Spicy Sports Inc. v. The Queen, 2004 TCC 463 (Informal Procedure)

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Appeal heard on common evidence with the appeal of

Steve Cousins (2003-2915(IT)I) on February 25, 2004,

at Vancouver, British Columbia

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JUDGMENT

          The appeal from assessment of tax made under the Income Tax Act for the 2001 taxation year is dismissed.

Signed at Ottawa, Canada, this 24th day of June, 2004.

McArthur J.

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Appeal heard on common evidence with the appeal of

Spicy Sports Inc. (2003-2910(IT)I) on February 25, 2004,

at Vancouver, British Columbia

____________________________________________________________________

JUDGMENT

          The appeal from assessment of tax made under the Income Tax Act for the 2001 taxation year is dismissed.

Signed at Ottawa, Canada, this 24th day of June, 2004.

McArthur J.

REASONS FOR JUDGMENT

McArthur J.

[1]      These appeals were heard on common evidence with respect to the 2001 taxation year of both Appellants. Steve Cousins appeals the assessment by the Minister of National Revenue of a benefit under subsection 15(1) of the Income Tax Act with respect to a "payment". In addition, he appeals the Minister's decision that the payment is not a "non-taxable benefit" under subparagraph 6(1)(a)(i) of the Act. Spicy Sports Inc. (the Corporation) appeals the Minister's denial of the deduction of the "payment" in computing its 2001 income pursuant to paragraph 18(1)(a) of the Act.

[2]      During the relevant period, Steve was the majority shareholder and employee of the Corporation which paid the amount of $38,327 (the "payment")[1] to cover the cost of an operation on Steve's knee which was performed in San Francisco. The surgery was not available in Canada and there was no evidence that his knee injury was incurred while carrying out the duties of his employment. The issue for Steve boils down to whether he received the operation in his role as employee of the Corporation or in his role as shareholder under subsection 15(1) or paragraph 6(1)(a) of the Act.

[3]      The Corporation carries on the business of renting skis, snowboards and bicycles, and retail sales in Whistler, British Columbia. It had approximately $2,000,000 in sales in its 2001 financial year. Steve reported employment income of $156,895 in 2001. He was the president and held 51% of the Corporation's shares; his wife 32%; and Spicy Inc. of Japan owned the balance.[2]

[4]      Effective June 1, 2000, the Corporation purchased a 'cost plus' insurance policy from Zurich Life Insurance Co. There is no evidence that this insurance was available to any employees other than Steve. In carrying out the 'cost plus' plan, Steve paid the $35,996 for the operation, the Corporation paid $35,996 to Zurich Insurance who, in turn, reimbursed Steve $35,061; $935 was an administration fee retained by Zurich.

Position of the Appellant

[5]      The payment from Steve's employer, the Corporation, to Zurich Life is a Private Health Services Plan payment. Steve received the benefit by virtue of subparagraph 6(1)(a)(i) of the Act and it is a non-taxable benefit and not a taxable benefit pursuant to subsection 15(1). The payment to Zurich Life and travel costs are deductible by the Corporation under subsection 9(1) and paragraph 18(1)(a). Part of Steve's employment required him to test skis and the operation on his knee was necessary to permit him to do this.

Position of the Respondent

[6]      Steve received a taxable benefit under subsection 15(1) of the Act in his capacity as a shareholder of the Corporation when his knee surgery, travel and related medical expenses were paid by the Corporation. Having received the payment in his capacity as shareholder, the payment was not a benefit derived from the contributions of the Corporation under a Private Health Services Plan pursuant to subparagraph 6(1)(a)(i). With respect to the Corporation, the expenditure was not incurred for the purpose of earning income from business or property and is not deductible under paragraph 18(1)(a). Subparagraph 6(1)(a)(i) does apply because the Appellant did not receive the benefit as an employee.

Analysis

[7]      It all boils down to a question of fact. Was the benefit conferred to Steve in his capacity as shareholder or employee and was it a business transaction made by the Corporation for the purposes of earning income?

[8]      As stated, Steve was the majority shareholder. He had been employed by the Corporation for 12 years when the 'cost plus' insurance plan came into effect. Four or five months later he incurred $38,327 in expenses paid in effect by the Corporation. The proximity of these two occurrences leaves me somewhat sceptical. He had the authority to bind the Corporation. Bona fide transactions are not a payment accruing to a shareholder as a shareholder but accrue to the shareholder in his capacity as employee or other business relationship.[3] There is no question that he received a benefit. The question is did he receive it because he was a shareholder or because he was an employee.

[9]      The test is whether the 'cost plus' insurance contract would have been entered into had he not been a shareholder. In other words, would the Corporation have entered into such a contract with an arms-length key employee as an employee and not a shareholder?

[10]     While medical contracts, particularly for key employees are common, I answer the question negatively. The Corporation had up to 30 employees, many of whom were temporary, several were managers. Given the closely held control of the Corporation, the only "key employees" who would likely benefit from the 'cost plus' insurance plan would be shareholders. His wife had a substantial shareholding. He was the majority owner. There was no need to pay him an inducement to keep him as a key employee. The plan was not available to other employees. It is highly unlikely that a plan that could cost tens of thousands of dollars would be made available by the Corporation to anyone other than Mr. Cousins or his family. The Appellants had the burden of proving that Steve received the benefit in his capacity as an employee and not because he was a shareholder. On a balance of probabilities, he was unable to do that.

[11]     In conclusion, the 'cost plus' insurance was a benefit to Steve as a shareholder and is to be included in his income pursuant to subsection 15(1).

[12]     Having decided that the benefit was conferred to Steve as a shareholder, the question is whether the payment is deductible by the Corporation. In Canderel Ltd. v. Canada,[4] Iacobucci J. of the Supreme Court of Canada held, in effect, that a taxpayer must ascertain whether the deduction of an expense is consistent with the ordinary principles of accepted business practices. Shareholders' benefits are generally not considered deductible. I find that the purpose of paying for Steves' knee operation was for his personal physical comfort and not for the purposes of the Corporation to earn income. There is no evidence that Steve injured his knee while testing skis in the course of his employment. He did testify that the operation was necessary so that he be able to test skis under the terms of his employment.[5] His evidence falls well short of establishing that a $40,000 expenditure by the Corporation was necessary for this purpose. From a business and commercial point of view, surely the testing could be done satisfactorily by a $10.00 to $20.00 an hour employee rather than the $150,000 a year president of the Corporation.

[13]     In conclusion, I find that Steve received the payment by virtue of his shareholdings in the Corporation pursuant to subsection 15(1). The Minister correctly denied the Corporation its deduction claimed under subsection 9(1) and paragraph 18(1)(a) of the Act on the basis that these amounts were not incurred for the purposes of earning income from a business or property but rather for the purpose of conferring a benefit on Steve.

[14]     The appeals are dismissed.

Signed at Ottawa, Canada, this 24th day of June, 2004.

McArthur J.