W.B. (Bill) Tainsh & Associates Limited v Her Majesty the Queen, [1995] 1 CTC 2931

Beaubier J.T.C.C.:-This appeal pursuant to the general procedure of this Court was heard in Edmonton, Alberta on April 25 and 26, 1994.

The appellant called three witnesses; Bill Tainsh, chief officer of the appellant and his two experts, Danny Garinger, executive director of the Alberta Standard Bred Horse Association from June 1981 until 1993 and Frank Novak, associate professor of agricultural economics at the University of Alberta. The Crown did not call any witnesses.

The appellant was reassessed on the basis of section 31 of the Income Tax Act, R.S.C. 1952, c. 148 (am. S.C. 1970-71-72, c. 63) (the "Act’’). The reply of the Crown described the issues as follows:

10. The issues are:

(a) whether the appellant’s chief source of income was farming or a combination of farming and some other source of income during the 1986 and 1987 taxation years; and

(b) whether the appellant had a reasonable expectation of profit from the farming activity in the 1986 and 1987 taxation years.

In Moldowan v. The Queen, [1978] 1 S.C.R. 480, [1977] C.T.C. 310, 77 D.T.C. 5213, at page 485-86 (C.T.C. 313-14, D.T.C. 5215), Dickson J. stated:

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 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 (F.C.T.D.). 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.

After all the evidence in this matter was heard, counsel for the Crown in argument stated that the criteria enunciated by Dickson J. had been satisfied except for "the capability of the venture as capitalized to show a profit after charging capital cost allowance". The Court agrees. The central evidentiary matter in this case is whether the appellant had a reasonable expectation of profit in 1986 and 1987 from the horse operations.

Two factors are related to this:

1. In 1982 the appellant expanded from a standard bred horse breeding operation to both breeding and racing, so that there is a start-up component to the racing side of the operation.

2. In fiscal 1986 the appellant was sued for $15,000,000, which caused Mr. Tainsh to lose track of the management of all of the appellant’s operations (that is both farming and life insurance) in both 1986 and 1987 while he successfully conducted negotiations and ultimately settled the lawsuit.

The appellant was incorporated in 1974 and carried on business as a life insurance agent, acting primarily as an agent for Monarch Life, which later became part of North American Life Assurance Company. Essentially Mr. Tainsh operated the business with one or two office staff and the corporation did farm estate planning and life insurance. The appellant participated in rural fair parades in places like Lloydminster, Wainwright and Consort, Alberta, and would parade palomino riding horses and a buggy with the corporate name on it to enhance and develop its life insurance business. At the end of the 1970s the appellant purchased a standard bred horse, Mona Rodney, to pull the buggy and soon it had purchased two more, bred Mona Rodney and had a colt. It then purchased a small farm near Tofield, Alberta, about 70 kilometres east of Edmonton, and went into the breeding of standard bred horses alongside of the farm estate planning and life insurance business. In 1982 it had 17 brood mares and three stallions, including "Thank You Sir" which was very highly regarded. In 1983 it purchased its own haying equipment and by the end of 1983 it had four stallions.

In 1983 the price of horses at sales dropped from an average of $3,000 in 1981 or so to $2,100. The appellant decided the way to improve its sales and prices was to go into racing so it purchased a racing farm with 26 box stalls, a one-half mile track, a horse pool and a barn that had originally cost $250,000 for the sum of $40,000 from the Alberta Development Corporation. It also purchased some horses that were trained and ready to race. It acquired one trainer for the breeding operation and another for the racing operation. By 1986 it had between 170 and 180 horses and 15 employees engaged in horse breeding and racing. Not including horses, it had almost $400,000 invested in capital assets associated with the standard bred operation. By comparison it had three employees and a very small amount of capital invested in the life insurance business. In 1986 the appellant was the second biggest standard bred operator in Alberta.

The financial figures relating to both the farm and the insurance operations from 1980 to 1987 inclusive were as described in Schedule "A" to the reply and were admitted by the appellant to be true.

Mr. Tainsh was extremely active as chairman of the breeders committee and as an officer of the Alberta Standard Bred Association. At the end of the appellant’s 1985 fiscal year, on the advice of a number of acknowledged authorities in the business, including Mr. Garinger, he decided to cull the horses in the appellant’s operation and reduce them to a total of 70 or 80 in order to reduce staff and improve the overall quality of his horses. The Court finds that this was a sound business decision.

In December 1985, in the first quarter of the appellant’s 1986 fiscal year, Mr. Tainsh learned of a serious insurance contract problem with a client which culminated in a lawsuit against Mr. Tainsh and the appellant in July 1986 for $15,000,000. Mr. Tainsh states the lawsuit took all of his energies until it was settled in June 1987 and the Court believes this. As a result Mr. Tainsh virtually stopped managing both his insurance and standard bred operations. Schedule "A" bears this out, excepting for the 1987 “management fee income" which may very well reflect a time lag relating to previously earned commission income from other salesmen. Mr. Tainsh testified that the decline in "management fee income" in 1987 was due to a loss of agents which occurred when he did not spend the necessary time with agents to assist them in selling life insurance.

As a result of the initial decision to cull the herd and the need for cash in the face of the lawsuit, the appellant conducted a sale of about 30 to 40 horses in the fall of 1986. This was followed by two sales in 1987 which dispersed more horses and equipment, so that by fiscal 1988 the appellant had about 30 horses of which about ten were for personal use. By the end of fiscal 1988 the appellant no longer owned either of the two horse farm properties and the evidence indicates that it was out of both the insurance and the horse operations entirely.

The result of the settlement of the lawsuit was that Mr. Tainsh personally assumed liability for $600,000 to North American Life Assurance Company and at the time of trial he still owed $200,000 of this. He and the appellant did not go bankrupt.

The Court finds that the events of 1986 which resulted in the decline of both the horse and insurance enterprises were caused by the lack of management when Mr. Tainsh devoted his whole time and effort to the lawsuit. The lawsuit itself arose in the course of business and the defence and effort of defence in the lawsuit of this magnitude were of a size and nature to be expected because the appellant’s entire survival was at stake. Had it been settled in a few months the appellant might have survived. Even though it was settled within a year, the effort and cost was too great for the appellant to survive.

Therefore the Court finds that the obvious financial difficulties of all aspects of the appellant’s enterprises in 1986 and 1987 arose as a result of a failure in management decisionmaking due to a lawsuit which occurred in the appellant’s ordinary course of business.

Had the lawsuit not occurred, the Court believes Mr. Tainsh’s tes- timony, which was confirmed by Mr. Garinger, that the appellant would have reduced the horses to a total of 70 or 80 in fiscal 1986 and that this in turn would have reduced the overhead substantially.

From the numbers provided by the experts to the Court, the Court calculates that this would have resulted in the overhead costing about $2,500 per horse which would have been subject to a time lag in 1986 to allow for the sale and a possible further lag into 1987 to allow for more than one sale which might have been necessary due to the volume of horses that would have been sold into the relatively small Alberta standard bred market.

On the foregoing cost of $2,500 per horse which would arise from substantially reduced personnel and some reduction in equipment, maintenance and operations, the appellant’s yearly overhead would have been about $200,000 based on 80 horses being retained.

Mr. Garinger was surprised, given the appellant’s purchase of quality breeding stock, and the number of horses in the operation, that the appellant did not have more than one $100,000 purse winner in its stable. In fact it never had a $100,000 a year purse winner. Such a winner would not only have increased track winnings, but would have improved the appellant’s sales and sales prices. Mr. Garinger put the lack of such a winner down to bad luck and the Court accepts this view, given the size, volume and quality of the appellant’s horse operation.

Thus the Court finds that as a business decision the appellant could reasonably expect to obtain a gross income of $100,000 per year more in both 1986 and 1987 than it did. That addition to income would have made the appellant profitable in both 1986 and 1987 if the horse sales and reductions had been carried out as planned.

In Mohl v. Canada, [1989] 1 C.T.C. 425, 89 D.T.C. 5236 (F.C.T.D.), at pages 427-28 (D.T.C. 5238-39), Strayer J. suggested that the quantum of farming income in relation to income from other sources cannot be ignored in cases such as the appellant’s. Schedule "A" indicates that on the foregoing estimate by the Court and based on the evidence before it, net farming income would have been at best about $60,000 in 1986 and about $20,000 in 1987. By comparison the appellant’s net insurance income would have been about $188,000 in 1986 and $38,000 in 1987. On this basis, the farming income in both years would have been significant had the calamity of the lawsuit not intervened and destroyed the appellant as an incomeearning entity.

The lawsuit, which was a calamity of life threatening proportions, intervened. It is completely understandable that when faced with such a prospect, the appellant devoted all its efforts to the lawsuit. That was not a complete mistake because, on the evidence before the Court, the settlement was reasonable and sensible. However, it did destroy both businesses of the appellant.

The appellant also led evidence that the horseracing and breeding operation combined with and enhanced the appellant’s farm life insurance and estate planning source of income and the Court accepts this evidence.

The result is that on the evidence before it, the Court finds that the appellant had an expectation of profit from its farming business in both 1986 and 1987 that was reasonable and thus farming was the chief source of income in those years.

The appeal is allowed and this matter is referred to the Minister of National Revenue for reconsideration and reassessment in both 1986 and 1987 on the foregoing basis.

The appellant is awarded its party-and-party costs.

Appeal allowed.