Veltri and Son Ltd., Lianna Developments Ltd. and 511060 Ontario Ltd. v. Minister of National Revenue, [1991] 1 CTC 2691, 91 DTC 862

Brulé, T.C.J.:—By agreement these appeals were heard on common evidence. They stem from reassessments to each of the appellants, all Ontario companies. In the case of Veltri and Son Ltd. (Veltri) this involved the characterization of profits from the sale of realty wherein the appellant claimed such were of a capital nature whereas the Minister deemed the profits to be income. In addition the Minister made a direction that Veltri was associated with Lianna Developments Ltd. (Lianna) in each of its 1985 and 1986 taxation years, while in the case of 511060 Ontario Ltd. (511060) the Minister's direction also included 511060 to be associated with Veltri and Lianna in the 1986 taxation year. These directions involving Lianna and 511060 were the subject of reassessments to each and thereafter followed their appeals. The issues therefore involve Veltri in the matter of profits on the sale of some realty and all three companies in the determination of their being associated under the provisions of subsection 247(2) of the Income Tax Act, R.S.C. 1952, c. 148 (am. S.C. 1970-71-72, c. 63) (the "Act") as it existed during the years under appeal.

Facts

Veltri, whose year-end for taxation purposes was March 31, purchased property in Oshawa known as the Lasalle Apartments in May 1983. After holding these for a brief period, one of the four buildings involved was sold in the 1985 taxation year and the remaining three in the 1986 taxation year. These sales gave rise as to the dispute over the allocation of profits as income or capital. All the shares of Veltri are owned by Mario Veltri. It was in the construction and development business.

Lianna was incorporated in October 1982 with all the shares being owned by Anita Veltri, the wife of Mario. This company carries on the business of home and apartment construction and sale and land development in the Bowman- ville, Oshawa and surrounding areas.

511060 was incorporated in April 1982. From that date until May 30, 1985, Mario Veltri owned the one issued common share at which time he sold this to his son, Frank for $1. This company, also having a year end of March 31, was inactive until its sale to Frank and in its tax returns ending March 31, 1983, 1984 and 1985 Veltri declared 511060 to be an associated corporation. After acquisition by Frank Veltri the company began a business of construction and sale of residential housing thus resembling the business activity of both Veltri and Lianna.

Appellant's Position

Dealing first with Veltri's sale of the Lasalle Apartments the Court was told that this property was purchased hastily under a Power of Sale without a full inspection of all 32 units. Mario Veltri claims that he tried to put the property into good condition and to this end spent some $50,000 in repairs and capital expenditures. He attempted on two occasions to have the rentals increased to make the project a viable one. He was met with only modest grants for increases. With more tenant problems arising Veltri sought and was successful in obtaining severances of the four buildings involved, thus giving him a larger market for sales of the components of the property. Veltri was successful in selling one building in its 1985 taxation year and the others in 1986. It was claimed that the moneys received were placed in other rental investment projects. As a result the claim for capital gains should stand.

With reference to the issue of associated companies the evidence given to the Court was that Veltri was in an economic fragile state and so Mario Veltri transferred his home to his wife, purchased the 11/2 shares which she held in Veltri and then created Lianna, owned exclusively by Anna Veltri. Lianna bought lots from Veltri, shared office space with Veltri, had help from Mario Veltri and from Frank Veltri but it was claimed that the incorporation was formed only for economic reasons and not tax benefits.

511060 was originally created by Mario Veltri to buy a property but did not succeed. The company remained dormant until purchased by Mario's son, Frank. This latter person had worked with his father since his youth, had continued his studies in business and property management which included courses pertaining to house-building and a paper project which required building a home from start to finish. Upon graduation Frank Veltri wished to commence building on his own and so acquired his father's dormant company. He purchased serviced lots from Veltri, subcontracted much of the work and managed successfully with minimum help. Frank Veltri, on behalf of his company often supervised work of Veltri and Lianna. This company carried on independent work and it was claimed not to be associated with the other two except in assisting them from time to time.

In support of the position taken by the appellants as to associated companies the Court was referred to many decided cases, some of which will be discussed below.

Minister's Position

As to the profit from the Lasalle sale, counsel suggested that the evidence showed that Veltri was a trader as well as an investor. Mario Veltri was an astute businessman and only the possibility of a quick profit, or at least a secondary intention of such, could motivate him to buy the Lasalle complex without a proper investigation. The subsequent sales, counsel maintained, verified this. Reference was made to two cases in support of considering the profit as a trading one. These were:

Leonard Reeves Inc. v. M.N.R., [1985] 2 C.T.C. 2054; 85 D.T.C. 419

Darade Investments Ltd. v. M.N.R., [1985] 2 C.T.C. 2168; 85 D.T.C. 525

Turning to the question of associated companies the respondent's counsel submitted that the Court has no jurisdiction in the context of Veltri's appeal since the direction by the Minister issued pursuant to subsection 247(2) of the Act did not in any way affect Veltri's tax payable for the years in issue.

Section 247(2) of the Act for the years in question read as follows:

(2) Where, in the case of two or more corporations, the Minister is satisfied

(a) that the separate existence of those corporations in a taxation year is not solely for the purpose of carrying out the business of those corporations in the most effective manner, and

(b) that one of the main reasons for such separate existence in the year is to reduce the amount of taxes that would otherwise be payable under this Act or to increase the refundable investment tax credit under section 127.1

the two or more corporations shall, if the Minister so directs, be deemed to be associated with each other in the year.

Counsel pointed out that the evidence did not support the fact that the separate existence of Veltri and Lianna was solely for the purpose of carrying out the business of these corporations in the most effective manner. Further it was said that one of the main reasons for such separate existence of Veltri and Lianna during the years in question was to reduce the amount of taxes that would otherwise be payable under the Act.

The same argument was advanced vis-à-vis Veltri and 511060. In the 1986 taxation year 511060 received interest-free loans of $200,000 from Lianna and $150,000 from Veltri, thus pointing to the close association of all three companies. The companies sold property to one another, loaned moneys, performed services and made guarantees. Not all of these took place among the three companies, but in sufficient numbers over the period for the Minister to be correct in his direction.

Analysis

I shall deal with the two issues individually involving where necessary one or more of the appellants.

(1) Sale of Lasalle property

A decision to be made in a trading case such as this is a factual issue. One may look at the principles which have been enunciated in helping to arrive at a conclusion. The two cases referred to by the Minister's counsel, supra, are not of much help per se. Unlike the present appeals they involved corporations who were involved as partners in realty transactions. The Reeves case, supra, however, does set out principles to be considered. Certain ones have application to these appeals. They are as set out by Christie, J. at page 2058 (D.T.C. 421):

1) If the appellant is a corporation, the relevant intentions to be attributed to it are those which the natural person by whom it was managed and controlled had for it.

3) The direct evidence of a person who has an interest in the outcome of an appeal regarding the intention behind a transaction or series of transactions is not deter minative of the existence of the stated intention. Generally speaking the intention is to be ascertained from the entire course of conduct and relevant circumstances and the inferences flowing therefrom.

5) Evidence of transactions of the sale and purchase of real estate by an appellant after the years under review in an appeal is admissible.

7) If an individual who is an appellant has a history of trading in real estate or if the appellant is a corporation that is controlled by such a person, this is a relevant consideration which points away from the purchase in issue being made with the primary intention of securing an income-producing asset.

In each of the above principles Christie, J. refers to other cases which decided each principle.

Referring these principles to the present case it is found in the first that Mario Veltri is the person to attribute the intentions of Veltri as he did in his evidence and as set out above. While the evidence of Mario Veltri is not determinative as suggested in the second recited principle the course of conduct of Veltri in its dealings with the Lasalle complex points to a genuine effort to turn the apartments into an income producing asset. Over the years Veltri has been engaged in the sale and purchase of realty but an inspection of dealings both before and after Lasalle shows activity with rental property as follows:

The dealings by Veltri in rental properties are not inclusive of purchase and sales of land and the development thereof and buildings constructed. All of these dealings which produced income for Veltri were reported as such. This is linked to the seventh principle but although such would point to Lasalle as being a trading asset the two principal endeavours of Veltri may be kept separate, one being the dealing in land and buildings, while the other involves the accumulation of rental units.

In the chart above outlining rental properties acquired by Veltri a satisfactory explanation was given why the few which were not retained were sold. I am satisfied that Veltri intended to make Lasalle a part of its portfolio of rental properties, the explanation given why this did not work out and accordingly why the profit was treated as capital. The appeal of Veltri is thus allowed in this respect.

(2) Associated Companies

A brief summary of the three appellants' activities has been set out above. There is no doubt that Veltri assisted the others either directly or through its shareholder Mario Veltri. In support of their positions counsel for both parties referred the Court to some 22 cases. I intend to refer to only a few of these which are important in reaching a conclusion.

The principal determination to be made by the Court is whether or not the main reason for the existence of two or more corporations is to reduce the amount of tax that would otherwise be payable under the Act. As was stated in Svend Krag-Hansen and Krag-Hansen Enterprises Ltd. v. The Queen, [1986] 2 C.T.C. 69; 86 D.T.C. 6122 at 71 (D.T.C. 6123):

In our opinion, the two paragraphs of subsection 247(2) require the Minister to make what is in substance only one determination, namely that the existence of the various corporations is not solely for the purpose of carrying out business in the most effective manner because one of the main reasons for the existence of the separate corporations is to reduce the amount of tax payable under the Act.

The evidentiary requirements of the taxpayer was best summarized in The Queen v. Covertite Ltd., [1981] C.T.C. 464; 81 D.T.C. 5353 wherein it was said at 465 (D.T.C. 5355):

To succeed, the taxpayer must: (a) disprove the facts assumed by the Minister in reaching his conclusion; or (b) convince the Court that the inferences drawn by the Minister from the facts assumed were unreasonable and unwarranted; or (c) provide further facts capable of changing the whole picture and leading to different inferences pointing to the conclusion that the other reasons alleged have actually been prevalent.

In that case the defendant was incorporated in Quebec in 1958 to carry on a roofing business. In 1969, 20 per cent of its work was carried on in Ontario. In 1970, an Ontario corporation was created to carry on the roofing business in that province. In 1972, the Quebec corporation was 98 per cent owned by W and the Ontario corporation was 98 per cent owned by W's wife. The defendant contended that the Ontario corporation was created by the wife because due to the social climate in Quebec she wished to move to Ontario. The Court first reviewed the facts upon which the direction was made. The Court stressed that all the moneys needed for the setting up of the Ontario operation were advanced by the Quebec company, except that they were entered in the books as loans to a director, the husband. W also personally endorsed an important bank credit secured by the newly formed company. The defendant also sold equipment and machinery to the Ontario company, advanced money, paid a substantial amount for material, supplies and rent. The two companies had a common employee supervising the activities. The records also showed that the defendant company was consistently adjusting its salaries and bonuses so that the net profit remained just below the amount at which a higher tax rate would have been payable which, in the Court's judgment, made it clear that tax considerations were important. Although the answers of the witnesses were technically correct, they amounted to a mere denial of the Minister's conclusions which is insufficient to allow the Court to vacate the direction.

Counsel for the Minister referred, amongst others, to three cases which in all the appellants referred to reasons why other companies were formed. These were.

(1) M.N.R. v. Howson, [1970] C.T.C. 36; 70 D.T.C. 6055

(2) Classic's Little Books Inc. v. The Queen, [1973] C.T.C. 94; 73 D.T.C. 5096 (3) Industrial Trailer Rental Ltd. v. The Queen, [1974] C.T.C. 775; 74 D.T.C. 6577.

The reasons given were basically consistent and as found in the headnote of the Howson case, supra, were

(1) to mitigate the risks inherent in a proposed expansion of the existing facilities,

(2) to provide a separate investment for certain members of the family,

(3) to conduct under different companies businesses that were substantially different, and

(4) to facilitate the sale of one of the companies, if necessary.

In all these cases the Court decided that the reduction in taxes was one of the main reasons for a separate corporate existence and as a result the appeals were each dismissed.

The case of Les Installations de l'Est Inc. v. The Queen, [1990] 1 C.T.C. 324; 90 D.T.C. 6174 stressed that it is improper to conclude that simply because tax benefits were the result of the creation and separation into two or more corporations that such tax reduction was one of the main reasons for a second company. In that case the Court was convinced that the intention of forming the second corporation was to provide children with an enterprise separate from that of their father.

In Lenco Fibre Canada Corp. v. The Queen, [1979] C.T.C. 374; 79 D.T.C. 5292 the Court established that the reason for the second company was to enable a wife to realize through this company the value of the services she was rendering to her husband's company free from any claims against them. This separation of liability may have given rise to a reduction of tax but this latter result was not the main reason for the wife's company. The Court said at page 375 (D.T.C. 5293):

The question is one of fact. But, in considering it, it is to be borne in mind that it is quite possible that there may be more than one main reason for the separate existence of two or more corporations. Indeed that it recognized by the language of both subsection 2 and subsection 3, and that the question is not whether there were other main reasons but whether one of the main reasons was to reduce the amount of tax that would otherwise be payable. The fact that there were other main reasons is no doubt relevant and may in some cases help to negative a conclusion that the reduction of tax was a main reason. But, the existence of other main reasons while relevant and, conceivably, depending on their nature, persuasive, will not alone answer the question unless such reasons are inconsistent with or are enough to negative the reduction tax payable as a main reason. On the other hand the word “main” must be given its significance. In the French language version of the statute, the corresponding word is “ principaux”. Not every reason will meet this standard. Thus, even where the reduction of taxes payable is a reason, a judgment must still be made as to whether it was a main or principal reason.

Separation of liability to protect a less risky business from a more risky one provided the main reason for the incorporation of another company as is found in the case of The Queen v. Bobbie Brooks (Canada) Ltd., [1973] C.T.C. 341; 73 D.T.C. 5357. The evidence established in that case that the two corporations carried on two different businesses each operating independently.

Providing a vehicle for children and family to get established in their own business has proven to be a sufficiently compelling main reason for the separate existence of other corporations by members of the same family. See: C.P. Loewen Enterprises Ltd. v. M.N.R., [1972] C.T.C. 396; 72 D.T.C. 6298.

Estate planning and financial security benefits have also been cited as main reasons. Such was held in the Lenco case, supra, as well as in Jabs Construe- tion Ltd. v. M.N.R., [1983] C.T.C. 2668; 83 D.T.C. 633, and Leggat Leasing (Halton) Ltd. v. M.N.R., [1978] C.T.C. 2030; 78 D.T.C. 1035.

In Holt Metal Sales of Manitoba Ltd. and Industrial Metals Processing Ltd. v. M.N.R., [1970] C.T.C. 144; 70 D.T.C. 6108 the incorporation of three companies, two respectively for husband and wife and one for the children was explained by saying (1) that because the operations were different they required separate operating organizations, (2) they were necessary for the creation of an estate for the children, and (3) they provided the means by which the risks of one company would not impede the others. The Court felt, however that the evidence failed to establish that the only practicable method of achieving the stated objective was the creation of different companies, and concluded that the very substantial reduction in tax must have been, consciously or not one of the motivating factors. The appeals were accordingly dismissed.

The cases outlined above contain the arguments advanced in the present appeals. The Court is entitled to consider what evidence is important and what is not in reaching a conclusion. The Court must, according to the test outlined in the Covertite case, supra, find that the evidence has either disproved the facts assumed by the Minister, convinced the Court that the inferences drawn from the facts assumed were unreasonable and unwarranted or changed the whole picture by providing further facts.

In the particular appeals now before the Court the appellants have attempted to establish that the overriding reasons for incorporating Lianna was for protection purposes as Veltri was showing signs of trouble. On the other hand, 511060 was created to ensure a future for the son and providing a vehicle to get him established in his own business.

It seems to me, however, that the appellants have failed to show that the inferences drawn from the facts assumed by the Minister are unreasonable and unwarranted. There is here an extensive overlap of business activity, resources and overhead. Lianna seems to be an extension of Veltri. Most of the lots owned by Lianna were the subject matter of an agreement with Veltri. Veltri house plans were used by Lianna, interest free loans and letters of credit were given by Veltri and there was no separate business premises. Finally, the figures show that the appellants managed by the creation of these corporations to keep their taxable income under the annual business limit of $200,000. By 1982, Veltri had reached its total business limit and used all its non-capital losses carried forward from previous years. The incentive to create new corporations was present. The figures show an awareness of tax matters and while the Veltri family testified that they did not know about the small business deduction, surely the accountant must have. Veltri and Lianna are held to be associated during the years under appeal. I am however led to the conclusion that the numbered company (511060) provided a vehicle for the son's ambition to create his own enterprise. Frank Veltri was a student in administration and an experienced builder and while he helped the other companies for a fee he did not rely on them. 511060 was therefore not associated with Veltri or Lianna for the purpose of this appeal.

Accordingly, these appeals are allowed on the basis that the sale of the Lasalle property by Veltri be on capital account, the companies Veltri and Lianna are held to be associated during the years in question, while 511060 is not associated with either or both of the other appellants. The matter will be referred back to the Minister for reconsideration and reassessment. The appellants are allowed one set of costs.

Appeal allowed in part.