Garth Mattison v. Her Majesty the Queen, [1995] 1 CTC 2585

Sobier J.T.C.C. (orally):-The Court is now prepared to give judgment and reasons for judgment in the matter of Garth Mattison v. The Queen, 94-677.

The appellant appeals from the assessment by the Minister of National Revenue (the Minister) for his 1991 and 1992 taxation years whereby the Minister disallowed the deduction of losses in the amount of $4,463 for 1991 and $6,058 for 1992. The appellant’s losses arose out of selling Amway cosmetics and other products. The loss for 1991 was for the period of July 12 to December 31 and the loss for 1992 was for the entire calender year.

The financial statements for those two years were amended as a result of the appellant’s determination that the computer program being used was not accurately recording the financial data. As a result of recalculating income and expenses the appellant maintains that the loss for 1991 was $1,886 and not $4,463 and for 1992, $3,751 and not $6,058. These figures have not been accepted by the Minister. However, neither have they been successfully challenged.

The appellant commenced his operations in July 1991 and the Minister denied the losses incurred during the period of less than six months ending December 31, 1991.

Expenses claimed were not extraordinary in their classification, nor do they appear to be excessive in comparison to the revenue generated. The largest expense of course was cost of goods sold. The revenue was larger for the six months of 1991, than for the 12 months of 1992. The appellant’s explanation was that there was a death in the family and that he suffered other setbacks.

In 1993 the statement of revenue and expenses shows the appellant was attempting to hold the line on the expense side. The respondent claims that the appellant has no reasonable expectation of profit from the operation and that some expenses were unreasonable and of a personal nature. As for the expenses being of a personal nature or unreasonable I find that they were not so. One is left then with the question whether the appellant had reasonable expectation of profit. In Moldowan v. The Queen, [1978] 1 S.C.R. 480, [1977] C.T.C. 310, 77 D.T.C. 5213, a decision of the Supreme Court of Canada, Mr. Justice Dickson as he then was remarked on the issue of reasonable expectation of profit when he said at pages 485-86 (C.T.C. 313-14, D.T.C. 5215):

There is a vast case literature on what reasonable expectation of profit means and it is by no means entirely consistent. In my view, whether a taxpayer has a reasonable expectation of profit is an objective determination to be made from all of the facts. The following criteria should be considered: the profit and loss experience in the past years, the taxpayer’s training, the taxpayer’s intended course of action, the capability of the venture as capitalized to show a profit after charging capital cost allowance. The list is not intended to be exhaustive. The factors will differ with the nature and extent of the undertaking: The Queen v. Matthews, [1974] C.T.C. 230, 28 D.T.C. 6193. One would not expect a farmer who purchased a productive going operation to suffer the same start-up losses as the man who begins a tree farm on raw land.

The nature and extent of the appellant’s business were bound up in sales and marketing efforts, personal contacts and keeping expenses down. To be successful the appellant must produce income from a base of retail customers and from those selling products which result in the appellant sharing in their commissions. This is not an easy task nor can it be accomplished instantly.

Dealing for a moment with expenses, Judge Taylor in Speck v. M.N.R.,

[1988] 2 C.T.C. 2133, 88 D.T.C. 1518 (T.C.C.), referred to Warden v. M.N.R., [1981] C.T.C. 2379, 81 D.T.C. 322, a decision of the Tax Review Board and in particular referred to that decision at page 2389 (D.T.C. 329):

When a taxpayer claims expenses which are in excess of income, then he must assume the difficult task of showing that these "excess" expenses were rational and reasonable-those which a normally wise and prudent man intending to improve not reduce his financial position, would incur under the circumstances.

It was pointed out that the appellant was encouraged to reduce expenses because of perceived problems resulting in correspondence from Revenue Canada. However, reduce them he did.

While the much quoted passage above from Moldowan sets forth certain tests and criteria one cannot mechanically name off the various headings and then look to see how many appl to the facts in any case. Clearly some tests will not have any applicability in certain fact situations.

I do not believe that the taxpayer’s previous profit and loss experience in a totally different business has any bearing in determining whether there was a reasonable expectation of profit in this venture. Some businesses require a great deal of capital, other such as sales and service industries require very little. The denial of the business losses after only six months of operation seems more motivated by the type of business the appellant was carrying on than whether it was capable of profitability.

Mr. Mattison believed he would need seven years to build up the business, while this may be too long a period, six months or 18 months may be too short a period. At page 2135 (D.T.C. 1518) of Speck, supra, Judge Taylor said concerning the start-up time of the appellant’s business as follows:

I do not regard a five-year period (actually four years in this appeal) during which to show a profit from such an operation as unreasonable. I am not aware of jurisprudence which would deny the deductions sought by this appellant during the years in question. This situation might well be one of the few in which a legitimate claim for "start-up costs" should have been considered. I do not regard it as similar in any respect to the recent case of McClure v. M.N.R., [1988] 2 C.T.C. 2140, 88 D.T.C. 1504 (T.C.C.) in which the question of "start-up costs” was examined. To deny this appellant his claim would be tantamount to suggesting that no taxpayer could formulate a supportable and attainable plan for getting into business, finance it out of other income, work in it, and promote it during available hours and days, and gradually build it up to a profit making position, while at the same time deducting any "start-up costs" from other income.

In Lemieux v. M.N.R., [1991] 1 C.T.C. 2180, 91 D.T.C. 454 (T.C.C.), Chief Judge Couture of this Court dealt with the same issues. At page 2184 (D.T.C. 458) he stated:

The number of years which constitute a reasonable start-up phase has never been fixed, since the question is one of fact, but in the judgment of the Associate Chief Justice of the Federal Court of Canada in The Queen v. Gorjup, [1987] 2 C.T.C. 129, 87 D.T.C. 5348, the following remarks should be noted (at page 138 (D.T.C. 5355):

Given the defendant’s situation here, I do not find that ten years is an unreasonable length of time to experience start-up costs.

Chief Judge Couture went on to say at page 2184 (D.T.C. 458):

It is impossible for me to agree with the position of counsel for the respondent. In my opinion, it is not acceptable based on the order in which Dickson s listed his criteria for the respondent to determine whether the operation offered a reasonable expectation of profit after one or two years of operation, even if its beginnings were modest because of the taxpayer’s financial limitations. Prudence in expanding an operation reduces the risks of its financial collapse.

There is no fixed rule for determining the number of years necessary to ascertain if an operation may have a reasonable expectation of profit. I am, however, persuaded that such a determination is not possible after only two years of operation, whatever the activity.

I adopt this reasoning. Six months or even 18 months is not sufficient time to establish the fact of profitability even using the Moldowan checklist. The Minister was premature in disallowing the losses. While what I may have said here with respect to the short-term may not prove to be the case in the fullness of time, but that is another question.

The appeal is allowed with costs on a party-and-party basis, and the matter referred back to the Minister for reconsideration and reassessment on the basis that the appellant is entitled to deduct business losses in the amount of $1,886 for 1991 and $3,751 for 1992.

Appeal allowed.