David Weisdorf v. Her Majesty the Queen, [1993] 2 CTC 2756

Bowman, T.C.C.J.:—This appeal, from an assessment for the 1987taxation year, was heard under the informal procedure of this court and has to do with an amount of $12,000 which the Minister of National Revenue included in the appellant's income under subsection 15(2) of the Income Tax Act, R.S.C. 1952,

c. 148 (am. S.C. 1970-71-72, c. 63) (the "Act"). The central issue is whether this amount, which was loaned to the appellant, who was "connected" with a shareholder of the corporation, was repaid within one year from the end of the taxation year of the corporation that made the loan, within the meaning of paragraph 15(2)(b) of the Act.

The evidence was complicated by the fact that an integral part of the series of events culminating in the assessment in question was a marital breakdown and an acrimonious family dispute. Although, in a sense, such matters, which seldom surface in this court, were tangential to the main issue, they nonetheless impinged upon it.

Cindy Gilbert ("Cindy") and the appellant were married in July of 1987. Cindy was the daughter of Jack Gilbert, a lawyer and businessman who ran a company called Steel Investments Ltd. ("Steel") which engaged in a variety of business and investment activities. Jack Gilbert was not a shareholder of Steel but, as I recall the evidence, his three children, including Cindy, were, as well, possibly as Mr. Gilbert’s wife.

Cindy was also a shareholder of a numbered company, 586582 Ontario Ltd., which carried on business as Mural Graphics Unlimited. There was some evidence that the shares of this company, which I shall refer to as Mural, were originally owned by Cindy's mother but at the material times it seems Cindy was the principal shareholder. It was her company and it carried on business in a f’eld of artistic endeavour.

The appellant is now a chartered accountant but at that time had not completed all the steps necessary to so qualify. He was working for a firm of chartered accountants, Smith, Selby and Deluca of which Steel was a client in 1987.

Mural needed money and, since Cindy was reluctant to approach her father, the appellant, who at that time was on good terms with his father-in-law, agreed to approach him. The result was that two cheques in the amount of $6,000 each were issued in September and November 1987 by Steel to the appellant who immediately paid them to Mural. They were set up in the books of Steel as loans receivable and were so described in the unaudited financial statements of Steel for the year ended November 30, 1987. In reviewing the books of Steel at year end Mr. William Selby, C.A. prepared a memo in which he posed a number of questions, including one relating to this loan: “Is the debtor an 'employee for 15(2)'". I presume he meant ^shareholder". In any event the appellant wrote an answer to this as follows: "Amount to be repaid against spouse's S/H loan per J.G.”.

The appellant testified that this was the understanding that he had with Jack Gilbert, referred to as"J.G." in the note.

For the 1988 fiscal year a new firm of chartered accountants, Fruitman, Kates & Co. was retained by Steel. The appellant was by then working for that firm. He was aware of the necessity of repaying the liability to Steel before the end of the 1988 fiscal period. Evidently a journal entry was made eliminating his liability to Steel and reducing the amount owing to Cindy by Steel in her shareholder's loan account. It is not certain from the evidence when this entry was made but the result was clearly reflected in the financial statements of Steel for the period ending November 30, 1988, which were discussed with Jack Gilbert by the auditors and were approved by him on behalf of the board. The financial statements disclosed that the loan receivable from David Weisdorf of $12,000 owing in 1987 had disappeared in 1988 and note 3 states in part under "Loans Receivable""Previous year loans were due to shareholders, or persons connected and were repaid during the year".

By the time the 1989 financial statements were to be prepared matters had started to deteriorate between the appellant and Cindy and between the appellant and the Gilbert family generally. In March of 1990 Cindy and the appellant separated and for a variety of reasons, both personal and financial, relations between the appellant and Jack Gilbert became extremely acrimonious. The appellant called as witnesses Jack Gilbert, Cindy and Jack Gilbert's brother-in-law, Percy Sherman. None of these witnesses was particularly helpful to the appellant and the strained relations were obvious, particularly in the case of Jack Gilbert, who was an unco-operative and truculent witness whose antipathy toward the appellant was undisguised. He categorically denied ever authorizing the set off of the appellant's indebtedness to Steel against Cindy's shareholder loan account. Cindy stated that she knew essentially nothing, including whether she was a shareholder of Steel, whether she ever received bonuses from Steel or whether she had a shareholder's loan account with Steel.

The draft financial statements for the period ending September 30, 1989 do not show any amount owing by the appellant to Steel. However, on July 23, 1990 Jack Gilbert wrote to Cindy and the appellant demanding repayment of a number of loans made to the appellant and to Mural, including the two $6,000 loans made to the appellant in September and November 1987.

Among the assumptions pleaded by the Minister as the basis of the assessment were the following:

(g) Steel had engaged the accounting firm of Frurtman, [sic] Kates and Co. to prepare its 1987 and 1988 financial statements. The appellant was employed by the firm and he was assigned to perform the year end audit of Steel. In preparing the 1988 financial statements, the appellant offset his loan receivable balance of $12,000 against a credit balance in Cindy's shareholder loan account (the "entry");

(h) the loan to the appellant was interest bearing where as [sic] Cindy's shareholder loan account was non-interest bearing;

(i) the entry was not approved by Cindy or by the management of Steel;

(j) there were no corporate resolutions nor any authorizations for the entry;

(k) Steel had engaged another accounting firm to prepare its 1989 financial statements and, at management's request, the firm's accountants reversed the entry and reclassified the appellant's loan of $12,000 as receivable from 1987; and

(l) the appellant’s loan was not repaid before the end of the first taxation year of Steel following the year in which the loan was made, nor was any part payment made before the end of the first taxation year of the lender following the year in which the loan was made.

The appellant did not challenge assumptions (g) or (k). Assumption (h) was abandoned by the respondent as a basis for upholding the assessment. The relevance of (h) was not apparent to me in any event. I am therefore proceeding on the basis that assumptions (g) and (k) are correct.

Notwithstanding the somewhat unsatisfactory state of the evidence and the fact that some of the witnesses were considerably less than forthcoming in their testimony I am prepared to find as a fact that there was an understanding between Jack Gilbert and the appellant that the loan to the appellant would be offset against Cindy’s shareholder's loan account. Jack Gilbert seems to have taken upon himself a general authority to run Steel and its relationship with its shareholders, including the shareholders’ loan accounts, as his own fiefdom and the appellant, in the period before relations between him and the Gilbert family deteriorated, relied on that authority as sufficient to justify his making of the offsetting entries referred to in assumption (g) without obtaining any further specific written authorization from Steel or Cindy. After the breakdown of relations between the appellant and the Gilbert family, the entry was reversed on the instructions of Jack Gilbert.

Notwithstanding these facts, I do not think they are sufficient to enable the appellant to succeed.

I do not accept the appellant's alternative argument that he was a mere agent or conduit for Mural in borrowing the money from Steel. For whatever reason, tax or otherwise, the loan was treated throughout as a loan to the appellant and not to Mural and the evidence does not support the view that the substance differed from the form.

Nor can I accept the contention that the loan was repaid by the end of Steel's 1988 taxation year. For one thing, even if the bookkeeping entries had the effect contended for — and for reasons that I shall set out in greater detail below I do not believe they did — there is no evidence that they were made in Steel's 1988 taxation year. The entries relied upon in the financial statements were obviously made after the end of November 1988, when the financial statements were being prepared.

Accounting entries do not create reality. Their function is to reflect it. There seems to be an assumption that an accounting entry made after year end can retroactively determine the nature of events that purportedly occurred before the end of the year. This Court stated in Sinclair v. M.N.R., [1992] 1 C.T.C. 2218, 92 D.T.C. 1163 at page 2226 (D.T.C. 1169):

In addition the Minister sought to tax Mr. Sinclair on $50,750 credited to his loan account by Prosperous Investments. It would appear from paragraphs 6(p) and (q) of the reply, which set out the Minister’s so-called "assumptions" that he assumed that the mere fact of crediting to a shareholder loan account gives rise to taxation in the hands of the principal shareholder, irrespective of whether the shareholder or employee has appropriated any funds from the account or whether the crediting of the account affects in any way the legal relationship with the corporation or indeed whether the shareholder has condoned or even knows of the bookkeeping entry. A mere bookkeeping entry in a loan account by itself does not constitute a taxable event unless there is something more, such as receipt. In Gresham Life Society Co. v. Bishop (1902), 4 T.C. 464 at page 476, Lord Brampton said:

My Lords I agree with the Court of Appeal that a sum of money may be received in more ways than one e.g. by the transfer of a coin or a negotiable instrument or other document which represents and produces coin, and is treated as such by business men. Even a settlement in account may be equivalent to a receipt of a sum of money, although no money may pass; and I am not myself prepared to say that what amongst business men is equivalent to a receipt of a sum of money is not a receipt within the meaning of the Statute which your Lordships have to interpret. But to constitute a receipt of anything there must be a person to receive and a person from whom he receives and something received by the former from the latter, and in this case that something must be a sum of money. A mere entry in an account which does not represent such a transaction does not prove any receipt, whatever else it may be worth.

The observations are equally relevant here.

I have a certain sympathy for the appellant. He obtained no benefit from the loans and he acted in good faith upon what he believed was an acceptable practice. His difficulties were compounded by the development of a bitter family dispute. Although he presented his case with skill and thoroughness I cannot find that the loan was repaid before the end of Steel's 1988 taxation year.

Accordingly, the appeal is dismissed.

Appeal dismissed.