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Citation: 2003TCC413
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Date: 20030718
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Docket: 2002-3310(IT)I
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BETWEEN:
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ISAAC ANKRAH,
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Appellant,
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and
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HER MAJESTY THE QUEEN,
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Respondent.
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REASONS FOR JUDGMENT
Woods J.
[1] Mr. Isaac Ankrah appeals an income
tax assessment for the 1996 taxation year that disallowed certain
expenses incurred in respect of an Amway distributorship. The
Crown takes the position that there is insufficient documentation
and that the expenses are not reasonable or are personal or
living expenses. The Crown does not dispute that the Amway
distributorship constitutes a business for purposes of
determining whether there is a source of income under the
Income Tax Act, R.S.C. 1985 (5th Supp.), c. 1 (the
"Act").
[2] The matter was heard under the
Court's Informal Procedure.
Facts
[3] Mr. Ankrah is married with three
children and is employed as a computer program analyst. Beginning
in 1989,[1] Mr.
Ankrah commenced business as a distributor of Amway products in
order to supplement the family income. He stated that he was
attempting also to assist his country by creating jobs. Mr.
Ankrah and his wife, Gabriella, described the hard work and
sacrifice they have endured in pursuing their dream and they
recognized that it would take several years before profits would
materialize.
[4] For the first ten years of the
distributorship, Mr. Ankrah reported the following losses for tax
purposes:
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YEAR
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LOSSES
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1988
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$ 2,590
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1989
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18,977
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1990
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26,454
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1991
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18,945
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1992
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5,610
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1993
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16,302
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1994
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15,174
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1995
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12,494
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1996
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29,489
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1997
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5,995
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[5] The appeal relates only to the
1996 taxation year in which the reported loss of $29,489 was
disallowed in full by the Minister of National Revenue (the
"Minister"). At the hearing Mr. Ankrah abandoned his
claim to a portion of the expenses claimed in the return. The
expenses originally claimed in the 1996 tax return and the
revised amounts claimed at the hearing are set out in the
following statement of income and expenses:
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REPORTED
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REVISED
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SALES REVENUE
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$ 35,025.30
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$ 35,025.30
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BONUS INCOME
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15,701.56
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15,701.56
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GROSS REVENUE
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50,726.86
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50,726.86
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OPEN INV
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13,511.25
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13,511.25
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PURCHASES
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42,291.32
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42,291.32
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OTHER DIRECT COSTS
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31.08
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31.08
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CLOSING INV
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26,762.65
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26,762.65
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GROSS PROFIT
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21,655.86
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21,655.86
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ADVERTISING
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4,643.83
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5,013.47
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BAD DEBTS
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5,805.48
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0.00
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INTEREST/BANK CHG'S
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263.59
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263.59
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MEALS/ENTERTAINMENT
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1,361.96
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1,361.96
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OFFICE
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4,642.09
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10,803.26
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PROFESSIONAL FEES
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350.00
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350.00
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SALARIES
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8,410.44
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8,410.44
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TRAVEL
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1,342.54
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12,500.00
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CONVENTIONS
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17,612.32
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1,780.86
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CONT. BUS. ED.
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1,961.77
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AUTO - FUEL
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6,641.83
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- LEASE
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5,580.00
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- INSURANCE
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1,114.00
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- LICENSE
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90.00
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- PERSONAL %
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(6,712.92)
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TOTAL EXPENSES
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51,145.17
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42,445.35
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NET PROFIT (LOSS)
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(29,489.31)
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(20,789.49)
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[6] Mr. Ankrah and his business
associate, Mr. Jack Verduyn, referred to the distributorship as
an unconventional business in which people played a key part.
This was described as contrasting with a conventional business in
which products are sold. The "people" aspect of an
Amway distributorship was described as the need to recruit, train
and motivate other distributors. Mr. Ankrah stated that he had
over 40 recruits in 1996 and that many of the expenses at issue
were connected with the training and motivation of these
recruits.
[7] At the hearing, the Crown
challenged the deduction of the cost of travelling to meetings,
the purchase of self-development books and tapes and the purchase
of Amway products as promotional items. These items are described
in the above statement of income and expenses as travel and
conventions, office, and advertising, respectively.
[8] Mr. Ankrah is claiming expenses of
over $10,000 on self-development books and tapes used by him and
his wife and purchased as gifts for his recruits. The books and
tapes were referred to as "tools" at the hearing.
Mr. Verduyn was asked about the business connection with
respect to books such as "Men are from Mars, Women from
Venus" and "Chicken Soup for the Soul." He stated
that it was important for distributors to understand the
difference between men and women because the business was a
people business.
[9] The claim for travel costs was in
excess of $15,000. Most of these expenses consisted of car
expenses in travelling to meetings. The reason given for the
large number of meetings was that "motivation" was a
significant aspect of the business. To illustrate, Mr. Ankrah
recounted a story in which for a period of time he visited the
city of Cleveland two or three times a month in order to provide
support to a policeman who was a new recruit.
[10] In addition to incurring costs on
travel and self-development books and tapes, Mr. Ankrah expended
considerable sums in purchasing Amway products as promotional
items in order to motivate and train recruits.
[11] Some explanation for the revision to
the expense claims is relevant in connection with the issue of
sufficiency of documentation. During the audit of the 1996
taxation year, the expenses claimed in the tax return were
determined not to be supported by proper receipts. Accordingly,
Mr. Ankrah's accountant prepared a revised statement
based on receipts that were available. An auditor for the Canada
Customs and Revenue Agency ("CCRA") gave evidence to
the effect that that these receipts were satisfactory as proof
but that the losses were still being disallowed on the basis that
there was no reasonable expectation of profit. While the
discussions between the parties continued, the documentation was
lost, apparently through no fault of Mr. Ankrah. As a result, in
2003 the CCRA requested that Mr. Ankrah prepare another revised
list of expenses based on the best information that he had
available. By necessity this was often guesswork.
[12] At the hearing, Mr. Ankrah based his
claim on the estimates he prepared in 2003. The reconstructed
statement was based in part on:
1.
Mr. Ankrah's 1996 personal calendar showing events
attended;
2.
an estimate of products purchased for promotional purposes based
on products in Mr. Ankrah's house in 2003, the prices being
estimated from price lists from 1996 or thereabouts; and
3.
an estimate of travel costs based on a proration of the mileage
on Mr. Ankrah's van which, in 2003, had recorded 600,000
kilometers. The proration took into account both the number of
years in which the van was driven and the proportionate business
use. Once the kilometers were estimated, an amount of 20 cents
per kilometer was applied to determine costs of using the van in
1996. The 20 cent figure was an estimate of what employees were
allowed by businesses and the government in 1996.
[13] There is a large discrepancy in the
business mileage reported in the 1996 tax return and the 2003
estimate prepared by Mr. Ankrah. In the tax return, Mr. Ankrah
reported mileage of 6,000 kilometers whereas the estimate
prepared in 2003 was 62,000 kilometers. The only explanation that
Mr. Ankrah could provide for the large discrepancy was that,
given his extensive business travel, the 6,000 kilometer figure
in the tax return was clearly wrong.
Statutory Provisions
[14] The relevant statutory provisions as
they read in 1996 are:
18.(1) In computing the income of a taxpayer from a business
or property no deduction shall be made in respect of
(a) an outlay
or expense except to the extent that it was made or incurred by
the taxpayer for the purpose of gaining or producing income from
the business or property;
...
(h) personal
or living expenses of the taxpayer, other than travel expenses
incurred by the taxpayer while away from home in the course of
carrying on the taxpayer's business; ...
67. In computing income, no deduction shall be made in respect
of an outlay or expense in respect of which any amount is
otherwise deductible under this Act, except to the extent that
the outlay or expense was reasonable in the circumstances.
Issues
[15] The Crown is challenging the
deductibility of a portion of the cost of books and tapes,
promotional items, and travel, either on the basis that these
expenses are not reasonable for the purposes of section 67
or are personal or living expenses. This position differed from
the reassessment which simply disallowed the entire net loss. A
second issue is whether the documentation was sufficient to prove
the expenses.
Sufficiency of Documentation
Submissions of Parties
[16] The Crown submitted that the
documentation was insufficient in several respects. The main
concern was the significant differences between the amounts
reported in the tax return and the revised claims. It was
suggested that these differences called the amount of actual
expenses into question. The Crown also questioned the sufficiency
of certain invoices that were prepared in US currency. It was
suggested that this would be unusual for a Canadian
transaction.
[17] Mr. Ankrah submitted that the
documentation was sufficient because when this matter was raised
on audit, he engaged an accountant to prepare a revised statement
based on actual receipts. Further, Mr. Ankrah suggests that he
ought not to be penalized for the loss of the documents through
not fault of his own, especially when the CCRA suggested that he
reconstruct his expenses through the best available information,
which he has done.
[18] In reference to the currency issue on
the invoices, Mr. Ankrah submitted that this is normal business
practice since the invoices were based on Amway precedents and
Amway conducts business throughout the world.
[19] In reference to the discrepancy on
mileage, Mr. Ankrah suggested that, based on his evidence of
extensive business travel, the business mileage reported on the
1996 tax return is clearly an error. In reference to the
discrepancy on conventions, Mr. Ankrah abandoned his claim to all
but two conventions in order to conform with subsection
20(10).
Analysis
[20] In my view it would not be appropriate
to disallow the expenses on the basis of sufficiency of
documentation. Although Mr. Ankrah was somewhat sloppy in the
preparation of the 1996 tax return, this was rectified during the
audit by hiring an accountant to prepare a revised claim based on
actual receipts. The evidence provided by the CCRA auditor was
that this revised statement was based on proper documentation. In
addition, I accept Mr. Ankrah's explanation for the US
currency in the invoices. The discrepancy with respect to the
mileage will be discussed below.
Reasonableness and Personal Use
Submissions of Parties
[21] The Crown took the position that the
cost of books and tapes, promotional items, travel and
conventions were all excessive and should be disallowed, in whole
or in part, pursuant to section 67 of the Act.
[22] In essence, the Crown's position
was that it was unreasonable for Mr. Ankrah to incur these
expenditures after the business had sustained losses for seven or
eight years. It was suggested that Mr. Ankrah should have reduced
his expenses by providing personal training to potential recruits
instead of incurring the costs of books and tapes, promotional
items and travelling to meetings. The Crown also suggested that
there might be a personal element in these expenses in that there
is little nexus between self-development books and the business
and the persons that received the promotional items might be
personal friends.
[23] The only case law cited in support of
the Crown's position was the case of Graves v.
The Queen, 90 DTC 6300 (F.C.T.D.), and particularly the
following passage at page 6307:
It is notable that the plaintiffs emphasized in testimony the
aspects of learning about motivation and leadership in achieving
success as the valuable element of the conferences attended in
the U.S. In terms of education or training the sessions did not
involve advance study or testing or formal curricula normally
associated with training sessions to maintain or upgrade skills
or knowledge in a field in which the plaintiffs already claimed
some expertise. If they had attributes of this sort expenses of
attendance might have been allowable under section 18(a) as
regular training expenses.
[24] Mr. Ankrah submitted that the deduction
of the expenses should be allowed because the courts have
accepted Amway distributorships as viable businesses and Amway is
not on trial. He suggested that it was reasonable to spend large
amounts on books and tapes, travel, and promotional items because
the general development and "motivation" of people was
very important to the business.
Analysis
[25] Mr. Ankrah was not a sophisticated
businessman. He did not approach the operation in a business-like
fashion and appeared to accept the Amway methods blindly and
uncritically. The only basis he provided to support the
reasonability of the expenses was the statement that one has to
spend money on a people business in order to make a profit.
However, I accept the genuineness of Mr. Ankrah's statement
that he was motivated by a desire to earn income from the
enterprise.
Whether a Business
[26] Courts have considered the
deductibility of expenses incurred by Amway distributors on many
occasions and each case has been decided on its own particular
facts. In cases heard prior to the recent Supreme Court
jurisprudence on reasonable expectation of profit
("REOP"), Amway losses had sometimes been denied based
on the REOP doctrine. See Nordstrom v. R., [1999] 3
C.T.C. 2253 (T.C.C.) and Koczkur v. R., [2000] 2 C.T.C.
2414 (T.C.C.).
[27] The Crown has conceded that there is a
business and a source of income in this case. A similar
concession was made by the Crown in its consent to the reversal
of the decision of Bowman A.C.J. in Elke v. R., [2001] 2
C.T.C. 2453 (T.C.C.). The reason noted by the Federal Court of
Appeal for the reversal was the intervening decision of the
Supreme Court of Canada in Stewart v. R., [2002] 3 C.T.C.
439 (S.C.C.). For this reason, I accept that Mr. Ankrah's
distributorship is a business for purposes of this appeal.
However, I note that the issue in Stewart was the REOP
doctrine whereas the decision of Bowman A.C.J. in Elke was
based on a lack of commerciality rather than REOP. The facts in
Stewart pertained to a rental operation, which was a
clearly commercial venture.
Paragraphs 18(1)(a) and (h)
[28] Certain other Amway cases have
disallowed expenses on the basis that they were personal or
living expenses for the purposes of paragraph 18(1)(h) of
the Act. See the decision of Hershfield J. in Spearing
v. R., [2001] 1 C.T.C. 2689 (T.C.C.).
[29] In my view the books, tapes and Amway
products purchased for use by the Ankrah family should be
disallowed by virtue of paragraph 18(1)(h). These items
may have been of some benefit to the business but they were
clearly personal or living expenses and should be disallowed. The
Crown submits that many of the items purchased as gifts may have
been given out of friendship rather than for business reasons.
There was no evidence to support this. All the evidence was
consistent with the gifts being promotional items.
[30] There was very little evidence to show
what portion of the books and tapes and Amway products were
purchased for the Ankrah family's personal use. The invoices
for books and tapes showed multiple orders of the same book and
therefore it would appear that the majority of books and tapes
were purchased as promotional items for other people. I believe
that a reduction of 15 percent in the expense allowed for books
and tapes and promotional items would be appropriate to remove
the personal element. This would reduce the
"advertising" expense to $4,261 and the
"office" expense to $9,183.
[31] In respect to travel and convention
expenses, the evidence supports that these were business rather
than personal expenses. However, I believe that the expense of
$12,500 claimed for mileage is excessive. At the hearing, Mr.
Ankrah limited his claim for conventions to two in accordance
with subsection 20(10). However, in claiming business mileage of
62,000 kilometers, it appears that a portion of this mileage
related to travel to conventions. A second problem with the
mileage charge is that Mr. Ankrah computed the cost at 20 cents
per kilometer. This probably overstates the cost of operating his
vehicle which had over 600,000 kilometers on it. In the
circumstances, I believe it would be reasonable to reduce the
mileage charge in the revised statement from $12,500 to
$6,250.
Section 67
[32] The Crown submits that it was
unreasonable for Mr. Ankrah to incur large expenditures
after the business had incurred losses for several years. It was
suggested that instead of spending large sums of money on
recruits, the same result could have been achieved by personal
training.
[33] The difficulty with the Crown's
position is that supplants the business judgment of the taxpayer.
Mr. Justice Rothstein commented on this in another Amway case,
Keeping v. R., [2001] 3 C.T.C. 120 (F.C.A.), at
paragraph 5:
With respect, I am of the opinion that the analysis conducted
by the Tax Court Judge amounted to second-guessing the business
acumen of the appellant which is not the place of the Courts. As
stated in Mastri v. R. (1997), [1998] 1. F.C. 66 (Fed.
C.A.), at paragraph 12:
In summary, the decision of this Court in Tonn does not
purport to alter the law as stated in Moldowan.
Tonn simply affirms the common-sense understanding that it
is not the place of the courts to second-guess the business
acumen of a taxpayer whose commercial venture turns out to be
less profitable than anticipated.
In basing his decision on profit margins, potential market
opportunities and costs, as well as the appellant's approach
to operating his distributorship, the Tax Court Judge was
second-guessing the business acumen of the appellant. In doing
so, the Tax Court Judge erred in law.
This comment was made in the context of the REOP doctrine but
I see no reason why it should not also apply in the context of
section 67.
[34] The phrase in section 67
"reasonable in the circumstances" is broad but I do not
believe that it should apply to reduce expenses based on poor
business judgment. Section 67 is commonly applied to reduce the
quantum of expenses in cases where the taxpayer is motivated
partly by something other than business reasons, such as a
payment of salaries to family members. This was described by Mr.
Justice Cattanach in the case of Gabco Limited v. M.N.R.,
68 DTC 5210 (Ex. Ct.) at page 5216 as follows:
It is not a question of the Minister or this Court
substituting its judgment for what is a reasonable amount to pay,
but rather a case of the Minister or the Court coming to the
conclusion that no reasonable business man would have contracted
to pay such an amount having only the business consideration of
the appellant in mind.
[35] Mr. Ankrah arguably has exercised bad
judgment in incurring these expenses. However, the expenses were
incurred with an honest belief that they would eventually lead to
profits and I do not believe that section 67 should be applied in
these circumstances.
[36] Mr. Ankrah has incurred significant
losses from the Amway distributorship over many years. If the
deduction of those losses is not an appropriate tax result, it is
a matter for Parliament to address. I note that section 31 of the
Act was enacted in 1988 to address a concern with farming
losses.
Conclusion
[37] For the foregoing reasons, the appeal
in respect of the 1996 taxation year is allowed and the matter is
referred back to the Minister for reconsideration and
reassessment on the basis that Mr. Ankrah be entitled to deduct
the following expenses:
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Advertising
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$4,261.00
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Interest/bank charges
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$ 263.59
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Meals/entertainment
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$1,361.96
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Office
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$9,183.00
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Professional fees
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$ 350.00
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Salaries
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$8,410.44
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Travel
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$6,250.00
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Conventions
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$1,780.86
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Continuing business education
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$1,961.77
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Signed at Ottawa, Canada this 18th day of July, 2003.
J.
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