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Citation: 2004TCC316
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Date: 20040507
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Docket: 2003-2423(EI)
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BETWEEN:
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627576 SASKATCHEWAN LTD.,
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Appellant,
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and
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THE MINISTER OF NATIONAL REVENUE,
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Respondent.
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REASONS FOR JUDGMENT
Sheridan, J.
[1] This is an appeal from the
Minister's decision that, for the period May 1, 2001 to December
31, 2001, Mr. Timothy Longworth was engaged in insurable
employment as an employee of 627576 Saskatchewan Ltd. known as
Elstrom Insurance. The parties agreed that Elstrom Insurance and
Tim Longworth were "related" pursuant to
subparagraph 251(2)(b)(ii) of the Income Tax Act
and were, therefore, not dealing with each other at arm's length.
The only issue for determination is whether it was reasonable for
the Minister to conclude that, pursuant to paragraph
5(3)(b) of the Employment Insurance Act, Elstrom
Insurance and Tim Longworth would have entered into a
substantially similar contract of employment if they had been
dealing with each other at arm's length.
[2] The relevant sections of the
Employment Insurance Act are set out below:
5.(1) Types of insurable employment - Subject to
subsection (2), insurable employment is
(a) employment in Canada by one or more employers, under any
express or implied contract of service or apprenticeship, written
or oral, whether the earnings of the employed person are received
from the employer or some other person and whether the earnings
are calculated by time or by the piece, or partly by time and
partly by the piece, or otherwise;
...
(2) Excluded employment - Insurable employment does not
include
...
(i) employment if the employer and employee are not dealing
with each other at arm's length.
(3) Arm's length dealing - For the purposes of
paragraph (2)(i),
(b) if the employer is, within the meaning of [the Income
Tax Act], related to the employee, they are deemed to deal
with each other at arm's length if the Minister of National
Revenue is satisfied that, having regard to all the circumstances
of the employment, including the remuneration paid, the terms and
conditions, the duration and the nature and importance of the
work performed, it is reasonable to conclude that they would have
entered into a substantially similar contract of employment if
they had been dealing with each other at arm's length.
[3] Mr. Timothy Longworth is the son
of the late Mr. Valray Longworth, a well-known Prince Albert
lawyer and businessman. For the sake of clarity, Mr. Timothy
Longworth will be referred to as "Tim"; his father, as
"Mr. Longworth". Between 1979 and 2000, Tim had
been employed at various times and in various capacities in the
insurance industry. Early in 2001, he became interested in buying
Elstrom Insurance, a local insurance agency, and going into
business for himself. He initiated negotiations with Elstrom
Insurance while concurrently exploring partnership possibilities
in this new business with Don Delorme, an experienced
licensed insurance broker who was then working with another
insurance company. In due course, Tim sought his father's advice
regarding the proposed venture, including how best to finance the
purchase.
[4] At the time Tim consulted him, Mr.
Longworth had cancer and had just learned that, after a period of
remission, the disease was again active and likely terminal. It
was Tim's evidence that his father saw the Elstrom Insurance
purchase as an opportunity to put his affairs in order, one
objective of which was to help his son establish himself in his
career. It was in this context that Mr. Longworth advised Tim to
forgo any thoughts of seeking third party financing and to set up
instead a corporate entity in which he, Tim and Don Delorme would
invest equally. This proposal became reality and on May 1, 2001,
Elstrom Insurance commenced operations. Pursuant to their
agreement, Mr. Longworth, Tim, and Don each held 100 shares in
the company, each paid one-third of the $200,000 down payment,
and each was jointly and severally liable for the $500,000 owed
to SGI to complete the transaction. Tim was responsible for
administrative duties and Don, for insurance sales. Tim and Don
each received an annual salary of $50,000. Mr. Longworth had
no active role at Elstrom Insurance and received no salary. It
was also agreed that after two years, the sale of Mr. Longworth's
shares would be triggered requiring Tim and Don to buy out his
interest in equal shares. Regrettably, Mr. Longworth passed away
in February, 2002, less than a year after Elstrom Insurance
opened its doors.
ANALYSIS
[5] Briefly stated, the Minister's
position is that Tim was employed with Elstrom Insurance and that
his employment for the period May 1, 2001 to December 31, 2001
was insurable. In reaching his decision, the Minister relied on
the assumption that certain terms of Tim's contract of employment
were identical to those in Don's: specifically, that both Tim and
Don were paid $50,000 annually, both had signing authority on the
business account and both had the option to buy Mr. Longworth's
shares[1]. Don was
an arm's length employee. From this, the Minister argued, it was
reasonable to conclude that Tim and Elstrom Insurance would have
entered into a "substantially similar" contract if they
had been dealing with each other at arm's length, thus satisfying
the test in paragraph 5(3)(b) of the Employment
Insurance Act.
[6] This is fine as far as it goes.
The assumptions upon which the Minister relied, however, are
incomplete. While it is true that the terms listed above formed
part of both Tim and Don's contracts, that is not the end of the
story. The Minister exercised his discretion improperly by having
failed to take into account all of the relevant circumstances, as
expressly required by paragraph 5(3)(b)[2]. What the Minister failed to
take into account were the essential differences surrounding
their entering employment with Elstrom Insurance. Don was
recruited by Tim and was part of the plan Tim originally proposed
to his father. Don came to the new business as an experienced
licensed level 4 insurance salesperson and qualified SGI operator
recruited from a successful rival insurance agency. Tim, on the
other hand, was not licensed to sell insurance and would not be
until he had successfully completed the provincial licensing
requirements. Nor was he a qualified SGI operator. In May, 2001,
his technical qualifications were no better than the
lowest-earning staff members in the new office, employees who
were paid approximately $18,000 annually and who were limited to
issuing motor vehicle licences. In spite of these disparities,
Elstrom Insurance entered into a contract with Tim to pay him
$50,000 per year, the same salary as the much more qualified and
experienced Don. This amount was more than Tim had been making
before purchasing Elstrom Insurance; for Don, it was
significantly less than the $70,000 to $80,000 salary he had been
earning as an employee of his former agency. On cross-examination
when asked for his opinion as an experienced insurance
professional, Don stated that someone with the limited
qualifications Tim possessed in 2001 would not have been hired at
that salary level.
[7] The only reason Tim found himself
in such a favoured position had to do with the father-son
relationship between him and the third investor,
Mr. Longworth. Mr. Longworth was dying. With this in mind,
he chose to invest in his son's future. By forgoing an active
role or salary for himself and planning his own withdrawal from
the company, Mr. Longworth put Tim on an equal footing with Don.
But for his relationship with Mr. Longworth, the third
shareholder in Elstrom Insurance, Tim would not have held the
position he did for the period May 1, 2001 to December 31, 2001.
Having regard to all the circumstances of the employment,
including the remuneration paid, the terms and conditions, the
duration and the nature and importance of the work performed, the
Court is satisfied that it was not reasonable for the Minister to
conclude that Elstrom Insurance and Tim would have entered into a
substantially similar contract had they been at arm's length.
[8] The appeal is allowed and the
decision of the Minister is vacated.
Signed at Ottawa, Canada, this 7th day of May 2004.
Sheridan, J.
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