The Douglas Jamison Caldwell Trust, the Susan Alexandra Caldwell Trust and the Derek Wilson Caldwell Trust v. Minister of National Revenue, [1990] 1 CTC 2310, 90 DTC 1155

Bonner, T.CJ.:—The appellants appeal from assessments of income tax for the 1981, 1982 and 1983 taxation years. At issue is the appropriate treatment of certain dividends. During the first two years the appellants held all the issued shares of Prince Arthur Advertising Limited (hereinafter “Prince Arthur"). As a result of a transaction during the third year the appellants obtained and held all the issued shares of 521551 Ontario Limited (hereinafter "521551") which in consideration received and subsequently held all of the issued shares of Prince Arthur.

The appellants filed their returns of income on the basis that:

(a) certain dividends declared by Prince Arthur in 1981 and 1982 and by 521551 in 1983 were

"amounts received . . . in the year from corporations resident in Canada . . as dividends . . . "within the meaning of subsection 82(1) of the Income Tax Act ("Act") and consequently were required to be included in the computation of income.

and

(b) amounts equal to the dividends received ”. . . were payable in the year to a beneficiary. . ." within the meaning of paragraph 104(6)(b) of the Act and in consequence were deductible in computing income.

The respondent made the assessments of tax now in dispute on the basis that the appellants were right with regard to (a) and wrong with regard to (b). He found that only substantially smaller amounts had been paid [1] to or for the benefit of the beneficiaries, that nothing further was payable to them and that, in consequence, the appellants were taxable on the difference between such dividends and the amounts actually paid to or for the benefit of the beneficiaries of the trusts.

That tax result wiped out many of the benefits sought by the persons who designed the structure of corporations and trusts. The present appeals resulted. On appeal, the appellants contended that the amounts assessed in their hands were not "amounts received . . . in the year. . ." as dividends within the meaning of subsection 82(1) of the Act. They asserted that the bulk of the dividends were simply reflected in the books of Prince Arthur and 521551 as amounts owing to shareholders. They contended as well that even if the dividends were received by them they were paid or payable to the beneficiaries and consequently not taxable in their hands.

Further details of the facts established in evidence now follow.

At all relevant times Douglas Caldwell, father of the beneficiaries of the trusts, carried on an executive search business. For purposes of that business it was necessary to place a great deal of advertising. Mr. Caldwell decided to form an advertising agency to perform that function. He caused Prince Arthur to be incorporated in 1979. He wished to direct the advertising profits into the hands of his three children, Douglas, Susan and Derek in equal shares. The three trusts were created each by an agreement dated September 19, 1979, between Mr. Caldwell as settlor and his wife, Lynne, his mother, Edna Margaret Snider, and his friend, David MacKeen, as trustees. Mr. Caldwell testified that it was planned that the profits from the advertising business would be paid out by way of dividends to the trusts and that amounts thus received by the trusts less any payments to third parties for the benefit of the beneficiaries would be flowed through to the children's accounts and reinvested by way of loan to Prince Arthur in order to provide it with working capital.

Paragraph 4 of the trust agreements provided in part:

The Trustees shall invest and keep invested the Trust Fund until Douglas attains the age of 25 years. The Trustees may from time to time pay to or apply for the benefit of Douglas all or so much of the net income of the Trust Fund and if necessary all or so much of the capital of the Trust Fund as the Trustees may in their uncontrolled discretion from time to time determine to be appropriate for the care, maintenance, education, advancement in life or other benefit of Douglas, provided that until the date on which the capital of the Trust Fund has been distributed the Trustees shall not be obliged to pay or apply any of the said net income to or for the benefit of Douglas and any net income from the Trust Fund which is not so paid or applied in any year or within three months thereafter shall be accu- mulated by the Trustees and added to the capital of the Trust Fund and dealt with as part thereof. The Trust Fund, or the part thereof then remaining, shall be paid to Douglas as his absolute property when he attains the age of 25 years.

Mr. Caldwell stated in evidence that the flow of funds was effected by bookkeeping entries. He testified that each child had an “in trust" bank account which was funded by Prince Arthur on an "as required basis’. When one of the children required money in connection with schooling, medical care or other similar matter, a cheque was written on that child’s account. Mr. Caldwell said that the persons who had signing authority on the children’s accounts were himself and Ernest Yin. Mr. Yin was the financial manager of Mr. Caldwell's executive search organization. According to Mr. Caldwell the trusts did not have bank accounts.

Mr. Caldwell stated that he was not familiar with details of the financial arrangements used to move moneys from Prince Arthur to the children and then back to Prince Arthur by way of loan.

When giving evidence Mr. Caldwell did not appear to consistently distinguish between the trusts and the children who were beneficiaries under the trusts. Furthermore, he did not appear to have any clear recollection of the details of the banking arrangements. Although he spoke of accounts maintained in the names of the children in trust, he produced no copies of banking records and did not suggest that such records were unavailable. I note at this stage that the evidence of Peter Summers, a Revenue Canada official, is to be preferred. He found and reviewed statements from the bank pertaining to three trust accounts and recorded his findings in writing. He testified that three bank accounts were maintained in the following names: Douglas J. Caldwell Trust, Susan Alexandra Marion Caldwell Trust and Derek Wilson Caldwell Trust.

Evidence was also given by Edna M. Snider, mother of Mr. Caldwell and grandmother of the beneficiaries. In addition to serving as one of the trustees of each trust, Mrs. Snider was sole director of Prince Arthur and of 521551. Although Mrs. Snider, on the surface at least, appeared to play a leading role in carrying out the arrangements under consideration, it was evident from her demeanour in giving evidence and from the responses which she gave to questions which were not so phrased so as to put words in her mouth, that she had no detailed knowledge of the arrangements or of the events which took place as a result of the arrangements.

The third witness called by counsel for the appellants was Samuel Harrison. He is a chartered accountant whose firm prepared the information returns, financial statements and tax returns of the trusts, of Prince Arthur and of the numbered company. Mr. Harrison was present at a meeting of professional advisors who formulated the plan or arrangement of corporations and trusts. He described the plan as one which called for the declaration of dividends as profits were earned by Prince Arthur. The dividends were to be reflected on the books of Prince Arthur and credited to the accounts of the children. He stated that he understood that money flowed from the corporation to the trusts and from the trusts to the children and that he prepared T3 returns of the trusts on that basis. The arrangement was to be the same in 1983 save for the interposition of the holding company.

T5 returns were prepared and filed by Mr. Harrison's office for 1981, 1982 and 1983. The first two of those returns were signed by Mr. Harrison. They reported the payment of dividends by Prince Arthur in 1981 and 1982 in the amount of $132,000 and $102,000 respectively. The third T5 return reported the payment by 521551 in 1983 of a $111,000 dividend. Those dividends, Mr. Harrison admitted, were credited to shareholders' loan accounts in the corporate books but he stated that the account headings were "misnomers^'. The balances in the shareholders' loan accounts were, he admitted further, shown on the Prince Arthur balance sheets as advances by shareholders.

Mr. Harrison was asked whether the method adopted for the payment of dividends involved crediting the loan accounts of the trusts on the books of the payor corporation. His response was that he understood that the trusts did not have loan accounts but that the beneficiaries did. That understanding was, he said, based on discussions with the principals involved.

In my view Mr. Harrison was engaging in wishful thinking when he maintained that the accounts to which the dividends were credited were not shareholders' accounts but rather were the accounts of the children. It will be noted that the bank accounts maintained were bank accounts of the trusts. In this regard I rely on the evidence of Mr. Summers. Mr. Summers testified that he checked and found that deposits recorded in those bank accounts tallied with withdrawals recorded in the appropriate shareholders' loan accounts of Prince Arthur.

In argument much emphasis was placed on the supposed existence of a plan to cause the trusts to pay to the beneficiaries amounts equal to all dividends received minus amounts paid for care, maintenance and education of the beneficiaries. Assuming that such plan existed there is, quite simply, no evidence that it was carried out.

Further support for a conclusion that the dividends paid to the trusts were not fully passed on to the children emerged from evidence given by Mr. Harrison on cross-examination. He admitted that he was not aware "in those days", that is to say, when the events now in question took place, of the tax implications of non-payment to the beneficiaries. Furthermore, it is likely that there were concerns arising from the fact that the beneficiaries at the time were all under the age of 18 years.

Counsel for the appellants argued as well that dividends become taxable under subsection 82(1) of the Act only in the year in which they were received from a corporation resident in Canada. He submitted that no dividends were “received” either in kind or notionally. He relied on the decision of the Exchequer Court in Robwaral Ltd. v. M.N.R. [2] That case was one in which the corporation declared a dividend but did not make payment until the following year. It was held that the mere declaration of a dividend by a corporation does not give rise to receipt of the dividend by the shareholder. Counsel for the respondent did not really argue to the contrary. She relied on entries in the corporate accounts which she said constituted the mode adopted by Prince Arthur and 521551 with the apparent concurrence of the shareholder trusts for effecting payment of the dividends and the reinvestment thereof by way of loan. In my view I am bound by the decision of the Exchequer Court in M.N.R. v. Rousseau [3] to reject this argument. That case stands for the proposition that the entry of a credit in a taxpayer's account on the books of a corporation from which account the taxpayer was entitled to draw at his discretion does not amount to receipt by the taxpayer of the amount entered. At page 342 [in French] (D.T.C. 1238-39), Fournier, J. said the following:

In the case before us, there was a person who was to receive and a person from whom he was to receive. What he was to receive was a sum of money in payment of his salary and the renting of his building. The fact that he was credited with the balance which was owing to him does not constitute a payment within the meaning of the Act, nor a receipt according to the provisions quoted to the Court.

In my view what happened in the present case is not in any way analogous to the set-off of mutual debts which was under consideration in H. Armstrong v. M.N.R. [4] Equally what happened here did not amount to what Lord Lindley describes in Gresham Life Assurance Society v. Bishop [5] at page 298 as follows:

. . . The business mode of carrying out cross remittances which it would have been unbusinesslike and really childish to have effected in any other way.

As I see it, the events which counsel for the respondent contends constituted the receipt of dividends by the trusts amounted to nothing more than bookkeeping entries in the corporate accounts which wrongly characterized the unpaid dividends as loans. The book entries in question do not record events which in fact transpired. The relationship of lender and borrower did not arise simply because Prince Arthur and 521551 failed to pay the full amount of dividends declared. Nothing happened to warrant the relabelling of the indebtedness. A cow does not become an aircraft simply because an accountant so describes it.

It may very well be that the corporations have misled the respondent. The remedy for that is not for me to consider at this time. It is clear that the present appeals must be allowed and the assessments referred back to the respondent for reconsideration and reassessment on the basis that the dividends received by the appellants include only amounts actually disbursed by Prince Arthur and 521551 at the behest of the appellants. In light of the misleading way in which returns were made, no costs will be awarded.

Appeals allowed.