minister to reassess on this basis and written submissions were
subsequently received.
[49]
The Crown submits that it
is proper for the Court to order the Minister to reassess income in the amount
of $601,135 on the basis that the ISTO gains are ordinary income as long as the
2002 reassessment does not increase the overall tax for 2002.
[50]
The appellant submits
that the Crown should not be ordered to reassess income more than $266,276.34,
which was the taxable capital gain that was assessed. (My understanding is that
this figure includes trading activity from other shares as well as ISTO shares.)
[51]
In my view, it is not
appropriate for the Court to require a reassessment that changes the character
of the gains from capital to income, because the effect of this would be for
the Minister to reassess beyond the limitation period set out in s. 152(4)
and (4.01) of the ITA.
[52]
The applicable
principle applies equally to a new basis of assessment and a new argument
pursuant to s. 152(9). Whether the Court should order a reassessment that would
be a new basis of assessment was considered by Rothstein J.A. (as he then was)
in Pedwell v The Queen, [2000] 4 FC 616; 2000 DTC 6405 (FCA):
[16] First, if the Crown is not able to change the basis
of reassessment after a limitation period expires, the Tax Court is not in any
different position. The same prejudice to the taxpayer results -- the
deprivation of the benefit of the limitation period. […]
[53]
The same principle
applies if the reassessment is pursuant to a new argument under s. 152(9). In The
Queen v Loewen, 2004 FCA 146; 2004 DTC 6321, Sharlow J.A. comments:
[22] A new argument asserted by
the Crown pursuant to subsection 152(9) could include an argument that would
justify an assessment that exceeds the amount assessed. However, subsection
152(9) does not relieve the Minister from subsection 152(4), which imposes time
limitations on reassessments. Therefore, the Minister cannot use a subsection
152(9) argument to reassess outside the time limitations in subsection 152(4),
or to collect tax exceeding the amount in the assessment under appeal.
[54]
The question, then, is whether a
reassessment that changes the ISTO gains from capital to income would be
statute barred. In my view it would be. The limitation period will have expired
unless the appellant has made a careless or negligent misrepresentation in the
income tax return. It would be
difficult for the Crown to suggest that he has when the Crown’s primary
argument in this appeal is that the gains are on capital account.
[55]
I would conclude that
it is not appropriate to require the ISTO gains to be reassessed as ordinary
income.
V.
Car business – 2000 and 2001
A. Background
[56]
For purposes of the income tax
assessments for 2000 and 2001, the Minister determined that the appellant
earned income from the car business in the amounts of $39,948 and $73,576,
respectively.
[57]
The assessments did not
allow any deduction for business use of the home, but at the hearing the Crown conceded that ten percent of home
expenditures were deductible as expenses of the car business, except during
periods that the residence was rented to third parties. The deductions that are
conceded are $5,737.26 and $10,132.49 for 2000 and 2001, respectively.
[58]
The appellant submits that the
income from the car business was only $1,003.64 for 2000 and nil for 2001. He
submits that he actually incurred a loss in the amount of $13,324.21 in 2001,
but that the loss is disallowed under the ITA since it is attributable to home
office expenses.
[59]
There are two outstanding issues
to be decided - the amount of revenue earned and whether an amount greater than
10 percent should be allowed for business use of the home.
B. Determination of revenue
[60]
The first issue is the
determination of revenue from the car business in 2000 and 2001. For purposes
of the assessments at issue, the Minister assumed revenue in the amounts of
$220,995 and $201,106. These amounts are
based on figures reported by the appellant in his initial income tax returns
that were prepared by Mr. Dunham.
[61]
The appellant now disputes these amounts
and relies on amounts he determined in collaboration with his new accountant, Mr.
Weiner. It is submitted that
the proper amounts of revenue are $180,570 and $143,464.
[62]
The appellant’s submission in a
nutshell is that he has demolished the Minister’s assumptions on a prima
facie basis and that the Crown has not introduced any evidence in rebuttal.
[63]
Looking at the situation from the 60,000 foot level, the
question is really whether it is believable that the appellant lost over
$12,000 from the car business over a two-year period.
[64]
The revenue amounts suggested by
the appellant were determined by the appellant and Mr. Weiner at the objections
stage based on source documentation provided by the appellant and submitted as
evidence in this appeal. In light of the cavalier attitude that the appellant
has displayed towards his tax obligations, as mentioned above, I have no
confidence that the appellant has provided all relevant information. It would
not be appropriate to give the appellant the benefit of the doubt on this.
[65]
I would also note that no
contemporaneous financial records were kept and the initial tax returns were
filed late and used different numbers than the subsequent returns prepared by
Mr. Weiner. The appellant suggests that his records are reliable because he
kept all source documentation. The problem is that I am not satisfied that the documentation
provided by the appellant is complete. If the appellant kept as meticulous
records as he suggests, why did he not file tax returns on a timely basis? A prima
facie case has not been made.
[66]
Mr. Weiner testified that he had
no reason to suspect that the appellant’s documents were not complete. He also
said that they were well organized. Aside from the problem that Mr. Weiner only
had what the appellant had provided to him, I also note that there are
significant discrepancies for the 2002 taxation year between what Mr. Weiner
had determined as fee revenue (Ex A-8) and what the appellant now acknowledges
is fee revenue (AWS, para. 107). The number of items of fee revenue was apparently
increased from 10 to 24. This suggests that the documentation is not as
complete as was suggested.
[67]
For completeness, I would also
briefly comment concerning evidence that was led by the Crown. The Crown
introduced an SEC filing consisting of a 2004 prospectus for another start up
corporation that the appellant had involvement with, Digital Ecosystems Corp. In
the prospectus, the appellant’s car business is represented to have had annual
sales since inception of between $2 to 5 million (Ex. R-9).
[68]
If this representation is accurate,
it destroys the appellant’s testimony as to revenues from the car business.
However, I have no greater reason to believe the accuracy of this statement
than the appellant’s testimony at the hearing. I have given no weight to the
accuracy of the statement.
[69]
Based on the findings above, no
adjustment will be made to revenue of the car business as determined by the
Minister for the 2000 and 2001 taxation years.
C. Deduction for
business use of home
[70]
The appellant lives in a 3,000
square foot condominium in downtown Vancouver. During the relevant period, the
residence was also used as the appellant’s only fixed premises for the car
business.
[71]
The appellant testified that he
used a bedroom exclusively as an office, that the kitchen was used for business
meetings, and that his parking spaces were used for the business. He submits
that a reasonable allocation of home expenses to the car business is 33 percent
(during periods that the residence was not leased).
[72]
As mentioned earlier, the Crown submits
that the business allocation should be 10 percent.
[73]
In reference to the appellant’s
position, I am troubled that there is no reliable evidence as to how often the
appellant met business contacts at his home. I propose to make some adjustment,
however, as ten percent assumes very slight business use of the space. I
propose to allow 20 percent as a reasonable allocation to the car business for
periods that the property was not leased.
VI. Car business –
2002
A. Background
[74]
The Minister initially made an
arbitrary assessment for the 2002 taxation year because no income tax return
had been filed. The appellant
subsequently filed an income tax return which
reported income from the car business in the amount of $29,324.
[75]
The CRA then undertook a deposit analysis of the appellant’s bank
accounts and brokerage statements and determined that the appellant had income
in the amount of $314,545 from the car business for the 2002 taxation year. A
large portion of this is represented by unexplained bank deposits.
[76]
In this appeal, the appellant suggests that the income tax return filed
by him after the arbitrary assessment overstates his income from the car
business. He submits that a loss was incurred in the amount of $20,095.79 (AWS,
para. 58).
[77]
At the hearing, the Crown conceded some additional expenses which are
set out in the appendix. After taking these into account, the income from the
car business as submitted by the Crown appears to be in the neighbourhood of
$275,000.
[78]
There are two questions to be
determined in respect of the car business in 2002: (1) what is the revenue, and
(2) what is appropriate deduction for business use of home.
[79]
As a preliminary point,
I would mention that the Minister assumed that the unexplained deposits were
revenue from the car business as opposed to some other source and the pleadings
limited the issue to determining income from the car business.
[80]
The appellant’s
response to this argument is that the deposits are not revenue from the car
business. His counsel submits that he should succeed on this issue even if the
evidence suggests that the revenue is from some other unidentified income
source.
[81]
During the hearing, the
Crown applied to amend its reply to frame the issue more broadly - that the
unexplained deposits are income from any source. The application was made on
the fourth day of the hearing. I concluded was that it was too late for the
Crown to make this change. The appellant had already presented three days of
evidence and his trial strategy had been based on the existing pleadings. I
also rejected a further argument of the Crown made at the same time that the reference
in the reply to the term “car business” includes ISTO share trading activity.
[82]
In light of these
findings, the issue to be determined is not whether the unexplained deposits
are income any source, but whether they are income from the car business.
B. Are unexplained
deposits revenue from car business?
[83]
The CRA auditor who conducted the
deposit analysis identified over $500,000 of deposits which she attributed to
revenue from the car business. The vast majority of these amounts were deposits
into the appellant’s business and personal bank accounts with TD Canada Trust.
[84]
It is the position of the
appellant that his gross revenue from the car business in 2002 was $214,576.56
(AWS, para. 84). This consists of proceeds from car sales in the amount of
$197,647 and fee revenue in the amount of $16,929. He submits that the unexplained
deposits are principally transfers from brokerage accounts representing ISTO share
trades which have already been subject to tax.
[85]
In general, I have the
same difficulty with the appellant’s position on this issue that I have with several others; it is based to a
large extent on the appellant’s own testimony. I have no confidence that it is
reliable.
[86]
There was very little support for most
of the testimony relating to the unexplained deposits. Few source documents were
introduced and very little reconciliation was provided for the purported
transfers from the brokerage accounts to the bank accounts.
[87]
The appellant had various
explanations as to why many of the withdrawals from the brokerage accounts and
the deposits to the bank accounts do not match up. Some of the explanations are
simply not plausible. For example, the appellant testified that he took money
out of the brokerage accounts in the form of bank drafts and kept some of it at
home until it was needed and then deposited it into a bank account. It seems unlikely
that the appellant would do this.
[88]
The appellant also relies on the
testimony of Mr. Weiner. It is suggested that Mr. Weiner reviewed the bank
statements and concluded that the revenue reported by the appellant was
plausible. Mr. Weiner suggested that, although he was not conducting an audit,
he had an ethical responsibility to disengage if he believed that the numbers
were misleading (Testimony of Barrie Weiner, p. 103, 104).
[89]
This testimony is of little
assistance to the appellant. If potential evidence existed that satisfied Mr.
Weiner as to the source of the deposits in the bank accounts, the evidence
could have been provided at the hearing. The absence of this evidence suggests
that Mr. Weiner probably relied on self-serving statements by the appellant as
to the source of the deposits.
[90]
I would also comment concerning the
appellant’s submissions at paragraph 127 of his written submissions.
[91]
First, the appellant points out that
the income for 2002 as suggested by the Crown vastly exceeds the income for
prior years. I do not find this convincing because there is no evidence that
the CRA conducted thorough audits for the prior years.
[92]
The appellant also submits that he
only made a modest profit on each car transaction. He suggests that to earn the
amount of income suggested by the Crown, he would have had to complete an additional
354 transactions in 2002.
[93]
This argument is also not
convincing. There is no reliable evidence on which I could determine how much
income might reasonably be made by this type of business.
[94]
The appellant also submits that
the round number deposits of $2,000, $3,000 and $5,000 do not fit with the
evidence of the revenue generated by each transaction. The main problem that I
have with this argument is that I have no confidence that the appellant’s
evidence provided a complete and accurate picture of his business.
[95]
The final argument that was made
in this part of the appellant’s written submissions has some merit. The
argument is that the revenue from the car business was exclusively Canadian and
yet numerous unexplained deposits are represented by bank drafts denominated in
United States dollars. Based
on the bank deposit analysis in Ex. R-18, the U.S. deposits are approximately
Cdn $150,000.
[96]
I accept that the
appellant has made a prima facie case on the U.S. denominated deposits.
This conclusion is not based solely on the appellant’s own testimony, but it is
based on the evidence as a whole which suggests that the appellant’s customers
were generally Canadian. In order for the Crown to suggest that the business
had substantial revenues in U.S. dollars, there should be some evidence to support
this. None was provided.
[97]
Turning to the
submissions of the Crown, the Crown
argues that the appellant can only succeed in disputing the deposit analysis by
establishing the actual source of the unexplained deposits. Counsel relies on
cases such as Lacroix v The Queen, 2008 FCA 241, 2009 DTC 5029.
[98]
I disagree with this submission.
The issue in this case is whether the unexplained deposits are income from the
car business. In Lacroix, the issue was simply whether the assessed
amounts were income from any source. It makes sense in those circumstances that
a taxpayer can succeed only by establishing the actual source.
[99]
In the present appeal, it is not
necessary for the appellant to establish the actual source of the deposits. The
appellant is entitled to succeed by establishing that the car business produced
less income than that assumed by the Minister.
[100]
The appellant’s luxury
condominium suggests a lifestyle that is at odds with the income that he
suggests he earned in the years under appeal. For example, the monthly mortgage
payments appear to be in the range of $10,000. The appellant testified that a
foreclosure action was started on the property in 2001, but it appears that the
foreclosure was averted.
[101]
Although the appellant’s income is
very likely to have been under-reported, the task is simply to determine whether the appellant
has made a prima facie case that the unexplained deposits are not from
the car business. The actual source of the deposits is not revealed but this is
not fatal to the appellant’s claim.
[102]
I have concluded that the
appellant has been partially successful on this issue and that the revenue as
determined by the deposit analysis should be reduced by $170,000. This amount
has not been calculated with mathematical precision but takes into account
three items: U.S. dollar deposits of approximately $150,000, a damage deposit
in the amount of $10,000 which is acknowledged to be related to the
condominium, and other miscellaneous items.
[103]
Before leaving this
issue, I would comment briefly concerning testimony of John Kirk (investor
relations consultant) that the appellant had a full time role at ISTO
(Transcript, page 997). The question that should be asked is whether the
appellant’s work for ISTO restricted his ability to earn income from the car
business in 2002. Neither party mentioned this in their submissions.
[104]
The conclusion that I
have reached is that Mr. Kirk’s testimony is not detailed enough for me to
conclude that the appellant’s work with ISTO significantly impacted the
revenues from his car business. It is quite plausible that the appellant
attended at ISTO’s premises, which were near his condominium, on a regular
basis to provide oversight and consultation. It does not follow that his
presence reduced his ability to devote time to the car business.
C. What
is appropriate deduction for business use of home?
[105]
The analysis concerning the
business use of the home during 2000 and 2001 is also relevant for the 2002
taxation year. An amount equal to 20 percent of the home expenses incurred when
the residence was not leased will be allowed as a deduction relating to the car
business for 2002.
[106]
A further issue relating to 2002
home expenses concerns amounts totalling $15,000 that the appellant paid to a
law firm. The appellant suggests that these are legal fees relating to a
foreclosure action on his condominium and that a pro rata amount should
be allocated to business use.
[107]
The Crown submits that there is
not sufficient evidence to link the expense with the foreclosure action.
[108]
I would first note that the law
firm who received the funds was not the appellant’s law firm, but was the firm
that represented the bank that initiated the foreclosure action. I would also
note that the funds were paid to the law firm in trust.
[109]
The appellant has not established
a prima facie case that these amounts represent legal expenses. The
amounts could be payments on account of overdue mortgage payments that may have
already been deducted by the appellant on an accrual basis. The appellant’s
vague and brief testimony that they were legal expenses is not credible.
VII. Rental income –
2000 and 2001
[110]
In the 2000 and 2001 taxation
years, the appellant earned income from short‑term rentals of his
personal residence in the amounts of $5,052.80 and $8,460.29.
[111]
The appellant did not report this income
in his income tax returns and the Minister did not include it in the
assessments at issue. The income was acknowledged in the appellant’s amended
notice of appeal.
[112]
There is no dispute
between the parties in respect of this source of income. They are in agreement
that the amounts above should be added to income.
[113]
Notwithstanding the
agreement of the parties, this item is worthy of some comment because the Court
is not bound by the parties’ agreement.
[114]
The applicable principle
is that the consent of the parties should be given effect unless it is contrary
to the ITA: Petro-Canada v The Queen, 2004 FCA 158, para. 66.
[115]
In my view, it is
reasonable to conclude that a reassessment now to include this income would not
be contrary to the ITA because a reassessment of the rental income would not be
statute barred. In particular, it is reasonable to conclude that the appellant
made a misrepresentation in his income tax returns based on carelessness,
negligence or wilful default by not reporting the income.
VIII. Rental income –
2002
[116]
The appellant also earned rental
income in the 2002 taxation year, which was included in the assessment at
issue.
[117]
Two items are in dispute in
relation to this income: (1) the deductibility of amounts paid to a law firm in
the amount of $15,000, and (2) whether a damage deposit in the amount of
$10,000 should be included in income.
[118]
As for the amounts paid to the law
firm, earlier in these reasons I concluded that these payments are not
deductible in computing income from the car business. The same reasoning
applies to the computation of rental income.
No adjustment will be made to the rental income
for the payments to the law firm.
[119]
As for the damage
deposit in the amount of $10,000, this amount was included as part of income
from the car business pursuant to the deposit analysis undertaken by the
Minister. It is now acknowledged that the deposit, which was never returned,
relates to the rental business and not the car business.
[120]
The Crown submits that
this amount should be included in rental income (Respondent’s Rebuttal Submissions,
para. 17). I would disagree. As this issue was not raised in the pleadings, I
would conclude that it is too late to make this adjustment now.
IX. GST
A. Background
[121]
At the hearing, the GST
appeal did not receive nearly the same attention as the income tax appeal. The
appellant’s submissions in particular were relatively brief.
[122]
By way of background, the
appellant did not file GST returns for 1998 and 1999, and did not remit any tax
for these years even though GST had been collected on some transactions. Returns
were filed for 2000, 2001 and 2002 which reported a modest amount of net tax.
[123]
The CRA audit actually
commenced as a review of GST for 2000, 2001 and 2002. The audit was
subsequently expanded to include GST for 1998 and 1999 as well as income tax
for 2000, 2001 and 2002. A GST assessment was issued in 2006 which encompassed net tax for all periods between 1998 and 2002.
[124]
The table below compares the net
tax as filed by the appellant and as assessed by the Minister.
|
Period Ending
|
Net Tax as Filed
|
Net Tax as Assessed
|
|
1998-12-31
|
$ n/a
|
$ 31,796.45
|
|
1999-12-31
|
n/a
|
14,411.67
|
|
2000-12-31
|
538.17
|
3,276.37
|
|
2001-12-31
|
161.46
|
10,086.75
|
|
2002-12-31
|
639.33
|
23,564.64
|
|
Total
|
1,338.96
|
83,135.88
|
[125]
For the 2000, 2001 and
2002 reporting periods, the determination
of net tax should be consistent with the conclusions above relating to the
income tax appeal. That is not the case for 1998 and 1999, however, as the
income tax appeal does not encompass these years.
B. 1998 and 1999 reporting
periods
[126]
The general methodology used by
the Minister in assessing net tax and penalties for 1998 and 1999 was as
follows: (1) GST collectible was determined by the revenue reported in income
tax returns, (2) no input tax credits were allowed, and (3) gross negligence
penalties were imposed.
[127]
It is worthwhile mentioning that
the Crown conceded at the hearing that no gross negligence penalties should be
imposed for 1998 and 1999 because the relevant provision only applies if returns
have been filed: Lee v The Queen, 2010 TCC 400.
[128]
The amount of input tax credits
have been agreed by the parties and are set out in the appendix.
[129]
The only issue that remains
outstanding regarding 1998 and 1999 is the amount of revenue, or GST
collectible (AWS Reply, at para. 34).
[130]
The appellant introduced source
documentation to support the revenue from the car business for these years. For
the same reasons discussed above in respect of income earned from the car
business in 2000 and 2001, I have no confidence that the documentation provided
by the appellant for 1998 and 1999 is complete. No adjustment will be made to
the assessment for GST collectible for 1998 and 1999.
C. 2000, 2001 and
2002 reporting periods
[131]
As for the 2000, 2001 and 2002 reporting
periods, the issues that remain to be decided are the amount of GST collectible
and gross negligence penalties (AWS in Reply, para. 34).
[132]
As for the GST collectible, this
should follow the revenue determined for purposes of the income tax appeal.
[133]
As for the gross negligence
penalties, the problem that I have with the imposition of the penalties is that
the evidence as a whole does not provide a very complete picture and the Crown
has the burden. The income tax appeal turned to a great extent on the appellant
not providing sufficient reliable evidence. With respect to GST penalties, the
Crown has not presented sufficient evidence to warrant the penalties.
[134]
As for 2000 and 2001,
the Crown relies on revenue as reported in the income tax returns filed by the
appellant. The evidence is insufficient to establish the reliability of these
amounts.
[135]
As for 2002, the Crown
relies on the deposit analysis. Again, the evidence is insufficient to
establish the reliability of the source of the unexplained deposits. For
example, it is quite possible that many of the deposits came from ISTO trades
that were not part of the capital gains that were assessed. In this case, the
income would not be subject to GST. I
would conclude that the Crown has provided insufficient evidence to support the
gross negligence penalties.
X. Conclusion
[136]
With respect to assessments under the ITA for the 2000,
2001 and 2002 taxation years, the appeal will be allowed, and the assessments
will referred back to the Minister for reassessment on the basis that:
(a)
the concessions by the
Crown as set out in the appendix be allowed,
(b)
the revenue from the
car business for the 2002 taxation year be reduced by $170,000,
(c)
20 percent of home
expenses be allocated to the car business for periods in which the home was not
leased, and
(d)
rental income in the
amounts of $5,052.80 and $8,460.29 for the 2000 and 2001 taxation years,
respectively, should be added to the income of the appellant.
[137]
With respect to an assessment under the ETA for the
1998, 1999, 2000, 2001 and 2002 taxation years, the appeal will be allowed, and
the assessment will referred back to the Minister for reassessment on the basis
that:
(a)
the concessions by the
Crown as set out in the appendix be allowed,
(b)
for the purpose of
determining GST collectible for reporting periods from 2000 to 2002, inclusive,
the revenues should be the amounts as determined for purposes of the appeal
under the ITA, and
(c)
gross negligence
penalties for the 2000 to 2002 reporting periods, inclusive, should be deleted.
[138]
The appellant has
requested an opportunity to make written submissions as to costs. The
appellant’s submissions should be received by the Court within 10 days, the
respondent shall have a further 10 days to reply, and the appellant shall have
a further 10 days to respond.
Signed at Toronto, Ontario this 9th day of October 2012.
“J. M. Woods”
APPENDIX
Email this Content