Spencer v. The Queen, 93 DTC 1222, [1993] 2 CTC 2765 (TCC)

Sarchuk, T.C.C.J.:—This is an appeal from assessments of tax made by the Minister of National Revenue (the Minister) with respect to the appellant's 1986, 1987 and 1988 taxation years. By these assessments the Minister included shareholder loan benefits in the amounts of $12,168, $161,677 and $45,830 in computing the appellant’s income for those taxation years respectively.

The parties by their respective solicitors have admitted the following facts for the purposes of this proceeding:

1. At all material times the appellant was the sole shareholder of 552469 Ontario Ltd. (the"corporation");

2. The amounts of $12,168, $161,667 and $45,830 were received by the appellant as shareholder loans or advances from the corporation in the 1986, 1987 and 1988 taxation years respectively;

3. The loans or advances referred to above did not arise in the ordinary course of the lender's business;

4. The amount of $12,168 advanced to the appellant in the 1986 taxation year was not advanced or used for the purpose of acquiring or for the construction of, a dwelling for the appellant's use, but advanced to the appellant for other personal uses;

5. Of the total amount of $161,667 advanced to the appellant in the 1987 taxation year, $150,783 was borrowed and used for the construction of a dwelling for the appellant's personal use. The balance of $10,884 was advanced to the appellant for other personal use;

6. The amount of $45,830 advanced to the appellant in the 1988 taxation year was not advanced or used for the purpose of acquiring or for the construction of a dwelling for the appellant’s use, but was advanced to the appellant for other personal use;

7. In the 1989 taxation year, the amount of $219,664, representing all amounts owing by the appellant to the corporation as shareholder loans in the 1986, 1987 and 1988 taxation years, was reimbursed by the appellant to the corporation.

Further evidence was given by the appellant and by Mr. J.M. Savel (Savel), a chartered accountant and a partner of the firm Coopers and Lybrand. He has acted in that capacity for the appellant, the corporation and for other corporations in which the appellant was involved since 1984.

Counsel for the appellant advised the Court that no evidence was being adduced with respect to the 1986 or 1988 taxation years. Furthermore, no issue is being taken with the Minister’s inclusion of the amount of $10,884 advanced by the corporation to the appellant for personal use in the 1987 taxation year.

The sole remaining issue is whether the amount of $150,783 borrowed by the appellant from the corporation for the purpose of constructing a dwelling was a loan which arose in the circumstances referred to in suoparagraph 15(2)(a)(ii) of the Income Tax Act, R.S.C. 1952, c. 148 (am. S.C. 1970-71-72, c. 63) (the "Act") and bona fide arrangements were made, at the time the loan was made or the indebtedness arose, for repayment thereof within a reasonable time. [1]

The appellant is a financial consultant. During the years in issue his principal business was that of mortgage broker and management of the corporation. He described its activities as "a creator of finder's fees" and that meant he was "engaged or had the opportunity, if I wanted to spend the time, to create revenue by consulting, advising, arranging, sometimes dictating real estate transactions that made sense for everybody".

The transaction in issue had its genesis in December 1986 when the appellant first considered building a residence for himself. By way of a letter to the appellant dated December 22, 1986 Pineridge Construction set out the terms of the proposed construction, including specifications, scheduling and payment terms. The terms were acceptable and an agreement was struck. On January 15,1987 a lot was purchased and construction commenced shortly thereafter. Seven payments totalling $153,000 were made to Pineridge Construction by the corporation, the first on February 17, 1987 and the concluding payment on September 22, 1987.

At some point of time prior to any of the funds being advanced the appellant spoke to Savel to determine whether he could borrow money from the corporation to build a house and what restrictions existed. Savel advised him of the various choices available and provided him with a photocopy of section 15 of the Act. He decided to finance the construction of the house by way of loans from the corporation, and alleged that he made a commitment to repay the amounts in two years. He explained the arrangement this way:

The arrangements were not in writing, but the proof of the pudding I did exactly what I said, albeit it took a little longer. The point is I already had deals on the go, transactions on the go, income on the go, activity on the go, to produce the revenue that would repay this. In effect, as I have already indicated, in 1988 I had in cash, I didn’t, 552469 had over $500,000. To have that you have to go back in time and say, okay, it took this long to put together. It took this long to make arrangements. It took this long, if it was a construction situation, to build. Obviously back in 1986 and 1987 I already had things on the go that would repay this. The question was it was a matter of months and that is my whole point in this issue. I already had the income on its way, it is a question of whether it would be three months, six months, 12 months, 18 months. As a matter of fact it came in within, started coming in, it was already coming in within a reasonable period of time. In addition to that I was making, on average, over $250,000 with very little expenses, no debts. The repayment of it, in relationship to what I was making, the amount of the loan was minuscule.

This commitment" constitutes the totality of the arrangement between the appellant and his corporation. Nothing was reduced to writing.

It is not disputed that all of the funds advanced by the corporation to the appellant in taxation years 1986,1987 and 1988 were repaid in 1989. The appellant could not recall how the repayment was made although he believed it was by way of a journal entry on or after October 31, 1989. He added “from the accounting perspective it was done". He deflected further cross-examination by stating that his accountant would have to answer such questions. Unfortunately Savel’s evidence casts no light on this aspect of the matter other than that the loans were repaid during the 1989 taxation year. The context in which this answer was given suggests that he was referring to the appellant's taxation year and not that of the corporation.

Mr. Savel's recollection of the events is somewhat limited. He had regular discussions with the appellant on a number of issues and at one stage was asked how the appellant might borrow money from his corporation for a new residence. Savel outlined the options available in general terms and provided him with photocopies of the relevant legislation. There was no further discussion regarding loans at that time. Some time later, following the corporation's fiscal year end being October 31, 1987 he spoke to the appellant regarding his shareholder's loan account. It was in the course of this review that the appellant first indicated to Savel that he was committed to repay the corporation for the advances within two years. The subject had not, to the best of his recollection, been raised during the earlier conversation when borrowing from the corporation was discussed. Savel understood repayment to be predicated on the successful completion of certain corporate transactions that were under way.

Evidence was adduced on behalf of the respondent from Ms. D. Van Amerongen, a business examiner with Revenue Canada, who performed an audit of the corporation on September 27, 1989. It is this audit which first disclosed that the amounts in issue had been advanced to the appellant by the corporation in the three taxation years. Her reconciliation of the shareholder's loan account to December 31, 1988, indicated that none of the amounts had been repaid to that point of time.

Conclusions

There are two issues to be determined: was there a loan and did bona fide arrangements for repayment of the loan within a reasonable time exist at the time the loan came into being?

There was no written agreement or acknowledgement of the debt. Nothing in the corporation's records or books describes or characterizes the advances or any portion of them as a building loan or suggests whether and when repayment was required.

Counsel for the appellant submitted that particularly in closely held corporations, businessmen do not always depend on precise documentation to establish the true nature of their transactions. Rather they tend to achieve their objectives in informal and expeditious ways. He cited Massey Ferguson Ltd. v. The Queen, [1977] C.T.C. 6, 77 D.T.C. 5013 (F.C.A.), and referred to the comment of Urie, J., that if difficulties ensue as a result of the lack of documentation the Courts must determine the intention of the parties and nature of the obligations imposed on them by reference to credible evidence of another kind.

That such an approach is commonly required and appropriate is not disputed. However the evidence in such instances must be sufficient to enable the Court to determine that enforceable legal rights and obligations were created, in this case, between the appellant and the corporation prior to the advance of the funds. In the present appeal it is not readily ascertainable what rights and obligations were created by the parties in 1986. Even if I were to find that a building loan was made by the corporation to the appellant the evidence fails to establish the existence of a bona fide arrangement for repayment. Such an arrangement need not be in writing but there must be sufficient proof to satisfy me that one did exist at the time the loan was made. The "commitment" spoken of by the appellant is too ephemeral to be given much weight. At best what we have is a general intention to repay. As the appellant said:

My commitment from the two-year standpoint was an outside date. I felt that within 12 months it would be repaid. In actual calendar months the money was in the company pretty close to the 12 months. You don't know when you are doing these kind of transactions, and some of the things I was doing, you don't know exactly when the money is going to come in. It can take three months, it can take nine, it can take 18.

This is not evidence of an agreement creating enforceable rights and obligations but rather describes an open ended arrangement in which the date of any repayment was wholly within the control of the borrower.

While not entirely analogous the decision of Rip, J. in Perlingieri v. M.N.R.,

[1993] 1 C.T.C. 2137, 93 D.T.C. 158 (T.C.C.) is of assistance. In that case the issue was whether a loan payable on demand constituted a bona fide arrangement for repayment of the loan within a reasonable time. Rip, J. stated at page 2140 (D.T.C. 161):

Arrangements to repay the loan must be made in good faith at the time the loan was made. At the time the loan is made the creditor and the debtor must be aware of the arrangements made between them for the repayment of the loan. The debtor must know when he must repay the loan at the time the loan is made. Because a demand loan is open ended with respect to repayment, at the time the loan is made the creditor may or may not know when he will demand payment and the debtor does not know when he will have to make payment. Hence no bona fide arrangement — indeed no arrangement at all — has been made at the time of the demand loan for its repayment.

I accept the appellant's assertions that syndications and other transactions were under way, but no evidence was presented as to the number of transactions under way in December 1986 nor as to their potential profitability except in the most general terms. No doubt the appellant was optimistic that some or most of them would be realized however, as he conceded, there was no way of knowing when the process began which transactions would proceed to their ultimate conclusion and which would fall through. This accurately represents the status of the corporation's affairs in December 1986 when the so-called commitment was made. He could not have predicted with any degree of certainty or accuracy the profitability of the corporation in 1987 and the amount of income which then might become available to him in 1988 or 1989. I do not find the appellant's income tax returns for 1987, 1988 and 1989 of much assistance. All that the returns establish is that his optimism was not misplaced. These facts are not conclusive enough to enable me to conclude that bona fide arrangements for repayment had been made.

The appeals are dismissed.

Appeals dismissed.