REASONS FOR JUDGMENT
Favreau J.
[1]
The appellant filed an appeal in this Court,
using the informal procedure, against the reassessments made on
October 22, 2012, by the Minister of National Revenue (the Minister) under
the Income Tax Act, R.S.C.
1985, c. 1 (5th Supp.), as amended (the Act), for the 2005, 2006, 2008,
2009 and 2010 taxation years, and on September 19, 2013, for the 2008
taxation year.
[2]
In the reassessments dated October 22,
2012, the Minister made the following adjustments to the appellant’s tax
returns:
|
|
2005
|
2006
|
2008
|
2009
|
2010
|
|
Carrying charges
disallowed
|
-
|
-
|
$15,010
|
$16,822
|
$15,872
|
|
Business investment
loss disallowed
|
-
|
-
|
$253,985
|
-
|
-
|
|
Non-capital loss
carryback disallowed
|
$58,751
|
$33,343
|
-
|
-
|
-
|
|
Capital loss realized
|
-
|
-
|
$253,985
|
-
|
-
|
[3]
The appellant filed a Notice of Objection against
these reassessments on or about November 7, 2012.
[4]
On September 19, 2013, the Minister
confirmed the reassessments for the 2005, 2006, 2009 and 2010 taxation years
and made a reassessment for the 2008 taxation year, thereby allowing the
appellant a $9,515 deduction for carrying costs.
[5]
To determine the
income tax payable by the appellant for the taxation years in issue, the
Minister used the following findings and assumptions of fact, as set out in
paragraph 7 of the Reply to the Notice of Appeal:
[translation]
(a) the appellant was the sole shareholder in the company “La Radio Touristique de Québec Inc” (the company);
(b) the company was incorporated on November 15, 2001, and has
operated an FM radio station for tourists in the Québec area since 2006;
(c) the company is a Canadian-controlled private corporation;
(d) the company is a small business corporation;
(e) the company’s fiscal year ended on October 31 each year;
(f) over the years, the appellant made several advances to the company,
totalling $253,985;
(g) unable to meet its financial obligations, on August 8, 2008, the
company filed a proposal in bankruptcy under the Bankruptcy and Insolvency
Act, and amended this proposal on August 19, 2008;
(h) to persuade the arm’s length unsecured creditors to accept the
proposal, the appellant waived any dividends payable on the $253,985 in
advances he had made to the company;
(i)
the creditors accepted the proposal in
bankruptcy, and the company continued carrying on its business;
(j)
on October 9, 2008, the Superior Court,
Commercial Division, sanctioned and ratified the proposal in bankruptcy and
declared this proposal to be binding on each and every creditor and on the
company;
(k) for the fiscal year ending October 31, 2008, the company wrote
off the $253,985 debt owed to the appellant and paid tax on a gain on
settlement of a debt;
(l)
from February 6, 2009, onwards, the company
operated as Sortir FM inc.;
(m) on February 28, 2011, the company’s shares were transferred to Mass-Média
Capitale inc., a corporation owned and controlled by Louis Massicotte;
(n) the interest charges for the year 2008 were adjusted from $15,010 to
$9,515 to allow the interest paid in the year up to the date of the proposal in
bankruptcy, which comes to 232/366 days.
[6]
The issues are as follows:
(a)
Was the Minister
justified in disallowing an amount of $253,985 that the appellant claimed as a
business investment loss (BIL) for the 2008 taxation year?
(b)
Was the Minister
justified in disallowing an amount of $58,751 for the 2005 taxation year and an
amount of $33,343 for the 2006 taxation year that the appellant claimed as
non-capital loss carrybacks from the 2008 taxation year?
(c) Was the Minister justified in disallowing
the amounts of $5,495, $16,822 and $15,872 that the appellant claimed as
carrying charges for the 2008, 2009 and 2010 taxation years respectively?
Positions of the parties
[7]
The respondent submits that the Minister was
justified in disallowing the amount of $253,985 that the appellant claimed as a
BIL for the 2008 taxation year because the following criteria set out in
subparagraph 39(1)(c)(ii) and paragraph 50(1)(a) of the
Act were not met:
[translation]
(a) the appellant did not dispose of the debt owing to him to a person
with whom he was dealing at arm’s length; and
(b) once the proposal was accepted, the debt owing to the appellant was
cancelled, so there was no debt owing to him at the end of the 2008 taxation
year.
[8]
Since the BIL deduction was disallowed, the
Minister was justified in not allowing the appellant’s non-capital loss
carrybacks of $58,751 for the 2005 taxation year and $33,343 for the 2006
taxation year.
[9]
Regarding the carrying charges, the respondent
submits that the Minister was justified in disallowing the deductions that the
appellant claimed for carrying costs with regard to the amounts of $5,495, $16,822
and $15,872 incurred in the 2008, 2009 and 2010 taxation years because the
appellant waived the debt owing to him, such that his obligation to pay
interest did not stem from borrowed money used for the purpose of earning
income from a business or property, in accordance with paragraph 20(1)(c)
of the Act.
[10]
The appellant, on the other hand, submits that
the proposal in bankruptcy for the company “La Radio Touristique de Québec Inc.”
(the company) affected the appellant’s ability to collect it but did not cancel
or eliminate it. Consequently, the $253,985 debt owing to the appellant still
existed at the end of the 2008 taxation year but had become a bad debt, which
entitled the appellant to claim a BIL deduction.
[11]
Regarding the deduction for carrying costs, the
appellant submits that the carrying costs of the loans taken out by the
appellant to invest in the company are deductible when computing his income for
the 2008, 2009 and 2010 taxation years because they were paid on borrowed money
used for the purpose of earning income from a business or property.
[12]
The amount of the loss realized when the
$253,985 debt was cancelled and the amount of the carrying costs incurred by
the appellant in the 2008, 2009 and 2010 taxation years are not in issue. The
Minister treated the loss realized when the debt was cancelled as a capital
loss and allowed a deduction for the carrying costs for the 2008 taxation year up
to the date of the company’s proposal in bankruptcy.
Testimony
[13]
Jacques St-Hilaire, trustee in bankruptcy
Brian Friset, certified accountant Sylvain Dostie, and Canada Revenue Agency
(CRA) call agent Marie-Hélène Beaucage testified at the hearing.
[14]
When
Mr. St-Hilaire turned 65, he decided to use his experience in radio
journalism and advertising sales to embark on a new business venture by opening
two radio stations (one in French and one in English) in Québec to provide
tourists and residents in Québec and the surrounding area with information
regarding upcoming events and things to see in that region. The stations’
operations were to be financed by advertising.
[15]
Mr. St-Hilaire used the company to operate his tourism-related
FM radio stations. The company was incorporated on November 15, 2001,
under the Business Corporations Act (the federal regime). Since the
company’s foundation, Mr. St-Hilaire had held 100% of the issued and
outstanding shares, that is, 100 Class A shares with a paid-up capital and
an adjusted cost base of $100. In addition to being the company’s sole
shareholder, he was also its sole director. The company’s fiscal year ends on
October 31 of each year.
[16]
Mr. St-Hilaire financed the company’s
operations through interest-free advances. The advances are set out in detail
below:
|
Period
|
Amount of Advance
|
|
November 1,
2005, to October 31, 2006
|
$95,156
|
|
November 1,
2006, to October 31, 2007
|
$85,192
|
|
November 1,
2007, to August 8, 2008
|
$73,637
|
|
Total
|
$253,985
|
[17]
To make the advances to the company, Mr. St-Hilaire
had to take out a new hypothec on his family home, have the limit on his line
of credit raised, “max out” his credit cards, borrow money from friends and
cash in his registered retirement savings plan.
[18]
The radio stations went on the air on
May 3, 2006, pursuant to Broadcasting Decision CRTC 2006-53 by which the
Canadian Radio-television and Telecommunications Commission (the CRTC) granted operating licences for both radio
stations. The CRTC licences were issued in the name of “La radio touristique de Québec inc.”, but Mr. St-Hilaire
was the responsible licensee.
[19]
On August 8, 2008, “La
Radio touristique de Québec inc.” filed a proposal in bankruptcy to its
creditors under the Bankruptcy and Insolvency Act (BIA) with the firm of
Ginsberg, Gingras & Associés Inc. This
proposal in bankruptcy provided for the payment of a lump sum of $15,000 to the
unsecured creditors without priority within thirty days of the proposal being
sanctioned by a court, in this case, the Superior Court of Québec, Commercial
Division. Mr. St-Hilaire was on the list of the company’s unsecured creditors
because of the $253,985 debt owing to him, but he had to waive any dividends as
an unsecured creditor with regard to the advances he made to the proponent company.
[20]
On August 19, 2008, the company amended its
proposal in bankruptcy to account for possible CRTC requirements regarding the
transfer of the radio stations’ operating licences. The amended proposal in
bankruptcy made no changes to the amounts to be paid to the creditors except
(a) in regard to the lump sum of $15,000 to be paid to the unsecured creditors,
which was made conditional on the creditors accepting the proposal and on
obtaining the CRTC’s authorization to transfer the operating licence or
licences of one or both radio stations; and (b) in regard to the payment date
of the $15,000 dividend, which became payable to the unsecured creditors within
15 days of the CRTC’s final authorization, without appeal, to transfer the
operating licence or licences of one or both radio stations.
[21]
On September 2, 2008, the required majority
of creditors accepted the amended proposal in bankruptcy at the creditors’
meeting, and on October 9, 2008, the Superior Court of Québec, Commercial
Division, sanctioned and ratified for all legal intents and purposes the
decisions made at the creditors’ meeting held on September 2, 2008, and
declared that the amended proposal in bankruptcy was binding on each of the
creditors of the debtor/proponent.
[22]
On August 19, 2008, when Mr. St-Hilaire filed the
company’s proposal in bankruptcy, he also filed a proposal in bankruptcy to his
personal creditors with the firm Ginsberg, Gingras & Associés . The
proposal provided for, among other things, the payment of a lump sum of $24,000,
payable in 24 equal, consecutive monthly instalments of $1,000, with the
first payment being due 30 days after the sanctioning of the proposal in
bankruptcy by the court. A meeting of the debtor’s creditors was held on
September 9, 2008, during which the proposal was accepted. The Superior
Court of Québec, Commercial Division, then sanctioned and ratified the decisions
made at the creditors’ meeting.
[23]
Mr. St-Hilaire also related the
circumstances surrounding the sale of his shares in the company to Louis
Massicotte. According to Mr. St-Hilaire, Mr. Massicotte proposed
buying the company from him and covering the radio stations’ operating expenses
until the CRTC licences were transferred. Mr. St‑Hilaire accepted
Mr. Massicotte’s offer and promised to oversee the transition until the
licences were transferred. As a result of Mr. Massicotte’s offer, both
radio stations were able to carry on their business operations after the
proposal in bankruptcy. However, the company’s name was changed to “Sortir FM inc.”, and the company’s accounts at the Royal Bank
of Canada, the National Bank of Canada and the Caisse populaire Desjardins
de Charlesbourg were all closed in the months of September and October 2008.
[24]
Mr. St-Hilaire explained that he could not
resign from the company because he was the designated licensee of both
broadcasting licences. This is why he continued to play an active role in the
business for two and a half years for minimal pay. During that period,
Mr. St-Hilaire prepared the necessary documentation for transferring the
licences, took part in public hearings and prepared responses to objections.
The licence transfer process went on for about two and a half years before the
CRTC finally accepted the transfer on certain conditions.
[25]
During the transition period, Mr. St-Hilaire
gradually disposed of his Class A shares in the company. In his personal
income tax return for the 2008 taxation year, Mr. St-Hilaire reported a
capital gain of $9,980 from the disposition on December 23, 2008, of 20
Class A shares in “La Radio Touristique de Québec
inc.” to “Placements RJS inc.”, an investment company of which Mr. Massicotte
was the sole director, for proceeds of disposition of $10,000 in. In his personal
income tax return for the 2009 taxation year, Mr. St-Hilaire reported a
capital gain of $39,920 from the disposition of 80 Class A shares in “La Radio Touristique de Québec inc.” to “Placements RJS inc”
on proceeds of disposition totalling $40,000.
[26]
In connection with the transactions entered into
by the appellant and Mr. Massicotte, on February 5, 2009, the
appellant subscribed for 400 Class B shares in the capital stock of “La Radio Touristique de Québec inc.” for the total amount of
$400, or $1.00 per share, and on that same day granted Mass-Média
Capitale inc. an option to purchase 400 Class B shares, which option could
be exercised as soon as “La Radio Touristique de Québec
inc.” received the required approvals from the CRTC. The option to purchase 400
Class B shares was granted for the total amount of
$400, or $1.00 per share, but the exercise price for the option to purchase 400
Class B shares was for a total amount of $40,000.
The option to purchase 400 Class B shares was
exercised on November 1, 2011, and Mr. St‑Hilaire resigned as
director of “Sortir FM inc.” on October 10, 2011.
[27]
In his testimony, Brian Fiset explained that if
the appellant had declared bankruptcy, he would have been entitled to claim a
BIL for his $253,985 claim, but the unsecured creditors would have been left
with nothing. Under the proposal in bankruptcy, the unsecured creditors
received $15,000. From this $15,000, the appellant would have been entitled to
receive $10,000 had he not waived the liquidating dividend resulting from his
claim. According to Mr. Fiset, the appellant’s claim was written off under
the terms of the proposal in bankruptcy and ceased to exist.
[28]
Sylvain Dostie prepared the financial statements
and tax returns for the company “La Radio Touristique
de Québec inc.” until October 31, 2008. The company wrote off the $253,985
debt owing to the appellant and paid tax on a gain on settlement of a debt when
it filed its tax returns for the fiscal year ending October 31, 2008.
According to Mr. Dostie, the value of the shares in “La Radio Touristique de Québec inc.” was nil given that the
company had negative retained earnings.
Analysis
[29]
The facts in this case are not in dispute. The
amount of the carrying costs incurred by the appellant after the date of the
proposal in bankruptcy and the amount of the advances that the appellant made
to “La Radio Touristique de Québec inc.” are not
at issue.
[30]
The sections of the Act that are relevant to determining
entitlement to a BIL are reproduced below:
Subdivision c – Taxable Capital Gains and
Allowable Capital Losses
SECTION 38: Taxable capital gain and
allowable capital loss
For the purposes of this Act,
. . .
(c) a taxpayer’s allowable business
investment loss for a taxation year from the disposition of any property is 1/2
of the taxpayer’s business investment loss for the year from the disposition of
that property.
SECTION 39: Meaning of capital gain and
capital loss
(1) For the purposes of this Act,
. . .
(c) a taxpayer’s business investment
loss for a taxation year from the disposition of any property is the amount, if
any, by which the taxpayer’s capital loss for the year from a disposition after
1977
(i) to which subsection 50(1)
applies, or
(ii) to a person with whom the
taxpayer was dealing at arm’s length
of any
property that is
(iii) a share of the capital stock of
a small business corporation, or
(iv) a debt owing to the taxpayer by
a Canadian-controlled private corporation (other than, where the taxpayer is a
corporation, a debt owing to it by a corporation with which it does not deal at
arm’s length) that is
(A) a
small business corporation,
(B) a
bankrupt (within the meaning assigned by subsection 128(3)) that was a
small business corporation at the time it last became a bankrupt, or
(C) a
corporation referred to in section 6 of the Winding-up Act that was
insolvent (within the meaning of that Act) and was a small business corporation
at the time a winding-up order under that Act was made in respect of the corporation,
SECTION 40: General rules
(2) Limitations. Notwithstanding
subsection (1):
. . .
(g) a taxpayer’s loss, if any, from
the disposition of a property, to the extent that it is
. . .
(ii) a loss from the disposition of a
debt or other right to receive an amount, unless the debt or right, as the case
may be, was acquired by the taxpayer for the purpose of gaining or producing
income from a business or property (other than exempt income) or as
consideration for the disposition of capital property to a person with whom the
taxpayer was dealing at arm’s length,
SECTION 50: Debts established to be bad
debts and shares of bankrupt corporation
50. (1) For the purposes of this
subdivision, where
(a) a debt owing to a taxpayer at the
end of a taxation year (other than a debt owing to the taxpayer in respect of
the disposition of personal-use property) is established by the taxpayer to
have become a bad debt in the year, or
(b) a share (other than a share
received by a taxpayer as consideration in respect of the disposition of
personal-use property) of the capital stock of a corporation is owned by the
taxpayer at the end of a taxation year and
(i) the corporation has during the
year become a bankrupt (within the meaning of subsection 128(3)),
(ii) the corporation is a corporation
referred to in section 6 of the Winding-up Act that is insolvent (within
the meaning of that Act) and in respect of which a winding-up order under that
Act has been made in the year, or
(iii) at the end of the year,
(A)
the corporation is insolvent,
(B)
neither the corporation nor a corporation
controlled by it carries on business,
(C)
the fair market value of the share is nil, and
(D)
it is reasonable to expect that the corporation
will be dissolved or wound up and will not commence to carry on business
and the taxpayer elects in the taxpayer’s
return of income for the year to have this subsection apply in respect of the
debt or the share, as the case may be, the taxpayer shall be deemed to have
disposed of the debt or the share, as the case may be, at the end of the year
for proceeds equal to nil and to have reacquired it immediately after the end
of the year at a cost equal to nil.
[31]
To deduct a BIL under sections 38 and 39 of
the Act, the appellant must show that he suffered a capital loss from the
disposition of property. Under section 50 of the Act, a taxpayer is deemed
to have disposed of a debt that is owing to that taxpayer at the end of the
year for proceeds equal to nil if that debt is established by the taxpayer to
have become a bad debt in the year. For section 50 to apply, the debt had
to exist at the end of the taxpayer’s taxation year, in this case, December 31,
2008.
[32]
To determine whether the company’s debt to the
appellant still existed on December 31, 2008, the Court must decide when the
company was released from its obligation to repay the advances made by the
appellant following the proposal in bankruptcy.
[33]
The BIA is silent as to when a debtor is
released from his or her obligations where a proposal in bankruptcy has been
accepted by the creditors. There are two opposing theories on this point.
[34]
In bankruptcies, the BIA is clear: the bankrupt
debtor is released once the discharge order has been made. As the bankruptcy provisions
of the BIA are to supplement, by analogy, the provisions relating to proposals
in bankruptcy, some authors argue that the time of the partial discharge of a
debt and partial release of the debtor under a BIA proposal is the time of the
trustee’s discharge order or the time the trustee issues a certificate that the
proposal has been fully performed. This theory was accepted by the Federal
Court of Appeal in Rita Congiu and 9100-7146 Québec Inc. v. The Queen,
2014 FCA 73, where the Court cited the following excerpt from the decision of
the Court of Appeal of Québec dated February 7, 2014, in Rita Congiu c.
L'Agence du Revenu du Québec, 2014 QCCA 242 :
[translation]
[42] The proposal
in bankruptcy of [Canada inc.] may have had the effect of deferring the date on
which [Canada inc.’s] debt became due, but it has not eliminated the debt. . . .
[35]
The other prevailing theory is that the date of
the debtor’s partial release and that of the partial discharge of the initial
debt under a BIA proposal is the date a court ratifies the proposal after it
has been accepted by the creditors. This theory is based on, among other
things, the remarks of Jacques Deslauriers in “La faillite et l'insolvabilité
au Québec,” Montréal: Wilson & Lafleur, 2004, at page 132, in which he
argues that the date a debt is settled under a proposal in bankruptcy is not
the date the court orders the discharge of the trustee:
[translation]
(ii) Discharge of
the debtor’s debts
The proposal can
release the debtor from his or her debts. A proposal stipulating the payment of
a certain percentage of the debts (e.g., 30%) will discharge the debtor for the
balance if the proposal is accepted (subsection 62(2) BIA). . . .
[36]
In their work entitled “Bankruptcy and
Insolvency Law of Canada,” 3rd
ed. (revised), Vol. 2,
Toronto: Carswell, at page 2-166, L.W. Houlden and G.B. Morawetz take a
view similar to that of the author Deslauriers:
When a proposal
is accepted by creditors and approved by the court, the debtor receives the
same relief as he or she would receive from a discharge from bankruptcy, i.e.,
a release of all debts and liabilities to unsecured creditors, except those
listed in s. 178 . . . .
[37]
In Réal Martel v. Her Majesty the Queen,
2010 TCC 634, Justice Boyle considered both theories and chose to adopt
the opinions of Houlden and Morawetz and of Deslauriers, relying on the decision
rendered in Anderson v. Canadian Imperial Bank of Commerce (1999), 11 C.B.R.
(4th) 157, by the Ontario Court of Justice, which has jurisdiction to apply the
BIA in that province.
[38]
Whatever the outcome of the analysis of these
two theories, the Court must also consider two other factors: the appellant’s
waiver of all liquidation dividends in respect of the advances he made to the
company, and the company’s write-off of the $253,985 debt and the recognition
of a gain on settlement of a debt in its financial statements for the taxation
year ending October 31, 2008.
[39]
As the trustee indicated in the proposal, the
waiver of the liquidation dividend stemming from the debt owing to the
appellant resulted in the debt being written off under the terms of the
proposal in bankruptcy themselves and ceasing to exist. The appellant thus disposed
of the debt owing to him for tax purposes. If not for this waiver, the
creditors would not have accepted the proposal.
[40]
The recognition of a gain on settlement of a
debt by the company is the logical consequence of the extinction or
cancellation of the debt owing to the appellant. At the end of the 2008
taxation year, the company did not owe a debt to the appellant.
[41]
As the appellant’s claim no longer existed on
December 31, 2008, section 50 of the Act cannot apply, and the
appellant is not entitled to a BIL.
[42]
Regarding the carrying costs, I am of the
opinion that the Minister was justified in disallowing the appellant’s
deduction of the amounts claimed in the 2008, 2009 and 2010 taxation years
because the company’s debt to him ceased to exist as a result of the liquidation
dividend provided for under the proposal in bankruptcy. The interest paid by
the appellant was therefore not on borrowed money used for the purpose of
earning income from a property, as required by paragraph 20(1)(c) of
the Act.
[43]
For these reasons, the appeal is dismissed.
Signed at Ottawa, Canada, this 14th day of November 2014.
“Réal Favreau”
Translation certified
true
on this 24th day
of December 2014
Michael Palles,
Translator
Email this Content