John Lewis Estate and Anna Lewis Estate v. Minister of National Revenue, [1989] 2 CTC 2060, 89 DTC 316

Rip, T.C.J.:—The estates of the late John Lewis and the late Anna Lewis appeal income tax assessments for 1981. Some time after the filing of their 1981 income tax returns John Lewis and Anna Lewis died. Their appeals have been prosecuted by the administrators of their respective estates. The appeals were heard on common evidence.

In 1981 Mr. and Mrs. Lewis sold 2.11 acres of land which contained their housing unit. In filing their 1981 income tax returns John Lewis and Anna Lewis considered that all of the 2.11 [1] acres of the property was necessary to their use and enjoyment of the housing unit as a residence and therefore, in accordance with paragraph 54(g) of the Income Tax Act ('Act"), [2] treated all of the property as their principal residence and no part of the profit from the sale of the property was included in computing their income: paragraph 40(2)(b) of the Act. [3] The respondent assessed Mr. and Mrs. Lewis on the basis only the one acre subjacent to the housing unit was part of the principal residence.

At trial the appellants also led evidence to establish that if the Court finds that the respondent was correct in his view that the land in excess of one acre was not necessary to the use and enjoyment of the housing unit by Mr. and Mrs. Lewis, the respondent erred in allocating the proceeds to the one acre of land subjacent to the housing unit and the land in excess of one acre and the housing unit itself; in other words the appellant, in the alternative, says the fair market value of the land in excess of one acre was less than that attributed to it by the respondent.

The subject property is located in the municipality of Central Saanich on Vancouver Island and is part of the Capital Regional District which includes Victoria, British Columbia. The civic address of the property is 2415 Tanner Road and is legally described as Lot 3, Section 17, Range 4 East, South Saanich Land District Plan 30220. The property gently slopes down from its easterly lot line to the west, affording a generous view to the west from its most easterly boundary. The property is part of a larger lot originally acquired by the Lewises in 1946 and which consisted of 3.1 acres. In 1977 the original property was subdivided into three lots, including the subject property.

An older three bedroom, one bathroom, full basement home was built on the property which also included a greenhouse and garage; these improvements, including the house, were located on the easterly portion of the property.

On the west the property was bounded by Central Saanich Road, on the north and south by other properties and on the east, except for 13 feet, by two properties, both part of the original property that previously had been subdivided. The 13 feet served as a point of entry to the subject property from Tanner Road which changed at that point from an east-west direction to a north-westerly direction. An unpaved driveway led from the garage on the property to Tanner Road, making use of the 13 feet frontage on Tanner Road. A diagram of the subject property may assist the reader:

The valuation report of the respondent's expert witness, Mr. D.W. Elder, states that when Mr. and Mrs. Lewis purchased the subject property the municipality of the District of Saanich Subdivision Plans Approval By-Law 1921 provided that “lots must be an area of at least six thousand (6,000) square feet".

In 1950 the Corporation of the District of Central Saanich was incorporated and had jurisdiction over the subject property. In 1967 the subject property was zoned residential.

Prior to 1976 the Corporation of the District of Central Saanich, Subdivision and Development Control By-Law No. 277 required lots in the low density development area, which included the subject property, to have a minimum parcel size of 7,000 square feet and five acres where a community water system was not employed. Water had been available on Tanner Road since 1961.

By August 13, 1981, the date of sale of the subject property, a subdivision by-law (No. 464) and a zoning by-law (No. 465) each identified the subject property as R-1, large lot residential detached, according to Mr. Elder's report, with a minimum lot size of 8,392 square feet providing the land is on a sewer line, and five acres if the land is "without services". These by-laws were in force in 1976. However, the subject property was not on a sewer line in 1981. According to Mr. Elder's report, a sewer trunk line was in place on Rodolph Street, to the east; according to the appellant's expert, Mr. Osland, sewer servicing would require a major trunk line estimated to cost over $1,000,000 and such an undertaking was considered five years away in 1981; the sewer line is still not built. Mr. Elder added that the proximity of the sewer line allowed for the subdivision of the original property.

When Mr. and Mrs. Lewis applied to subdivide their property sometime in 1976, the date is not in evidence, their application was referred to Mr. Brent Bradbury, a Public Health Inspector, for approval. The District Health Unit's consent for subdivision was required where no sewer system existed and septic tanks had to be used. Mr. Bradbury visited the property in 1977. Now a Senior Public Health Inspector with the Central Regional District, Mr. Bradbury was called to testify by the appellants. He stated the subdivision application was for five lots but because of impermeable soil conditions and high water table problems, three of the five lots comprising the whole of the subject property were not acceptable for subdivision. The subdivision of the subject property could not take place without obtaining adequate drainage and even with the installation of special drains, drainage was inadequate for septic tanks. The property could only be subdivided into three lots, the subject property and two lots to the east of the subject property. Two of the proposed lots on the subject property were to front on Central Saanich Road and a third, which includes the housing unit, would "front" on the 13 feet of Tanner Road. The municipal authorities would not permit these three properties to be subdivided until a sewer was brought to the property line.

In his notice of appeal the appellant states the subject property was not further subdividable "on account of the local health regulations”. Appellant's counsel argued that for subdivision of the subject property to have taken place in 1981, the consent of the Capital District Health Unit would have had to have been acquired and according to Mr. Bradbury, no such consent would be forthcoming. During the period 1976 to 1981, counsel adds, the minimum lot size was five acres and the subject property had a nonconforming status.

The thrust of the appellant’s case was that since the subject property could not be subdivided prior to sale, no part of the property could be sold; accordingly the 2.11 acres were necessary for the use and enjoyment of the housing unit as a residence by Mr. and Mrs. Lewis.

The appellants rely on the decision of the Federal Court of Appeal in The Queen v. W. M. Yates, [1986] 2 C.T.C. 46; 86 D.T.C. 6296 and the Federal Court-Trial Division decision reported at [1983] C.T.C. 105; 83 D.T.C. 5158 for the proposition that where taxpayers could not have legally occupied their housing unit as a residence on less than a minimum number of acres, in that case ten acres, the portion in excess of one acre is necessary to their use and enjoyment of the housing unit. In Yates, the taxpayer and his wife purchased ten acres of land and built a home, using one acre for residential purposes and renting the remaining land to a farmer. Under threat of expropriation, 9.3 acres were sold and the respondent treated the sale proceeds as a taxable capital gain. At the trial decision, Mr. Justice Mahoney, at page 5159, stated that since Mr. and Mrs. Yates could not legally have occupied their housing unit as a residence on less than ten acres, it follows that "the entire ten acres, subjacent and contiguous, not only ‘may reasonably’ be regarded as contributing to their use and enjoyment of the housing unit as a residence; it must be so regarded. It also follows that the portion in excess of one acre was also necessary to that use and enjoyment". The disposition of the 9.3 acres was therefore a disposition of a principal residence and the proceeds were exempt from taxation.

A municipality is often authorized by statute to regulate subdivision of land and for that purpose may enact by-laws, for example, to regulate the area, shape and dimensions of parcels of land and may make different regulations for different uses and for different zones of the municipality. A municipality is also frequently authorized by statute to enact zoning by-laws to prevent nuisances by regulating the use and occupation of land; these bylaws may also regulate the area, shape and dimensions of parcels of land.

Where a by-law prohibits subdivision of an existing lot, except under certain conditions, there may be no relationship between such a prohibition and the requirement in subparagraph 54(g)(v) of the Act that for the land in excess of the one acre subjacent to the housing unit ("excess land") to be included as principal residence, the land must be established to be necessary to the use and enjoyment of the housing unit as a residence to the taxpayer: see Watson v. M.N.R., [1985] 1 C.T.C. 2276; 85 D.T.C. 270. However, where the by-law prohibits use and occupation of the property for purposes of a residence on lots having less than a minimum area, as was the case in Yates, op cit, the by-law prohibition has obvious relevance to the words of subparagraph 54(g)(v) since the “use and enjoyment of the housing unit as a residence" is dependent on the area of the property.

In the case at bar the by-laws regulating the subject property immediately prior to the sale have been referred to by both counsel and by the expert witnesses of both parties. Both counsel indicated the subject property was zoned residential; however, by-law No. 465, the purported zoning by-law, was not adduced in evidence. The appellant did produce a letter dated July 16, 1985 from the Clerk/Administrator of the Corporation of the District of Central Saanich confirming “that all lands shown within the zoning category R-(1) [Which included the subject property] are, at this date, restricted to a minimum lot size of five acres, under Municipal Subdivision Regulations By- Law No. 464, adopted in 1976".

The appellant also submitted that since the subject property was used as a principal residence by Mr. and Mrs. Lewis from 1946 to 1981, all of the property was required for the use and enjoyment of the housing unit by the Lewises as a residence.

In argument, counsel for the appellants relied on Stan Michael v. M.N.R., [1985] 2 C.T.C. 2122; 85 D.T.C. 455. In that case the Court found that all of 9.18 acres were necessary to the use of and enjoyment of the housing unit where the parcel of property did not lend itself to division under planning and zoning legislation. The learned trial judge considered that given the type of soil and existence of trees and a pond on the property, its best use was for the enjoyment of the residence. The facts in the appeal at bar are quite different from that in Michael and I am reluctant to apply that reasoning, to whatever extent it may otherwise be relevant, to the present appeals.

It is the time of disposition of the property which is significant for the purpose of ascertaining whether or not any land in excess of one acre should be deemed to be part of a taxpayer's principal residence: The Queen v. Joyner, [1988] 2 C.T.C. 280; 88 D.T.C. 6459 per Reed, J.

The evidence was confused and confusing. For example, the evidence with respect to the proximity of the sewer trunk line to the subject property at the time of disposition was contradictory. In addition, while both counsel agreed that a by-law exists designating the subject property as residential, neither of them produced any by-law to the Court to consider whether a bylaw had been enacted regulating the use and occupation of the land and that the minimum lot acreage of five acres was with respect to the use and enjoyment of the lot as a residential property. The evidence did not establish the legal prohibition of use and occupation on land of less than a minimum size for a residence; the evidence only established that the 2.11 acres could not be subdivided and sold. The facts fall within Watson, op cit, and not Yates, op cit.

For these reasons I cannot find that the portion of the land in excess of one acre was necessary to the housing unit as a residence.

I now turn to the second issue.

Mr. and Mrs. Lewis resided on the property from 1946 through to 1981 when the property was sold for $254,900. The respondent allocated the proceeds of disposition as to $26,000 for the housing unit and $120,000 to the one acre subjacent to it; the balance of $ 108,900 was allocated to the land in excess of the one acre. The appellant disputes this allocation.

Each of the parties produced an expert witness to state how he would apportion the purchase price.

Mr. David T. Osland, an accredited appraiser and member of the Appraisal Institute of Canada, was, by consent, qualified as an expert to testify as to the value of the land in excess of one acre and, in essence, to offer his allocation of the purchase price among the two portions of the subject property. Mr. Osland lived in the area of the subject property for some time after 1958 and was a friend of one of the Lewis children; as such, he was also able to testify how the property was used by Mr. and Mrs. Lewis.

Mr. Osland first determined the value of the buildings on the property in 1981 and then deducted their aggregate value from the proceeds of disposition to arrive at a value for 2.11 acres of land; in his view the one acre subjacent to the housing unit was the specific one acre at the extreme eastern portion of the subject property which included the house, garage, driveway, septic tank and well. He allocated the balance of the proceeds of sale to it and the 1.1 acres at the extreme western portion of the property. He used this “residual” approach in two ways, by estimating the value of the house firstly on a cost basis and secondly on a market basis.

The housing unit had an area of 1,042 square feet on the main floor. The basement had a six-foot ceiling and contained 573 square feet of finished area and 479 square feet of unfinished area. In addition, each of the front and rear of the house had a porch, the front porch had an area of 165 square feet and the rear porch, which was enclosed, had an area of 183 square feet. The total area of the house was 1,390 square feet according to Mr. Osland.

Using the guidelines from the Marshall and Swift manual, a publication which suggests multipliers to reflect building costs throughout North America, Mr. Osland fixed the cost per square foot of a residence in the area, newly built, at $45 per square foot, that is $62,550. He then reduced this amount for a depreciation by 50 per cent, or $31,275. To this amount he added $9,000 for the value of the greenhouse, garage, septic tank, well, landscaping and driveway; the value of the house and improvements on an estimated cost price was $40,300 according to Mr. Osland. The value of the residual land would therefore be $214,600.

Mr. Osland considered the front of the property to be the extreme easterly portion of the property. He had observed the Lewis family using and enjoying that portion when they resided there; the Lewises did not use the western portion for enjoyment or as access to Central Saanich Road. Mr. Osland stated that after subdivision of the original property, the Lewises used Tanner Road as an access but prior to subdivision of the property they used only Rodolph Road for access. The portion of the property fronting on Central Saanich Road contained bush and old fruit trees. Mr. Osland split the property into two portions, as stated earlier, the one acre subjacent to the housing unit being at the eastern extremity of the property. He allocated 40 per cent of the value of the land to the 25 per cent of the property which fronted on the eastern boundary, so that the front of the property had the greatest value, 30 per cent to the next 25 per cent of the property, 20 per cent to the next 25 per cent of the property and 10 per cent to the 25 per cent of the rear of the property which fronted on Central Saanich Road.

Using this “40-30-20-10 rule of thumb" and considering the principal residence portion of the property consisting of one acre to equal the front half of the property, Mr. Osland considered the land in excess of the one acre to contain 30 per cent of site value, i.e., 30 per cent x $214,600, or $64,380.

Mr. Osland arrived at a similar value using the market value approach. A .75 acre property including improvements sold in May of 1981 for $200,000. This property was one of the lots resulting from the subdivision of the larger lot in 1977 so the site was close and similar; a three-bedroom house with an area of 1,174 square feet (plus finished basement and a double garage) was built on the comparable property. Mr. Osland estimated the value of the improvements was superior to that on the subject property by $35,000; however, since the comparable property had an area of .75 acres, as opposed to the one acre subjacent to the housing unit on the subject property, and because in his view the latter had a slightly superior outlook than that of the comparable property, he estimated the one acre subjacent to the housing unit ought to have a value of $25,000 in excess of the comparable property's land. He therefore valued the one acre of land subjacent to the housing unit at $190,000. ($200,000 less $35,000 plus $25,000.) Thus the portion in excess of one acre had a value of $64,900 ($254,900 less $190,000).

On this basis, and in reviewing other market data, Mr. Osland was of the view the land in excess of one acre had a value in 1981 of $64,500.

In cross-examination, Mr. Osland testified he used the $45 per square foot cost for the whole area of the house, notwithstanding one of the porches was not enclosed. He said he could have costed 1,090 square feet at $48 per square foot and the porches at $18 per square foot, although he did not explain the reason for an increase per square foot from $45 to $48. He added his values for the landscaping and garage, for example, were only estimates.

Mr. David W. Elder, also an accredited appraiser and a member of the Appraisal Institute of Canada, testified on behalf of the respondent by whom he is employed; he was also qualified by consent as an expert.

Mr. Elder testified the house on the subject property originally was built in 1918 and renovated in 1958. He was of the view the house is functionally obsolete because, for example, it has a six-foot high basement. The other buildings on the property, in his view, were worn out although he did give them some value because it was put to some use in 1981.

Messrs. Elder and Osland did not have a major difference of opinion in valuing the house, although they did differ on its area. Mr. Elder also used the Marshall and Swift method and projected a cost of $43.51 per square foot of construction. However, he is of the view the area of the house is 1,042 square feet, not 1,390 square feet as used by Mr. Osland, the difference being whether to include the area of the porches for valuing the house in the same manner as the rest of the house or at some other cost. Thus, he determined the cost of the building in 1981 to be $45,342, which he depreciated by 56 per cent; he acknowledged that Mr. Osland’s depreciation of 50 per cent was "quite correct and acceptable".

In Mr. Elder's view, the cost of construction of the porches, the rear which was over a stairwell to the basement and the front which was not enclosed, is not the same as the rest of the house. He estimated the cost of construction of the two porches at $2,500.

The greenhouse, garage, septic tank, driveway and miscellaneous improvements were valued by him at $4,500.

The house and improvements on the property had a value of $27,000 in 1981, Mr. Elder concluded. To this amount he added $108,000 for one acre of land. [4] Mr. Elder considered all the land comprising the subject property to be of the same value and each portion was valued proportionally to the proceeds of disposition less the value of the house. The house and one acre of land was therefore valued at $108,000 and the land in excess of one acre was valued at $119,900.

Mr. Elder also used the market value approach in allocating the purchase price between the one acre and 1.11 acres of the subject property. He found three sales comparisons ranging in value, adjusted for size, per acre from $85,484 to $ 125,675 per acre, the high value being accorded to serviced land and the lower value to unserviced land. He determined the price for a one acre lot, unserviced, at the time of sale was approximately $100,000 and concluded his calculation of $ 108,000 for the one acre of land is reasonable.

The respondent's allocation differs from that of Mr. Elder.

There are two other matters I must now deal with, firstly, if a particular one acre of land subjacent to the housing unit may be designated for valuation or allocation purposes by a taxpayer, and secondly, to apportion the proceeds of disposition between the housing unit and one acre subjacent to it, and the balance of the subject property.

Subparagraph 54(g)(v) provides that a principal residence includes the land not exceeding one acre that is subjacent to the housing unit; any land in excess of one acre must be necessary to the taxpayer's use and enjoyment of the housing unit as a residence. There is no reference in subparagraph 54(g)(v) to any required configuration of the land subjacent to the housing unit. It is therefore appropriate for a taxpayer to designate any one acre of land subjacent to the housing unit to be part of his principal residence. When such a designation is made the land having improvements to the property that can be reasonably considered to be used by the taxpayer as part of his residence is to be included in the one acre. Land on which a garage, artesian well, septic tank or tool shed, for example, are built would be included in the one acre used as a principal residence.

The one acre of land subjacent to the housing unit designated by the representatives of the appellants comprised the principal residence of the Lewises in 1981.

In my view the proceeds of disposition of the subject property should be allocated in the following manner:

(a) Firstly, the value of the housing unit should be valued. The dispute as to its value by Messrs. Osland and Elder revolves around the value to be given to the porches. I considered Mr. Osland's reply in cross-examination that he could have valued the porches at $18 per square foot and the rest of the house at $48. In valuing the house I have used the cost of $18 per square foot for the porches but $45 for the remainder of the house. Thus:

This value for the house, new, should be depreciated by 50 per cent; the value of the housing unit would therefore be $26,577.

(b) The value of the greenhouse, garage and miscellaneous improvements to the property is $6,000. I have applied the values used by Mr. Osland, only because he was on the site prior to 1981 and would have had a better appreciation of its condition in 1981. However, I have depreciated his aggregate value of $9,000 by 33 1/3 per cent, primarily because of the time factor between the time he was on site and 1981.

The value of the house and improvements is the aggregate of $26,577 and $6,000, that is, $32,577.

(c) Land

I do not accept Mr. Osland's “40-30-20-10” rule of thumb allocation for value of the property. If such a rule of thumb exists in valuation methodology it is not appropriate in allocating a value to parts of a property when one of the parts has a frontage on another road. To apply this rule of thumb to the subject property would result in one quarter of the subject property fronting on Central Saanich Road having a value of only 10 per cent of the whole of the subject property: this would not be a reasonable result. I would be reluctant as well to accept this rule of thumb where the actual frontage of the subject property is only 13 feet wide, yet all of the eastern boundary of the subject property, including land bordering on other residential property, was considered by the valuator to be frontage.

The evidence does suggest that the one acre designated as principal residence had a greater value than the excess land. The one acre was elevated, affording a superior view and possibly better drainage. However, the one acre had a so-called frontage of only 13 feet to a street, as opposed to frontage on the excess land of 236 feet on Central Saanich Road. The excess land was also slightly larger by .11 acres. Mr. Osland adjusted downwards the price of a comparable property by $25,000 because the subject land was larger by .25 acres and had a slightly superior view to the comparable property. I believe, based on Mr. Osland's adjustment, the one acre should be valued at $15,000 more than the excess land. Therefore the proceeds of disposition of the one acre of principal residence would be allocated at $ 118,661.50 and the excess land at $103,661.50. [5]

I would allow the appeals and refer the assessments back to the respondent for reconsideration and reassessment on the basis the proceeds of disposition be allocated as follows:

The appellants have not substantially succeeded in their appeals; ç therefore no costs are to be awarded.

Appeals allowed in part.