Robert M.P. Daudlin v. Her Majesty the Queen, [1995] 2 CTC 2731

Garon J.T.C.C.:-These are appeals from assessments for the 1986, 1987 and 1988 taxation years. By his assessment for the 1986 taxation year, the Minister of National Revenue disallowed capital cost allowances in respect of a yacht acquired by the appellant on the basis that the subject yacht was a leasing property within the meaning of subsection 1100(17) of the Income Tax Regulations and that accordingly the appellant was not entitled to this deduction by virtue of the provisions of subsection 1100(15) of the Income Tax Regulations.

The Minister of National Revenue disallowed the business losses incurred by the appellant in respect of the 1987 and 1988 taxation years on the basis that the appellant’s activities during these two years did not constitute a business since the appellant did not have a reasonable expectation of profit.

There was no real dispute about the facts. The appellant is a judge of the Ontario Court of Justice (General Division). His appointment as a judge dates back to 1984. He had been residing in the relevant years in the southwestern portion of Ontario. Through advertisements in the Globe and Mail placed by Marineland Yacht Sales Limited ("Marineland"), a company incorporated pursuant to the laws of the Province of British Columbia, the appellant became aware in the fall of 1985 of the opportunity to purchase a yacht for the purpose of engaging in a yacht charter operation.

The appellant had no previous experience in boat chartering. The appellant has never operated a power boat in the course of his recreational activities. At all material times, the appellant had owned a sailboat which he operated for his personal use and had no intention to use a motor vessel for his personal purposes. The appellant responded to the advertisement of Marineland by requesting to be supplied with material concerning what was called the "yacht shelter program". He was provided with an information package including a leaflet entitled "A high performance investment with tax shelter benefits", sheets outlining detailed projections of tax benefits and cash flow relative to both a motor vessel Fairline 28 and a motor vessel Fairline 32 and a document headed "The Marineland Group". He was also given by Marineland a copy of a letter of Coopers & Lybrand dated August 29, 1985 addressed to Marineland. This four page letter of Coopers & Lybrand contained a detailed description of what is described as "Marineland yacht charter venture" as well as a general analysis of the income tax consequences of participation in the Marineland yacht charter venture.

The record establishes that the appellant discussed this proposal of acquiring a boat for charter from Marineland with his bank manager and his accountant after having perused the above-mentioned material that he had received from Marineland and in particular, the letter of Coopers & Lybrand referred to above. The appellant’s accountant confirmed the validity of the information provided by Coopers & Lybrand respecting the tax implications affecting a participant in the Marineland yacht charter venture. He also had discussions with a representative of Marineland, one

C. Sabirsh.

The appellant also made inquiries about the Fairline type of vessel which was unknown to him. In this respect, he consulted a marine dealer and was reassured about the quality and prices of such vessels. The nature of the charter operation contemplated was also investigated. It was to be a charter operation with captain and crew to be retained by Marineland. The type of tour in which the power vessel was to be used consisted of taking clients to a location about 150 miles north of Vancouver on four or five day fishing trips.

In the consideration of the proposed contractual arrangements with Marineland, the appellant was influenced by the substantial revenue guarantees offered by Marineland in the early years of the program to cover the fixed costs of insurance, moorage and upkeep and the revenues projected over a ten-year period for any owner of a motor vessel participating in the yacht shelter program. Also, the appellant was interested in the possibility that his oldest and second oldest sons could be employed during the summer as a charter captain after appropriate training.

Finally, the appellant and Marineland entered into a charter agreement dated December 19, 1985. It is to be noted that by clause 2.01 of this agreement Marineland was appointed the exclusive agent of the appellant for purposes of chartering the vessel. By clause 2.03 of the charter agreement, it was stipulated that the "majority of charters arranged by Marineland shall be "all inclusive"." However, an exception was provided in clause 2.04 in that Marineland was authorized to charter the vessel on a "bareboat" basis. Weekly charter rates were set out in clause 2.05. Pursuant to clause 8.01, Marineland was obligated to pay to the appellant on the 15th day of each calendar quarter "an amount equal to the charter revenue collected by Marineland during the previous calendar quarter" less certain amounts described in this clause. Paragraph 9 of the charter agreement deals with the matter of revenue guarantees. Clause 9.01 is of a particular interest; it reads as follows:

Marineland hereby guarantees to the owner that Marineland shall charter the vessel a minimum of two weeks at the charter rate in the first calendar year of the term of this agreement, provided that the vessel is actually delivered to Marineland in accordance with the provisions of paragraph 1.02 hereof on or before July 31 in the said first year of the term. Marineland hereby further guarantees in such case that Marineland shall charter the vessel a minimum of two weeks during each of the ensuing two calendar years.

Finally, in clause 13.02, it was mentioned that the term of the agreement shall be three years from the delivery date of the vessel.

At about the same time and in line with the provisions of the charter agreement, the appellant decided to purchase from Marineland a 28 foot Fairline motor vessel for approximately $124,000. The acquisition of the yacht was financed in part by way of a loan from the Royal Bank of Canada in the amount of $105,900 secured by a marine mortgage on the vessel and the balance by a personal loan. The purchase of this boat was therefore 100 per cent financed. The vessel was delivered to Marineland in June 1986.

Because of the advent of "Expo" World Fair held in Vancouver during 1986, Marineland moved, to the complete surprise of the appellant, from the use of the boat for a charter operation to the yacht hotel concept. The first mention of the yacht hotel concept came to the appellant’s knowledge with the letter of June 20, 1986 to the appellant from the controller of Marineland. Despite his serious concern about this change in use of the vessel, the appellant, after some prodding, agreed to sign for this purpose an addendum, dated April 10, 1986, to the charter agreement. The appellant considered that he really had no other realistic option but to agree with this change in market strategy on the part of Marineland. The appellant was displeased about a number of other matters involving his dealings with Marineland. For instance, he became aware after the fact of the installation by Marineland of a holding tank on his vessel; in the appellant’s view, his prior approval should have been secured. A complete telephone service was also put in place on his boat at the appellant’s expense without prior consultation. The quarterly reports issued by Marineland were chronically late. The appellant was also informed of serious allegations concerning the management of Marineland and in particular of the "strong probability of misappropriation of trust funds" by the latter firm, according to an undated letter forwarded in late 1986 or early in 1987 to all owners by the Marineland Boat Owners Association. The appellant was shocked by the latter situation.

The appellant quickly realized from the reports and statements issued by Marineland that the yacht operation indicated substantially reduced revenue. For example, the statement for the three months ending December 31, 1986, shows that the appellant’s account with Marineland had a debit balance in excess of $3,000. In this respect, the appellant held discussions with the controller of Marineland and subsequently asked an accountant to get in touch with the management of Marineland and review the Marineland’s quarterly statements ending on September 30, 1986 and on December 31, 1986. In the spring of 1987, the appellant’s accountant expressed serious doubts about the viability of the operation. Also, the appellant received a letter dated February 25, 1987, from the president of Marineland, which provided, inter alia, certain explanations as to why Marineland was not able to get the expected "full charter revenue" along with the "accommodation charter revenue". Furthermore, in a letter dated April 9, 1987, the appellant was asked to sign another addendum to the charter agreement providing for a downward adjustment to the charter rates in order to compete in the charter market. The appellant also consulted with counsel in the Province of British Columbia with respect to certain legal aspects of the situation.

Having regard to the above correspondence and some other reports and advice that he received, the appellant decided at some point in early 1987 not to continue his yacht operation with Marineland. Shortly thereafter, the appellant withdrew the motor vessel from Marineland and entered into an agreement to charter the motor vessel through Maypol Fishing, a sole proprietorship owned and operated by Mr. Par Larsen. Before entrusting his motor vessel to the latter firm, the appellant had conducted reasonable inquiries about the reputation and business experience of Mr. Larsen. The reports he had about the firm were most favourable; in particular, Mr. Larsen had a solid reputation. The appellant was informed that Mr. Larsen had in the not too distant past a successful charter operation. The appellant had met with Mr. Larsen on several occasions. The type of charter operation was discussed between the appellant and Mr. Larsen and the bareboat type of charter was excluded. Mr. Larsen or his son would operate the boat as skipper. Repairs were carried out on the vessel under the direction of Mr. Larsen and the latter had also spent considerable time and effort on cleaning the boat. Despite the good work of Mr. Larsen, the level of income generated by the charter operation involving the appellant’s motor boat during the entire 1987 season was inadequate as appears from the statement of business income and expense attached to the appellant’s return for 1987. The competition relating to this type of market was considerable. The market was "flooded". The appellant became convinced that there was no realistic hope for the charter operation involving his boat to be profitable.

On November 4, 1987, the appellant entered into an agreement with Birch Marine Honey Harbour Limited carrying on business as South Bay Club by virtue of which the South Bay Club was granted the "right to exclusively make the vacation vehicle available to any retail clients it considers advisable on such terms as it sees fit". That company was in the business of providing various types of services relating to the vacation business. Before signing the latter agreement, the appellant had conducted extensive inquiries about this firm and Mr. Pichette, the president of the firm. Pro forma statements involving 26 foot and 32 foot vessels were prepared by the South Bay Club and submitted to the appellant at the time of his preliminary discussion with Mr. Pichette. The appellant’s motor vessel was used in the Georgian Bay area where it was made available for charter through the South Bay Yacht Club and fees in the amount of $1,568.16 were earned. The level of revenue was inadequate, far below the projections that the appellant had been given by Mr. Pichette. The latter individual gave a number of reasons for this shortfall in revenue, including the downturn in the economy. The moving of the boat to Ontario was dictated by business considerations. A greater market for a charter operation was available and there was a greater possibility of selling the boat if it was felt advisable to do so. About a year later, the appellant took possession of the boat early in 1989 and brought it down to the Windsor/Chatham area. The sale of the boat was then placed with a sales agent. It was finally sold in May 1994 for $45,000 after having been offered for sale throughout the year 1989 and subsequent years. The sale price of the boat was applied towards the debt related to the acquisition of this vessel and there remained an outstanding balance to be paid by the appellant.

The appellant’s reported revenues and expenditures during the years in issue in respect of the subject vessel were as follows:

Appellant’s submissions

It was submitted on behalf of the appellant that he was involved in the years in issue through agents in a yacht chartering business. It was also argued that the appellant had throughout and in particular during the years 1987 and 1988 a reasonable expectation of profit in carrying on this charter operation.

Respondent's submissions

It was conceded by the respondent that the appellant had in 1986 a reasonable expectation of profit in respect of the yacht operation. According to the respondent, the appellant’s source of income in respect of this operation for the 1986 taxation year, was not from business but from property. Accordingly, the yacht was a leasing property to the appellant within the ambit of the Income Tax Regulations.

Counsel for the respondent argued that by 1987 matters had changed considerably and the appellant no longer had a reasonable expectation of profit given the economic circumstances of the boat business in the Vancouver area, including the catastrophic collapse of Marineland.

Analysis

First, the evidence clearly establishes that in 1986, 1987 and 1988 the activities relating to the yacht operation were carried on by agents retained by the appellant. The appellant did not himself engage in any activity relating to the day-to-day use for charter purposes of the subject motor vessel. The nature of the activities in which the various agents engaged on behalf of the appellant in respect of the appellant’s vessel were, in my view, those of a business.

In 1986, the boat was used as a hotel operation during the Expo. Extensive services were provided to accommodate the guests. The renting of accommodation on this basis by Marineland as the appellant’s agent is certainly in the nature of a business operation. The revenue from this operation is not income from property.

Early in 1987, the appellant retained counsel in Vancouver and had the subject vessel taken from Marineland in May 1987. The appellant thought that it was worthwhile entrusting the operation of the yacht to one Mr. Larsen who had a fair amount of experience in the boat chartering business and who was a trustworthy individual. Accordingly, the vessel was placed with Maypol Fishing in Vancouver and Mr. Larsen, the sole owner of the latter firm. In 1987, the revenue derived from the yacht operation originated exclusively from all-inclusive charters.

I find, on the evidence, nothing irresponsible on the part of the appellant in having pursued in 1987 this course of action. Rather, I believe that, under the circumstances, this course of action was open to a prudent person who wanted to turn a bad investment into a profitable one. Some other alternative steps could possibly have been taken. However, no evidence has been adduced to establish that the decision by the appellant in 1987 was unreasonable. Nor can an inference be drawn, in my view, that a reasonably prudent person would have acted in a different way.

In 1988, a charter operation was carried on by the South Bay Club and fees in a modest amount were earned.

The same observations made earlier regarding the avenue pursued by the appellant in 1987, apply to the decision made by the appellant in 1988 to remove the boat from the control of Maypol Fishing and to have it transported to a firm in Ontario in an attempt to increase revenue from the yacht operation and heighten as well the possibility of the sale of the subject boat, if the charter operation was found not to be profitable.

The events subsequent to the 1988 taxation year which culminated with the sale in 1994 of the subject vessel for $45,000, to the extent that these events may throw some light on the appellant’s intention during the years in issue, do not justify any conclusion other than the appellant acted reasonably and diligently in his efforts to make the yacht operation a viable operation.

Since, in my view of the evidence, it is manifest that the agents who acted for the appellant during the years in issue were engaged in the boat chartering business in respect of the appellant’s motor vessel, it follows that the source of income for the appellant from the charter operation of the subject vessel is from a business. In effect, it is well established that a business could be carried on by a taxpayer through an agent or other intermediary. This question was considered by the Federal Court of Appeal in the case E.S.G. Holdings Ltd. v. The Queen, [1976] C.T.C. 295, 76 D.T.C. 6158, where the business of the taxpayer corporation was not carried on by its officers or directors or by any of its shareholders but was turned over to another company which operated it. Chief Jackett, speaking for a unanimous Court, expressed himself thus:

With respect, I do not agree that there is any material difference in principle, in so far as the carrying on of an active business by a corporation is concerned, between carrying it on through the agency of officers or servants of the corporation and carrying it on through the agency of an independent contractor. The question is whether the taxpayer’s "income" is "from an active business" and, in my view, the answer must be the same in both cases.

On the whole evidence, I am satisfied that during the years in issue the appellant had a reasonable expectation of profit in respect of the yacht operation. The alleged change in the appellant’s intention in 1987 propounded by the respondent is not supported by a realistic assessment of the evidence at hand. I therefore find that the yacht operation carried on by the appellant, through agents, during those three years, constituted a business.

For these reasons, the appeals from the assessments for the years 1986, 1987 and 1988 are allowed, with costs, on the basis that the yacht operation was a business during the 1986, 1987 and 1988 taxation years. The appellant is therefore entitled to the deduction of business losses in these years and the restriction on the deduction of capital cost allowances imposed by subsection 1100(15) of the Income Tax Regulations in respect of the subject yacht is not applicable in the years in issue.

Appeals allowed.