Estate of the Late Kelly Waxman v. Her Majesty the Queen, [1994] 1 CTC 2817, 94 DTC 1216

Lamarre Proulx, J.T.C.C.:—The question at issue concerns the deductibility of legal costs in the computation of the income of the appellant for the 1987 and 1988 taxation years.

The facts, described in paragraphs 2 to 7 of the appellant's notice of appeal, are as follows:

2. Mr. Kelly Waxman died on June 26, 1985. The total assets of the estate on the date of death aggregated $840,263. The total liabilities of the estate on the date of death aggregated $131,255.

3. The total assets of the estate which aggregated $840,263 consisted entirely of property, i.e. shares of of public companies (approximately $800M), Guaranteed Investment Certificates, bonds and cash in bank. This estate had no assets which could be considered to be personal-use property, as defined in paragraph 54(f) of the Income Tax Act, R.S.C. 1952, c. 148 (am. S.C. 1970-71-72, c. 63) (the "Act").

4, On March 3, 1986, before the Honourable Mr. Justice Denis Durocher of the Superior Court, District of Montreal, Me Martin J. Berger and Mrs. Shirley Solomon were appointed as executors to the abintestate succession of the late Kelly Waxman (Exhibit A).

5. The 1986, 1987 and 1988 trust income tax return and information return, Form T3 were duly filed. The estate had a June 30 fiscal year end.

6. The 1986 income tax return contained a deduction for legal fees of $20,000. The 1987 income tax return also contained a deduction of $20,000 for legal fees.

7. A copy of the invoice from the law firm of Berger & Winston dated July 15, 1987 is enclosed as (Exhibit B). This invoice totals $40,000 and applies to the 1986 and 1987 fiscal years of this estate.

The assumptions of fact upon which the Minister of National Revenue relied are stated as follows in paragraph 6 of the reply to the notice of appeal:

(a) in computing its income for the 1987 and 1988 taxation years, the appellant deducted, for each of the years in dispute, the sum of $20,000 in respect of legal fees;

(b) despite numerous requests from agents of the Minister of National Revenue, the

appellant failed to demonstrate the use and purpose of the said legal fees;

(c) the Minister of National Revenue, despite the appellant's failure mentioned in paragraph 6(b) above, allowed a reasonable amount of legal fees for each taxation years in dispute based on fees charged by financial institutions in comparable situations of estate administration, plus 25 per cent;

(d) the disallowed portion of the legal fees claimed by the appellant as a deduction, was not incurred for the purpose of gaining or producing income from business or property;

(e) the disallowed portion of the legal fees claimed by the appellant as a deduction for each of the taxation years in dispute, was not incurred in preparing, instituting or prosecuting an objection to, or an appeal in relation to an assessment of tax.

Mr. Berger, who is a member of the Quebec Bar and whose legal fees are in dispute, testified on behalf of the appellant. He stated that for the 1987 taxation year, legal fees in the amount of $20,000 were incurred in respect of communications with the heirs, brokers and accountants and in respect of research which was conducted on matters pertinent to the administration of the estate. There was no explanation concerning the nature of the communication with the brokers. As regard the communications with the accountants, it seems that they related to the minimization of taxes to be paid by the appellant, as well as to the various forms that were required to be completed and forwarded to the fiscal authorities.

For the 1988 taxation year, in addition to legal services of the same nature as those rendered in 1987, legal fees were incurred for the purpose of advising the appellant on legal matters concerning contentious aspects of the assessments.

Mr. Berger testified that when asked by one of the heirs to be an executor of the estate, he had discussed with that person what would be the approximate amount of his legal fees. He quoted his price as being not less than five per cent and no more than ten per cent of the value of the estate. Therefore, since the estate had a value of approximately $800,000, Mr. Berger quoted his fee as a maximum of approximately $60,000. In fact for each of the 1986, 1987 and 1988 taxation years, Mr. Berger charged an amount of $20,000, totalling $60,000. In addition to the legal fees, the estate paid the fees of a broker at Dominion Securities and the fees of an accountant.

The appellant's investment income was in the amount of $49,459.65 for the 1987 taxation year and $44,294.43 for the 1988 taxation year. The investment income was derived from dividends paid on shares of Bell Canada Enterprises Inc. and Northern Telecom Inc. and from interest earned on bank deposits and bonds.

The lawyer's account for the 1986 and 1987 taxation years read as follows (Exhibit A-7):

RE: Estate of the Late Kelly Waxman

TO:	Professional services rendered as attorneys for the above-captioned estate, in
	cluding such matters as general day-to-day services; banking; determining the
	debts of the deceased; arranging payment therefor; determining income tax
	liability and making payment for taxes owed; telephone discussions; ensuring
	compliance with existing legal requirements; etc.
	BILLING TO DATE:	$40,000

For the 1988 taxation year, the lawyer's account read as follows (Exhibit A-12):

RE: Estate of the Late Kelly Waxman

TO:	Professional services rendered as attorneys for the above-captioned estate, for
	fiscal period ending June 30, 1988, inclusive of the following:
	Continuing day-to-day general services;
	Banking and record keeping;
	Determining debts of the estate;
	Arranging payments where necessary;
	Determining income tax liability;
	Making payments of taxes owed;
	Telephone discussions;
	Personal interviews;
	Attendances at and meetings with Revenue authorities;
	Ensuring compliance with existing legal requirements;
	Correspondence and communications;
	Research and review;
	Overall counsel and advice.
	ONE CHARGE FOR ALL THE FOREGOING:	$20,000

On February 22, 1988, the appellant was informed by agents of the Minister of National Revenue (the "Minister"), of their intention to reassess the estate and disallow the deduction of the legal fees in their totality. Pursuant to this, a meeting took place between the representatives of the appellant and various officials of the Department of National Revenue. The contentions made by the appellant's representatives as regards the legal expenses incurred in the 1986 taxation year were successful. Representatives of the appellant seemed to have strongly expected that the Minister would follow the same decision for the 1987 and 1988 taxation years. However, this was not the case.

Following various exchanges of letters between the appellant’s agents and those of the respondent, a letter was sent by the agents of the respondent to the appellant’s accountant informing him that the deduction of the legal fees incurred by the appellant would not be allowed for the 1987 and 1988 taxation years because insufficient information had been provided (Exhibit A-8 — Letter dated August 17, 1989, from the audit division to the Estate of Kelly Waxman, c/o Richard Venor). However, an agreement was reached between Mr. Berger and the agents of the respondent whereby the deduction of legal fees incurred by the appellant in the amount of $8,030 were permitted for each of the 1987 and 1988 taxation years. The agents of the respondent stated that they had arrived at the $8,030 amount in accordance with the method described in paragraph 6(c) of the respondent's reply to notice of appeal. When the appellant agreed to that assessment, the agents of the respondent were under the erroneous belief that the dispute had been settled. Nonetheless, the appellant launched the present appeal.

Position of the appellant

The agent for the appellant argued that the legal fees in the amount of $20,000 incurred by the appellant for each of the 1987 and 1988 taxation years were deductible in their totality as they were expenses incurred for the purpose of earning income from property. The agent for the appellant also put much emphasis on the Minister’s alleged obligation to treat taxpayers consistently. I refer to a passage of the agent's letter addressed to the respondent's agent and dated June 23, 1989, and produced as Exhibit A-6:

It seems totally incomprehensible to the undersigned, the heirs and co-executors that you are now proposing for 1987 to disallow $20,000 in legal fees, out of the $40,000 bill (copy enclosed) dated July 15, 1987 of which you yourself already allowed $20,000 for 1986 as per your letter dated May 4, 1988 (copy enclosed). How could it be that of the same $40,000 bill, Revenue Canada saw fit to allow $20,000 as a 1986 deduction and now of the balance, i.e. $20,000 for 1987 they are proposing to disallow this amount? Why was one half allowed and now the other naif should not be allowed?

As you well know, all Revenue Canada, Taxation assessments have to be consistently issued in conformity with the statutes of the Income Tax Act and the existing jurisprudence. Please refer to the Supreme Court of Canada decision of Kellogg Co. of Canada v. M.N.R., [1943] S.C.R. 58, [1943] C.T.C. 1, 2 D.T.C. 601.

The agent for the appellant's reliance on the Supreme Court of Canada case of Kellogg, supra, is clarified in the appellant's notice of appeal, wherein he submits the following:

Since the legal fees were made specifically for the purpose of preserving and maintaining the existing capital assets of the estate and since such services rendered did not result in adding to the value of an existing capital asset nor did it bring into existence a new capital asset, the legal fees should be allowed as a deduction from income. This is the essence of a 1943 judgment of the Supreme Court of Canada (Kellogg, supra).

The appellant's agent also argued that clearance certificates had been issued to the appellant and they would not have been issued if the Minister was not satisfied that the assessments were correct.

Position of the respondent

The respondent submitted that as there was not enough information to determine whether the expenses had been incurred for the purpose of earning income, their deduction was properly disallowed.

Analysis

The agent for the appellant argued that since the Minister has an obligation to be consistent, he should assess the appellant for its 1987 and 1988 taxation years in the same manner as he did for the appellant’s 1986 taxation year. The Court was not provided with any legal authority supporting this submission and understandably so. It is trite law that the statutory duty of the Minister is to assess in accordance with the law. There is no doubt that it is preferable that there be some consistency, but this should not be to the detriment of the law. Moreover, from one year to another, the circumstances may be different such that the same circumstances that lead the Minister to decide in a certain way in one year may not be there the following year. The case law may also have evolved.

The following words of Mr. Justice Pratte of the Federal Court of Appeal in Cohen v. The Queen, [1980] C.T.C. 318, 80 D.T.C. 6250, at page 319 (D.T.C. 6251), are relevant:

Counsel argued that the Minister could not repudiate that understanding, particularly after the expiry of the time within which the appellant might have appealed the 1961 to 1964 assessments.

In my view, the trial judge correctly dismissed that argument. ”. . .that Minister has a statutory duty to assess the amount of tax payable on the facts as he finds them in accordance with the law as he understands it. It follows that he cannot assess for some amount designed to implement a compromise settlement. . ." (Galway v. M.N.R., [1974] C.T.C. 313, 74 D.T.C. 6355 at page 315 (D.T.C. 6357)). The agreement whereby the Minister would agree to assess income tax otherwise than in accordance with the law would, in my view, be an illegal agreement. Therefore, even if the record supported the appellant’s contention that the Minister agreed to treat the profit here in question as a capital gain, that agreement would not bind the Minister and would not prevent him from assessing the tax payable by the appellant in accordance with the requirements of the statute.

Thus, the Minister is under no obligation to assess in the same manner as he did in previous years. Instead, he is under an obligation to make assessments pursuant to the terms of the Income Tax Act, R.S.C. 1952, c. 148 (am. S.C. 1970-71-72, c. 63) (the "Act"). [1]

I will now turn to the matter of the clearance certificates issued pursuant to section 159 of the Act. The nature of clearance certificates is well explained by Associate Chief Justice Jerome in Boger Estate v. M.N.R., [1991] 2 C.T.C. 168, 91 D.T.C. 5506 (F.C.T.D.), at page 182 (D.T.C. 5517), where he states the following:

I am in total agreement with the Tax Court below that the fact that a clearance certificate has been issued to an executor of an estate, the "personal representative” does not free the estate from its liability under the Act. Subsection 159(3) simply provides that if the personal representative does not obtain a certificate as required under subsection 159(2) before the distribution of property over which she had control in her Capacity as personal representative, then she will become personally liable for the unpaid taxes, interest and penalties. The estate is by no means relieved of its liability for tax.

Now, I will examine whether the present case is one in which the principles of the Kellogg decision, supra, are applicable. In that decision it was found that a company carrying on a business could properly deduct from the computation of its income, legal expenses it incurred in defending a suit brought against it for an alleged infringement of trade marks.

In that case, Mr. Justice Duff referred to the decision in M.N.R. v. Dominion Natural Gas Co., [1941] S.C.R. 19, [1940-41] C.T.C. 155, 1 D.T.C. 499-133, and said the following:

It was held by this Court that the payment of these costs was not an expenditure "laid out as part of the process of profit earning", but was an expenditure made “with a view of preserving an asset or advantage for the enduring benefit of the trade”, and therefore, capital expenditure.

It was pointed out in M.N.R. v. Dominion Natural Gas Co, supra, at page 161 (D.T.C. 135-36), that in the ordinary course legal expenses are simply current expenditures and deductions as such. The expenditures in question here would appear to fall within this general rule.

What this decision says is that in the ordinary course of a business, legal expenses are current expenses and deductible as such, unless they are incurred with a view of preserving an asset or advantage for the enduring benefit of the trade in which case they would be capital expenditures. The agent for the appellant contradicts the above principle by submitting that the legal fees which were incurred by the appellant for the purpose of preserving and maintaining the existing capital assets of the estate are fully deductible from the computation of its income.

In effect in order to permit the deduction of legal fees in Kellogg, supra, Duff, J. distinguishes that case from the earlier Supreme Court of Canada decision in Dominion Natural Gas Co., supra. The latter decision has also been distinguished in many subsequent decisions such that the distinction between an ''expenditure incurred with a view to preserving an asset or advantage for the enduring benefit of the 'trade'" and "current expenditure” has become somewhat blurred with time.

In any event, there is no need to pursue that debate in the present case as it is evident that the legal expenses incurred by the appellant were not incurred for the purpose of preserving any of the assets of the estate. Thus, the issue becomes one of determining whether the legal fees were expended for the purpose of gaining or producing income from property.

If it were, then the legal fees would be deductible by virtue of section 9 of the Act, subject to the limitations of paragraph 18(1)(a) of the Act. The most recent authority on the deduction of legal fees incurred by an estate is the judgment of Judge Bonner of this Court in Pappas Estate v. M.N.R., [1990] 2 C.T.C. 2132, 90 D.T.C. 1646, where it was found that legal fees incurred for the administration of an estate are not deductible unless they are related to the income earning process.

There was no evidence adduced (and it is doubtful that any could have been adduced), showing that advisory legal services as regards the clearance certificates and other matters pertinent to the administration of the estate were related to the appellant's income earning process. Advisory legal services relating to the appellant's income tax returns may perhaps be considered as related to the appellant's income earning process if some evidence were produced to the effect that legal services were rendered for that purpose. However, on one hand, the account was not apportioned as such, and even if it had been, the reasonableness of the account would have to be considered. The evidence showed that the income tax returns were prepared by the accountant and were revised by the lawyer. If some legal fees were incurred for the preparation of the tax returns, I am of the opinion that they were surely more than covered by the amount allowed by the respondent for the 1987 taxation year.

For the 1988 taxation year, in addition to the services described for the 1987 taxation year, there were services rendered regarding the disputed assessments. Paragraph 60(o) of the Act provides for the deduction of legal fees incurred for that purpose.

However, the costs of these services were not apportioned in the invoice. At the hearing, although the lawyer produced exhibits A-16 and A-19 showing the vacations respecting the estate and the time allotted to each vacation, there was no regrouping of the expenses. Thus, it is difficult to determine even by approximation, the time the lawyer spent on the contentious issues and on the preparation of the income tax returns. That burden of proof is on the taxpayer.

The dispute as to the assessments began no sooner than March 1988 and the 1988 taxation year ended June 30 of that year. From Exhibit A-19, the lawyer indicated approximately 20 hours of work for legal services rendered in opposing the proposed assessments and reassessments. At his fee of $250 per hour, that totals $5,000 and the amount allowed by the Minister appears again as amply covering the services rendered for appealing the assessments.

I want to reemphasize that it is incumbent on the taxpayer to provide the information so that the Minister may exercise his statutory duty. Often during his argumentation the appellant’s agent stated that he was of the view that the least that was said, the better and that there should not be any giving of rope in fear of it being used to hang the giver in the information. Without debating this aspect further, I would like to point out that the Minister's agents must be provided with the information necessary so that they may determine whether or not the legal fees were incurred by the appellant for the purpose of earning income from property. From the evidence, it would appear that this information was not provided because in fact the legal fees had not been incurred for that purpose or if so, it was on a very minimal basis. In my opinion, the legal fees appear to have been incurred to administer the estate and distribute the assets therein to the heirs.

The appeals are dismissed.

Appeals dismissed.