Sarchuk,
T.C.J.:
—
Bay
Leaf
Holdings
Inc.,
Burning
Elm
Holdings
Ltd.
and
Treefield
Holdings
Ltd.
appeal
from
reassessments
made
by
the
Minister
of
National
Revenue
in
respect
of
the
1982
taxation
year.
By
consent
of
all
parties
the
appeals
were
heard
together
on
common
evidence.
The
parties
also
agreed
to
the
following
facts:
1.
Edward
Cutler
Associates
Limited
("Associates")
was
an
Ontario
company,
incorporated
on
the
21st
day
of
January,
1969.
2.
The
Company
enjoyed
limited
success
until
in
or
about
1974,
after
Victor
Drevnig
("Drevnig")
and
Joseph
Clement
("Clement")
joined
forces
with
Edward
Cutler
("Cutler")
to
run
the
affairs
of
Associates.
3.
Each
of
Cutler,
Drevnig
and
Clement
owned,
equally,
all
of
the
issued
and
outstanding
shares
of
Associates.
4.
On
or
about
September
8,
1978,
Drevnig,
Clement
and
Cutler
caused
Treefield
Holdings
Limited
("Treefield"),
Burning
Elm
Holdings
Limited
(“Burning
Elm")
and
Bay
Leaf
Holdings
Inc.
(“Bay
Leaf")
to
be
incorporated,
respectively.
5.
Each
of
the
three
companies
had
a
different
share
structure.
6.
Each
of
Drevnig,
Clement
and
Cutler
caused
their
respective
share
ownerships
in
Associates
to
be
sold
to
Treefield,
Burning
Elm,
and
Bay
Leaf,
respectively.
7.
The
Associates
assets
were
sold
by
Associates
to
Treefield,
Burning
Elm
and
Bay
Leaf
carrying
on
business
in
partnership
under
the
firm
name
and
style
of
Cutler
Forest
Products
("Products"),
as
at
October
1,
1978.
8.
Associates
was
dissolved,
pursuant
to
Articles
of
Dissolution,
as
evidenced
by
a
Certificate
dated
October
15,
1979.
9.
In
June
1983,
each
of
Drevnig,
Clement
and
Cutler
caused
second
tier
companies
to
be
incorporated,
each
of
which
had
identical
share
structures
to
Treefield,
Burning
Elm
and
Bay
Leaf.
10.
On
August
1,
1984,
Cutler
caused
Bay
Leaf
to
sell
its
partnership
interest
in
Products
to
each
of
Treefield
and
Burning
Elm,
equally.
11.
As
at
January
1,
1985,
new
partnership
interests
in
the
operation
were
created
by
Treefield
and
Burning
Elm,
which
such
interests
were
conveyed
to
three
additional
corporations,
each
of
which
owned
ten
per
cent
of
the
continuing
operation.
12.
The
assessments
which
formed
the
subject
matter
of
these
appeals
are
in
respect
to
the
taxation
year
1982
for
each
of
Treefield,
Bay
Leaf
and
Burning
Elm.
13.
The
section
of
the
Income
Tax
Act-Canada
which
forms
the
basis
for
the
assessments
was
promulgated
by
legislation
passed
in
1980-81,
applicable
to
fiscal
periods
of
partnerships
commencing
after
December
11,
1979.
Two
additional
witnesses
were
called
to
testify
on
behalf
of
the
appellants,
Mr.
Victor
Drevnig
and
Ms.
Ella
Agnew.
Ms.
Agnew,
who
received
her
call
to
the
bar
in
1975,
was
first
employed
by
Hugo,
Millrad,
Hasen
and
then
from
1979
practiced
in
partnership
with
Mr.
Millrad.
The
nature
of
their
practice
was
largely
corporate,
commercial
and
real
estate.
She
was
involved
as
junior
counsel
in
many
of
the
transactions
referred
to
in
the
course
of
the
evidence.
Mr.
Drevnig
was
the
principal
shareholder
of
the
appellant,
Treefield.
Messrs.
Cutler
and
Clement
did
not
testify
nor
was
any
evidence
adduced
from
Mr.
Millrad;
nor
from
Reuben
Zacks,
a
chartered
accountant
who
acted
for
the
appellants
and
for
some
of
the
principals,
or
from
Mr.
E.C.
Stewart,
a
chartered
accountant
and
a
tax
specialist
with
Coopers
&
Lybrand.
The
latter
two
were
substantially
involved
in
the
discussions
and
in
the
formulation
of
the
transactions
which
are
central
to
the
issue
in
this
appeal.
In
addition
counsel
for
the
appellants
filed
75
documents
as
exhibits.
From
the
evidence
of
the
witnesses
called
and
from
the
documents,
the
following
appears
to
have
been
the
sequence
of
events.
Associates
had
been
incorporated
in
Ontario
in
1969.
Its
original
shareholder
was
Cutler.
Subsequently
in
1973
Drevnig
and
then
in
1974
Clement
became
shareholders
in
the
corporation,
each
owning
one-third
of
the
issued
and
outstanding
common
shares.
Perhaps
as
early
as
1975,
but
certainly
by
the
beginning
of
1976,
Cutler,
Drevnig
and
Clement
were
aware
of
the
difficulties
which
could
arise
in
the
event
of
a
death
or
voluntary
retirement
of
one
of
them
and
began
to
consider
possible
solutions.
A
problem
existed
with
respect
to
the
insurability
of
Cutler
and,
according
to
the
two
witnesses,
with
the
practicality
of
insurance
as
a
mechanism
to
resolve
some
of
their
concerns.
To
this
end
they
involved
Allan
Elias,
a
life
insurance
broker
and
Reuben
Zacks,
Associates'
accountant
in
their
discussions.
Several
meetings
were
held
for
the
purpose
of
discussing
a
shareholders
agreement
and
other
related
topics
(Agnew
memoranda:
Ex.
A-1,
tabs
1,
2
and
3).
On
November
24,
1976,
Agnew
forwarded
a
copy
of
the
shareholders
agreement
which
she
had
prepared
to
Zacks
(Ex.
A-1,
tab
4).
The
agreement
itself
was
extremely
involved
and
complicated
and
made
provision
for
the
orderly
continuance
of
the
business
of
Associates
and
the
proper
payment
to
a
partner
for
his
interest
in
Associates
upon
his
withdrawal.
At
some
point
of
time
thereafter,
Cutler,
Drevnig
and
Clement
executed
the
shareholders
agreement.
Both
witnesses
testified
that
the
parties
continued
to
encounter
problems
with
respect
to
insurance
coverage,
although
a
memorandum
dated
October
12,1977
from
Millrad
to
Agnew
indicates
that
insurance
had
been
obtained
on
the
life
of
Cutler,
the
Clement
policy
had
been
changed,
and
Agnew
was
being
instructed
to
make
the
appropriate
amendments
to
the
shareholders
agreement.
On
the
same
date,
Millrad
met
with
Cutler,
Drevnig
and
Clement
with
respect
to
Cedarhurst
Forest
Products
Ltd.
(Cedarhurst),
a
company
in
which
Associates
owned
a
one-third
interest.
Cutler,
Drevnig
and
Clement
suggested
that
they
would
like
to
arrange
for
a
transfer
of
Cedarhurst
shares
to
a
corporation
to
be
owned
by
them
or
to
individual
corporations
if
that
would
be
more
beneficial.
Millrad
advised
them
that
a
tax
opinion
should
be
sought
and
was
authorized
to
retain
someone
to
provide
it.
As
a
result
on
November
3,
1977,
Drevnig,
Zacks
and
Agnew
met
with
Mr.
E.
Stewart
at
the
offices
of
Coopers
&
Lybrand.
As
Agnew
described
it
in
a
memorandum
dated
November
14,1977
(Ex.
A-1,
tab
8)
they
discussed
the
possible
reorganization
of
the
shareholdings
in
the
various
companies
and
succession
arrangements.
An
initial
proposal
would
have
had
each
of
Cutler,
Drevnig
and
Clement
incorporate
a
company
in
which
they
alone
would
own
the
shares,
enabling
each
to
provide
for
his
own
estate
planning.
Concern
was
expressed
with
respect
to
sections
247
and
256
of
the
Income
Tax
Act
and
it
was
agreed
that
whatever
method
was
selected,
the
transactions
would
have
to
be
carried
out
in
such
a
manner
that
no
association
could
be
made
between
the
three
companies
and
that
a
valid
business
purpose
could
be
said
to
exist.
Discussions
continued
throughout
1977
and
1978
and
memoranda
and
letters
flowed
between
the
parties
outlining
alternative
proposals
and
approaches,
seeking
comments
and
making
recommendations
(Ex.
A-1,
tabs
7-27,
34
and
38).
On
November
17,
1977,
Stewart
forwarded
a
memorandum
captioned
"Edward
Cutler
Associates
Ltd.
—Income
Tax
Planning"
to
Zacks
and
Agnew.
It
outlined,
inter
alia,
an
alternative
method
of
structuring
Associates'
buy/sell
agreement
through
the
use
of
new
holding
companies.
Shortly
thereafter,
other
memoranda
suggest
for
the
first
time
the
incorporation
of
three
companies
for
the
purpose
of
having
them
form
a
partnership
to
be
called
Cutler
Forests
Products.
Further
consideration
was
given
to
the
proposals
and
in
particular
three
principal
areas
of
concern
were
addressed:
the
provision
of
an
appropriate
buy/sell
agreement;
the
need
for
flexibility
in
estate
planning
for
Clement
and
Cutler
and
tax
implications
both
favourable
and
unfavourable.
It
is
apparent
from
the
various
memoranda
that
whatever
structure
was
ultimately
selected
for
the
reorganization
it
would
have
to
meet
those
requirements.
Ultimately,
late
in
1978,
following
the
advice
of
their
consultants,
Cutler,
Drevnig
and
Clement
incorporated
separate
companies
with
each
of
them
acquiring
voting
control
of
their
respective
companies.
A
partnership
was
then
formed
by
the
three,
Bay
Leaf,
Burning
Elm
and
Treefield
which
acquired
the
business
as
a
going
concern
from
Associates.
It
was
asserted
by
both
witnesses
that
the
reorganization
was
principally
carried
out
in
order
to
effect
estate
planning
for
the
Cutler
and
Clement
families
and
to
facilitate
the
purchase
of
the
interest
of
Cutler
upon
his
eventual
retirement.
The
separation
of
the
family
interests
was
felt
to
be
important
in
order
to
preserve
effective
control
in
the
hands
of
the
respective
principal
shareholders
while
maintaining
a
separate
investment
vehicle
for
each
of
the
families.
According
to
Drevnig
and
Agnew
the
partnership
also
intended
to
acquire
new
premises
from
which
the
lumber
business
could
be
carried
on.
These
premises
would
be
owned
by
the
three
partner
corporation
as
co-tenants
so
as
to
provide
a
long-term
investment
for
the
three
appellant
corporations
without
having
the
property
subject
to
the
buy/
sell
arrangement
that
would
come
into
play
upon
the
death
or
retirement
of
any
of
Cutler,
Drevnig
and
Clement.
It
was
further
asserted
by
Drevnig
that
the
partnership
was
also
organized
in
order
to
enable
employee-salesmen
to
be
introduced
as
equity
participants
in
the
business
while
at
the
same
time
maintaining
a
segregation
of
the
interests
of
Cutler,
Drevnig
and
Clement.
The
new
partnership
carried
on
business
from
and
after
October
1,
1978
and
the
old
corporation,
Associates,
was
dissolved
in
1979.
In
1981,
premises
at
127
Westmore
Drive
in
Toronto,
Ontario
consisting
of
land
and
a
50,000
square
foot
factory
were
acquired
by
the
partner
corporations
(the
appellants)
to
the
extent
of
an
undivided
50
per
cent
therein.
The
business
has
been
carrying
on
from
these
premises
since
the
acquisition.
In
1984
Cutler's
partnership
was
bought
out
and
in
1985,
further
partners
were
brought
in.
Each
appellant
in
computing
its
income
for
the
1982
taxation
year
claimed
the
small
business
deduction,
pursuant
to
subsection
125(1)
of
the
Income
Tax
Act
(the
Act),
on
the
basis
that
it
was
a
member
of
a
partnership
which
carried
on
an
active
business
in
Canada
in
that
taxation
year.
On
July
19,
1984,
the
Minister
of
National
Revenue
directed,
pursuant
to
subsection
125(14)
of
the
Act,
that
each
corporation's
specified
limit
for
the
1982
taxation
year
be
reduced
to
$1.
Subsequently
the
Minister
of
National
Revenue,
in
accordance
with
the
said
direction,
reassessed
each
appellant
for
that
taxation
year
limiting
its
deduction
in
respect
of
the
small
business
deduction
to
the
sum
of
$1.
Counsel
for
the
appellants
submits
that
the
existence
of
the
particular
partnership
carrying
on
business
under
the
name
and
style
"Cutler
Forest
Products"
in
which
each
appellant
was
a
member,
was
solely
for
the
purpose
of
carrying
on
business
in
the
most
effective
manner
and
that
increasing
the
amount
of
the
deduction
under
subsection
125(1)
or
125(1.1)
of
the
Act
was
not
one
of
the
main
reasons
for
the
existence
of
the
partnership.
It
would
be
appropriate
to
set
out
the
relevant
provisions
of
the
Act.
Section
125
of
the
Act
itself
permits
the
deduction
of
certain
amounts
in
certain
circumstances
from
the
tax
otherwise
payable
by
a
Canadian
controlled
private
corporation,
commonly
referred
to
as
the
“small
business
deduction”.
However
subsection
125(14)
of
the
Act
provides:
125
(14)
Where
the
members
of
a
particular
partnership
carry
on
a
business
and
the
Minister
is
satisfied
that
(a)
the
existence
of
the
particular
partnership
in
a
taxation
year
is
not
solely
for
the
purpose
of
carrying
on
the
business
in
the
most
effective
manner,
and
(b)
one
of
the
main
reasons
for
such
existence
in
the
year
is
to
increase
the
amount
of
a
deduction
under
subsection
(1)
or
(1.1),
if
the
Minister
so
directs,
(c)
any
other
partnership
shall
be
deemed
to
be
connected
in
the
year
with
the
particular
partnership
and
any
corporation
that
is
a
member
of
that
other
partnership
shall
be
deemed
to
be
joined
in
the
year
to
the
particular
partnership,
or
(d)
the
specified
limit
of
any
corporation
for
the
year
in
respect
of
the
particular
partnership
shall
be
reduced
to
an
amount
that
is
reasonable
in
the
circumstances.
This
section
was
added
by
S.C.
1980-81,
c.
48,
subsection
70(10),
applicable
with
respect
to
fiscal
periods
of
partnerships
commencing
after
December
11,1979.
With
respect
to
the
jurisdiction
of
this
Court
on
an
appeal
from
such
an
assessment,
subsection
125(15)
of
the
Act
provides:
125
(15)
On
an
appeal
from
an
assessment
made
pursuant
to
a
direction
under
subsection
(14),
the
Tax
Review
Board
or
the
Federal
Court
may
(a)
confirm
the
direction;
(b)
vacate
the
direction
if
it
determines
that
none
of
the
main
reasons
for
the
existence
of
the
particular
partnership
is
to
increase
the
amount
of
a
deduction
under
subsection
(1)
or
(1.1);
or
(c)
vary
the
direction
and
refer
the
matter
back
to
the
Minister
for
reassessment.
Counsel
for
the
appellant
submitted
that
before
the
Minister
was
entitled
to
make
a
direction
under
subsection
125(14)
of
the
Act
it
was
necessary
for
the
Minister
to
have
been
satisfied
on
two
grounds:
that
the
partnership
did
not
exist
solely
for
the
purpose
of
carrying
on
business
in
the
most
effective
manner,
and
that
one
of
the
main
reasons
for
such
existence
was
to
increase
the
small
business
deduction.
Once
those
conditions
were
satisfied
the
onus
then
admittedly
fell
upon
the
appellants
to
satisfy
the
Court
that
facts
existed
that
would
negate
the
Minister's
determination
with
respect
to
either
paragraph
(a)
or
(b)
of
subsection
125(14)
of
the
Act.
Counsel
contended
that
if
the
appellants
were
successful
in
demonstrating
that
the
Minister
erred
with
respect
to
either
one,
then
this
Court
was
entitled
to
vacate
the
direction
pursuant
to
the
provisions
of
subsection
125(15)
of
the
Act.
With
respect,
I
do
not
accept
that
reading
of
the
relevant
provision.
As
I
see
it
this
Court
may
only
vacate
the
direction
if
it
determines
that
none
of
the
main
reasons
for
the
existence
of
a
particular
partnership
is
to
increase
the
amount
of
a
deduction
under
subsection
125(1)
of
the
Act.
The
wording
of
paragraph
125(15)(b)
of
the
Act
is
clear.
I
am
satisfied
that
carrying
on
business
in
the
most
effective
manner
is
but
one
factor
or
element
to
be
weighed
in
my
consideration
of
whether
the
small
business
deduction
was
one
of
the
main
reasons
for
the
existence
of
the
partnership.
Counsel
for
the
appellants,
in
order
to
place
his
clients
beyond
the
reach
of
the
provisions
of
subsection
125(14)
of
the
Act,
argued
that
the
sole
purpose
for
the
existence
of
the
partnership
was
business
efficacy.
He
directed
the
Court's
attention
to
the
fact
that
the
business
of
Associates
had
progressed
from
a
marginal
operation
prior
to
Clement's
and
Drevnig's
involvement
to
a
company
to
which,
by
1977,
had
a
limited
indebtedness
and
retained
earnings
in
the
neighbourhood
of
$200,000.
The
success
of
the
operation
and
the
questionable
health
of
Clement
and
of
Cutler,
made
retirement
and
estate
planning
of
substantial
importance
to
both
men.
These
same
health
problems
created
difficulties
for
Associates
with
respect
to
purchasing
what
Mr.
Gans
called
"key
man
insurance",
as
did
the
fact
that
the
cost
of
such
insurance
was
becoming
uneconomical.
He
also
referred
to
Drevnig's
evidence
that
some
thought
was
being
given
to
the
possible
admission
of
two
young
salesmen
to
some
form
of
participation
in
the
business.
These
factors
superimposed
upon
what
Mr.
Gans
called
the
"succession
problem"
caused
Cutler,
Drevnig
and
Clement
to
consider
a
number
of
options
and,
starting
from
the
initial
step
of
executing
a
buy/sell
agreement
they
progressed
to
a
reorganization
which
involved
a
corporate
restructure
and
the
formation
of
the
partnership
in
issue.
The
ultimate
corporate
and
partnership
structure
was
designed
solely
to
accommodate
the
carrying
on
of
the
business
in
the
most
effective
manner.
Counsel
for
the
appellant
also
submitted
that
although
the
ramifications
of
the
Income
Tax
Act
were
considered,
emphasis
was
placed
on
tax
problems
associated
with
statutory
distinctions
between
active
business
income
and
management
income;
dividend
income
versus
active
business
income;
tax
problems
inherent
in
the
sale
of
goodwill
and
the
potential
problem
of
association
which
might
arise
under
sections
247
and
256
of
the
Act.
His
‘argument
suggested
that
the
tax
aspects
were
collateral
to
the
“succession
problems".
Furthermore,
he
maintained
that
none
of
the
considerations
pertained
to
or
related
to
the
provisions
of
the
Act
dealing
with
small
business
deductions.
Accordingly
the
Minister
erred
in
finding
that
one
of
the
main
reasons
for
the
existence
of
the
partnership
was
to
increase
the
deduction
under
subsection
125(1)
of
the
Act.
Notwithstanding
counsel's
extensive
and
forceful
submission
I
am
not
persuaded
that
none
of
the
main
reasons
for
the
existence
of
this
partnership
was
to
increase
the
amount
of
a
deduction
under
subsection
125(1)
of
the
Act.
Counsel's
reliance
on
the
testimony
of
Drevnig
and
Agnew
as
to
the
purpose
underlying
the
formation
of
the
partnership
is
somewhat
misplaced.
With
respect
to
Agnew's
evidence
I
am
satisfied
that
her
principal
interest
was
the
giving
of
advice
and
the
preparation
of
all
necessary
documents
with
respect
to
the
non-tax
aspects
of
the
reorganization.
Her
partner
Millrad
was
essentially
a
real
estate
lawyer.
Agnew
who
was
in
her
first
two
years
of
practice
was
involved
in
commercial
and
real
estate
law.
Neither
was
a
tax
expert
nor
particularly
knowledgeable
in
that
field.
It
is
therefore
not
surprising
that
from
her
perspective
the
needs
of
Cutler,
Drevnig
and
Clem-
ent
with
respect
to
the
share
structure
of
their
companies
were
of
prime
importance
and
were
the
focal
point
of
her
activities.
From
the
documents
tendered
and
from
Agnew's
evidence
it
is
clear
that
neither
her
view
nor
that
of
Millrad
was
particularly
sought
on
the
tax
implications
nor
from
all
appearances
would
it
have
been
determinative
if
it
had
been
proffered.
Mr.
Drevnig
for
his
part
holds
a
Bachelor
of
Commerce
degree
and
a
chartered
accountant
designation.
A
substantial
portion
of
his
testimony
dealt
with
the
so-called
insurance
problems
and
the
difficulties
associated
with
obtaining
adequate
coverage
for
Clement
and
Cutler
to
provide
for
an
adequate
buy/sell
arrangement
and
with
the
need
to
restructure
the
relationship
between
the
three
men
to
take
into
account
their
different
needs
and
requirements.
I
do
not
accept
his
assertions
that
the
insurance
problems
and
estate
planning
were
the
prime
motivating
factors
which
led
to
the
formation
of
the
partnership.
With
respect
to
Drevnig's
testimony
in
general
I
note
that
while
his
recollection
of
the
"insurance
problem"
was
relatively
clear,
he
claimed
to
have
no
independent
recollection
of
any
of
the
other
items
discussed
with
the
advisors
Zacks
and
Stewart,
which
related,
inter
alia,
to
a
number
of
income
tax
matters
and
included
consideration
of
a
reorganization
which
would
both
preclude
“association
by
the
Minister"
and
which
would
"enable
the
small
business
deduction
to
be
rejuvenated
at
no
tax
cost”.
He
asserted
that
his
knowledge
of
income
tax
matters
was
minimal
and
that
he
relied
on
Zacks
(and
others)
for
advice
in
that
context
and
denied
taking
an
active
role
in
these
discussions.
However
an
Agnew
memorandum
dated
April
13,
1978
(Ex.
A-1,
tab
19)
reads:
He
(Zacks)
told
me
that
he
had
met
in
the
last
two
weeks
with
Ed
Stewart
and
was
in
the
process
of
writing
a
long
memo
which
had
reached
eight
pages
already
as
to
how
the
deal
should
be
restructured.
There
is
the
feeling
that
the
business
should
operate
as
a
partnership
in
order
that
the
companies
would
have
active
business
income
as
it
is
feared
that
the
management
fees
paid
to
the
owner
companies
would
constitute
non-active
income.
This
point
apparently
had
been
raised
by
Vic
Drevnig.
[Emphasis
added.
I]
Mr.
Drevnig's
recollection
of
discussions
relating
to
the
small
business
deduction
was
that
it
merely
“was
mentioned
in
the
letter
of,
I
believe,
Ed
Stewart,
and
even
possibly
of
Mr.
Zacks
at
one
time"
and
that
otherwise
he
had
no
knowledge
of
the
matter.
His
assertion
does
not
ring
true.
I
am
satisfied
that
Drevnig
was
quite
aware
of
this
and
other
relevant
tax
implications
and
any
suggestion
to
the
contrary
is
not
acceptable.
Furthermore
I
do
not
accept
Drevnig's
assertions
that
Zacks
became
involved
in
the
tax
aspect
of
the
reorganization
merely
because
he
was
"our
accountant"
or
that
Zacks
was
not
knowledgeable
in
tax
matters
but
"he
liked
to
think
he
was".
These
efforts
to
denigrate
Zacks'
involvement
are
inconsistent
with
the
documentary
evidence.
Counsel
for
the
appellants
argued
that
an
undated
memorandum
prepared
by
Zacks
captioned
"Edward
Cutler
Associates
Limited
Proposed
Reorganization
1978”
(Ex.
A-1,
tab
24)
did
not
reflect
the
true
purpose
of
the
reorganization
and
should
be
given
little
or
no
weight.
I
do
not
entirely
agree.
The
Zacks
memorandum,
which
Mr.
Drevnig
studiously
avoids
recalling,
contains
the
following
preamble:
As
a
result
of
the
profitability
of
Edward
Cutler
Associates
Limited
during
the
past
five
years,
the
directors
have
requested
that
I
review
the
structure
of
the
business
to
ascertain
whether
any
changes
should
be
made
which
would
reduce
the
com-
pany's
income
taxes
and
to
provide
for
an
orderly
succession
amongst
the
shareholders.
[Emphasis
added.]
This
document
cannot
be
ignored
since
it
suggests
that
tax,
including
the
small
business
deduction,
was
of
substantial
concern
to
the
appellants'
principals.
In
the
memorandum
itself,
some
16
pages
in
length,
Zacks
discusses
a
number
of
tax
implications
and
proposes
a
form
of
reorganization
which
he
referred
to
at
one
point
as
being
capable
of
saving
“in
excess
of
$400,000
in
corporate
taxes
by
the
extension
of
the
total
cumulative
deductions
of
the
three
new
companies".
He
noted
the
possibility
that
the
reorganization
might
be
questioned
by
"the
taxation
authorities"
on
the
basis
that
it
was
put
in
place
"merely
to
save
income
tax
by
extending
the
cumulative
deduction
account".
A
rationale
for
the
reorganization,
being
the
matter
of
life
insurance,
is
suggested
as
one
possible
answer.
I
make
these
references
not
to
suggest
that
the
small
business
deduction
was
the
sole
motivating
factor
but
rather
to
demonstrate
that
it
was
a
matter
of
considerable
importance
and
in
my
view
one
of
the
main
purposes
of
the
reorganization.
Furthermore
I
do
not
accept
Mr.
Gans’
submission
that
a
letter
from
Coopers
&
Lybrand
to
Agnew
dated
July
20,
1978
(Ex.
A-1,
tab
22)
accurately
reflects
the
general
understanding
of
the
main
purpose
of
the
organization.
That
document
must
be
viewed
in
light
of
the
following
sequence
of
events.
Stewart
received
the
Zacks'
memorandum
by
way
of
letter
from
Agnew
dated
July
6,
1978.
On
Wednesday
July
19,
he
discussed
this
report
with
Agnew.
Her
minutes
of
that
discussion
(Ex.
A-1,
tab
23)
read:
On
Wednesday,
July
19,
1978
I
spoke
with
Ed
Stewart
of
Coopers
and
Lybrand
re
Reuben
Zacks
memo.
He
noted
that
he
hoped
the
Tax
department
never
saw
this
memo
as
the
entire
memo
focuses
on
the
tax
benefits
of
having
3
companies
and
he
feels
that
Section
247
could
easily
be
brought
in
to
play.
He
agrees
with
me
that
the
reason
being
insurance
is
not
sufficient.
The
cheapest
way
to
deal
with
the
insurance
problem
is
to
cancel
the
insurance.
What
should
be
emplasize
(sic)
the
irreconcible
(sic)
differences
in
the
aims
of
the
three
partners
as
to
the
degree
of
retention
of
monies
in
the
company
at
any
time
and
the
availability
of
funds
in
their
own
hands.
I
am
satisfied
that
Stewart's
carefully
crafted
letter,
and
in
particular
the
third
paragraph
on
the
first
page
referred
to
by
Mr.
Gans,
containing
comments
relating
to
the
availability
of
a
small
business
deduction,
must
be
read
in
the
context
of
this
discussion
and
of
several
other
documents
which
preceded
it.
The
first
is
a
memorandum
prepared
by
Agnew
dated
November
14,
1977
(Ex.
A-1,
tab
8),
being
her
minutes
of
a
meeting
with
Drevnig,
Zacks
and
Stewart
which
took
place
on
November
3,
1977.
It
discloses
that
even
at
that
early
stage
association
between
the
companies
was
something
to
be
avoided
specifically
because
of
concerns
relating
to
the
possible
loss
of
their
small
business
deduction.
Following
that
meeting,
by
way
of
letter
dated
November
17,
1977,
Stewart
forwarded
a
draft
memorandum
outlining
a
possible
restructuring
to
Agnew
and
Zacks.
One
of
the
main
concerns
addressed
in
this
memorandum
(albeit
related
to
the
particular
form
of
reorganization
being
considered
at
that
time)
was
the
possibility
"that
the
small
business
deduction
could
be
rejuvenated
at
no
tax
cost”.
I
have
earlier
referred
to
Agnew's
description
of
her
discussions
with
Stewart
which
preceded
the
Coopers
&
Lybrand
letter.
The
foregoing
suggest
a
conscious
decision
to
downplay
the
tax
implications,
not
because
they
were
unimportant
but
because
their
importance
was
not
to
be
red-flagged
for
the
officials
of
Revenue
Canada.
It
was
contended
by
counsel
for
the
appellant
that
none
of
the
main
reasons
for
the
existence
of
the
partnership
was
to
increase
the
deduction
available
under
section
125
of
the
Act,
and
that
the
creation
of
the
partnership
would
have
taken
place
regardless
of
the
apparent
advantages
secured
under
that
section.
I
accept
as
a
fact
that
a
number
of
matters
were
indeed
taken
into
account
by
the
advisors
and
by
Cutler,
Drevnig
and
Clement
prior
to
the
formation
of
the
partnership.
However
I
disagree
with
counsel
for
the
appellant
that
section
125
of
the
Act
was
not
one
of
them.
In
this
context
useful
reference
can
be
made
to
the
comments
of
Cat-
tanach,
J.
in
M.N.R.
v.
Howson
&
Howson
Limited
and
Howson
and
Howson
Company
(Cargill)
Ltd.,
[1970]
C.T.C.
36;
70
D.T.C.
6055
at
51
(D.T.C.
6063).
He
said:
However,
the
fact
that
the
four
foregoing
reasons
may
well
have
been
reasons
that
entered
into
the
decision
to
create
separate
entities
does
not
dispose
of
the
critical
issue
upon
which
the
present
appeals
turn
which
is
whether
one
of
the
main
reasons
for
doing
so
was
the
consequent
tax
reduction.
This
question
is
one
of
fact
to
be
decided
upon
the
evidence
adduced
and
the
proper
inferences
to
be
drawn
from
that
evidence.
Counsel
for
the
respondent
made
the
following
comments
with
respect
to
the
practicality
if
not
necessity
of
considering
the
advantages
of
increasing
small
business
deduction
at
the
relevant
time.
Now,
my
friend
has
made
the
point
that
the
company
was
the
victim
of
its
own
success
in
that
the
increasing
value
of
the
company
made
it
more
difficult
for
succession
to
be
funded.
Well,
I
would
adopt
the
phrase
“victim
of
its
own
success”
but
I
would
apply
that,
with
respect,
your
Honour,
to
the
tax
rates.
The
company,
by
its
success—the
first
company—had
outstripped
the
limits
of
the
small
business
deduction,
so
that
its
very
success
required
it
to—or
put
it
in
a
position
rather
than
"required
it"
—put
it
in
a
position
to
be
amenable
to
suggestions
and
reorganizations
which
would
result
in
the
small
business
deduction
being
maximized.
This
was
not
a
small
company
with
respect
to
which
the
small
business
deduction
argument:
it
might
be
useful
some
time
in
the
future;
it
was
a
possibility,
a
requirement,
it
would
have
been
useful
at
the
time
in
question.
There
is
merit
in
this
submission.
I
have
already
noted
that
I
have
difficulty
with
Agnew's
assertions
to
the
effect
that
estate
planning
and
corporate
reorganization
was
the
primary
motivation
leading
to
the
formation
of
the
partnership.
Her
concerns
were
clearly
in
that
area
but
the
focus
of
her
activities
is
not
determinative
of
the
issue.
For
the
reasons
previously
set
out
I
do
not
find
Drevnig's
evidence
persuasive.
Furthermore,
as
I
have
noted
the
architects
of
this
reorganization
were
not
called
to
testify.
In
the
text
“Evidence
in
Civil
Cases"
by
Sopinka
and
Lederman,
at
page
535
the
following
comments
are
found
with
respect
to
the
effect
of
failure
to
call
a
witness:
In
Blatch
v.
Archer™
Lord
Mansfield
stated:
It
is
certainly
a
maxim
that
all
evidence
is
to
be
weighed
according
to
the
proof
which
it
was
in
the
power
of
one
side
to
have
produced,
and
in
the
power
of
the
other
to
have
contradicted.
The
application
of
this
maxim
has
led
to
a
well-recognized
rule
that
the
failure
of
a
party
or
a
witness
to
give
evidence,
which
it
was
in
the
power
of
the
party
or
witness
to
give
and
by
which
the
facts
might
have
been
elucidated,
justifies
the
court
in
drawing
the
inference
that
the
evidence
of
the
party
or
witness
would
have
been
unfavourable
to
the
party
to
whom
the
failure
was
attributed.
In
the
case
of
a
plaintiff
who
has
the
evidentiary
burden
of
establishing
an
issue,
the
effect
of
such
an
inference
may
be
that
the
evidence
led
will
be
insufficient
to
discharge
the
burden.
It
is
not
sufficient
in
my
view
in
such
circumstances
to
simply
state
that
it
was
equally
open
to
counsel
for
the
respondent
to
have
called,
for
example,
Mr.
Zacks
or
to
suggest
that
"given
the
circumstances
he
should
have
called
him”.
The
onus
is
on
the
appellant
to
demonstrate
that
the
assumptions
made
by
the
respondent
were
wrong.
In
this
case
all
decisions
relating
to
the
reorganization
were
undertaken
only
after
thorough
discussion
with
the
expert
advisors
who
were
retained
for
that
purpose
by
the
appellants’
principals.
I
am
satisfied
that
their
advice
was
not
only
sought
but
was
followed.
In
these
circumstances
the
failure
to
call
such
evidence
entitles
me
to
draw
a
negative
inference.
On
the
face
of
the
material
submitted
the
potential
of
increasing
the
available
small
business
deduction
was
most
certainly
one
factor
taken
into
account
and
in
my
view
cannot
be
distinguished
in
degree
or
importance
from
the
other
factors
considered.
I
am
satisfied
that
the
small
business
deduction
can
properly
be
characterized
as
one
of
the
main
reasons
for
the
existence
of
the
partnership.
In
the
alternative
counsel
for
the
appellant
submitted
that
paragraph
125(6)(h)
of
the
Act
in
its
application
to
the
1982
taxation
year
limited
the
small
business
deduction
in
respect
of
a
corporation
which
was
a
member
of
a
partnership
on
an
annual
basis
to
that
proportion
of
$200,000
that
the
corporation's
income
from
the
partnership
was
to
the
total
income
for
the
partnership
from
carrying
on
an
active
business
in
Canada
and
did
not
impose
a
total
business
limit
on
the
corporate
members
of
the
partnership;
a
total
business
limit
was
only
imposed
on
the
corporate
members
themselves
who
were
entitled
to
the
small
business
deduction
to
the
extent
their
respective
total
business
limit
did
not
exceed
$1,000,000.
Counsel
argued
that:
.
.
.
effectively
what
the
Minister
has
attempted
to
do
is
to
aggregate
the
cumulative
deduction
account
for
each
of
the
holding
companies
and
indicate
that
had
Edward
Cutler
&
Associates
continued
in
operation,
Edward
Cutler
&
Associates
would
have
been
ineligible
to
effect—or
take
effect
or
avail
itself
of
the
small
business
deduction
provision
of
section
125
of
the
Act.
Counsel
noted
that
the
respondent
pleaded
that:
The
combined
cumulative
deduction
account
of
the
Holdings
Companies
having
exceeded
$1,000,000.00
so
that
if
Edward
Cutler
Associates
Limited
had
continued
to
operate
instead
of
the
partnership
its
cumulative
deduction
account
would
have
exceeded
its
total
business
limit
thus
rendering
it
ineligible,
by
virtue
of
paragraph
125(1)(d)
of
the
Income
Tax
Act,
for
the
small
business
deduction.
From
this
counsel
argued
that
the
respondent
acted
beyond
the
scope
of
the
authority
granted
by
the
Act.
I
do
not
agree.
The
provision
pursuant
to
which
the
Minister
reassessed
is
subsection
125(14)
of
the
Act.
The
effect
of
that
subsection
is
to
specify
how
a
particular
partnership's
income
is
to
be
treated.
If
the
existence
of
a.
particular
partnership
in
a
taxation
year
is
not
solely
for
the
purpose
of
carrying
on
the
business
in
the
most
effective
manner
and
one
of
the
main
reasons
for
its
existence
was
to
increase
the
amount
of
a
deduction
under
subsection
125(1)
of
the
Act
then
the
Minister
is
entitled
to
reduce
the
specified
limit
of
any
corporation
"to
an
amount
that
is
reasonable
in
the
circumstances”.
That
is
what
was
done
in
these
particular
assessments
by
the
Minister,
and
in
my
view
correctly
so.
The
appeals
are
dismissed.
Appeals
dismissed.
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