Dr. Robert Arnold Virtue v. Minister of National Revenue, [1991] 2 CTC 2566, 91 DTC 1340

Goetz, T.C.J. [Orally]:—The appellant is appealing against the assessment for his 1986 taxation year. The Minister's reply to the notice of appeal sets out the basic facts in paragraphs 5(a), (b), (c), (d), (e), (f), (g) and (h). They read as follows:

(a) during all times material hereto, the appellant was a full time practising dentist with a history of investing in real estate with a view to gaining income from properties;

(b) Elm Bay was a Canadian-controlled private corporation incorporated under the laws of British Columbia with a view to carrying on the active business of real estate development and sale;

(c) during the time period material hereto, Elm Bay purchased and held for development or resale at least four real estate properties, which properties Elm Bay owned legally and beneficially as inventory of its ongoing business operations;

(d) the appellant became a shareholder of Elm Bay, and for an initial contribution of $25,000, acquired 25 preference shares of Elm Bay having a par value of $1,000 each;

(e) the appellant, together with numerous other shareholder/investors, agreed to guarantee the liabilities of Elm Bay to the extent of $100,000 each in order to enable Elm Bay to borrow the funds necessary for its business operations;

(f) Elm Bay defaulted in its obligations to its creditors, whereupon the appellant was Called upon to honour his guarantee;

(g) in 1986 the appellant made payment on his guarantee of the indebtedness of Elm Bay, and in his return of income for the 1986 taxation year, he claimed a noncapital loss in the total amount of $108,000 in respect of the loss incurred by him pursuant to his guarantee ($83,000) and in respect of his loss on the value of his preference shares in Elm Bay ($25,000);

(h) at all times material hereto Elm Bay traded in real estate on its own account and did not act as nominee, agent or trustee of the appellant or the other shareholders with respect to its real estate operations;

None of those allegations of assumptions of fact have been put aside by anything stated by the appellant. The Minister, of course, has made the assessment on the basis that the investment in the Elm Bay Investments Corporation (hereinafter referred to as “Elm Bay") was a capital asset and not a trading asset. The Minister nevertheless allowed the appellant allowable business investment loss of $54,000.

The appellant has a long history in acquiring property for the purpose of deriving income therefrom. In 1968 he acquired a 57-suite apartment block in partnership with his mother. This was known as the Rosemont Development.

In 1974 he incorporated Rosemont Apartments Ltd. He and his mother held the only shares equally. He was director and manager of that company and they dealt with 99-year leases.

In 1977 he acquired a shopping centre in Prince Rupert. He and his mother again obtained a mortgage in the amount of $530,000 and gave their guarantees to the bank.

In 1978 in Burnaby they acquired a 47-suite apartment for the purchase price of $900,000. He and his mother paid down $300,000 and obtained a mortgage in the sum of $600,000 which they both guaranteed.

In 1986 the appellant incorporated Corniche Investments Ltd. He and his mother again were the sole shareholders. The property involved at Fort Nelson was worth a million dollars and a mortgage was obtained and personal guarantees given.

In 1988 his mother and he in their own names purchased a 47-suite apartment block.

Clearly all of these purchases resulted in long-term investments resulting in the accrual of income to the appellant.

Elm Bay's financial statement, although not verified shows that the company, in the notes to the statement, had in their name four pieces of property of a total value of $633,409. In Note 6 relating to share capital it is shown that there was issued 200 Class A common, 2800 Class B common and 750 preferred shares. The two promoters each had the right, as opposed to the 25 other investors, to two votes and the other investors had two votes between them all as far as control of the company is concerned.

In cross-examination the appellant admitted that he signed a shareholders' agreement with the other 25 investors, that he received no consideration for his guarantee that enabled Elm Bay to borrow money from the bank to acquire and sell real property. He had no control over Elm Bay's affairs and did not participate in management. He says that more than half his income is derived from the investments he has made through the years in real estate. He practises dentistry four times weekly.

He stated that he invested in Elm Bay for a uick profit and Exhibit R-1, the first page, a letter from Elm Bay to future shareholders states at the bottom of that page:

If circumstances permit, we hope that in the first year the board of directors will be in a position to declare a dividend to at least cover your interest cost if you have borrowed to make this investment. In the second year, it is our hope that the Company will be in a position to return your initial investment.

I have gone through the facts fairly thoroughly. It is one of those cases on which it is difficult to come to a firm conclusion as to whether what happened here was a business loss or a capital loss, but as counsel for the appellant rightly pointed out all of these cases are determined on the basis of their own individual facts.

The appellant was used to giving guarantees but it related to mortgages that he obtained to acquire real estate. He admits that there was no consideration in the guarantee he gave Elm Bay. He was never a trader, on the contrary he was an investor for long-term investments. He had no control over the operation of Elm Bay and it is fair to assume that if Elm Bay had made a profit it would have been distributed as dividends because 25 shares in my view were a Capital asset and not a trading asset.

Counsel referred me to a number of cases. I only need to deal with two, and that is a judgment of my brother Judge Brulé, Roger Lachappelle v. M.N.R., [1990] 2 C.T.C. 2396; 90 D.T.C. 1876. The facts in that case are quite similar, the participants in setting up a company had a history of trading in realty, and the facts were much the same as this. They set up a company to deal in real estate and the taxpayer gave a guarantee to that company to enable it to acquire working capital which is the same as the case at bar.

I can simply read from the headnote of Brulé, T.C.J. whereby he dismissed the appeal.

The corporation in issue was a separate entity, and the fact that it speculated in realty did not mean that the taxpayer's investment in its shares had ipso facto become an adventure in the nature of trade, despite his own extensive real estate background. His loss of $143,480 on the disposition of its shares and debt, therefore, was capital in nature.

At page 2401 (D.T.C. 1879), Brulé, T.C.J. refers to a judgment, M.N.R. v. George H. Steer, [1966] C.T.C. 731; 66 D.T.C. 5481 (S.C.C.). He says:

In Steer, as in the present case, the taxpayer guaranteed the indebtedness of a company in which he held an equity interest. Due to financial difficulties encountered by the company, the taxpayer was called upon to honour the guarantee. He subsequently deducted the entire amount as a business loss. In dismissing the taxpayer's appeal, the Court held that losses of such a character in the hands of the individual taxpayer were clearly losses on account of capital.

Further, he says (at page 2402 (D.T.C. 1879)):

The reasoning in Steer and Stewart & Morrison has been confirmed in a series of more recent cases. For example, in Isaac Meisels Investments Ltd. v. The Queen, [1985] 1 C.T.C. 9; 85 D.T.C. 5029 the Federal Court-Trial Division, denied a business loss to a corporate taxpayer which loaned money to a subsidiary. In dismissing the taxpayer's appeal, Rouleau, J. held that where, in substance, a loan is made for the purpose of providing working capital to a corporation, any loss which may result, is a capital loss.

I have the benefit of having a copy of Judge Beaubier's decision, an unreported decision of Hyman I. Fox and Michael S. Oltean involving much the same facts. These were two dentists who with other dentists made deposits of $25,000 in another corporation set up by the gentlemen with whom the appellant dealt with, the promoters of the operation, Mr. Severs in particular.

Beaubier, T.C.J., in his judgment states, and the share set up is very similar to what is here, that is shown on page 4 of his judgment.

Dr. Oltean entered into a similar property transaction as an individual with Richard Severs within the same time span. Severs Development Corporation consisted of 17 investors with 100 Class B common shares each and Messrs. Panar and Severs with 100 Class A common shares each. In addition, each shareholder held 25 preferred shares. The Class A shares were entitled to two directors and the Class B shares were entitled to two directors.

At page 5 of the judgment he says:

Within five months of the November investments Dr. Fox and Dr. Oltean went into a similar Severs-Panar venture named Elm Bay Investments Corporation .. . .

In other words Judge Beaubier is dealing with what I would conceive and infer quite reasonably, I think, exactly the same facts. It was a scheme set up by Severs and Panar and unfortunately the appellant got caught up in this in spite of his excellent background in investing in real estate. The corporation was not the agent of the appellant. The appellant was not in the business of granting guarantees other than for the ones that I referred to earlier in my judgment. This was a straight investment on his part and all of the money that he lost was on capital account and not on income account.

The appeal is dismissed.

Appeal dismissed.