John M. McLlhargey v. Her Majesty the Queen, [1991] 2 CTC 52

Cullen, J.:—This is an appeal from a reassessment by Revenue Canada of the plaintiff's 1984 income tax return. The issue is whether the plaintiff had received a taxable benefit in respect of the forgiveness of a non-interest bearing loan from his employer.

Facts

The parties have provided an agreed statement of facts, which reads as follows:

I. The Plaintiff is an individual resident in Canada for the purposes of the Income Tax Act, Canada (the "Act").

2. First Calgary Petroleums Ltd. (“First Calgary’’) was at all times material hereto a “public corporation” as defined in paragraph 89(1)(g) of the Act.

3. During January, 1980 the Plaintiff became employed as a Vice-President by First Calgary. In subsequent years the Plaintiff's title at First Calgary became "Vice- President and General Manager” and then "Vice-President and Chief Operating Officer". He was also appointed to the Board of Directors of First Calgary.

4. First Calgary was a junior oil and gas company engaged in the exploration, development and the production of hydrocarbons in both Canada and the United States.

5. By Agreement made the 23rd day of January, 1980 between First Calgary and the Plaintiff (a copy of which is attached hereto as Exhibit 1) First Calgary granted to the Plaintiff an option to acquire 100,000 shares in the capital of First Calgary at a price of $2.50 per share pursuant to its Employee Incentive Share Option Plan.

6. Pursuant to an agreement dated March 12, 1981 (the “1981 Agreement") between First Calgary, the Plaintiff and the Canada Permanent Trust Company ("Canada Permanent") (a copy of which is attached hereto asExhibit 2) the Plaintiff's existing option to acquire 100,000 shares of First Calgary was cancelled and terminated and First Calgary lent the Plaintiff $305,000 (the "Loan") which was used by the Plaintiff to acquire 100,000 common shares in the capital of First Calgary (the "Shares") from its treasury.

7. Under the terms of the 1981 Agreement:

(a) the Loan was non-interest bearing and was to become due and payable no later than March 12, 1986; and

(b) the Plaintiff was obliged to pledge the Shares with Canada Permanent as security for repayment of the Loan.

8. First Calgary formally adopted a Stock Purchase Plan to be effective as of the 1st day of January, 1983 (a copy of which is attached as Exhibit 3).

9. The 1981 Agreement was amended and clarified by an agreement dated February 11, 1983 (the "Amending Agreement") between First Calgary, the Plaintiff and Canada Permanent (a copy of which is attached hereto as Exhibit 4) such that:

(a) the Plaintiff signed a Promissory Note in the amount of the Loan;

(b) the Loan continued to be non-interest bearing and due and payable no later than March 12, 1986;

(c) the Plaintiff signed a Direction to Pay to Canada Permanent;

(d) the Plaintiff signed an Election to Participate; and

(e) Canada Permanent continued to hold the Shares as security for repayment of the Loan.

10. By Agreement between First Calgary and the Plaintiff made as of April 14, 1984 (a copy of which is attached as Exhibit 5), First Calgary terminated the Plaintiff's employment.

11. Pursuant to the terms of a second agreement dated April 14, 1984 (the "Second 1984 Agreement") between First Calgary and the Plaintiff (a copy of which is attached hereto as Exhibit 6):

(a) the Plaintiff transferred, assigned, set over and quit claimed all right, title, interest and estate in and to the Shares to Canada Permanent which was to sell the Shares and apply the sale proceeds to reduce the amount outstanding under the Loan; and

(b) First Calgary released the Plaintiff from any further obligation with respect to the Loan in excess of the amount of the net proceeds from the sale or the Shares by Canada Permanent.

12. Due to the significant decrease in the market value of the Shares between the date of acquisition by the Plaintiff and the date that Canada Permanent sold the Shares pursuant to the Second 1984 Agreement, the net sale proceeds available to Canada Permanent which were paid to First Calgary in respect of the Loan were $79,833 (the "Sale Proceeds").

13. By Notice of Reassessment dated September 25, 1987 (the "Reassessment") the Minister of National Revenue (the "Minister") reassessed the Plaintiff in respect of his 1984 taxation year on the basis that the Plaintiff had received a taxable benefit pursuant to paragraph 6(1)(a) of the Act in the amount of $211,431 in respect of First Calgary's release of the Plaintiff of any further obligation with respect to the Loan under the terms of the Second 1984 Agreement.

14. The Plaintiff filed a Notice of Objection dated December 10, 1987 in respect of the Reassessment and the Minister issued a Notice of Confirmation dated November 8, 1988 confirming the Reassessment on the basis aforesaid.

Position of the Plaintiff

The plaintiff states that the forgiveness of the outstanding balance of the loan by the employer was not a taxable benefit under the Act. He submits that the result of the loan forgiveness by the employer did not confer an economic benefit upon him, but rather only prevented him from suffering a decrease in his net worth as a result of a decline in the value of the shares which secured the forgiven loan. In the alternative, he submits that either section 80, or else section 79, of the Act was applicable to the transaction. If not, then the plaintiff states that if it is determined that he did realize a benefit from employment by virtue of the write-off, his loss from the disposition of the shares constituted a loss which is deductible from his employment income for the 1984 taxation year pursuant to subsection 5(2) of the Act.

Position of the Defendant

The defendant submits that the forgiveness of the outstanding balance of the loan constituted a benefit from employment pursuant to paragraph 6(1)(a) of the Act. With respect to section 80 of the Act, the defendant states that if it is determined that the amount forgiven is included in the plaintiff's income pursuant to section 6, section 80 will not apply. Paragraph 80(1)(f) of the Act provides that section 80 does not apply in situations where the amount forgiven would otherwise be required to be included in the plaintiff's income. It is also submitted that section 79 of the Act does not apply, as First Calgary did not itself acquire or reacquire the shares ”. . .as a consequence of the (plaintiff's) failure to pay all or any part of an amount. . . owing".

As for the issue of the sale of the shares resulting in a deductible loss, the. defendant takes the position that the loss incurred was an allowable capital loss, and that the deductions as permitted by sections 3(e), 38, 39(1)(b), 40(1)(b) and 111(1)(b) have been allowed.

Issues

1. Was the forgiveness of the outstanding balance of the loan a taxable benefit within the meaning of paragraph 6(1)(a) of the Act?

2. If so, would sections 79 and 80 of the Act have any application in the circumstances?

3. If neither section 79 nor section 80 apply, is the plaintiff entitled to deduct the loss from his employment income?

Paragraph 6(1)(a): Employment Benefits

Paragraph 6(1)(a) of the Act requires that certain benefits or gains received by an employee from an employer by virtue of his office or employment be included in the computation of the employee's income:

There shall be included in computing the income of a taxpayer for a taxation year as income from an office or employment such of the following amounts as are applicable:

(a) the value of board, lodging and other benefits of any kind whatever received or enjoyed by him in the year in respect of, in the course of, or by virtue of an office or employment, except any benefit [the exceptions are not applicable to this appeal].

The phrase "other benefits of any kind" in paragraph 6(1)(a) was given an expansive interpretation in The Queen v. Savage, [1983] C.T.C. 393; 83 D.T.C. 5409 (S.C.C.), where the Court held that it was not to be confined to simple remuneration for services rendered in the course of employment. Dickson, J. (as he then was) stated, at 399 (D.T.C. 5414):

I do not agree with . . . the statement that, to be received in the capacity of employee, the payment must partake of the character of remuneration for services. Such was the conclusion in the English cases but based on much narrower language. Our Act contains the stipulation, not found in the English statutes referred to, “benefits of any kind whatever . . . in respect of, in the course of, or by virtue of an office or employment". The meaning of “benefit of whatever kind” is clearly quite broad; in the present category the cash payment of $300 easily falls within the category of "benefit". Further, our Act speaks of a benefit "in respect of" an office or employment. In Nowegijick v. The Queen, [1983] C.T.C. 20; 83 D.T.C. 5041 this Court said, at 25 (D.T.C. 5045), that:

The words “in respect of” are in my opinion, words of the widest possible scope. They import such meanings as “in relation to”, “with reference to" or “in connection with”. The phrase “in respect of” is probably the widest of any expression intended to convey some connection between two related subject matters.

I agree with what was said by Evans, J.A. in R. v. Poynton, [1972] 3 O.R. 727 at 738, speaking of benefits received or enjoyed in respect of, in the course of, or by virtue of an office or employment:

I do not believe the language to be restricted to benefits that are related to the office or employment in the sense that they represent a form of remuneration for services rendered. If it is a material acquisition which confers an economic benefit on the taxpayer and does not constitute an exemption e.g., loan or gift, then it is within the all-embracing definition of s. 3.

In my opinion, forgiveness of the unpaid balance of a non- interest bearing loan from one's employer could clearly be considered to be a “benefit of any kind” within the wide scope given that term in Savage, supra, and therefore would normally result in a taxable benefit from employment to the employee. The plaintiff in this case does not dispute that the loan was made "in respect of" employment. However, the plaintiff submits that in this case, the forgiveness of the loan was not a taxable benefit from employment, but rather a non- taxable reimbursement of an employee by an employer of losses incurred by reason of the employment, relying on Ransom v. M.N.R., [1967] C.T.C. 346; 67 D.T.C. 5235 (Ex. Ct.); Huffman v. Canada, [1990] 2 C.T.C. 132; 90 D.T.C. 6405 (F.C.A.); Splane v. Canada, [1990] 2 C.T.C. 199; 90 D.T.C. 6442 (F.C.T.D.); and Phillips v. M.N.R., [1990] 1 C.T.C. 2372; 90 D.T.C. 1274 (T.C.C.). In my opinion, these cases are distinguishable from the case at hand, for reasons to be discussed below. With respect to the issue of loans to employees forgiven by employers generally, a review of the case law reveals that they are normally considered a taxable benefit from employment.

In McArdle v. M.N.R., [1984] C.T.C. 2277; 84 D.T.C. 1251 (T.C.C.), the taxpayer had been loaned money by his employer. He left his employment in 1978, and the employer forgave the debt. The Minister included the amount of the forgiven debt in the plaintiff's income for 1978. The taxpayer objected, stating that the forgiveness of the balance of the loan was not part of the arrangement with his employer for leaving his employment, but rather that the employer, knowing that collection of the loan would be difficult, decided to write off the loan as a bad debt. However, the trial judge noted that the plaintiff's version of events was not in accordance with the written agreement signed by the plaintiff. Christie, C.J.T.C. had no difficulty in concluding that the forgiven loan constituted a benefit to the employee within the meaning of paragraph 6(1)(a); the only issue in his view was whether the amount forgiven was in respect of employment. He concluded that the loan forgiveness was in respect of employment, as it was an integral part of the employee's severance agreement. He stated, at 2278 (D.T.C. 1252):

I am satisfied that the forgiveness of the balance of the loan was an integral part of the arrangements under which the appellant's employment with Integrated was brought to an end by mutual agreement. This means there was a direct nexus between the course of action adopted by [the employer] in respect of the loan and the appellant's employment. The thing which motivated the forgiveness of the loan was the existence of the contract of employment. This brings the $14,774.72 Within the provisions of paragraph 6(1)(a) of the Income Tax Act . . . which require that there shall be included in computing the income of a taxpayer for a taxation year as income from employment the value of a benefit of any kind whatever received by him in the year in respect of, in the course of, or by virtue of that employment. In delivering the judgment of the Supreme Court of Canada in Nowegijick v. The Queen, [1983] C.T.C. 20; 83 D.T.C. 5041, Mr. Justice Dickson said at page 5045:

The phrase “in respect of", is probably the widest of any expression intended to convey some connection between two related subject matters.

While the contentious issue in McArdle, supra, of relation to employment was not raised expressly by the plaintiff in this case, it should be noted that the agreement in the case at bar expressly provides that part of the consideration received by the plaintiff for the termination of his employment is the forgiveness of the debt: see Exhibit 5, Clause 4 of the agreed statement of facts. Therefore, in my opinion, the conclusion in McArdle, supra, would apply equally to the plaintiff's situation.

A conclusion similar to that in McArdle, supra, was reached in De Waal v. M.N.R., [1975] C.T.C. 2160; 75 D.T.C. 127 (T.R.B.), where the amount of debt forgiven by a company to its vice-president was held to be a taxable benefit from employment where the company treated the amount as severance pay.

An argument similar to that of the plaintiff in this case was analyzed in detail. in Cousins v. M.N.R., [1972] C.T.C. 2017; 72 D.T.C 1055 (T.R.B.). In this case, the taxpayer was provided with a second mortgage on his house by his employer in 1962, pursuant to a company program that discharged the mortgage without payment if the employee remained with the employer for five years. The taxpayer received a discharge of the mortgage in 1968. He later left his employment, but due to an unforeseen decline in real estate values, he had to sell his home at a loss in 1970. The Minister included the value of the discharged mortgage in the taxpayer's 1968 income as a benefit from employment. The taxpayer in Cousins argued that as he had suffered a loss, it could not be said that the mortgage discharge was a benefit conferred by virtue of employment, an argument similar to that advanced by the plaintiff in this case with respect to the disposition of the shares at a loss. Mr. Flanigan, Q.C. rejected the taxpayer's argument on this point, and ruled that the mortgage discharge was a taxable benefit. He stated, at 2018 (D.T.C. 1057):

It appears that, at the time the appellant purchased the land in 1962, the opportunity to buy the land and to construct a house thereon seemed to be an attractive arrangement which the appellant decided to accept as part of the employment package. Nobody foresaw at that time that the potash industry would decline to such an extent that the appellant would leave Esterhazy and be forced to sell his house. The second mortgage, obtained through his employer with the prospect of discharge after five years, was a bonus which would not have caused any complaint if things had gone well and the appellant had stayed in Esterhazy or had been able to sell his house at a good price. The fact that the appellant lost money on a more or less forced liquidation of his real estate in Esterhazy was unfortunate, but he should not forget that his loss would have been $1,662 greater if the second mortgage had not been discharged. He sold the property in 1970 for $14,903.49, i.e. some $2,200 in excess of the first mortgage.

In these circumstances the income tax levy on the amount of $1,662 may have seemed to be an insult added to injury but was actually the assessment of a real benefit because the discharge of the second mortgage decreased the appellant's loss on the disposal of a capital asset in Esterhazy.

[Emphasis added.]

The argument rejected in Cousins, supra, is precisely that which is advanced by the plaintiff in this case, i.e., that a forgiveness of a debt by an employer that has the effect only of reducing a loss suffered by the employee on the disposition of a capital asset is not a benefit. In the case at bar, the forgiveness of the outstanding balance of the loan had the very real benefit, admitted by the plaintiff, of avoiding a decrease in his net worth. I would therefore conclude that the forgiveness of the loan was a benefit within the meaning of paragraph 6(1)(a) of the Act.

As noted above, the plaintiff submits that his case falls within the Ransom, supra, line of cases. The court in Ransom held that the reimbursement of the employee's work-related expenses did not result in an economic benefit to the plaintiff, but had only restored him to the position he would have been in had he not incurred the loss in the course of his employment. The plaintiff in this case placed particular emphasis on Splane v. Canada, supra, a decision that was based in part on Ransom. In Splane, the plaintiff was asked by his employer to relocate from Ottawa to a position in Edmonton. In purchasing a new home in Edmonton, the plaintiff was forced to take on a mortgage at a higher rate than he was paying in Ottawa. The employer's policy was to compensate relocated employees who incurred higher mortgage expenses in their new locations with mortgage differential payments. These payments were assessed by the Minister as benefits received by the plaintiff in respect of his employment. In holding that the payments did not constitute a benefit, the Court applied the Ransom jurisprudence and stated, at 202-203 (D.T.C. 6445):

[I]t is apparent that these mortgage interest differential payments did not constitute taxable benefits under paragraph 6(1)(a) of the Act. No economic benefit of any significant value was conferred upon this plaintiff. The plaintiff moved at the request of the employer, incurred certain expenses in the move, and suffered a loss. The reimbursement of these expenses cannot be considered as conferring a benefit within the terms of the Act. The plaintiff was simply restored to the economic situation he was in before he undertook to assist his employer by relocating to the Edmonton office.

In my opinion, the Splane case, supra, is distinguishable from the case at bar. In Splane, the reimbursement in question did not add to the plaintiff's net worth. In this case, the forgiveness of the loan has resulted in the plaintiff avoiding a significant decrease in his net worth. While the forgiveness of the loan may have resulted in the plaintiff being restored to the same financial position he was in before the loan was made, in my opinion the forgiveness of a loan advanced for the purposes of purchasing shares in the employer company cannot be said to be a "reimbursement" in the sense of making good "out of pocket" expenses incurred by an employee in the course of employment, as was the case in Splane. The plaintiff introduced affidavit evidence to the effect that he felt compelled, as a senior executive in the company, to participate in the share purchase plan so as to demonstrate his confidence in is employer, and that his participation in the plan was therefore related to the employment. While the plaintiff may have felt such compulsion, I am not persuaded that this means that the loss was suffered by virtue of employment. The connection of the loan with the plaintiff's employment is not as direct as was the transfer-related expenses in Splane, or the expenditure for special clothing for work purposes in Huffman v. Canada, supra.

I would therefore conclude that the forgiveness of the outstanding balance of the plaintiff's loan is a taxable benefit within the meaning of paragraph 6(1)(a) of the Act.

Section 79 and section 80

In my opinion, neither of these sections is relevant to this appeal. Section 79 concerns situations where a creditor acquires a debtor's property as a result of a default by the debtor. In this case, as the defendant notes, the creditor employer has not "acquired or reacquired the beneficial ownership of the property in consequence of the other person's failure to pay all or any part of an amount. . . owing by him to the taxpayer", in this case the property being the shares. As for section 80, my conclusion that the plaintiff received a benefit under paragraph 6(1)(a) of the Act precludes its operation, by virtue of paragraph 80(1)(f).

Deduction From Employment Income

The plaintiff submitted at trial that if the forgiven loan was found to be a taxable employment benefit under paragraph 6(1)(a), then the loss from the shares would be properly characterized as a loss from employment, as opposed to a capital loss, and therefore deductible from employment income. In support of this proposition, the plaintiff cites subsection 5(2) of the Act:

A taxpayer's loss for a taxation year from an office or employment is the amount of his loss, if any, for the taxation year from that source computed by applying the provisions of this Act respecting computation of income from that source mutatis mutandis.

In my opinion, the plaintiff's position on this point is incorrect. While there may be a certain attractiveness to the concept of reciprocal treatment of benefits and losses related to employment, this is not the situation under the Income Tax Act, R.S.C. 1952, c. 148 (am. S.C. 1970-71-72, c. 63) (the "Act"). As noted above, the scope of taxable benefits "in respect of" employment is very broad. However, deductions from employment income are given much more restrictive treatment. Under subsection 5(2), a loss from office or employment is to be computed by applying only the provisions of the Act applicable to calculating income from office or employment as a specific source. Pursuant to subsection 8(2) of the Act, the only deductions permitted in the computation of income from office or employment are those specifically allowed by the Act. The plaintiff in this case has been unable to point to a specific provision in the Act concerning the deductibility of the loss on the shares, ana therefore he is unable to deduct the loss from employment income.

Conclusion

For the foregoing reasons, the plaintiff's case is dismissed, and the reassessment affirmed. The defendant is entitled to costs.

Appeal dismissed.