1462 Investments Limited v. Her Majesty the Queen, [1995] 1 CTC 2545, 95 DTC 376

Rip J.T .C.C.:-1462 Investments Ltd. ("Investments") appeals income tax assessments for 1987, 1988, 1989 and 1990 on the basis that it and not Canata Properties (U.S.) Inc. ("Canata") incurred non-capital losses from real estate ventures in the State of Washington. Investments says that Canata acted as its bare trustee in purchasing residential properties in the Seattle area in 1982 and disposing of them in 1987. Counsel for the respondent argued that Investments never owned the properties.

The shareholders of Investments were Michael Giuliani who owned 25 per cent of the shares, R.M. Paterson & Associates Ltd. ("Associates") who owned 50 per cent and Richard Gillard who owned 25 per cent. Giuliani was president of Investments and was the person most actively involved in events leading to the assessments in issue.

Giuliani testified he worked in the real estate business since 1973, first as a mortgage underwriter and appraiser with Laurentide Financial Corporation and since 1977, buying and selling real estate on his own account and for clients as well as arranging mortgages for clients. He and Gillard got together in 1977 and during the next few years bought apartment buildings, sometimes with a third party, McCrae, in Nanaimo, Duncan, Coquitlam and Victoria in British Columbia and London, Ottawa and Chatham in Ontario. Title to the properties in Nanaimo was taken in one of McCrae’s companies, but Giuliani beneficially owned a 12 1/2 per cent undivided interest in the properties. There was no documentation setting out the beneficial owners of the property nor their interests in the property. Later properties were purchased "through a company...in trust" for the beneficial owners; again "there was nothing in writing". Giuliani declared that "usually" the properties were purchased by a corporation although the corporation was not the beneficial owner of the properties. Rarely, he said, would a property be purchased in any personal name. All the properties, numbering about 25, were bought to sell at a profit at the earliest opportunity. The British Columbia properties were sold within a year of purchase; the Ontario properties took longer to sell.

Gillard corroborated Giuliani’s evidence with respect to their interest on purchasing the properties in British Columbia and Ontario and the title in which the properties were taken.

Paterson is a chartered accountant who ceased carrying on his profession in 1974 when he withdrew from a partnership in a national firm. Since 1974 he has carried on the business of a financial consultant through R.M. Paterson & Associates Ltd. ("Associates"). Paterson first participated in real estate ventures with Giuliani and Gillard in 1979 when they purchased an apartment building of approximately 100 units in Ottawa. Giuliani and Gillard owned an undivided one-half interest in the property and Associates held the other one-half interest as nominee for its clients.

All sales of properties between 1977 and 1982 yielded profits and the profits were reported in Giuliani and Gillard’s tax returns as income.

In 1982, Giuliani said, "our world fell apart". Interest rates were high and he found it difficult to sell the London and Ottawa properties. Some of the properties were sold at a loss.

Sometime in 1981 Giuliani met a real estate agent from Seattle at a friend’s office in Vancouver. Giuliani described the Vancouver real estate market at the time as "brisk and escalating". He learned that compared to the Vancouver market, real estate in Seattle was "depressed". The Seattle agent talked to him about investing in Seattle. Giuliani visited Seattle on several occasions, sometimes accompanied by Gillard, and concluded prices there were half those in Vancouver. He reviewed market conditions with real estate agents, brokers and others in Seattle and eventually discussed the prospects with Paterson. Giuliani, Gillard and Paterson decided a "good business opportunity...(existed)...in Seattle".

The appellant was incorporated on March 2, 1981. Giuliani had further discussions with six or seven agents and mortgage bankers in the Seattle area to learn what financing he could obtain. Giuliani said he could not secure financing through a Canadian corporation and one mortgage banker "suggested we incorporate a U.S. entity.... They’d underwrite loans and sell the portfolios". Canata was incorporated under the laws of Washington State; the date of incorporation is not in evidence but Giuliani said it was incorporated "within a month" of Investments. Investments was the sole shareholder of Canata. Giuliani testified Canata was incorporated for financing purposes and to hold the interests in the properties to be purchased as trustee for the appellant.

There was no written agreement between the appellant and Canata that the latter was to act as trustee for the former when purchasing properties in Seattle. The agreement was verbal, said Giuliani. He and Gillard were good friends and they trusted Paterson and he them. There was no need for a written agreement, Giuliani insisted. He recalled that when he first started buying real estate, McCrae’s company held property as trustee for him and others without any agreement in writing.

"To get started" in Seattle, Giuliani explained, "we put offers on real estate with agents and mortgage bankers". The aim was to purchase homes "and little as possible condos". Eventually 16 properties, two of which were condominiums, were acquired in Bellevue, Redmond, Bothell, Kirkland and Woodinville, all located in the Seattle area. Two of the properties were registered in the names of Giuliani and his wife, the others were registered in the name of Canata.

Giuliani could not recall the reason he purchased two properties in his and his wife’s names. He opined that in the State of Washington a "quit claim" by spouses is necessary and that may have been the reason. Also, he said, government supported financing was available to individuals who purchased residential properties. In any event, he stated, all 16 properties were purchased for the appellant.

The business strategy, Giuliani recalled, was to purchase homes for between $85,000 and $115,000. "[We] would put up $15,000 to $25,000 and get financing for the rest". This price range enabled Canata to sell "everyday houses [which] people would buy...[and we] could rent and sell".

Giuliani said he examined each property before purchase. He recalled he had seen between 50 to 60 properties before buying. (Gillard also testified he saw each property before purchase, but his viewing of a property may have only been an external view coupled with a look at the neighbourhood.) If a property was attractive Giuliani would make an offer to purchase. He said he was dealing with five to six agents on a friendly basis for about six months and during this time made "at least" 30 offers.

The 16 transactions closed within five months. The purchase prices ranged between $66,500 and $102,000. The average price was about $83,000. (Similar properties in Vancouver, Giuliani stated, sold for $175,000 to $200,000.) Some properties were financed with mortgages back to the vendor. In other purchases the purchaser assumed an existing mortgage or obtained financing. A person was hired to manage the properties, collect rents, make mortgage payments and make minor repairs. Any major expenses would require Giuliani’s approval. The manager would be in touch regularly with Giuliani by telephone and provide him with financial information.

One of the condominiums sold quickly ; the rest of the properties did not move. Giuliani said that after deducting commission fees, no profit was made on the condominium. Meanwhile the properties were put up for rent. However, Giuliani claimed, rents were not sufficient to cover costs. Giuliani complained rents for a three- bedroom house in Seattle had a ceiling of $600 per month, compared to $800 to $1,000 in Vancouver. Giuliani could rent the properties for about $500 per month. To rent at $600 would mean "we’d stay empty". There were vacancies. Throughout the period of ownership of the Seattle properties rents never covered expenses. Giuliani said he sent out monthly summaries from his Vancouver office to his co- participants. He and they, either personally or through corporations, contributed to the appellant to cover the shortfalls. The appellant, in turn, advanced the money to Canata.

Giuliani stated that there was "no obligation that I can remember for Canata to transfer [property] to [the appellant]. [Such a transfer] would break the obligation to the mortgage lender if there was such an obligation".

Giuliani testified Canata had no office in Washington and no employees. Canata "probably" had no telephone; the company had no assets other than the real estate. Canata never issued security to the appellant for advances made to it. The shareholder of Canata had paid a nominal sum for its shares. No financial statements, except for monthly management report summaries, were prepared by or for Canata. The company filed tax returns neither in the U.S. nor Canada. Canata did have a bank account in Washington to hold rents and to make payments for minor repairs and administration. Canata filed with the U.S. Internal Revenue Service an information return under section 6039C(c) by a foreign person to report direct ownership of U.S. or Virgin Islands real property interests for 1982 ("IRS return").

Canata provided a Vancouver mailing address in the IRS return. According to the general instructions on the return, the return was to be filed by "a foreign person (or nominee for a foreign person) who holds U.S. property interests". A "foreign person" includes "a foreign corporation". "U.S. property interest" includes "not only those held directly, but also the person’s pro-rata share of the U.S. real property interest held by any...trust...in which the person holds an interest" and also includes..."any interest...in any domestic corporation unless...the corporation was not a U.S. real property holding corporation...."

In the early years Canata filed annual corporate returns with the State but eventually, according to Giuliani, the company was struck from Washington’s register of companies. The appellant itself was wound up in 1991 but was subsequently restored to prosecute these appeals.

Giuliani testified he could not recall precisely how many properties were sold by Canata. He believes it was four or five houses. "The balance was foreclosed and we lost control." In some cases Giuliani received notice of trustee sale "notifying us property was in foreclosure and...to be put up for sale". In some other cases he received a notice of foreclosure. The bulk of foreclosures was in 1984, 1985 and 1986. He does not know which properties were sold and which were foreclosed. Giuliani was unable to produce documentation of the dispositions of seven of the properties. Giuliani explained "once we decided we could no longer subsidize (the properties) we didn’t pay too much attention". Losses were incurred on the disposition of each property.

Paterson confirmed he invested in an Ottawa property with Giuliani and made "some money". He had associates in Seattle who checked on Giuliani’s proposal there and reported favourably. He, too, said the sole reason to incorporate Canata was to facilitate financing and for it to hold the property for Investments. He had "used corporations earlier in other situations as bare trustees...most of the time without written agreements...." He insisted it was "impossible for Canata to be in business...Giuliani and I had an understanding". The properties were to be purchased using U.S. financing "to the maximum". The goal was 85 per cent financing and 15 per cent equity. He was not to be involved in management; that was Giuliani’s job. He acknowledged receiving requests to make up Associates’ portion of the monthly shortfalls.

Gillard testified that in 1984 or 1985 he was in a "bad financial situation" and he was no longer able to contribute to make up the deficiencies on the Seattle properties. As far as Gillard was concerned "all the money was lost". He advised Giuliani and transferred his interest in the appellant to a company owned by Giuliani; "Mike was picking up the problems". Associates and a related company that had an interest in the appellant also assigned their interests in the appellant to Giuliani’s company.

The appellant’s losses were calculated, according to Giuliani, to be "the money the company invested less the money which came back, which was none”.

Giuliani testified that by 1987 he realized he lost his money in the Seattle venture. The recession at the time had taken its toll and one of the partners, Gillard, was bankrupt. Giuliani hired Barry Watson, a chartered accountant, to prepare the appellant’s financial statements for 1982 to 1987. The fiscal year-end of Investments was January 31. He said he had no money to pay Watson and wanted him to prepare the least costly statements. "I didn’t have money to go into detail." Watson testified he provided services to Investments during June and July 1987. This was Watson’s first engagement by Giuliani. (He acknowledged he has continued to provide services to Giuliani and Gillard.) Watson said he realized the appellant was "...in real estate in Seattle and lost money as a result of bad deals". He recalled that Giuliani told him "in effect...to prepare financial statements and tax returns...in most economically efficient way...."

Watson assigned the file to students. Watson estimated his staff took about a month to prepare the statements from the client’s own presentation. The balance sheets of Investments for all the years described the money Investments advanced to Canata to purchase the properties and to make up the shortfalls as "due from Canata". Watson testified the payments should have been described as "investments in property". He "continued with what the company set up in its records". Watson said that Investments had filed tax returns for 1982 and 1983; the financial statements had been "prepared internally by employees of Giuliani’s office" and he was given copies of the statements. At trial Watson stated he was unable to identify these statements and they were not put into evidence. He added that if the payments had been classified as "investment in property, the losses shown on the statement would have been greater because other amounts, interest, for example, would have been accrued. He stated that the advances he wrote off "were in fact investments...[they were] business losses because profits would have been profits...."

Watson described his engagement with Investments as a "compilation" engagement. Watson testified that this arrangement is the "lowest form" of engagement undertaken by an accountant and "precludes us from adding notes to the balance sheet.... [N]o disclosure should be added to financial statements when the accountant...[in his note to reader]...says he only reviewed the statements...."

Watson said his fees to determine the rental losses from the properties for each year would have been "onerous". He stated he did not prepare a profit and loss statement in any year "because [we] only wanted to claim a loss for 1987...in fact a lot of the losses were incurred prior to 1987...."

Watson could not recall precisely when he learned Canata was "bare trustee" of Investments for the properties. He may have come to the conclusion in May 1991, after discussions with Giuliani and Paterson. He could not recall if Giuliani used the term "bare trustee" when he received instructions to prepare the financial statements. Giuliani could not recall either. Paterson had written to Revenue Canada on April 5, 1991 stating that Canata "was merely a nominee corporation to hold title to U.S. properties involved". In reply to a question by respondent’s counsel, Watson recalled that ‘bare trustee’ was a term we came up with...from other clients".

Watson made representations for Investments to the auditor at Revenue Canada in charge of the appellant’s file, C. Pruiet. Watson was asked in cross-examination what his client’s position was before he met Pruiet, but he could not recall. He also could not recall at trial if he received any correspondence from Pruiet reviewing their discussions. Watson did complain that Pruiet "could not have picked a busier time of the year to meet...or [for me] to reply [to his questions]", that is, in April.

The 1987 financial statements of Investments were subsequently amended. The company reported income of approximately $20,000 from administration fees. In 1988 the appellant reported income from a mortgage business.

When first computing its income for 1987, the appellant deducted as a bad debt the sum of $496,814 due from Canata. The Minister of National Revenue (the "Minister") assessed disallowing the deduction of $496,814. The appellant objected to the assessment arguing the sum of $496,814 was a business loss of the appellant in carrying on business in Washington through Canata, its bare trustee. At trial appellant’s counsel informed the Court that the appellant was contesting the appeal on the basis the loss was on account of business and was not a bad debt.

The appellant’s case is simple. It says it was incorporated to carry out a business venture in the U.S. and since lenders in the U.S. would not lend to a Canadian corporation, Canata was incorporated. All the shares of Canata were owned by Investments. Canata was essentially a shell that, counsel submitted, could be ignored for accounting purposes.

Counsel argued Canata held the properties for Investments. This was not a novel way of holding property since all the shareholders of Investments had owned beneficial interests in properties that were legally owned by corporations. With respect to the Seattle properties, the appellant says the shareholders had a common program, knew each other and acted together without the necessity of their agreement being reduced to writing.

The Seattle venture proved to be a disaster and the appellant, not Canata, lost money. Appellant’s counsel argued the officials of Revenue Canada failed to comprehend the bare trustee concept. They had no experience with ownership of property by a bare trustee. Pruiet had no professional designation and ignored the representations of Paterson and Watson and thus the relationship between Canata and the appellant.

I do not question that a corporation may acquire legal title in property for the benefit of another person; the profits and losses of the property are those of the beneficial owners. Appellant’s counsel referred to two cases where the courts found that transactions in the name of one person were carried out for the benefit of others: Brookview Investments Ltd. v. M.N.R., [1963] C.T.C. 316, 63 D.T.C. 1205 (Ex. Ct.); Bouchard v. The Queen, [1983] C.T.C. 173, 83 D.T.C. 5193 (F.C.T.D.).

He also referred to two cases where appellants were held to be the beneficial owners of property when a resulting trust existed in his and her favour: Chrustie v. M.N.R., [1984] C.T.C. 2533, 84 D.T.C. 1465 (T.C.C.); and Kostiuk v. The Queen, [1993] 1 C.T.C. 31, 93 D.T.C. 5511 (F.C.T.D.). Revenue Canada has acknowledged a corporation may hold property as agent for a shareholder: Interpretation Bulletin IT-216, May 20, 1974.

Many of the cases cited in argument by both counsel were concerned with the existence of a trust. In the appeal at bar I need not overly concern myself with this question since, in my view, the existence or not of a trust is not the issue. Indeed, the appellant would succeed in these appeals if it can prove Canata was its nominee, agent or "prête-nom" or otherwise acted for Investments when the properties were acquired.

To assist in determining whether a trust in favour of Investments was established by parol reference may be made to the five questions posed for answer by Meredith J.A. in McKinnon v. Harris, [1909] 14 O.W.R. 876, 1 O.W.N. 101, at page 878 (O.W.N. 102), cited by Cattanach J. in Bouchard, supra, page 183 (D.T.C. 5202):

1. is the claim supported by probability?

2. is it supported by writing in any form?

3. is it supported by any indisputable facts?

4. is it supported by disinterested testimony?

5. is the parol evidence quite satisfactory and convincing?

These questions are not intended to be all exclusive.

On the facts of this appeal the answers to these questions are found in the answer to the question: whose business was really being carried on in Washington? That is really the question I am being asked to decide. It is a question of fact whether the subsidiary, Canata, was carrying on the business as Investments’ business or as its own. In Smith, Stone and Knight Ltd. v. City of Birmingham, [1939] 4 All E.R. 116 (K.B.), at page 121, Atkinson J. found six points he deemed relevant for the determination of the question: Who was really carrying on the business?

In all the cases, the question was whether the company, an English company here, could be taxed in respect of all the profits made by some other company, a subsidiary company, being carried on elsewhere. The first point was: Were the profits treated as the profits of the company?—when I say "the company" I mean the parent company-secondly, were the persons conducting the business appointed by the parent company? Thirdly was the company the head and the brain of the trading venture? Fourthly, did the company govern the adventure, decide what should be done and what capital should be embarked on the venture? Fifthly, did the company make the profits by its skill and direction? Sixthly, was the company in effectual and constant control?

Counsel for the appellant led evidence that Canata was a shell corporation: it had no office nor employees; the shares of Canata were issued for a nominal sum; no financial statements were ever prepared; Canata filed no tax returns. However no evidence was led that the appellant was any better organized than Canata to be in a position to instruct Canata. There is no evidence Investments had an office; Giuliani testified he used his office to send out monthly statements from Canata to the participants. Indeed the monthly management report summaries are in the name of Canata. The shares of Investments were also issued for a nominal sum. Investments had no employees other than directors and officers; its financial statements for 1982 to 1986 do not provide for any remuneration. No financial statement of Investments for 1982 and 1983 could be identified by any of the appellant’s witnesses. This is the period Investments would have been actively purchasing, renting and attempting to sell the properties it purportedly owned. Financial statements prepared by Watson, allegedly in haste, in 1987 are not those of a corporation owning real estate and carrying on a business. The appellant acknowledged this and Watson testified he prepared only the simplest accounting statement due to financial constraints at the time. Watson claimed it would have been costly to his client for him to have calculated rental losses for Investments in each year. I have a problem with Watson’s evidence. If he was aware at the time he prepared the statements that Investments had incurred rental losses, he knowingly prepared erroneous statements. I am not satisfied the statements were in error because of cost constraints. In preparing Investments’ statements for the fiscal periods 1982 to 1987 inclusive, Watson was able to determine the cash Investments had at the end of each year as well as the amounts due from Canata and due to corporations that made up the shorfalls. He also prepared a statement of loss and deficit for each year which included expenses such as bank charges and interest, accounting and legal, telephone and travel. Watson said he also had the internal statements for 1982 and 1983 from which to work. Having this information before him it would not have been a giant step to glance at, let alone review, the monthly management report summaries in Giuliani’s office and what Investments had previously reported. Surely as a chartered accountant he would then have realized Investments owned real property and incurred rental losses that ought to be reported on even the most basic financial statements. The position appellant is taking in these appeals requires me to find Watson erred in preparing the statements and I am not convinced this was the case. His entries confirmed established facts: M.N.R. v. Société Coopérative Agricole de la Vallée d’Yamaska, [1957] C.T.C. 132, 57 D.T.C. 1069 (Ex. Ct.), at page 142 (D.T.C. 1084).

The only evidence favouring the appellant is that the appellant’s shareholders previously had used corporations to purchase real estate as their nominee or in trust for them. However, on the facts, there is no support offered that this was the case here.

Counsel for appellant emphasized that the IRS return filed by Canata was a strong indication that Canata was a trustee for Investments. He argued that a person holding "U.S. real property interests" on behalf of a foreign person must file the return. He argued that Canata filed the IRS return for Investments, a foreign person. The general instructions to the IRS return provide that a "U.S. real property interest" includes an interest in real property located in the U.S. and any interest in any "domestic corporation" unless it is established it is not a "U.S. real property corporation". (The return appears to contain several U.S. statutory terms, all the definitions of which are not in evidence.) The return itself was filed by Canata’s counsel in Washington who was not a witness. I put no weight on the IRS return: Canata, owned by a foreign person, may have filed the return because it was a domestic corporation which owned real property in the U.S., or it may have filed the return for the reason counsel suggests. Counsel’s reason for filing the return is one of the possibilities. Giuliani found the return in his files. Only the person who filed the return may remember the reason and he was not a witness.

Were the losses treated as profits of Investments? The answer is no. It was Canata that recorded the losses during the years the properties were rented; it was Canata that sent monthly management summaries reporting the losses to the participants. No losses were recorded in any books of Investments during the period of ownership. Indeed there is no evidence Investments maintained any book of account. Secondly, there was no formal organization in either corporation. Giuliani was officer and director of both corporations. So was Gillard. Giuliani signed closing statements on acquisition of the properties as representative of Canata. (The only agreement of purchase and sale in evidence was signed by Giuliani in his personal capacity.) The head and brain of the venture was Giuliani personally. There were no meetings of directors of either company to govern the adventure and to decide what was to be done. There is nothing to indicate either corporation was instructing Giuliani or controlling him. There was no indication that Giuliani was acting for one corporation or the other, or that one corporation was acting for the other. The arrangement between Giuliani, Canata and Investments was loose and casual. As between Investments and Canata, there was neither a puppeteer nor a puppet. There is nothing in the evidence before me to even suggest Giuliani was acting for Investments and that it governed the venture, decided what was to be done or what capital should be invested, that its skill and direction were being used and that it was in effectual and constant control. None of the answers to Atkinson J.’s six questions assist the appellant.

There were no circumstances where Canata so conducted itself that it would be inequitable to allow it do deny to Investments the beneficial interest in the properties. There were no words or conduct by Canata that one may reasonably conclude may have induced Investments to act to its own detriment in the reasonable belief that in so acting it was acquiring beneficial interest in the properties: Gissing v. Gissing, [1971] A.C. 886, [1970] 2 All E.R. 780 (H.L.), at page 905B (All E.R. 790), per Lord Diplock, cited in De Pol v. Cunningham, 49 T.C. 445 (C.A., Northern Ireland) by Jones L.J. at page 467. In fact Investments did nothing except collect money from its shareholders to advance to Canata. Indeed while Giuliani’s statement that there was no obligation for Canata to transfer any of the property to Investments may be a legal opinion, as alleged by appellant’s counsel, it does reflect Giuliani’s view of the situation. In short, Giuliani never acted with Investments’ authority when any of the properties were purchased. For these reasons the answers to each of the five questions posed by Meredith J. must be "no". There was no trust. Canata carried on the venture on its own accord.

The appeals are dismissed with costs.

Appeals dismissed.