Dieter Franke v. Her Majesty the Queen, [1994] 1 CTC 2908, 94 DTC 1524

O’Connor, J.T.C.C.:—These appeals were heard in Ottawa, Canada on April 11 and 12, 1994 pursuant to the General Procedure of this Court and relate to the appellant’s 1986, 1988 and 1989 taxation years. The year 1987 was also originally in issue but counsel for both parties confirmed at the hearing that the matters in the 1987 year had been settled. The appellant is the president, full-time employee and the primary shareholder of Alpha Stereo and T.V. Ltd. (the "corporation").

Although the notice of appeal and the reply address several issues, it was agreed at trial that there were only three issues outstanding. The first involved an amount of $37,851 which the Minister of National Revenue (“Minister”) included in the appellant's 1988 income under the heading "Year-end accounts receivable wrongly credited to shareholder". The second issue related to the Minister including in the appellant's income for the 1986 taxation year an amount of $10,000 as unreported salary. The third issue relates to the inclusion by the Minister under paragraph 6(1 )(e) of the Income Tax Act, R.S.C. 1952, c. 148 (am. S.C. 1970-71-72,

c. 63) (the "Act") of “standby charges on automobile” in the amount of $1,269 in 1988 and $4,350 in 1989.

On the first issue there was agreement that the actual amount of accounts receivable at the end of the 1988 year was $37,851. The corporation was involved in the sale and repair of electronic equipment including televisions and VCRs as well as the rental of movies. The extensive documentary evidence, as supported by the verbal testimony of the appellant, indicates that during the 1988 year the corporation made a decision, that to remain competitive with deals being offered by companies engaged in similar activities, the corporation would have to grant liberal credit terms. To this end, when sales were made, in many cases the corporation would only demand from the customer minimal or in some cases, no down payments with the balances being paid over varying periods of time. The appellant however would "finance" these receivables or balances by making deposits into the corporation's bank accounts of amounts such that at the end of each week the cash in the corporation's accounts would match the total sales. From time to time there were discrepancies in this matching but these were very minor. As at the end of 1988 the balances so financed by the appellant totalled $37,851. The accountant for the corporation entered this amount in the books of the corporation as a year-end accounts receivable credited to shareholder. The Minister took issue with this treatment and considered the said amount as a benefit by the corporation to the appellant as a shareholder and consequently included same in his income for 19'88.

One of the respondent's principal concerns was that the deposits made by the appellant were almost always of cash. The respondent apparently did not believe that these amounts of cash actually were personal funds of the shareholder but rather argued that the cash represented amounts which the appellant withdrew or siphoned off somehow from the corporation. Counsel for the respondent was also suspicious of the entire procedure because he doubted the credibility of the appellant on how the cash arose and why he stored cash in large amounts not only in his home but in a strong box at the corporation's place of business. In other words, why would someone store cash rather than invest it in term deposits or similar instruments which would earn income. The appellant stated that storing cash stemmed partly from his background, that he acquired the cash from the sale of certain properties and that he intended to use some of it someday for the purchase of real estate.

The Court accepts the testimony of the appellant that the cash had been raised by him by the sale of certain properties in Florida and in Ontario and that the cash deposits ne made in the corporation's accounts were truly his personal funds.

Counsel for the respondent also argued that since in many cases the balances owing were actually collected by the appellant directly from the customers this is an indication that the corporation had nothing to do with the balances and that in effect the appellant in charging interest in some cases on the balances was carrying on a separate financing business. This ignores the fact however that the amounts were actually deposited by the appellant in the corporation's bank accounts.

The Court finds that the appellant did use his own personal funds to cover the balances due to the corporation, that this was done by him depositing moneys in the bank accounts of the corporation. Consequently the corporation became a debtor to the appellant in the amount of $37,851 and this conclusion is not altered by the fact that the appellant may have made direct collections at a subsequent date from the customers. In other words he put the moneys into the corporation, the corporation owed him for these moneys and it does not change the creditor/ debtor relationship if the corporation permits the appellant to be paid directly by the customers. Consequently the Court concludes that the said amount of $37,851 was not a shareholder benefit and should not have been included in the appellant's income in 1988.

On the second issue with respect to unreported salary of $10,000 in 1986 the evidence is extremely sketchy. The appellant himself essentially declares ignorance of the matter and indicates that it was his accountant of the time, Mr. Marcel Castonguay, who was responsible. Mr. Castonguay’s evidence is that there certainly was unreported administrative salary in the amount of $10,000 but he offered the suggestion that this should be divided $5,000 to the appellant and $5,000 to the appellant’s wife who was actively involved with the corporation. The principal (if not the only) written evidence is contained in a letter dated December 27, 1989 of Hamel Martel, an accounting firm where Mr. Castonguay worked at the time addressed to Revenue Canada which contains the following statement:

Mr. Dieter Franke:

(a) 1986 — Unreported salary of $9,405

There was an amended T4 prepared for Mr. Franke which shows the additional $10,000 as reported salary.

In the absence of any clearer evidence to the contrary and notwithstanding the fact that the letter in question apparently was written by a Miss Susan Phipps, a subordinate of Mr. Castonguay, the Court concludes that the Minister was correct in including the said $10,000 in the income of the appellant for the 1986 taxation year.

On the third issue of the automobile standby charges of $1,269 and $4,350 included by the Minister in the income of the appellant for the 1988 and 1989 taxation years respectively the evidence is essentially as follows. During the years in question the appellant owned personally a 1980 Eldorado and his wife owned a 1979 Malibu. The corporation owned a delivery van and on September 12, 1988 it purchased a 1988 Pontiac 6000 station wagon (the “station wagon") at a total cost, including finance charges, of $18,000. The appellant testified that he never used the station wagon for personal reasons. In some cases it would be used to drive customers to and from the corporation's place of business — this was particularly so in relation to a program for seniors which the corporation had initiated. The appellant further testified that he himself almost always drove the corporation's van (not the station wagon) to and from the place of business and that the station wagon was available for other employees especially the appellant’s wife and that it was used to make deliveries and service calls. Also because of lack of storage space at the corporation's place of business at the corner of Bank and 5th Avenue in Ottawa, in many cases products were stored at the appellant’s home and from time to time would, using the station wagon, be moved from there to the place of business or directly to customers. Counsel for the respondent points to the advanced years of the two personal cars, namely the Eldorado and the Malibu, and argues that it is incredible that the appellant would not make use of the new station wagon for personal purposes from time to time.

The appellant’s testimony with respect to the car is corroborated in part by the testimony of Marcel Castonguay who also testified that the appellant worked almost at all times on a six day a week basis from Monday through Saturday and in many cases twelve hours a day. In other words he had very little time for personally using the station wagon.

Counsel for the Minister further argues that the car was “available” to the appellant and suggests that perhaps that is enough even if personal use cannot be established. He further points out that the appellant should have filed the appropriate information establishing that his (and his wife's) personal use of the station wagon was less than 1,000 kilometres per month.

The Court accepts the testimony of the appellant as partially corroborated by Marcel Castonguay, concludes that the station wagon was not available for personal purposes as contemplated in paragraph 6(1 )(e) of the Act and that consequently the standby charges in question should not have been included in his income for the years 1988 and 1989.

Consequently the appeals are allowed with respect to the accounts receivable of $37,851 in 1988 and with respect to the standby charges of $1,269 and $4,350 in the years 1988 and 1989 respectively, but the appeal is dismissed with respect to the $10,000 unreported salary in 1986.

As the appeals have been successful in the main, costs will be allowed to the appellant.

Appeal allowed in part.