[OFFICIAL ENGLISH TRANSLATION]
Date: 20020319
Docket: 2000-1343(IT)I
2000-4598(IT)I
BETWEEN:
PAUL ROY,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
REASONS FOR JUDGMENT
Tardif, J.T.C.C.
[1] These are two appeals regarding
the 1994, 1996 and 1999 taxation years. The appeal for the 1994
taxation year should be disposed of first. It cannot be allowed
since the notice of appeal respecting that taxation year must be
cancelled.
[2] At the time of the objection, the
appellant filed an application for extension of time and failed
to specify the years his application involved. The time for
filing such an application for the 1994 taxation year had in fact
expired.
[3] The application for extension of
time also involved the 1996 taxation year; since the respondent
did not object that the application be allowed for 1996, an order
was made granting the extension of time sought to file the
notices of appeal.
[4] The said order must be corrected
since it could not be granted for the 1994 taxation year, the
strict time limit prescribed by the Income Tax Act (the
"Act") for filing such an application having
expired.
[5] This Court therefore did not have
jurisdiction to exceed the time limits, as a result of which the
order must be corrected since no appeal could lawfully be
instituted. Consequently, the notice of appeal for the 1994
taxation year shall simply be cancelled.
[6] In support of the reassessments,
the Minister of National Revenue (the "Minister") made
the following assumptions of fact:
Docket 2000-1343(IT)I:
[TRANSLATION]
(a) the income tax
return for the 1994 taxation year was assessed on May 23,
1995;
(b) the appellant
did not serve on the Minister a valid notice of objection
respecting the initial assessment of May 23, 1995, within
the time limit prescribed by the Act;
(c) the appellant is
the director and sole shareholder of "Construction Paul Roy
Inc." (hereinafter, "the corporation");
(d) according to the
financial statements, the corporation's work in progress at
December 31, 1996, amounted to $165,000 and total assets
were $311,463;
(e) according to the
financial statements, the corporation's fixed assets at
December 31, 1996, had a net value of:
Land
$45,000
Condominium
$72,000
Tools and
equipment
$94
Office
furniture
$1,125
Rolling
stock
$3,912
Total
$122,131
(f) according
to the financial statements, the "Advance or Owed to
Shareholder" account read as follows:
at December 31,
1993
$0
at December 31,
1994
$57,346
at December 31,
1995
$73,221
at December 31,
1996
$70,530
(g) at
December 31, 1996, the corporation's balance sheet read
as follows:
Short-term
assets
$167,730
Accounts
receivable
$ 21,602
Fixed
assets
$122,131
Total
assets
$311,463
Short-term
liabilities
$203,345
(including amount owed to director)
Long-term
debt
$230,959
Total
liabilities
$434,304
Capital
stock
$126,700
Retained earnings
(loss)
($249,541)
Loss
($122,841)
$311,463
(h) the funds
advanced by the appellant helped the corporation complete the
work in progress and pay certain debts;
(i) according
to the financial statements from the previous years, the work in
progress shows that the company has undertaken no new
construction since 1993;
(j) the loans
by the appellant were made from the time the business had taken
steps to stop its operations and liquidate its assets;
(k) on
August 20, 1998, the appellant's agent said that all the
assets of the business were given as security to cover the
corporation's debts and that no further financing was
possible;
(l) since
1997, the business has abandoned its contractor's
licence.
Docket 2000-4598(IT)I:
[TRANSLATION]
(a) the appellant is
the director and sole shareholder of "Construction Paul Roy
Inc." (hereinafter, "the corporation");
(b) the
corporation's fiscal year ends on December 31;
(c) the corporation
did not file an income tax return for the 1999 taxation year, as
a result of which the financial statements for the year in issue
could not be audited;
(d) however, the
appellant told the appeals officer that the corporation still had
assets and was attempting to sell the properties that were
included in its work in progress;
(e) according to the
financial statements, the "Advance or Owed to
Shareholder" account read as follows:
at December 31,
1993
$0
at December 31,
1994
$57,346
at December 31,
1995
$73,221
at December 31,
1996
$70,530
at December 31,
1997
$86,244
at December 31,
1998
$101,455
(f) the funds
advanced by the appellant since 1993 have helped the corporation
complete the work in progress and pay certain debts;
(g) according to the
financial statements from the previous years, the corporation has
undertaken no new construction since 1993;
(h) the loans by the
appellant were made from the time the business had taken steps to
stop its operations and liquidate its assets;
(i) on
August 20, 1998, the appellant's agent said that all the
assets of the business were given as security to cover the
corporation's debts and that no further financing was
possible;
(j) since
1997, the business has abandoned its contractor's
licence;
(k) the appellant
did not dispose of his shares in a small business corporation
during the year in issue;
(l) the
appellant did not dispose of a debt owed to him by a small
business corporation;
(m) the appellant did not
establish for the year in issue that the said debt was a bad debt
under subsection 50(1) of the Income Tax Act
(hereinafter, the "Act") and did not make that
election in his previous income tax returns.
[7] The parties agreed to proceed on
common evidence. Mr. Roy testified at length and explained
how his career had developed.
[8] He had managed to build a large,
dynamic and flourishing business. After reaching an impressive
peak, which he was very proud of, he had to deal with a number of
disastrous economic events for which he was in no way
responsible, namely, that the company lost substantial debts in
addition to experiencing a significant economic slowdown.
[9] Proud and courageous, he neglected
nothing and made every effort to keep the business running in the
hope that the real estate market would pick up again. Instead of
giving up, as many individuals would have done in similar
circumstances, he got involved and injected personal funds,
including his savings accumulated over the years in a registered
retirement savings plan ("RRSP") to avoid bankruptcy
and try to put the business back on the road to profitablity.
[10] After trying everything, he had to make
the fatal and final observation that he had failed. Thus, for
1996, he claimed a business investment loss of $70,530
corresponding to advances and loans made to the corporation.
[11] The respondent refused to allow him the
losses claimed on the ground that the amounts advanced by the
appellant had not been lent for the purpose of gaining or
producing income, but rather to enable the corporation to
continue to liquidate its inventories and fixed assets.
[12] For the 1999 taxation year, the
appellant claimed another business investment loss of $95,025
corresponding to the amount of the corporation's capital
stock established at $126,700.
[13] Here again, the Minister disallowed the
deduction claimed, contending that the appellant did not
establish that the loans made to the corporation had become bad
debts in the year since the corporation still had assets and was
not bankrupt, dissolved or insolvent.
[14] The respondent contends that the
appellant is not deemed to have disposed of the debt that the
corporation owed him or of the shares of that corporation. The
appellant taxpayer not having made the election in his tax return
for the taxation year in issue or in his tax returns for the
previous years, in the Minister's view, subsection 50(1)
of the Act does not apply to the debt or to the shares of
that corporation.
[15] Lastly, the respondent claims that the
amounts advanced by the taxpayer since 1993 had not been lent for
the purpose of gaining or producing income but rather to enable
the corporation to continue liquidating its inventory and fixed
assets, in accordance with subparagraph 40(2)(g)(ii)
of the Act.
[16] Paragraph 38(c) of the
Act provides that three-quarters of a business investment
loss incurred by a taxpayer for a year constitutes the allowable
business investment loss. A business investment loss is defined
in paragraph 39(1)(c) as a capital loss incurred
from a disposition of shares or debts of a small business
corporation after 1977.
[17] The term "small business
corporation" is defined in subsection 248(1) of the
Act. The taxpayer must dispose of the shares or debts to
persons with whom he is dealing at arm's length, unless there
is a deemed disposition for the purposes of
subsection 50(1). There is a deemed disposition of a debt
where the debt becomes a bad debt. There is a deemed disposition
of a share where the corporation that issued the share
(1) becomes a bankrupt; (2) becomes insolvent within
the meaning of the Winding-up Act and in respect of
which a winding-up order under that Act has been made in
the year or; (3) is insolvent at the end of the year and
neither the corporation nor a corporation controlled by it
carries on business. Furthermore, the corporation had shares of
no market value and was reasonably expected to be dissolved or
wound up. Moreover, according to the last paragraph of
paragraph 50(1)(b), the taxpayer must indicate his
intention of availing himself of the treatment provided for in
that section in his tax return.
[18] Furthermore, subparagraph
40(2)(g)(ii) prohibits a taxpayer from deducting a capital
loss from the disposition of a debt or other right to receive an
amount, unless the debt or right was acquired for the purpose of
gaining or producing income.
[19] In order to claim the losses in issue,
the appellant must therefore meet the conditions set out in
subsection 50(1).
[20] The relevant provisions of the
Act read as follows:
38(1) 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 3/4 of the taxpayer's business investment loss
for the year from the disposition of that property.
39(1) For the purposes of this Act,
. . .
(b) a taxpayer's capital loss for a taxation
year from the disposition of any property is the taxpayer's
loss for the year determined under this subdivision (to the
extent of the amount thereof that would not, if section 3
were read in the manner described in paragraph (a) of
this subsection and without reference to the expression "or
the taxpayer's allowable business investment loss for the
year" in paragraph 3(d), be deductible in
computing the taxpayer's income for the year or any other
taxation year) from the disposition of any property of the
taxpayer other than
(i)
depreciable property, or
(ii) property
described in any of subparagraphs (a)(i), (ii) to
(iii) and (v);
(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,
exceeds the total of . . .
40(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 . . . or as
consideration for the disposition of capital property to a person
with whom the taxpayer was dealing at arm's length,
. . .
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.
[My emphasis.]
[21] For the 1996 taxation year, the
appellant claimed a business investment loss of $70,530 in
respect of advances and loans that he made to the
corporation.
[22] Under paragraph 50(1)(a),
the debts must be established by the taxpayer to have become bad
debts in the year for the appellant to be deemed to have disposed
of them.
[23] The question of the moment at which a
debt becomes a bad debt is a question of fact to be decided on
the circumstances of each case. In Granby Construction &
Equipment v. M.N.R., 89 DTC 456 (T.C.C.),
hereinafter Granby, Judge Lamarre Proulx analyzed the
case law on the method that should be used to determine whether a
debt is a bad debt under subsection 50(1). According to that
decision, a taxpayer must seriously and carefully examine the
position and financial position of his business and honestly and
reasonably determine that a debt is uncollectible at the end of
the fiscal year, in a pragmatic and business-like manner.[1]
[24] To determine whether a debt must be
considered uncollectible, the onus is on the taxpayer to do his
own analysis in his capacity as a prudent businessman. In
Granby, Judge Lamarre Proulx approved of the approach
followed in Hogan v. M.N.R.:[2]
For the purposes of the Income Tax Act, therefore, a
bad debt may be designated as the whole or a portion of a debt
which the creditor, after having personally considered the
relevant factors mentioned above in so far as they are applicable
to each particular debt, honestly and reasonably
determines to be uncollectable at the end of the fiscal year when
the determination is required to be made, notwithstanding that
subsequent events may transpire under which the debt, or any
portion of it, may in fact be collected. The person making the
determination should be the creditor himself (or his or its
employee), who is personally thoroughly conversant with the facts
and circumstances surrounding not only each particular debt but
also, where possible, each individual debtor . . .
[My emphasis.]
[25] The appellant claims that he did not
establish that the loans made to the corporation became bad debts
in the year because the corporation still had assets and was not
bankrupt, dissolved or insolvent within the meaning of the
Winding-up Act.
[26] The evidence showed that, based on the
corporation's financial statements for 1996 and the economic
recession in 1996-1997, the taxpayer had correctly
considered that the advances of $70,530 made to the corporation
had become uncollectible at the end of 1996.
[27] The respondent argued that, for 1996,
the corporation had reported assets of $311,463, which could have
been used to repay the advances in question. This interpretation
disregards the corporation's liabilities, which exceeded its
assets by $122,841. Furthermore, the short-term assets were
$35,615 less than the short-term liabilities. In addition,
40 percent of the corporation's assets were in the form
of fixed assets that were very difficult to realize. I therefore
conclude that the appellant met the tests provided for in
paragraph 50(1)(a) of the Act.
[28] To be able to deduct his business
investment loss, the appellant must have acquired the debts in
issue for the purpose of gaining or producing income from a
business or property, in accordance with subparagraph
40(2)(g)(ii) of the Act. On this point, the
respondent submits that the amounts advanced by the taxpayer were
not lent to the corporation for the purpose of gaining or
producing income but rather to enable the corporation to continue
liquidating its inventory and fixed assets.
[29] McDonald J.A. of the Federal Court
of Appeal addresses this aspect very judiciously in
Byram v. Canada, 99 DTC 5117, at
page 5120, more particularly in the following passages:
The language of section 40 is clear. The issue is not the
use of the debt, but rather the purpose for which it was
acquired. While subparagraph 40(2)(g)(ii) requires a
linkage between the taxpayer (i.e. the lender) and the income,
there is no need for the income to flow directly to the taxpayer
from the loan.
. . .
The ultimate purpose of . . . a significant shareholder
providing a loan to a corporation is, without question, to
facilitate the performance of that corporation thereby increasing
the potential dividends issued by the company.
. . .
There is a growing body of jurisprudence that considers
current corporate reality as being sufficient to demonstrate that
the expectation of dividend income justifies a capital loss
deduction under subparagraph 40(2)(g)(ii).
[30] I do not accept the respondent's
interpretation that the amounts advanced by the taxpayer since
1993 had not been lent for the purpose of gaining or producing
income but, rather, to enable the corporation to continue
liquidating its inventory and fixed assets.
[31] In 1994, the corporation had income of
$85,619.94 from the construction and sale of a house in Beauport.
For the period from 1995 to 1997, the corporation was involved in
a Corvée Habitation renovation program.
[32] The corporation also made income from
finishing shell houses. In 1997, the taxpayer had no
contractor's licence, but the corporation continued to do
minor work until 1998. The amounts that the appellant advanced to
the corporation were lent for the purpose of gaining or producing
income.
[33] It was acknowledged that the
corporation was a small business corporation in 1996; the
appellant was thus entitled to deduct a business investment loss
of $70,530 for advances and loans, which he made to the
corporation.
[34] For the 1999 taxation year, the
appellant claimed a business investment loss of $95,025 on the
amount of the corporation's capital stock of $126,700.
[35] Under subparagraphs
39(1)(c)(i) and 50(1)(b)(iii), there is a deemed
disposition of the shares of the corporation when the corporation
is insolvent at the end of the year and is no longer carrying on
business. In addition, the corporation must have shares of no
market value and must reasonably be expected to be dissolved or
wound up.
[36] In the instant case, the evidence
revealed that the corporation was insolvent in 1999 and that it
was not carrying on business, its contractor's licence having
been revoked since 1997. The taxpayer himself had completed the
work in progress. Consequently, the evidence shows that the
corporation's shares no longer had any market value.
[37] The respondent contends that a taxpayer
may not claim a business investment loss on capital stock
invested in a small business until the company is dissolved. I do
not share or subscribe to this interpretation of the Act.
For there to be a deemed disposition under
subparagraph 50(1)(b)(iii), what is sufficient is
that the expectation that the corporation will be dissolved or
wound up be reasonable and that the chance that it commences or
resumes to carry on business be nil.
[38] That point was considered by
Judge Archambault of this Court in
Jacques St-Onge Inc. v. Canada,
2003 DTC 153 [2001 DTC 487 Fr.]. Judge Archambault
wrote as follows:
. . . clause 50(1)(b)(iii)(D) does not set any time limit for
the corporation to be dissolved or wound up. To satisfy the
condition that the expectation of dissolution or winding-up be
reasonable, it is therefore not necessary that Salvage could have
been wound up or dissolved on April 30, 1994. It is enough for it
to have been reasonable to expect that Salvage would be dissolved
or wound up at some point.
[39] In determining whether it is reasonable
to expect the corporation to be dissolved or wound up,
Judge Archambault, relying on the decision by Judge Rip
of this Court in Bailey v. Canada,
89 DTC 416 (T.C.C.), adopted an objective test in
Jacques St-Onge Inc., supra,
p. 494:
[TRANSLATION]
Although that case did not concern section 50 of the
Act or an analogous provision, Judge Rip did have to
determine how to interpret the word 'reasonable' in the
context of paragraph 152(5)(c) of the Act. The
interpretation he adopted was as follows:
What is 'reasonable' is not the subjective view of
either the respondent or appellant but the view of an objective
observer with a knowledge of all the pertinent facts: Canadian
Propane Gas & Oil Limited v. M.N.R.,
73 DTC 5019 per Cattanach J. at 5028.
I consider the approach described by Judge Rip to be
entirely appropriate for the purposes of section 50 of the
Act. In view of all the relevant facts, including certain
legal and tax considerations, was it reasonable to expect on
April 30, 1994, that Salvage would be dissolved or wound up and
would not recommence business?
[40] Relying on these decisions, I find it
was reasonable to expect that the corporation would be dissolved
as of 1998-1999. The dissolution did not occur because of a
dispute between the Quebec Minister of Revenue and a
subcontractor of the corporation concerning one of its accounts
receivable.
[41] I therefore conclude that the
corporation met the tests of subparagraph
50(1)(b)(iii) of the Act. However, the respondent
contends in her Reply to the Notice of Appeal for the 1999
taxation year that the appellant is not deemed to have disposed
of the corporation's shares since he did not elect in his tax
return for the taxation year in issue or in his returns for the
previous years to have subsection 50(1) of the Act
apply to the corporation's shares.
[42] Counsel for the respondent appears to
have abandoned this argument at the hearing. The argument
moreover does not appear among the facts on which the Minister
relied in making his assessment, and thus the appellant did not
have to bring any evidence on this point. In any case, it
is unlikely that the last clause of subsection 50(1) be so
interpreted as to disallow the deductions claimed by the
appellant in light of the following passage from the decision in
Anderson v. Canada, 92 DTC 2296; [1992]
T.C.J. No. 556 (Q.L.):
An election, pursuant to the 1988 amendment, to have the
subsection apply retroactively must be in writing and given after
the 1988 amendment came into force. The letter from the
Appellant's accountant to Revenue Canada dated
November 22, 1990 meets this requirement. This letter does
not indicate the specific subsection or amendment under which he
claims the allowable business investment losses. But the letter
indicates that the Appellant wants the Minister to recognize that
allowable business investment losses were incurred and he wants
these losses to be applied against his 1986 and 1987 income. The
essence of the communication was that the Appellant wants to be
allowed to claim allowable business investment losses in respect
of his shares in B & D. That is sufficient to
communicate the taxpayer's election.
[43] For these reasons, the appeal is
allowed, and the appellant will be reassessed on the basis that
he was entitled to claim deductible business investment losses of
$70,530 for the 1996 taxation year and $95,025 for the 1999
taxation year.
Signed at Ottawa, Canada, this 19th day of March 2002.
J.T.C.C.
Translation certified true
on this 23rd day of May 2003.
Sophie Debbané, Revisor
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