Wolofsky v. Canada, 2001 FCA 119

Date: 20010430

Docket: A-778-99

Neutral citation: 2001 FCA 119

CORAM:        DESJARDINS J.A.

DÉCARY J.A.

NOËL J.A.

BETWEEN:

KENNETH WOLOFSKY

Appellant

- and -

HER MAJESTY THE QUEEN

Respondent

Docket: A-779-99

BETWEEN:

SYDNEY WOLOFSKY

Appellant

- and -

HER MAJESTY THE QUEEN

Respondent

Docket: A-777-99

BETWEEN:

PETER WOLOFSKY

Appellant

- and -

HER MAJESTY THE QUEEN

Respondent

Heard at Montreal, Québec, Wednesday, April 4, 2001

Judgment delivered at Ottawa, Ontario, Monday, April 30, 2001

REASONS FOR JUDGMENT BY:                                                                        NOËL J.A.

CONCURRED IN BY:                                                                              DESJARDINS J.A.

                                                                                                                         DÉCARY J.A.

Date: 20010430

Docket: A-778-99

Neutral citation: 2001 FCA 119

CORAM:        DESJARDINS J.A.

DÉCARY J.A.

NOËL J.A.

BETWEEN:

KENNETH WOLOFSKY

Appellant

- and -

HER MAJESTY THE QUEEN

Respondent

Docket: A-779-99

BETWEEN:

SYDNEY WOLOFSKY

Appellant

- and -

HER MAJESTY THE QUEEN

Respondent

Docket: A-777-99

BETWEEN:

PETER WOLOFSKY

Appellant

- and -

HER MAJESTY THE QUEEN

Respondent

REASONS FOR JUDGMENT

NOËL J.A.

[1]                These are appeals from judgements rendered by Pinard J. (reported at 2000 D.T.C. 6302) by which he dismissed the appellants' appeals by way of trial de novo from judgements of the Tax Court of Canada (reported at 1990 D.T.C. 1345) dismissing the appeals against reassessments for their 1971 taxation year concerning the application of the then section 85B of the Income Tax Act, 1952 S.C., c. 148 (the "Act"). The three appeals were consolidated and heard together by order of this Court. These reasons will dispose of the three appeals.

The Facts

[2]                The appellants operated a business under the name Lajeunesse Holdings in which they each held an interest of 33 1/3%. In 1960, the appellants acquired, in the course of the business, 13 lots on which 11 apartment buildings were built ("Fleury Gardens"). Between July 1961 and July 1962, the appellants acquired loans totalling approximately $1,470,000 which were secured by hypothecs on Fleury Gardens.

[3]                On August 1^st, 1962, Fleury Gardens was sold to Sutton Development Corp. ("Sutton") and Charlton Development Ltd. ("Charlton") for a price of $2,219,719.20. The appellants received $330,280.81 cash and the balance of $1,889,438.39 was to be paid to the appellants by monthly installments. This balance was comprised of $1,459,438.39 in outstanding loans secured by hypothecs on Fleury Gardens and a further amount of $430,000 secured by a vendor's privilege. The outstanding hypothecs were tolerated by Sutton and Charlton but not assumed. Fleury Gardens was sold by Sutton and Charlton on the same day to Cytro Real Estate Corporation which agreed to assume all existing hypothecs on the property.

[4]                The appellants' profit from the sale of the property was $678,272. For each of the 1962 to 1970 taxation year, the appellants reported the net amount in respect of their share of the profit from the 1962 sale in apparent compliance with section 85B and without challenge by the Minister.

[5]                By December of 1971, the amount secured by the vendor's privilege ($430,000) had been paid in full and an amount of $1,093,467.52 remained outstanding. Using the same formula as they had in the past, the appellants claimed, for the 1971 taxation year, a reserve of $111,387.89 each, pursuant to paragraph 85B(1)(d) of the Act calculated as follows:

[6]                The Minister, by reassessments dated July 28, 1978 issued against each of the appellants rejected the appellants' basis for reporting the profit from the 1962 sale for 1971 and included in their income for that year, their share in the profit element in all amounts receivable, in respect of the property sold in 1962, in 1971 and in all subsequent years.

[7]                The appellants first appealed the reassessments to the Tax Court of Canada, and on February 16, 1990, Judge Lamarre Proulx dismissed the appeals on the ground that for the 1971 taxation year, no money was owed to the appellants on account of the profit from the sale of the property. She stated at page 10 of her reasons:

What paragraph 85(B)(1)(d) of the Act says is that when a profit has been included in a taxpayer's income and a portion of that profit is payable but has not been yet paid, that part that has not been paid may be deducted as a reserve. The circumstances of this case bring me to believe that there was no money owed in the year under appeal to the taxpayers on account of the profit from the sale of the property. It may be true that the Appellants would have been obligated to pay, if the subsequent purchasers had defaulted on their payments and the value of the property could not have covered the balance of the loans still owed. However, no evidence was brought forward to the effect that the value of the unpaid balance of the mortgages was higher than the value of the property mortgaged. All subsequent purchasers have validly and personally assumed all of the Appellants' obligations towards the hypothecary creditors.

Judge Lamarre Proulx went on to modify the formula used by the appellants to compute their reserve on the basis that no amounts were receivable by them after 1971 in respect of the 1962 sale, thereby denying their claim to a reserve for the 1971 taxation year and thereafter.

[8]                The decision of the Tax Court Judge was appealed de novo to the Federal Court, and by judgement dated November 2, 1999, Pinard J. dismissed the appellants' appeal. While Pinard J. recognized that the amounts receivable by the appellants from the sale of the property in 1962 that had not been paid were still receivable at the end of the year 1971, he concluded that no amount could be considered reasonable as a paragraph 85B(1)(d) reserve for the 1971 taxation year. He said at paragraph 18 of these reasons (translation):

In the case at bar, I consider that the circumstances justified the Minister in changing his mind, which he may generally do from one taxation year to another, and considering that no amount could have been regarded as reasonable in respect of the 1971 taxation year for purposes of a reserve within the meaning of s. 85B(1)(d) of the Act, for all the following reasons:

- the balance of the selling price on the plaintiffs' property at December 31, 1971, $1,093,467.52, corresponded exactly to the balance of the plaintiffs' hypothecary debts on the same property which were expressly assumed by the subsequent purchaser Cytro;

- the selling price balances owed the plaintiffs, namely $230,000 and $200,000, when they sold their property on August 1, 1962 were paid to them in full before December 31, 1971;

- between August 1, 1962, the date their property was sold, and December 31, 1971, the end of the fiscal year in question, the plaintiffs, still holding obligations assumed to them by the purchasers Sutton and Charlton, and still bound to their own hypothecary creditors, had in fact agreed that their hypothecary obligations would be paid in full by a subsequent purchaser of their property;

- the plaintiffs in fact benefited before December 31, 1971 from the full profit from the sale, $678,272, in view of the amounts from their hypothecary loans in question, the cash payment of $330,280.81 on the day of the sale and the repayment of the balances of $230,000 and $200,000 owed to them by the purchasers of their property;

- after the sale of their property, as they never had to pay their hypothecary creditors directly, the latter's rights having been entirely assumed and observed by a subsequent purchaser of the property in question, the plaintiffs were not required after 1971 to lay out any sum in connection with the property and its related hypothecs.

[9]                This passage in the original decision reads as follows:

Dans le présent cas, je suis d'avis que les circonstances justifiaient le Ministre de se raviser, ce qu'il peut généralement faire d'une année d'imposition à l'autre, et de considérer qu'aucun montant ne pouvait être considéré raisonnable, en regard de l'année d'imposition 1971, pour fins de réserve au sens de l'alinéa 85B(1)d) de la Loi, et ce, pour l'ensemble des motifs suivants:

                       - le solde du prix de vente de la propriété des demandeurs, au 31 décembre 1971, soit 1 093 467,52 $, correspondait entièrement au solde des dettes hypothécaires des demandeurs reliées à la même propriété et expressément assumées par l'acheteur subséquent Cytro;

- les balances de prix de vente dues aux demandeurs, soit 230 000 $ et 200 000 $, lorsqu'ils ont vendu leur propriété au 1^er août 1962, leur ont été entièrement remboursées avant le 31 décembre 1971;

       - entre le 1^er août 1962, date de la vente de leur propriété, et le 31 décembre 1971, fin de l'année fiscale en cause, les demandeurs, toujours titulaires des obligations envers eux assumées par les acheteurs Sutton et Charlton, et toujours liés vis-à-vis leurs propres créanciers hypothécaires, ont bien accepté toutefois, dans les faits, que leurs obligations hypothécaires soient entièrement satisfaites par un acheteur subséquent de leur propriété;

       - les demandeurs ont en fait profité, avant le 31 décembre 1971, de l'entier profit de la vente, soit 678 272 $, compte tenu des sommes provenant de leurs emprunts hypothécaires en cause, compte tenu du paiement comptant de 330 280,81 $ au jour de la vente, et compte tenu du remboursement des soldes de 230 000 $ et de 200 000 $ qui leur étaient dues par les acheteurs de leur propriété;

       - les demandeurs, après la vente de leur propriété, n'ayant jamais eu à payer directement leurs créanciers hypothécaires, les droits desquels ayant été entièrement assumés et respectés par un acheteur subséquent de la propriété en cause, ils étaient peu exposés, après 1971, à débourser quoi que ce soit en regard de cette propriété et des hypothèques y rattachées.

[10]            These appeals are from the foregoing decision of Pinard J.

Position of the Parties

[11]            In support of their appeal, the appellants submit that while the grounds identified by the Trial Judge might support a conclusion as to the amount claimed as a reserve pursuant to paragraph 85(B)(1)(d), they are not relevant to the issue at hand, that is whether the appellants have a right to a reserve. The appellants claim that once the Trial Judge acknowledged that they were legally entitled to receive payments under the 1962 contract of sale after 1971, they had a right to a reserve under paragraph 85B(1)(d) and it was not open to the Trial Judge to hold that no amount could be claimed as such. As the Minister's sole ground for resisting the appeals was that the appellants were entitled to no deduction and as he took no position in the alternative as to the amount that could be claimed if they were so entitled, the appellants submit that the reserve which they claimed must be accepted as reasonable.

[12]            The appellants further argue that the Trial Judge made a palpable error when he held that all the profits from the 1962 sale had been received by 1971 despite the fact that a balance of sale in the amount of $1,093,467 remained outstanding at the end of that year.

[13]            The respondent takes the position that the conclusion reached by the Trial Judge is one of fact which has not been shown to be unreasonable having regard to the evidence which was before him. In this respect, the respondent relies on the reasons of the Trial Judge and in particular paragraph 18 thereof and the reasons of Judge Lamarre Proulx to the extent that they reflect the same reasoning. Counsel for the respondent indicated during the hearing that he does not rely on the reasons of Judge Lamarre Proulx insofar as they relate to the modified formula that she applied to deny the reserve.

Analysis and Decision

[14]            Subjection 85B(1) provides:

[15]            This provision creates special rules where land is sold in the course of a business for an amount all or part of which is receivable after the year of the sale. Absent this provision an amount receivable in a future year is included in computing profit for the year of the sale, at a value which takes into account the fact that payment is delayed, and tax is paid at once. The subsequent receipt of the amounts payable pursuant to the sale is not a taxable event.

[16]            Pursuant to subsection 85B(1), the amount receivable in a future year must be included in computing income for the year of the sale at face value but there is deductible at the same time, the profit element in that amount. With respect to the subsequent years, there must be included the profit element in the amount received in the year computed by deducting from the paragraph (d) deduction for the preceding year the paragraph (d) deduction for the current year.

[17]            Bearing in mind that, apart from subsection 85B(1), there would be no liability in 1971 in respect of profit from a sale in 1962, the tax imposed on the appellants in 1971 with respect to this sale must result from the operation of subsection 85B(1) which requires the appellants to include in the computation of their 1971 income (paragraph (e)) the amount deducted under paragraph (d) in 1970 and which allows for the deduction of a "reserve" for 1971 for which provision is made by paragraph (d).

[18]            The Trial Judge made a number of findings that are relevant to the disposition of the appeal. He found that the appellants although they had little exposure ("peu exposés") remained liable for the outstanding loans which had a value equivalent to the balance of sale (paragraph 18 of the reasons, first and last subparagraph).

[19]            The Trial Judge by his judgment also made it clear that the amounts receivable by the appellants by virtue of the 1962 sale were, to the extent that they had not been paid, still receivable at the end of 1971, and that the amounts relied on by the appellants in computing their 1971 income tax liability were correct (particular reference is made to paragraph 18 of reasons, first and third subparagraph). However, he held that these amounts did not entitle them to a reserve.

[20]            In my view, when there has been included in computing a taxpayer's income, for the year of a sale of land, an amount receivable in a subsequent year as required by paragraph 85(1)(b), a paragraph (d) reserve cannot be denied for an intervening year on the ground that the amount so included is not an "amount receivable". Put differently, where an amount is included, by the operation of paragraph 85B(1)(b), in computing income for a year before it is receivable, the taxpayer has the right, every year before the amount becomes payable, to claim a paragraph (d) reserve.

[21]            The tax payable in respect of an amount receivable after the year of the sale is imposed on the profit element of the amount receivable in the taxation year. This is so because paragraph (e) provides that it is imposed on the profit element in the amount receivable in the taxation year and thereafter, less, by virtue of paragraph (d), the profit element in the amount receivable after the taxation year.

[22]            Paragraph (b) and paragraph (d) of subsection 85B(1) are essential components of a single enactment which provides that in computing income for a year, a profit arising from an amount receivable that is not yet receivable will be included for every year until it is receivable and, the profit element so included may be deducted in computing income for any year before it is receivable. The result is that the profit element in a receivable is only included in income for the year in which it is receivable.

[23]            As the inclusion in income takes place on the basis that there is an element of profit in the amount receivable that was not yet receivable in the year, it can be seen that the paragraph (d) deduction cannot be denied on the basis that this amount bears no element of profit. Conversely, if one were to assume in the case at hand that the paragraph (d) deduction was properly refused because this amount bore no element of profit, the reassessment in issue would be wrong to the extent that it includes this amount in income on the basis that it bears an element of profit.

[24]            Counsel for the respondent argued that the decision of this Court in The Dominion of Canada General Insurance Company v. The Queen, 86 D.T.C. 6154 precludes this comprehensive interpretation and application of subsection 85B(1). According to counsel, it is the fact that an amount has been deducted under that provision that compels its inclusion into income regardless of its composition and whether or not it was properly deducted in the first place.

[25]            The issue in Dominion of Canada was whether an amount had to be included in the computation of income pursuant to paragraph (e) in circumstances where it could be shown to have been improperly deducted in the prior year pursuant to paragraph (c). Stone J.A. described the argument as follows at 6162:

The appellant puts its argument in this way. As it was not required or permitted by the Act as it stood in 1968 to do so, the policy reserve against other-than-life insurance income for that year was not "deducted under paragraph (c)" of subsection 85B(1) so as to require its inclusion in 1969 income pursuant to paragraph 85B(1)(e). Although, says the appellant, as a matter of fact an amount was deducted as a policy reserve in 1968 it was not deducted as a matter of law and therefore there was no need to include it in 1969 income. This submission has the attraction of simplicity. The appellant further argues that the learned Trial judge erred in not considering whether that amount "could as a matter of law be ‘deducted under paragraph (c)' in computing" income for 1968.

As I see it, this argument is not so much a direct challenge to the validity of the 1968 assessment (which was not appealed and is long since closed) as it is an attempt to argue a legal effect in computing 1969 income from what the appellant says ought to have been done in reporting 1968 income. I think it may be legitimately advanced notwithstanding that the 1968 taxation year of the appellant is plainly a closed book. The Court must thus consider whether there is merit to the argument in light of the provisions of paragraph 85B(1)(e) as it stood in 1969 and also in light of what the appellant actually did in computing other-than-life insurance income in 1968.

[26]            Stone J.A. then proceeded to dispose of the matter as follows at 6163:

The words of paragraph 85B(1)(e) are directed toward the inclusion in income of an "amount" that was "deducted" in the previous year and not toward an amount that was "deductible"¹¹ in that year. Had that word been used by Parliament, it might have added some force to the appellant's contention that, to be recapturable as income in 1969, the amount in issue had to have been properly deducted in 1968.

I find the respondent's argument compelling. In its 1968 taxation year the appellant deducted the amount in issue as a policy reserve (calculated according to Regulation 1400) on the basis that it was entitled to do so and its income was assessed accordingly. To be claimable in 1969 a new policy reserve had to be calculated in that year and not simply brought forward from the preceding year. Although, on my analysis, the foregoing amount was not required to be deducted in 1968, that circumstance cannot alter the fact that it was deducted as a policy reserve in that year. This is particularly so when the appellant made no attempt to challenge the correctness of the 1968 assessment which it could have done by taking appeal proceedings against it in a timely fashion. It accepts that assessment as binding and has never questioned its validity.

In my view, it would require an unduly narrow construction of paragraph 85B(1)(e) to say that its language did not require inclusion of the amount deducted in 1968 in the appellant's 1969 income. Though, undoubtedly, it applies to an amount that is properly deducted, I can see no reason for restricting its application to that circumstance alone. On the contrary, its language seems sufficiently wide to bring within its reach an "amount" that was in fact "deducted" in a previous year by a taxpayer complying or purporting to comply with the provisions of paragraph 85B(1)(c). This is particularly so where, as here, the assessment of that income has been made and accepted and cannot now be challenged by the appellant but, rather, must be taken as valid and binding. I am unable to conceive that Parliament intended anything more by this paragraph than that a taxpayer must bring into income in its current taxation year that which it had deducted as a policy reserve in its immediately preceding taxation year.

            __________________________

         ¹¹ The respondent contrasts the use by Parliament of the word "deducted" with the word "deductible" as it later appeared in section 111(3) of the Act which limited the amount of certain losses claimable in a taxation year to the extent it exceeded amounts "deductible" in prior years. That subsection as it appeared in S.C. 1970-71-72, c. 63 read:

                               "(3) For the purposes of subsection (1),

     (a) an amount in respect of a non-capital loss, net capital loss or restricted farm loss, as the case may be, for a taxation year is only deductible to the extent that it exceeds the aggregate of

    (i) amounts previously deductible in respect of that loss under this section, and

    (ii) amounts previously subtracted in respect of that loss under paragraph 186(1)(c) or (d) in determining amounts on which tax under Part IV has become payable; and

(b) no amount is deductible in respect of a non-capital loss, net capital loss or restricted farm loss, as the case may be, for any year until

    (i) in the case of a non-capital loss, the deductible non-capital losses,

    (ii) in the case of a net capital loss, the deductible net capital losses, and

                                (iii) in the case of a restricted farm loss, the deductible restricted farm losses,

   for previous years have been deducted."

[27]            In my view, this decision must be construed in light of its particular facts. The appellants had benefited from the deduction of an amount which had been accepted by the Minister and which could no longer be challenged, but was resisting its inclusion in income in the following year pursuant to paragraph (e) alleging that there had been no basis for the deduction. That is the context in which the Court held that although paragraph (e) "undoubtedly" applies to an amount that is properly deducted, there was no reason to restrict its application to that circumstance alone in this particular case.

[28]            While the use of the word "deducted" rather than "deductible" allowed the Court, on a literal construction, to extend the application of paragraph (e), it seems clear that the word "deducted" was used because subsection 85B(1) provides for a deduction which must in fact be claimed i.e. "deducted" (contrast ss. 111(3) quoted by Stone J.A. at footnote 11), and not because Parliament envisaged that amounts which do not qualify thereunder could be "deducted" or "included" as the case may be.

[29]            Properly understood, the proposition for which the Dominion of Canada decision stands is that a taxpayer who has benefited from the deduction of an amount on the basis that it was properly deducted in one year is estopped from claiming that it was not properly deducted in order to avoid its inclusion in income in the following year. No such issue arises here.

[30]            In my view, Parliament could not have contemplated the inclusion in income of an amount not receivable after the relevant year(s), without the unconditional provision for deduction of that amount in each year until the year in which the amount is receivable. Paragraph 85B(1)(d) must be applied as it expressly provides, that is, where "an amount has been included in computing ... income ... for a previous year in respect of property sold ... and that amount ... is not receivable ... until ... after ... the taxation year there may be deducted a reasonable amount as a reserve in respect of that part of the amount so included ... that can be reasonably be regarded as a portion of the profit from the sale". To hold otherwise would result in subsection 85B(1) imposing a tax on the profit element of a receivable before it becomes a receivable, a construction which was obviously not intended.

[31]            The lengthy passage quoted by the Trial Judge from the decision of this Court in The Queen v. the Ennisclare Corporation, 1984 D.T.C. 6265 does not support the conclusion that he reached. The issue in that case was what "part" of the amount included by the Ennisclare Corporation in computing its income could reasonably be regarded as a portion of the profit from the sale for purposes of paragraph 85B(1)(d). That is the context in which this Court expressed the opinion that an "inflexible formula" was not warranted.

[32]            What is in issue here is whether there is an "amount" that gives rise to a right to a paragraph (d) deduction, and the Trial Judge overlooked that, while there is no inflexible formula for determining what "part" of the amount receivable can "reasonably be regarded" as a portion of the profit, the question whether there is a right to a reserve so calculated must be answered by paragraph 85B(1)(d). The Trial Judge, upon finding that the appellants were owed amounts receivable by virtue of the 1962 sale, which were still receivable at the end of their 1971 taxation year, was bound to hold that the appellants were entitled to such a reserve. While the factors which he identified at paragraph 18 of his reasons might support a conclusion as to the amount of the reserve which could be claimed, they have no bearing on the appellants' right to a reserve.

[33]            As the sole position advanced by the Minister in these proceedings has been that the appellants are entitled to deduct no amount, and as the Minister has taken no position as to the reserve which the appellants could reasonably claim in the event that they were so entitled, the reserve claimed by the appellants, computed as it was by reference to the basic formula used for such purposes, must be taken as reasonable.

[34]            I would allow the appeals, set aside the judgments appealed from and order that the reassessments be set aside and the matter referred back to the Minister for reconsideration and reassessment on the basis that the appellants were entitled to deduct the reserve claimed in their returns for the 1971 taxation year, with costs in favor of the appellants here and in the Trial Division.

             "Marc Noël"                    

J.A.

"I concur

Alice Desjardins J.A."

I agree

Robert Décary J.A."