Saikali v. R., [1996] 1 CTC 2547, 98 DTC 2249

Bonnner J.T.C.C.: — The appellant appeals from reassessments under the Income Tax Act, R.S.C. 1952, c. 148 (am. S.C. 1970-71-72, c. 63) (the “Act”) for the 1983 to the 1989 taxation years. By those reassessments the Minister of National Revenue (“Minister”) included in income a gain on the sale of the appellant’s interest in real estate known as the Fallowfield property and certain amounts of interest income earned by the appellant on certificates of deposit and on a mortgage. Neither the real estate gain nor the interest income was declared by the appellant in the returns of income filed by him under section 150 of the Act. As well, the Minister assessed penalties under subsection 163(2) of the Act in respect of all additions to declared income. The reassessments for the 1983, 1984, 1985 and 1986 taxation years were made more than three years after the initial assessments for those years.

The issues raised in this proceeding have shifted and changed over time. According to the amended Notice of Appeal filed at the commencement of the hearing they are: i) whether “the monies received by the appellant paid from the proceeds of the sale” of the Fallowfield property were business income or capital gains of the appellant; ii) whether the calculation of interest income and interest on the tax were correct; iii) whether the penalties were properly imposed; iv) whether the reassessments for the years 1983 to 1986 were statute barred.

The fourth issue was raised for the first time by the Amended Notice of Appeal. The respondent was unable to file a Reply to the amended pleading. The respondent did not contend that the 1983 to 1986 assessments were made within the three year period or that any waiver had been filed. His position was that the appellant understated his interest income in his tax returns for the four years, that he failed to declare any part of the gain realized by him on the sale in 1983 of his interest in the Fallowfield property and that he thereby made misrepresentations attributable to neglect, carelessness or wilful default within the meaning of subsection 152(4) of the Act.

At the commencement of the hearing counsel for the appellant withdrew the challenge to the Minister’s calculation of interest income. He said, in relation to the portion of the Amended Notice of Appeal dealing with interest income

the calculations of interest is [sic] accepted by the Appellant in this case. It will not be an issue. The question very simply relating to interest will be relating to penalties.

Later in his opening remarks counsel for the appellant repeated that the issue relating to interest income earned on certificates of deposit was whether penalties under subsection 163(2) of the Act were exigible. Despite all of that counsel revisited the issue of the quantum of interest income in dealing with the 1989 taxation year.

At no time during the hearing was it suggested that the Minister miscalculated interest on tax.

The appellant was prosecuted for tax evasion in respect of some or all of the years in dispute. It would seem that he was acquitted. Issue estoppel was not pleaded in this case. No evidence was adduced regarding the charges laid or the formal judgment of the Provincial Court or the reasons given for that judgment. There is therefore no foundation for the attempt made by counsel for the appellant to raise, for the first time in argument, questions of issue estoppel based on reasons for judgment of the Provincial Court found in the appellant’s book of authorities.

The appellant was born in Lebanon in 1929. He emigrated to Canada in 1950. He received no formal education either in Lebanon or in this country. In 1952 he opened his first restaurant in Ottawa.

Subsequently he operated a succession of restaurants and a fruit store. In 1967 he opened a steak house in mid-town Ottawa. It was very successful and he subsequently opened a second steak house in a suburban area. The restaurant business was carried on by a corporation, Al’s Steak House Ltd. (“Al’s”). By 1990 the restaurant operation employed 140 persons. About 18 years ago the appellant, acting on the advice of accounting and tax advisors, formed another corporation, Halim’s Holdings Ltd. (“Holdings”) and rolled his investments over into it.

The appellant first acquired an interest in the Fallowfield property in 1974. He was approached by a real estate agent, Dave Polowin, who suggested that he join with five other persons in the purchase of the property which, at the time, consisted of raw land.

The objective was to rezone the property, to subdivide it and to sell residential lots. The plan called for the group to retain Solomon

B. Shinder, an Ottawa lawyer experienced in land development. Mr. Shinder was to take care of the rezoning and development work. Initially title to the land was taken by Dave Polowin who held it as bare trustee for the appellant and the other members of the investor group. Subsequently the appellant acquired the one-sixth interest of one of the others and he thereafter held a one-third interest in the venture.

In time it became necessary to remove title from the hands of Dave Polowin because a dispute had arisen between him and the investors and, as holder of the registered title, he was in a position to obstruct the ongoing development activity. At the suggestion of Mr. Shinder a corporation, 504464 Ontario Ltd., (“504464”) was formed on February 17, 1982. The Fallowfield property was conveyed to 504464 by deed dated March 1, 1982 and registered March 17, 1983. The consideration recited was $1.

By agreement dated September 19, 1983 the Fallowfield property was sold to Burnt Hill Developments Ltd. (“Burnt Hill”) for $758,000 payable $150,000 in cash on closing with the balance becoming due in 18 months and secured by an interest-bearing mortgage back to the vendors. By the time of the sale to Burnt Hill the development of the property had progressed considerably. Approval of a draft plan of subdivision had been secured. The transaction closed late in 1983 and the first payment of the proceeds of the sale was distributed among the investors before year end. Further payments were made in 1984 and 1985. On March 27, 1985 Mr. Shinder reported to the appellant that the final mortgage payment had been received. He paid over to the appellant the remainder of his proportionate share and furnished a statement in which he calculated the amount of interest income earned by the appellant in 1984 and 1985 on the Burnt Hill mortgage. In that letter the appellant was reminded that the named interest amounts should be used in calculating income tax.

The appellant’s tax returns for 1983, 1984 and 1985 [1] failed to disclose the gain on the sale of the Fallowfield property either as capital or income. As well they failed to disclose the interest income earned on the Burnt Hill mortgage. The amounts of interest received on the mortgage in 1983, 1984 and 1985 were $250, $17,138, and $335 respectively.

It was the appellant’s position that the intention of the investor group in purchasing the Fallowfield property was to fully develop the property by rezoning it, to subdivide it and to sell individual building lots. Circumstances led to the sale of the property before the registration of the plan of subdivision and the entire property was therefore sold in a block. It was contended that: (a) there was no secondary intention to sell the property in a block and, (b) the appellant’s history with respect to real estate consisted of acquiring and retaining properties as investments and not of flipping real estate. It was argued on the basis of the decision of Noël J. in Racine v. Minister of National Revenue (sub nom. Racine, Demers and Nolin v. Minister of National Revenue), [1965] C.T.C. 150, 65 D.T.C. 5098 (Exch.) that a desire to make a profit in dealing with a property is not sufficient to categorize the proceeds of disposition as income.

It is not necessary for the characterization of a gain as income that the gain be earned in precisely the manner foreseen at the outset. If a gain is earned in carrying out an adventure or concern in the nature of trade it is income. In my view what the investors did here and what they intended to do was to carry out an enterprise which amounted to an adventure in the nature of the trade of a land developer. The profit from such an operation is income whether the venture is the taxpayer’s first or one of a multitude. The doctrine of secondary or alternative intention has no bearing in a case such as this because investment in the Fallowfield property as a capital asset was never contemplated.

The appellant’s counsel contended further that the 1982 conveyance of title by Dave Polo win to 504464 was a non arm’s length transaction within the purview of section 69 of the Act. Counsel contended that the fair market value of the property at the time of its acquisition by 504464 was the basis for the determination of both the gain realized by the appellant upon the disposition by him of his interest in the property and of the profit of the numbered company on the sale to Burnt Hill. It was further contended that the monies from the sale to Burnt Hill which were distributed to the appellant by 504464 were taxable as dividends.

None of these issues was mentioned in the Amended Notice of Appeal although reference was made to them in the opening statement of counsel for the appellant. The evidentiary basis for the contentions is feeble. They rest on the premise that 504464 became legal and beneficial owner of the Fallowfield property as a consequence of the conveyance made to it by Dave Polo win. Counsel for the appellant pointed to the fact that the deed to 504464 did not describe the company as trustee. Counsel relied on a rather confused explanation in the land transfer tax affidavit attached to the deed to the effect that the company “... has been the sole beneficial owner during the entire period the lands have been or will be registered in the name of the grantor”. He contended that 504464 was always intended to be used as the “vehicle” to pursue the development of the lands. There was no evidence led regarding the value of the land at the time of the 1982 conveyance.

The evidence given at the hearing by Mr. Shinder, the lawyer who acted on behalf of the group of investors and who caused 504464 to be incorporated, together with the correspondence and documents prepared by him both before and after the transfer of title from Polowin to 504464 and from that corporation to Burnt Hill clearly establish that Polowin and, subsequently, 504464 held the land as bare trustees only and that the beneficial owners were the members from time to time of the investor group. Mr. Shinder is an experienced and able lawyer who had first hand knowledge of the relevant events. He was a wholly credible witness. Although 504464 was formed in 1982 there was no evidence whatever that the corporation was organized at any time before the sale to Burnt Hill or that it ever conducted any business operations. There was no evidence that 504464 entered into any agreement either with Polowin or with the investors for whom he held title to buy the Fallowfield property and obtain beneficial title to it. The suggestion that the payments made to the appellant in 1983, 1984 and 1985 consequent upon the sale to Burnt Hill were dividends can only be characterized as fanciful. It may be noted in passing that the appellant’s returns of income for the three years did not report the receipt of any dividend income from 504464.

The appellant’s stated philosophy was work hard, save your money and invest it. He appears to have been diligent in ensuring that available funds were put to work earning interest income. Of relevance in this case are investments of substantial sums of money in certificates of deposit (CDs) issued by the Bank of Nova Scotia and Scotia Mortgage Corporation. The interest income reported by the appellant did not include the following amounts earned on CDs, namely, $17,468, $62,613, $35,261, $14,172 and $28,075 in the taxation years 1984, 1986, 1987, 1988 and 1989 respectively. As to the years 1984 to 1988 that much was common ground. As to 1989 counsel for the appellant contended, despite his opening remarks, that the $28,075 had been reported by the appellant in his return of income. In that return the appellant declared $86,651.75 in interest. The computation of that figure included:

Interest from Canadian Sources

PerT-5 Box D: $22,840.93

Interest: $50,000

Counsel for the appellant took the position that the $28,075 was included in the $50,000 lump sum thus declared. He based that contention on evidence suggesting that the $50,000 was declared as a result of concern over Revenue Canada’s position that the appellant had failed in prior years to fully declare his interest income. As a result, so the contention went, the $50,000 figure was reported to cover interest income which had not been identified at the time the 1989 return was prepared. There was some support for this contention in the testimony of Brian Murphy who, at the time, served as the appellant’s accountant and tax preparer. I discount Mr. Murphy’s evidence on this point because he was not present when the decision to declare the $50,000 lump sum was reached. The two persons who were present were Mr. Binavince who could not testify because he acted as the appellant’s counsel at the hearing of the appeals and the appellant who gave no clear comprehensive and, of paramount importance, credible evidence regarding his 1989 interest income and the sources thereof. The appellant has therefore failed to establish that the Minister’s computation of 1989 interest income was wrong.

Broadly speaking it was the position of the appellant that he relied on Mr. Murphy to prepare accurate returns of income. The misrepresentations in the returns were not, it was said, the result of gross negligence or even ordinary negligence because: (a) the appellant ensured that Mr. Murphy had access to records from which the latter could prepare accurate returns;

(b) the appellant was unable to read and write and could not therefore be expected to review the returns and detect errors and (c) he repeatedly sought and obtained assurances from Mr. Murphy that he had everything needed to do the work.

Considerable attention was devoted to the question whether, had Mr. Murphy dug deeply enough, the income undisclosed on the returns would have come to his attention and have been included in the returns. Mr. Murphy regarded it as his duty to prepare returns which reported the income disclosed to him by or on behalf of the appellant. The appellant, on the other hand, appears to have expected Mr. Murphy to investigate the appellant’s affairs, to identify possible income sources, and to ensure that all income from those sources was disclosed.

There does not appear to have been any discussion between the appellant and Mr. Murphy dealing specifically with the question of what Mr. Murphy was required to do in order to ascertain the extent of the appellant’s income. The appellant’s expectations with regard to Mr. Murphy may have originated in the practices of Jean-François Millotte C.G.A. who, from 1957 to 1981, did the appellant’s accounting work.

Mr. Millotte gave evidence in which he described the work done by him prior to preparing a return of income for the appellant in the course of attempting to ascertain the amount and the sources of the appellant’s income. I have difficulty believing that Mr. Millotte’s unaided recollection of events transpiring 14 years ago was as accurate as he would suggest. However, even if what he said was correct, Mr. Millotte’s work amounted to a near audit and nothing in the evidence suggested that Mr. Murphy was made aware that such a process was required.

Mr. Millotte worked for an accounting firm in which Mr. Murphy was a partner. Mr. Millotte left that firm when it merged with a national firm of chartered accountants. The appellant testified that he was persuaded to place his business with the new merged firm by arguments that his work would be done by better qualified people. He stated that he was assured that he would not have any trouble and that he was introduced to Mr. Murphy who told him not to worry. The appellant testified that when Mr. Murphy took over not long after Mr. Millotte’s departure Mr. Murphy was shown the filing system. All his T-5s and bank statements were kept in a drawer in a filing cabinet at the office next to the restaurant. The appellant said further that the staff at the office were told that Mr. Murphy was to have free access to all records.

Mr. Murphy, consistently with his view that it was not his mandate to conduct a search in order to determine what income ought to be reported, did nothing more with regard to interest than ask the office staff at the restaurant for the appellant’s T-5 slips. Mr. Murphy was in charge of the preparation of the financial statements of Al’s and Holdings. He did not review the appellant’s bank statements or the financial records of those two companies with a view to ensuring that all T-5s had been furnished to him. There seems to be little doubt that if Mr. Murphy had done so he would have discovered the existence of some if not all of the unreported interest income. Although the evidence is not clear it appears that the appellant earned a great deal of the interest in question from CDs purchased with corporate funds and that the interest income was deposited in the appellant’s personal bank account.

Mr. Murphy did not learn of the purchase and sale of the Fallowfield property or, it would seem, of the interest earned on the Burnt Hill mortgage until some time in 1989 when he was told of the transaction by a Revenue Canada investigator. The appellant’s bank records and the records of Holdings might well have led Mr. Murphy to discover, if not the details of the Fallowfield property transactions, at least that the appellant had an equity interest in the property.

Holdings had loaned money on the security of a mortgage of the Fallowfield property when funds were required by the investor group to refinance an existing encumbrance. The appellant’s share of the interest payable to Holdings on the mortgage was charged to the appellant personally and that charge was reflected in the general ledger of Holdings. Had Mr. Murphy examined the appellant’s bank account for the period following the sale of the Fallowfield property to Burnt Hill he would have discovered the receipt by the appellant of substantial sums of money which on further inquiry he might have learned where the result of the sale of the Fallowfield property.

It should be remembered that what is relevant is not whether Mr. Murphy should have been more careful. The question for purposes of subsection 163(2) of the Act is whether the appellant, under circumstances amounting to gross negligence, omitted the mortgage interest, the CDs interest and the real estate profits in filing his returns. The question for purposes of subsection 152(4) is whether, in respect of such omissions from the returns for the years 1983 to 1986, the appellant made misrepresentations attributable to neglect, carelessness or wilful default. Although it is conceivable that the appellant did not actively seek to conceal anything from Mr. Murphy it cannot be said that the appellant made any genuine or adequate effort to inform Mr. Murphy of the relevant facts. In my view the appellant, who was quite evidently an intelligent man, had no basis for any belief that Mr. Murphy was in a position to prepare accurate returns.

I note that the appellant’s ability to read and write was said to be very limited. Mr. Murphy testified, and I accept what he says, that the appellant had a difficult time in reading and writing. The appellant demonstrated at the hearing that he could at least read and write his own name. I gather from the evidence and his demeanour that he was able to do more than that. I note that he was able to build and operate a large and successful restaurant venture. As well he was able to earn substantial income from investments and CDs. He indicated in his testimony that the decisions to make such investments were his and that he followed up to ensure that CDs were received from the bank and that the interest rate was satisfactory. He indicated that when he experienced difficulty in reading a bank statement he would have it read to him. Whatever the exact extent at the relevant time of the appellant’s ability to read and write may have been, I have concluded that he could easily have detected the omissions in his returns if he had made any attempt to review them in order to ensure that they were accurate.

I conclude that no such attempt was made. Some of the returns of income were signed by the appellant. At least one was signed for him by Mr. Murphy and another appears to have been signed for him by his daughter Gloria. Mr. Murphy did not recall whether he reviewed the returns of income with the appellant before they were signed. He could testify only that it was his practice to do so. He did not have a clear recollection whether the appellant was present or absent on those occasions when others signed returns for him. The appellant’s version of events was that Murphy was in the habit of presenting returns for his signature at the last minute. He testified that he always signed his own return if he was in Ottawa. He stated that Mr. Murphy did not go over any return with him on a page by page basis before signing.

Copies of the returns of income now in question were furnished to the appellant at or shortly after the time they were filed. The appellant did not attempt to review them. The manner in which the appellant gave his evidence left me with a strong impression that he was not conscious of the existence of any personal responsibility to ensure that his returns of income were accurate. The appellant seems to have believed that by hiring an accountant he absolved himself of all further responsibility.

The evidence of the witness Donald Banks a forensic accountant who in 1991, reviewed the state of the records of the appellant and his two corporations was not of assistance in respect to any issue, pleaded or not. He had nothing to do with the filing of the returns. He had no personal knowledge of events at the relevant time. To the extent that his opinion was sought by counsel for the appellant it should be noted that no effort was made to comply with section 145 of the Rules.

The returns of income were not complicated. There were only two significant sources of recurrent income. One was from employment by Al’s and the other was interest. Most of the interest amounts omitted were substantial and quite unlikely to have been overlooked especially by a person who had taken considerable trouble, as the appellant apparently had, to earn them. Reminders were furnished to the appellant in the form of T-5 slips which were issued with respect to all the interest income earned on CDs and in the form of the March 1985 letter from Mr. Shinder with respect to the 1984 and 1985 interest income on the mortgage from Burnt Hill. The profit on the Fallowfield property was memorable both in absolute terms and in relation to the amount originally invested. It is worth emphasizing that the profit was not reported as income or as a capital gain. I cannot conceive that the appellant’s failure to report the gain was the result of any difficulty which he might have experienced in reviewing the return.

If he had a problem reading the returns he could have arranged to have them read to him.

The meaning of the term “gross negligence” used in section 163 of the Act was considered in Venne v. R. (sub nom. Venne v. The Queen),[1984] C.T.C. 223, 84 D.T.C. 6247 (F.C.T.D.). At page 234 (D.T.C. 6248) Strayer

J. stated:

“Gross negligence” must be taken to involve greater neglect than simply a failure to use reasonable care. It must involve a high degree of negligence tantamount to intentional acting, an indifference as to whether the law is complied with or not.

On the evidence I find that the respondent has established that the omissions in the appellant’s returns of income resulted from gross negligence as defined by Strayer J. The appellant was at least indifferent on the question whether his returns completely and accurately disclosed his income or not. He may well have been more culpable. It follows of course that the appellant made misrepresentations attributable at the very least to neglect or carelessness if not to wilful default within the meaning of subsection 152(4) in his returns for the years 1983 to 1986.

The appeals will therefore be dismissed. The respondent shall have her costs. The taxing officer will be directed under paragraph 147(6)(a) of the Rules to allow 200 per cent of the amounts specified for the items in Schedule II, Tariff B. This direction is intended to compensate the respondent for costs occasioned by the failure of the appellant’s counsel to adhere to the Rules of this Court with respect to pleadings and to serve as a reminder that compliance with the Rules is not optional. That failure, in my view, led to a hearing that was at least twice as long as necessary.

Appeal dismissed.