Date: 19980715
Docket: 95-3417-IT-G
BETWEEN:
eROBERGE & FILS INC.,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
Reasons for Judgment
Lamarre Proulx, J.T.C.C.
[1] The appellant is appealing a reassessment by the Minister
of National Revenue ("the Minister") for its 1989
taxation year.
[2] The issues are:
(1) whether, within the meaning of s. 12(1)(i) of
the Income Tax Act ("the Act"), the appellant
received an amount in 1989 on account of a debt in respect of
which a deduction for bad debts had been made in 1988. The
appellant maintains that the amount was received in 1990 while
the respondent contends that it was received in 1989. The
respondent relies on the fact that in 1989, as the result of a
giving in payment, the appellant acquired ownership of an
immovable given as security and that the debt was thereby
extinguished. The appellant submits that the debt was not
extinguished by the giving in payment because the giving in
payment was not yet effective. The transfer of ownership was
finalized only in the following year when the immovable in
question, which was acquired by means of a giving in payment of
uncertain validity, was sold in accordance with a plan adopted by
the appellant;
(2) and whether the aforesaid giving in payment also barred
the appellant from deducting interest on the principal debt in
1989.
[3] The facts in support of the appeal are set out in
paragraphs 4 to 12 of the Notice of Appeal:
[TRANSLATION]
4. THAT on or about December 4, 1987
Courtage Plus Abitibi Inc. ("Courtage") by notarial
contract gave a hypothecary security in the amount of $250,000 to
the APPELLANT in respect of certain purchases of building
materials supplied or to be supplied to COURTAGE by the
APPELLANT;
5. THAT on or about February 8, 1988 COURTAGE sold
to Pierre Dubuc the immovable hypothecated to the
APPELLANT;
6. THAT on or about November 22, 1988 a 60-day
notice was served by bailiff on COURTAGE and Pierre Dubuc as
a consequence of their failure to perform their obligations to
the APPELLANT under the hypothecary security;
7. THAT on or about October 2, 1989 the APPELLANT
made a proposal in writing to the other creditors of COURTAGE and
Pierre Dubuc who had security interests in the hypothecated
immovable;
8. THAT by that proposal:
(a) the APPELLANT would bring an action for giving in payment
against COURTAGE and Pierre Dubuc;
(b) the APPELLANT would sell the immovable to a company to be
incorporated with as its shareholders certain creditors of
COURTAGE and Pierre Dubuc;
(c) the purchase price would be financed by means of a
hypothecary loan of $656,000 from a financial institution and of
shares to be issued in the new corporation;
(d) $330,050 in debts owed to the creditors would accordingly
be paid and 315,000 shares in the new corporation would be issued
to eight creditors including the APPELLANT, who was to receive
$205,000 and 58,475 shares; and
(e) each of the creditors would stand surety for the
hypothecary loan for up to the amount corresponding to the shares
they held in the new corporation;
9. THAT on or about November 22, 1989 COURTAGE and
Pierre Dubuc conveyed the immovable to the APPELLANT under
the giving in payment;
10. THAT according to a deed of sale dated
March 27, 1990 the new corporation was named 2745-8017
Québec Inc. and had been incorporated on January 4,
1990;
11. THAT on March 27, 1990 the APPELLANT sold the
immovable to 2745-8017 Québec Inc. for an amount
equal to its adjusted cost base, or $263,475, payable by means of
$205,000 in cash and $58,475 in the form of 58,475 shares in the
purchaser's capital stock;
12. THAT by the contract of March 27, 1990
2745-8017 Québec Inc. would pay certain debts to 18
other creditors in the following manner:
(a) cash payments to 16 creditors: $198,430
(b) issuing of shares to 7 creditors: $256,525
The total cost of the immovable thus came to $718,430 . . .
.
[4] Of the facts on which the Minister relied in arriving at
his reassessment, I will reproduce only those set out in
paragraphs 6 and 7 of the Reply to the Notice of Appeal
("the Reply"). The facts set out elsewhere in the Reply
are not really different from those presented by the
appellant.
[TRANSLATION]
6. for its 1988 taxation year the appellant claimed as a
deduction for bad debts certain amounts owed by Logements
RPG 2 Inc., Maison Gobeil Inc., Dion Philippe Géo Lab
Ltée and Pierre Dubuc totalling $188,517.80;
7. for its 1989 taxation year it also claimed as a deduction
for bad debts an amount of $42,634.57 owed to it by the same five
debtors although these debts were not even doubtful and had been
extinguished by the exercise of the giving in payment
clause . . . .
[5] The assessment referred to the recovery of a bad debt of
$131,106 claimed as a deduction in 1988. This therefore is the
amount at issue, not the amount of $188,517.80 mentioned in
paragraph 6 of the Reply.
[6] Jean-Guy Roberge has been the appellant's
president since 1964. In 1987 one Pierre Dubuc was a debtor
of the appellant. Pierre Dubuc was the principal shareholder
in several businesses which on various accounts had purchased
building materials from the appellant. These businesses and
Pierre Dubuc himself owed the appellant a large sum of
money. In order to protect the appellant's debt
Mr. Roberge obtained from Courtage Plus Abitibi Inc.
("Courtage Plus"), in which Mr. Dubuc was the sole
shareholder, a hypothecary security of $250,000 on an immovable
owned by Courtage Plus.
[7] This hypothecary security was dated December 4, 1987
and registered on December 9, 1987. The debtor undertook to
repay the sum loaned on request and the agreement contained a
giving in payment clause. The document was filed as
Exhibit A-1.
[8] The hypothecary security contained inter alia the
following clauses at pp. 1-2:
[TRANSLATION]
The debtor acknowledges that it owes the creditor the sum of
$250,000 on a loan in that amount made to it by the creditor, of
which the debtor acknowledges receipt to its complete
satisfaction and gives release therefor.
. . .
The parties herein appearing do depose and agree that this
hypothecary security is given only to secure accounts payable for
the purchase of materials, total existing and future accounts, up
to the amount of the said hypothecary security, which the parties
declare that they are fully acquainted with and accept as
such.
[9] According to Mr. Roberge and Mr. Doré
(Jean-Claude Doré is a chartered accountant who
has been the appellant's auditor since 1976), these
allegations raised concerns for counsel for the appellant, who
wondered whether the security could be valid for debts other than
those of Courtage Plus and whether this corporation's
other creditors might not object to it.
[10] In an effort to resolve this problem a document was
signed by Courtage Plus and Pierre Dubuc in
September 1988 acknowledging that the security had been
given to secure the debts of five other corporations and his own
personal debts. It was filed as Exhibit I-1. Dated
August 20, 1988, the document acknowledged that the total
amount owed by Pierre Dubuc and his businesses came to
$229,549.52. It was agreed between the parties by the same
document that the 60-day notice would not be registered before
October 21, 1988.
[11] The 60-day notice was signed on November 14, 1988
and registered on the 16th of that month. At that point,
according to clause 10 of the notice, the debtor's debt
was $242,994.63. This document was filed as
Exhibit A-2.
[12] Mr. Roberge and Mr. Doré explained that
around that time Mr. Dubuc had drawn up and proposed a plan
to retain part ownership of the immovable given as security. The
plan provided that the creditors would become owners of the
building by agreeing to exchange part of their debt for shares in
a corporation that would hold the immovable. This corporation
would obtain a hypothecary loan which would enable it to repay
the other part of the debt.
[13] Mr. Roberge did not believe that this proposal could
be carried through to completion by Mr. Dubuc. He
accordingly took over the proposal himself and undertook to
negotiate with the lending institution and the creditors either
personally or through his accountant Mr. Doré.
[14] On June 22, 1989 La Financière submitted a
financing offer. This document was filed as
Exhibit A-3. The amount of the loan would be $656,500.
The security would be a first hypothec on the building, the
personal but not joint and several guarantees of all the
shareholders for the amounts stated in the document and a
withdrawal of $100,000 to cover the monthly payments. Before the
lending institution made any disbursements, the privileges and
hypothecs would have to be cancelled and the shareholders would
have to submit their financial statements. There was also a list
of other conditions, such as a firm quotation by a bidder for
repairs and an option to withdraw the financing offer if the
financial statements were not to the satisfaction of the lending
institution.
[15] Exhibit A-4 is the agreement negotiated
between the creditors registered for the immovable in question
and the appellant. The agreement was dated October 2, 1989
and the latest date for acceptance was October 19, 1989.
This agreement, the purpose of which was to avoid a judicial
sale, involved several stages. The appellant would use the giving
in payment clause to become owner of the immovable. The immovable
would then be conveyed to a new company which would borrow
$656,500. The new company would pay the appellant and seven
creditors, either in cash or in shares. The appellant, for its
part, would receive $205,000 in cash and $58,475 in shares. An
amount of $109,100 would be set aside for repair work, $6,500 for
loan charges and $30,000 for professional fees. In addition,
$100,000 would be deposited in a trust account to secure payments
on the hypothec.
[16] Exhibit A-5 is the document by which the
giving in payment clause was exercised. It was dated
November 22, 1989 and registered the same day. The appellant
became the owner as of December 4, 1987. Certain passages
from the document must be reproduced here:
[TRANSLATION]
4. The creditor has caused the 60-day notice to be registered
against the said immovable . . . .
. . .
6. As it does not wish to incur court costs or other costs,
the debtor hereby acknowledges that the giving in payment clause
is now effective . . . .
THESE FACTS HAVING BEEN STATED, the creditor declares that it
is exercising the option of becoming owner of the immovable . . .
.
. . .
This giving in payment is made in consideration for the full
and final release by the creditor of the debtor for all sums owed
to it in principal, interest, costs and incidentals, under the
following deeds:
. . .
AMOUNT OF CONSIDERATION: $250,000
[17] Exhibit A-6 is the bid for repair work. It is
not dated but its date of acceptance does appear on it. It was
accepted on February 7, 1990 by 2745-8017
Québec Inc., a company incorporated on January 4,
1990 as attested to by Exhibit A-11.
[18] Exhibit A-7 is an extract from the land
register applicable to the immovable in question. It can be seen
that as of December 9, 1987, the date the hypothecary
security was registered, several privileges for substantial
amounts were registered against the immovable.
[19] Exhibit A-8 is a motion dated
December 18, 1989, probably made ex parte, to
cancel the January 18, 1989 registration against the
immovable of a judgment. That judgment directed Pierre Dubuc
to pay Mines Assay Supplies the sum of $19,989.77.
Exhibit A-9 is a certificate attesting that the
judgment to cancel rendered on February 19, 1990 would not
be appealed. The certificate is dated March 21, 1990.
[20] Exhibit A-10, dated March 27, 1990, is
the contract of sale of the immovable by the appellant to
2745-8017 Québec Inc. The sale price was
$263,475, of which $205,000 was payable out of a loan yet to be
obtained and $58,475 was payable in shares in the purchaser.
Additionally, the purchaser assumed responsibility for and paid
certain registered creditors, partly in cash and partly in
shares. Other creditors were paid only in cash.
[21] Exhibit A-11 is the deed of hypothec dated
March 27, 1990 between La Financière
Prêts-Épargne Inc. and 2745-8017
Québec Inc. The amount of the loan was $656,500. The
witnesses pointed out that the deed clearly stipulated that
the amount of each advance and the date on which it would be
made were left to the lender's discretion. The personal
guarantees of the purchasers in the amounts they had already
committed themselves to pay were attached to this deed. The
lending company's initial disbursements began in
May 1990 and ended in August 1990, as can be seen from
Exhibit A-12.
[22] Exhibit A-13 is a deed of sale of the
immovable in question by the lending institution, dated
January 15, 1994. The price is $65,000. The lending
institution had become the owner as the result of a giving in
payment judgment dated June 8, 1993.
[23] Exhibit A-15 is a letter of explanation sent
to the Minister's auditors by the appellant's accountant.
In it he indicated that there was an appraisal report which had
been prepared at the time of the proposed agreement between the
creditors (Exhibit A-4). The value was $900,000 if the
building was completed and had a 100 percent occupancy rate.
However, the building had not been completed at the time and was
not rented. On the 1989 deduction for the bad debt, this is what
the accountant said:
[TRANSLATION]
Recovery of bad debt
Roberge & Fils Inc. entered a bad debt of $188,517.80 in
its books in 1988.
No recovery was entered in the books in 1989 following the
giving in payment. Instead it was registered in 1990 when the
amount was actually received.
The giving in payment was only one stage in the process of
eventually obtaining the money owed, and the building had no
value per se as it had not been completed and rented.
Roberge & Fils acted only as a "vehicle" for the
eventual transfer to 2745-8017 Québec Inc.
What is more, the hypothec held by Roberge & Fils Inc.
could have been challenged, as therefore could the giving in
payment.
That is why the recovery was entered in 1990 at the time the
file was closed and the money actually received.
[24] Mr. Roberge stated that recovery of the immovable
was not the objective: a judicial sale of it would have brought
in nothing, as its value was questionable. A number of privileges
involving substantial amounts had been registered and in the
opinion of the appellant's counsel its very title to the
immovable was not very clear. Only the performance of the
agreement and obtaining of the hypothecary loan had any
meaning.
[25] As to the additional amount deducted as a bad debt in
1989, Mr. Doré, the appellant's accountant,
explained that this was interest on the principal debt and that
since the principal debt had been deducted as a bad debt in 1988
it was, in his opinion, logical to deduct interest and incidental
costs amounting to $42,635 in 1989.
Arguments and conclusions
[26] Counsel for the appellant submitted that the validity of
the hypothecary security was uncertain, because it could have
been challenged by the other privileged or hypothecary creditors.
Because of this uncertainty assuming ownership of the immovable
was an integral part of a plan to resell it to a corporation in
which the appellant and the debtor's other creditors would be
shareholders. The plan also involved financing from a financial
institution. It was a complex plan and was not finalized until
1990.
[27] Counsel for the appellant therefore submitted that in
1989 the appellant did not have beneficial ownership of
the immovable within the meaning of s. 79 of the Act.
Section 248(3) of the Act defines what the term
beneficial ownership must be understood to mean in the
Quebec context. He argued that the appellant had not acquired
full ownership of the immovable in question because it
could not dispose of the immovable as it saw fit, in view
of the uncertainty of title which had compelled it to reach
agreement with the debtor's other real creditors. In this
connection he referred to the decision of Judge Tremblay of this
Court in Larose v. M.N.R., 92 DTC 2055, in particular
at p. 2064.
[28] He also noted that the immovable did not have the value
of the debt of approximately $250,000, and that it would have no
value unless it was purchased by the company that was to be
incorporated, in which the creditors were to be shareholders.
[29] Counsel for the respondent maintained that s. 79 of
the Act applied in 1989 since the appellant, which was a
hypothecary creditor, had acquired beneficial ownership of the
immovable in that year by means of the giving in payment. He also
referred to s. 248(3) of the Act, which states that the
meaning of "beneficial ownership" in the Quebec context
is "full ownership".
[30] As to the debt of $131,106 which was claimed as a bad
debt in 1988, counsel for the respondent argued that it had been
paid in full by means of the giving in payment of the immovable.
Accordingly, under s. 12(1)(i) of the Act the amount
should be included in the year of receipt, namely 1989, the year
in which the debt was paid by the debtor by transferring its
ownership of the immovable in lieu of the debt. Nor are the
interest and charges in the amount of $42,634.57 resulting from
the principal debt deductible since they were paid by the debtor
when it gave its immovable in payment.
[31] Sections 79 and 248(3) of the Act read as
follows:
[TRANSLATION]
79. Mortgage foreclosures and conditional sales
repossessions.
Where, at any time in a taxation year, a taxpayer who
(a) was a mortgagee or other creditor of another person
who had previously acquired property, or
(b) had previously sold property to another person
under a conditional sales agreement,
has acquired or reacquired the beneficial ownership of the
property in consequence of the other person's failure to pay
all or any part of an amount (in this section referred to as the
"taxpayer's claim") owing by that person to the
taxpayer, the following rules apply:
(c) there shall be included, in computing the other
person's proceeds of disposition of the property, the
principal amount of the taxpayer's claim plus all amounts
each of which is the principal amount of any debt that had been
owing by the other person, to the extent that it has been
extinguished by virtue of the acquisition or reacquisition, as
the case may be,
(d) any amount paid by the other person after the
acquisition or reacquisition, as the case may be, as, on account
of or in satisfaction of the taxpayer's claim shall be deemed
to be a loss of that person, for that person's taxation year
in which payment of that amount was made, from the disposition of
the property,
(e) in computing the income of the taxpayer for the
year,
(i) the amount, if any, claimed by the taxpayer under
subparagraph 40(1)(a)(iii) in computing the
taxpayer's gain for the immediately preceding taxation year
from the disposition of the property, and
(ii) the amount, if any, deducted under
paragraph 20(1)(n) in computing the income of the
taxpayer for the immediately preceding year in respect of the
property,
shall be deemed to be nil,
(f) the taxpayer shall be deemed to have acquired or
reacquired, as the case may be, the property at the amount, if
any, by which the cost at that time of the taxpayer's claim
exceeds the amount described in subparagraph (e)(i)
or (ii), as the case may be, in respect of the property;
(g) the adjusted cost base to the taxpayer of the
taxpayer's claim shall be deemed to be nil, and
(h) in computing the taxpayer's income for the year
or a subsequent year, no amount is deductible in respect of the
taxpayer's claim by virtue of paragraph 20(1)(l)
or (p).
248(3) References to property beneficially owned and to
beneficial owner of property.
In its application in relation to the Province of Quebec, a
reference in this Act to any property that is or was beneficially
owned by any person shall be read as including a reference to
property in relation to which any person has or had the full
ownership whether or not the property is or was subject to a
servitude, or has or had a right as a usufructuary, a lessee in
an emphyteutic lease, an institute in a substitution or a
beneficiary in a trust, and a reference in this Act to the
beneficial owner of any property shall be read as including a
reference to a person who has or had, accordingly as the context
requires, such ownership as a right in relation to that
property.
[32] Section 12(1)(i) of the Act reads as
follows:
12. Income inclusions.
(1) There shall be included in computing the income of a
taxpayer for a taxation year as income from a business or
property such of the following amounts as are applicable:
. . .
(i) Bad debts recovered — any amount,
other than an amount referred to in paragraph (i.1),
received in the year on account of a debt or a loan or lending
asset in respect of which a deduction for bad debts or
uncollectable loans or lending assets was made in computing the
taxpayer's income for a preceding taxation
year . . . .
[33] In my view, the appellant's proposition that its
ownership did not become beneficial in 1989 is not supported by
either the facts or the law. The meaning in taxation law of the
term "beneficial ownership" is not narrower than that
of "ownership" as understood in the civil law of
Quebec. There is no other way to interpret s. 248(3) of the
Act. The fact that someone undertakes to dispose of property even
before acquiring it does not mean that the person does not become
the owner thereof at the time of acquisition. How could the
person dispose of the property without having acquired it?
[34] The instant case concerns the application of
ss. 12(1)(i) and 79 of the Act in the year in
question. The deed of giving in payment was valid in 1989. No
court had ruled it to be invalid and no action in nullity had
been brought (if such an action could have affected its
application, which is a point on which I do not have to rule). I
refer to Volume 11 of the Traité du Droit Civil du
Québec, L. Faribault, at p. 520, regarding
the nature and effect of giving in payment:
[TRANSLATION]
Giving in payment has much in common with a sale, when
something is given in lieu of a sum of money. In this case two
legal operations are merged into one. Once the giving in
payment has been accepted by the creditor the parties are in the
same position as if the debtor had paid his debt with money and
the creditor at once used the money to purchase for cash the
thing offered by his or her former debtor.
However, Pothier observes that there is a difference between
an agreement to sell something to a creditor for a price which
will offset what is owed and an agreement to give something to
the creditor in payment of what is owed. In a sale the
extinction of the debt of the former creditor is only
incidental, while in a giving in payment it is the
primary result sought by the debtor. The comparison between
the two contracts results from the wording of our
article 1592.
(Emphasis added.)
[35] The deed of giving in payment mentioned in
paragraph 15 of these reasons says nothing to the contrary.
The debtor's debt is extinguished. By means of the giving in
payment the appellant received payment of the debtor's debt,
in principal and interest. Under s. 12(1)(i) of the
Act, therefore, it must include in its income the payment of the
debt deducted as a bad debt in 1988 and is also barred from
claiming $42,000 in interest on the debt.
[36] The Act lays down special rules for mortgage
foreclosures. The process set out by Parliament must be followed.
Section 79(f) of the Act provides that the taxpayer
is deemed to have acquired the property at the cost of the claim
on that date. Section 79(e) does not apply here,
since what is at issue is not be repossession of property
formerly owned by the appellant. Nor does
section 79(h) apply since the original debt was
extinguished by the giving in payment.
[37] It is quite possible that but for execution of the plan
proposed by the appellant to the other creditors the appellant
would not have been in a favourable position and could not have
resold the immovable at a good price. The loss would then have
been calculated by applying s. 79 and the other relevant
provisions of the Act. The acquisition of an immovable is a legal
act distinct from that of its sale and has different legal
effects both in civil law and in tax law. The fact that there is
a close relationship between the two acts alters neither their
nature nor their effects. The giving in payment took place in
1989 and that is the taxation year in which its effects, namely
the payment of the debt and the acquisition of ownership, must be
taken into account.
[38] The appeal is accordingly dismissed with costs.
Signed at Ottawa, Canada, July 15, 1998.
"Louise Lamarre Proulx"
J.T.C.C.
[OFFICIAL ENGLISH TRANSLATION]
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