AMENDED
REASONS FOR JUDGMENT
Bocock J.
I. Introduction
[1]
This appeal concerns a section 160 assessment
under the Income Tax Act, R.S.C., 1985, c. 1 (5th Supp.) (the “Act”).
The Appellant’s wife, Karen Somerville, owed the Minister $158,058.27 for tax
(the “Tax Debt”) relating to taxation years of 1998, 1999, 2000, and 2001. In
2008, the Minister became aware of the Appellant’s ownership of a property
located at Howe Island, Gananoque, Ontario (the “Howe Island Property”). The
Howe Island Property had been transferred by Ms. Somerville to the
Appellant, Bernard Loates, on March 15, 2005 (the “Transfer Date”). The
Minister issued a Notice of Assessment on September 30, 2010 against Mr. Loates
for the Tax Debt.
II. Facts
[2]
Two witnesses provided testimony: Mr. Loates
gave evidence on his own behalf and Peter Neeteson, a collections officer with the
Canada Revenue Agency (the “CRA”), gave evidence for the Respondent.
Ms. Somerville was present at trial, but the Appellant did not call her as
a witness.
A. Testimony
of Mr. Loates
[3]
Mr. Loates and Ms. Somerville were
married in the year 2000. Beginning in 1998 and until January 2006, he and
Ms. Somerville lived together at 3050 Cochrane Street, Whitby, Ontario,
(the “Cochrane Property”), title to which was held solely by Ms. Somerville.
[4]
On July 25, 2002, Ms. Somerville purchased
the Howe Island Property, again solely in her name, with the intention that the
Howe Island Property would be a retirement property.
[5]
From 2004 to 2006, Mr. Loates asserts he
made three loans to Ms. Somerville totalling approximately $294,600.00
(the “Loans”). In early 2005, Ms. Somerville wished to take out a second
mortgage on the Cochrane Property, in order to obtain capital for her business.
Mr. Loates disagreed. The Cochrane Property was valued at $1,000,000.00,
and had an existing mortgage of $448,054.89 registered on title.
[6]
Mr. Loates testified that on March 2, 2005
he and Ms. Somerville came to an understanding. A “division of property”
agreement was executed by Mr. Loates and Ms. Somerville, in their own
handwriting (the “Division Agreement”). The agreement provided that:
(a)
Mr. Loates would consent to the second
mortgage on the Cochrane Property, in return for Ms. Somerville
transferring title to the Howe Island Property to Mr. Loates;
(b)
Mr. Loates would have “no claim” on the
Cochrane Property;
(c)
Ms. Somerville would have “no claim” on the
Howe Island property; and,
(d)
Ms. Somerville was to sell the Cochrane
Property and pay her taxes and other debts.
[7]
On March 3, 2005, Ms. Somerville gave a
second mortgage against the Cochrane Property in the amount of $315,000.00 (the
“Cochrane Second Mortgage”).
[8]
As further collateral security for the Cochrane
Second Mortgage, a collateral mortgage was registered against title to the Howe
Island Property on the same date in the amount of $311,850.00 (the “Howe Island
Collateral Mortgage”).
[9]
On March 15, 2005, the Transfer Date,
Ms. Somerville transferred ownership of the Howe Island Property to
Mr. Loates.
[10]
At trial, the parties agreed that at the
Transfer Date the fair market value of the Howe Island Property was
$700,000.00, coincidentally the assumed value of the Minister. The parties
further agreed that the balance of the first mortgage remaining on the Howe
Island Property at the Transfer Date was $414,735.11.
[11]
In January of 2006, the Cochrane Property was
sold for $800,000.00 by Ms. Somerville. After satisfying the mortgages,
approximately $20,228.14 remained and was remitted to the CRA in respect of
Ms. Somerville’s tax debt.
[12]
Mr. Loates stated he did not believe the
investment in Ms. Somerville’s consulting business was a good idea. He did
not want to additionally encumber the matrimonial home, the Cochrane Property
at the time, with a second mortgage. To mitigate putting his interest in the
Cochrane Property at risk, he stated that Ms. Somerville and he executed
the Division Agreement on March 2, 2015 based upon Mr. Loates’
understanding of family law. In return for Ms. Somerville transferring
title to Howe Island Property to Mr. Loates, Mr. Loates would
relinquish ‘his share’ of the Cochrane Property, the matrimonial home at the
time. Mr. Loates’ then current ‘share’ in the Cochrane Property was valued by
them at approximately $276,000.00.
[13]
Mr. Loates testified that he borrowed money
for the Loans to Ms. Somerville from one Mr. Burke, a business
associate. Mr. Loates obtained additional funds for the Loans by selling
$46,600.00 worth of artwork. Mr. Loates was uncertain how
Ms. Somerville would and did use the Loans. There were no terms and
conditions to the Loans; they were made in ‘good faith’. To date, neither
Ms. Somerville, nor Mr. Loates, has paid back any amount owed to
Mr. Burke.
[14]
Mr. Burke did not testify. Mr. Loates
could provide no documentation regarding the Loans. Mr. Loates stated he
relied on his accountant, David Fluss, to properly reflect the Loans.
Mr. Fluss suddenly passed away in or around 2011 or 2012. Despite multiple
attempts, Mr. Loates testified that he was unable to get any of his
financial records from Mr. Fluss’ office. In contrast, Mr. Neeteson
stated the Loans were never brought to his attention at any point by Mr. Loates
during their audit communications.
B. Testimony
of Mr. Neeteson
[15]
In 2008, Mr. Neeteson was assigned the file
relating to Ms. Somerville.
[16]
In 2010, after a title search, Mr. Neeteson
became aware of the transfer of the Howe Island Property to the Appellant.
[17]
Mr. Neeteson determined that there was
equity in the property at the Transfer Date. He based that calculation on the
value of the property ($700,000.00) and subtracted from that amount the balance
of the first mortgage registered on title at the Transfer Date. In his
calculation, Mr. Neeteson did not consider the Howe Island Collateral
Mortgage as an encumbrance when determining the equity, value or consideration
tendered for the Howe Island Property.
[18]
In a letter dated October 26, 2009,
Mr. Loates’ lawyer wrote to Mr. Neeteson providing an explanation
regarding the sale of the two properties. The description roughly coincides
with Mr. Loates’ testimony regarding the arrangement between he and
Ms. Somerville arising from the Division Agreement. Mr. Neeteson did
not consider that explanation satisfactory. Mr. Neeteson did not follow up
with the lawyer.
III. Law
[19]
The leading case with respect to section 160 of
the Act is Livingston v. Canada, 2008 FCA 89, 2008 DTC 6233 (“Livingston”).
Specifically, at paragraph 17 the Court stated:
In light of the
clear meaning of the words of subsection 160(1), the criteria to apply when
considering subsection 160(1) are self-evident:
1)
The transferor must be liable to pay tax under
the Act at the time of transfer;
2)
There must be a transfer of property, either
directly or indirectly, by means of a trust or by any other means whatever;
3)
The transferee must either be:
i.
The transferor's spouse or common-law partner at
the time of transfer or a person who has since become the person's spouse or
common-law partner;
ii.
A person who was under 18 years of age at the
time of transfer; or
iii.
A person with whom the transferor was not
dealing at arm's length.
4)
The fair market value of the property
transferred must exceed the fair market value of the consideration given by the
transferee.
[20]
In Yates v. Canada, 2009 FCA 50, 2009 DTC
5062 (“Yates”), the language of section 160 was considered by the
Federal Court of Appeal, in relation to family law. Justice Desjardins at
paragraphs 12 and 16 called section 160 of the Act “unquestionably
a draconian measure”, but, nonetheless, a correct reading of section 160
makes it clear the only exception to subsection 160(1) of the Act
is provided for in subsection 4. Justice Blais, concurring, stated at
paragraph 67 that “A plain language interpretation of
subsection 160(1) does not allow for a family law exception …”. Justice
Nadon, also concurring, stated at paragraph 39 that the nature of the
transfer is not relevant in determining whether an individual is subject to
subsection 160(1) of the Act.
[21]
The case of Allen v. Canada, 2009 TCC
426, 2009 DTC 1292 (“Allen”) at paragraph 39, stands for the
proposition that the relevant time to determine when consideration is made,
with respect to the fourth requirement of section 160, is at the Transfer
Date, not before or after.
IV. Issues
[22]
Mr. Loates does not challenge the Tax Debt,
the transfer of the property, nor the non-arm’s length relationship. He
challenges the Minister’s assumption that consideration paid by him was less
than the fair market value of the Howe Island Property, the transferred
property. There are three issues raised by him and to be decided by the Court:
(a)
Was Ms. Somerville indebted to
Mr. Loates at the Transfer Date and, if so, for what amount (the “Offset
Loans”)?;
(b)
Did Mr. Loates provide consideration in the
form of a valuable exchange of property with Ms. Somerville at the
Transfer Date (the “Exchanged Property”)?; and,
(c)
Was there any value in the Howe Island Property
at the Transfer Date (“Nil Value of Transferred Property”)?
V. Analysis
[23]
The criteria from Livingston disputed are
whether Mr. Loates provided consideration equal to the fair market value
of the property and whether the Howe Island Property had any value at the
Transfer Date. Each of the three arguments advanced by Mr. Loates suggest
either a set-off of a debt owed, other property transferred as consideration,
or the non-existence of the value of the property transferred.
A. The
Offset Loans
[24]
Mr. Loates, as noted from the facts above,
firstly asserts that he received no benefit with respect to the transferred
property because there existed loans advanced by him to Ms. Somerville in
the aggregate of $294,600.00. These funds were, in turn, obtained by Mr. Loates
who borrowed $248,000.00 from a business associate, one Mr. Burke, and his
sale of works of art totalling $46,600.00.
[25]
With respect to the Offset Loans made to Ms. Somerville
and with respect to Mr. Loates’ source of the loaned amounts, there is
simply no evidence. Neither Ms. Somerville nor Mr. Burke testified
and no bank records, cancelled cheques nor promissory notes were produced at
trial. Mr. Neeteson testified that Mr. Loates had never raised the
Offset Loans during their audit dealings. Perhaps as telling is the handwritten
Division Agreement, which according to Mr. Loates settled the outstanding
credits, debits, and transfer of property between the parties, but it made no
mention of the deemed repayment of the Offset Loans.
[26]
Quite apart from this last point, Mr. Loates’
assertion of the existence of the Offset Loans is devoid of any supportive
third-party documentary or viva voce evidence. On this basis, it must
fail: Nandakumar v. R, 2012 TCC 338 at paragraphs 5 and 16(2).
B. Exchanged
Property at Transfer
[27]
Secondly, Mr. Loates asserts the Division
Agreement is sufficient evidence of his tendering consideration through the
concurrent release of his spousal interest and division of property rights
under the Family Law Act, R.S.O 1990, chapter F.3 (the “Family Law
Act”). He states he released the more valuable Cochrane Property (the
matrimonial home) in exchange for his receipt of sole title in the lesser
valued Howe Island Property (a recreational property). This is based upon the
theory that his forbearance had consideration valued at the sum of
approximately $276,000.00.
[28]
This argument also fails for several reasons,
the most compelling of which is the Federal Court of Appeal’s decision in Yates,
supra. The surrender of spousal rights under contract, even if properly
valued, evidenced, and arithmetically accurate, does not override the joint
liability of a transferee for the transferor’s tax debt where the other
requirements are met (Yates at paragraphs 16 and 67).
[29]
In addition, and although moot, there is simple
logic. Ms. Somerville was the titled owner of both properties. Together
they both formed family property and any division would have to account for Ms. Somerville’s
release of her interest in the unencumbered portion of the Howe Island
Property, prior to the Division Agreement. Further, Mr. Loates provided no
supportable evidence of the relative values of the properties. As a guide to
just how anecdotal Mr. Loates’ values likely were, the Cochrane Property
was ultimately sold for $800,000 in January 2006. Only 8 months after Mr. Loates’
hopeful assessment of value ($1,000,000.00) that property was worth some
$200,000.00 less than his estimate.
[30]
Lastly, the Division Agreement itself does not
reference values, specific release of rights, or outline the underlying
purpose, even briefly, of the transfers. As well, the statutory requirement
under subsection 55(1) of the Family Law Act that any domestic
contract be witnessed was not fulfilled. While this requirement is not
essential for the Division Agreement’s admission as evidence at this tax
appeal, the absence of same goes to the timeliness, weight, and purpose to be
given to such a document. Moreover, there was no evidence that such a lump sum
transfer was reflective of a recurring, vital, subsisting legal obligation or
payment pursuant to a court order or a matrimonial division case: Yates,
supra at paragraph 30. As such, there is no exemption from the
application of section 160 to the transfer on the basis of the Exchanged
Property consideration, even if the inconsistencies of a genuine contractual
agreement contained then present releases and identifiable consideration
tendered: Allen, supra at paragraph 35.
C. Nil
Value of Transferred Property
[31]
The Nil Value of Transferred Property argument
depends upon the determination of whether and to what extent the Howe Island
Collateral Mortgage affected the value for the purposes of section 160. If
the Howe Island Collateral Mortgage is fully accounted for as an encumbrance,
then the Howe Island Property arguably has no value at the Transfer Date; Mr. Loates
would have received no benefit since the fair market value was zero and no
consideration need be paid for it. Counsel for the Respondent acknowledged this
reasoning put to him from the Bench. However, if the Howe Island Collateral Mortgage
need not to be taken into account, then there was value in the Howe Island
Property at the Transfer Date and section 160 would apply, at least to the
extent of the Tax Debt.
[32]
A review of the relative values of the Howe
Island Property and encumbrances assists. The Minister assumes a Transfer Date
value of $700,000.00 for the Howe Island Property. On title at the Transfer
Date, there was a pre-existing first mortgage having an unpaid balance of
$414,735.11. The Howe Island Collateral Mortgage had been registered several
days before the date of transfer in the amount of $311,850.00.
[33]
The prima facie debt represented by the
two mortgages, if fully counted, exceeds the assumed fair market value of
$700,000.00. At the Transfer Date, the registered transfer of land on
page 1 of the document indicated consideration as $730,083.00 by way of
interlineated handwriting in box 4, the space reserved for such
information. Page 2 of the transfer, being the sworn Land Transfer Tax
Affidavit, contained similar interlineations reflecting assumed mortgages of
$730,083.00 and total consideration for the same amount. In addition, the
page 2 affidavit also indicated that the consideration was nominal and
explained same as a conveyance between “a husband and wife for natural love and
affection”.
[34]
It was clear during testimony that Mr. Loates
did not fully appreciate the distinction and implications of these conflicting
statements. Surprisingly, neither did Mr. Neeteson who failed to examine
page 2 of the transfer during his sub-search of title even though the parcel
register he obtained for the Howe Island Property reflected consideration of
$730,083.00. Perhaps more surprisingly, Mr. Neeteson failed to examine the
Howe Island Collateral Mortgage registered March 3, 2005 (prior to the
Transfer Date) because it had been discharged on February 13, 2006, namely
after the Transfer Date, but before his search of title. Counsel for the
Respondent, after grasping the impact of this point during questions from the
Bench, stated that the Howe Island Collateral Mortgage was not primary security
and should not be deducted from the Minister’s $700,000.00 assumed value of the
Howe Island Property.
[35]
Prior to considering and assigning no value to
an encumbrance like the Howe Island Collateral Mortgage, it is important for
the Minister to maintain an even-handed approach to the timing of valuations of
property and registered encumbrances. Respondent’s counsel stated accurately
such values are to be determined and assigned at the transfer date: Livingston,
supra at paragraph 24. The CRA cannot ignore encumbrances on title
at the Transfer Date simply because they were discharged (and referenced on the
parcel register as such) subsequently. The Minister must consider these
impediments to title and assess their potential diminishment to the value of
the transferred property at the transfer date.
[36]
Notwithstanding this methodological error on the
Respondent’s part, it is of no consequence in the present case. At the Transfer
Date, Mr. Loates submitted the Cochrane Property was worth $1,000,000.00.
It sold 10 months later for $800,000.00, at which time the full mortgage
indebtedness was repaid and all security, primarily secured by the mortgage on
the Cochrane Property and collaterally secured by the Howe Island Property, was
discharged. The word “security” is decidedly singular both grammatically and
logically. One debt was secured by encumbrances on two properties. The Howe
Island Collateral Mortgage was a contingent liability and the collateral
mortgage stated so on its face. The Howe Island Collateral Mortgage stated that
the Cochrane Property comprised the primary security for the loan and its
repayment and discharge constituted full evidence of a discharge of the Howe
Island Collateral Mortgage.
[37]
To understand the extent of the diminishment of
value of the Howe Island Collateral Mortgage on the Howe Island Property, one
must look to the value of the Cochrane Property at the Transfer Date.
Insufficient equity in the Cochrane Property at the Transfer Date available to
satisfy the indebtedness represented by the Cochrane Second Mortgage would
require that the Howe Island Property be marshalled as security by the lender.
[38]
As stated, the value of the Cochrane Property at
the Transfer Date was, based upon Mr. Loates’ admission and the subsequent
sale price, at least $800,000.00. Such a value was greater than all registered
encumbrances including the full extent of the Cochrane Second Mortgage (to
which the Howe Island Collateral Mortgage was collateral). On this basis, at
the Transfer Date, any diminishment to the Howe Island Property value by
registration of the Howe Island Collateral Mortgage was notional at best. As
such, the Minister’s assumption that Mr. Loates received a benefit, for
which consideration was not paid, of not less than the amount of the Tax Debt
($158,058.27) remains intact. The Howe Island Property had an assumed fair
market value of $700,000.00 and registered, quantifiable, and realizable debt
of some $414,000.00. Consistent with Livingston, it is the value of the
benefit at the time of transfer which matters and not the value of a possible
realizable security at a future date should related property values change and
inchoate rights of enforcement become choate. In short, the Howe Island
Collateral Mortgage did not diminish the value of the Howe Island Property
because the Cochrane Property had more than sufficient equity at the Transfer
Date to satisfy all security registered against it.
[39]
For these reasons, the appeal is dismissed and
costs are awarded to the Respondent on a party and party basis in accordance
with the Tariff.
Signed at Ottawa, Canada, this 12th day of February 2015.
“R. S. Bocock”
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