André R. Demers, Carolyn B. Demers v. Minister of National Revenue, [1987] 2 CTC 2247, 87 DTC 537

Taylor, T.C.J.:—These are appeals heard on common evidence, at Kamloops, British Columbia, on June 25, 1987, against income tax assessments, for the years 1981 and 1982, in which the Minister of National Revenue disallowed amounts claimed as deductions from other income, as “farming losses". While the original deductions claimed had been for “full farming losses’, at the hearing the contention made by the appellants was that "restricted farm losses" should be allowed. This concession by the taxpayers did not affect the basic assertion of the Minister that the "expenses incurred . . . were not outlays . . . for the purpose of gaining or producing income from a business . . .”. Reference was made in the Minister's reply to notice of appeal to an "alternative" — that is, in the event the Court found the farming activity to be considered a business, that only the restricted farm losses should be allowed. However, reference was not made to this aspect of the matter at the hearing, and the Court's role remains to determine if the operation had "a reasonable expectation of profit". In the event that is the determination of the Court, only the "restricted farm losses" will be allowed however, as this is all that is now claimed by the appellants. There was no issue raised by the Minister at the hearing regarding the nature or amount of the expenses claimed — they were simply all disallowed. Neither was there any issue raised as to whether the two appellants were "partners", in the sense that the respective "farm losses" had been divided between them for income tax purposes. I would also note that there were two "farm" properties referenced at the hearing — one at "Red Lake", the other on "West- syde". The "Red Lake" property is situated some 32 miles from Kamloops, whereas the "Westsyde" property is on the outskirts of that city. While an effort was made by the appellants to provide a “liaison” of some kind between these two farm properties, at least for long-range use purposes, I am satisfied the only reference point for this hearing and this decision, rests with the "Westsyde" property — some eight acres in size, situated beside an already built-up subdivision, supplied with municipal water, and with a home already constructed on it when purchased by the appellants. The question for the Court then, is simply, can it be said there was "a reasonable expectation of profit" from the operation conducted on the "Westsyde" property during the years in issue, according to the information and testimony provided?

The appellants presented a detailed and well documented brief in support of their appeals, and I shall make reference to it later, but the basis of their contention is contained in the notice of appeal filed on June 5, 1985:

For Your Consideration:

In 1976, we purchased at Red Lake, 32 miles from Kamloops, a quarter section of land. We lived on the land and started to develop it. We quickly came to the conclusion that such a farming venture and subsequent developments were not feasible if we could not count on a reliable income and an influx of capital. We returned at that time to steady employment; my wife for the Provincial Park's Branch and myself to teaching for School District 24. We are still, at present, employed by the same employers. We purchased a duplex on Kimberley Crescent in August, 1978 and sold it in 1981 in order to have the funds necessary to purchase our present farm at 4245 Westsyde Road. At the moment we have 8 acres on Westsyde Road in addition to the 160 at Red Lake.

We purchased in Westsyde for the following reasons:

1. The land we wanted was in the Agricultural Land Reserve, thus indicating it had farming potential.

2. It had irrigation provided by the city thus ensuring a constant and reliable supply of water with a minimum capital investment on our part.

3. It is a reasonable distance from our suppliers and Red Lake. Even though we are within the city limits we are 15 kilometers from downtown and 21 kilometers from our suppliers such as Buckerfield’s City Builder’s and Thunderbird.

On this land, in Westsyde during the first half of 1984, that is until we had to sell some livestock, we maintained 7 heads of cattle, 30 sheep, 30 rabbit does, 75 chickens, 18 ducks, produced several hundred pounds of apples, 150 lbs. of honey, a full garden for ourselves as well as harvested 10 tons of hay.

In the last 4 years we have contributed in excess of $26,415 in direct purchases of farm materials and animals to the local economy of Kamloops.

We review our goals and objectives yearly. Our balance sheet guides us in our decision making. Some of the steps we have taken in order to minimize our losses this year have included the disposal of our rabbits (except for eight does) as well as the disposal of the cattle. To capitalize on our more profitable items, we have increased the number of ewes, birds and fruit trees.

At present the land at Red Lake is leased on a yearly basis to a local cattleman, Mr. Chris Bepple. It is fenced for cattle, has abundant water and sustains 40-50 heads on a rotating basis from May until the end of September. We have also sold in 1983 the rights to harvest regenerated evergreens to a local Christmas tree dealer. Our future use will be determined, as you must be aware, by the decision reached regarding this appeal.

		Expenditures (summary)
81		82	83	84
$5,459.32		$8,421.15	$7,346.69	$5,190.29
		Revenues
81		82	83	84
$1,301.61		$1,837.10	$2,789.16	$6,572.58
Live Stock on Hand:
25 Ewes*	2 Rams
8 Does	1 Buck
70 Birds
2 Hives

*ln 1984, out of the 25 ewes we expect between 33-36 lambs.

In Summary:

We are business people.

We are farming to increase our income, we are starting small in order to acquire experience with land management, animal husbandry, financing, as well as to build our credibility vis-a-vis financial institutions and to create our share of a dependable market.

We have a family business. My wife and children contribute daily to the maintenance and operation of the farm. In addition to our family, we also employ students and other farmers as the need arises, during the year. The local business community profits directly from our business.

What we request of you today is to be able to continue our farming operation and expand it. Your decision will weigh heavily on our ability to reach our goals and to increase our holdings.

Thank you very much for your willingness to review our case.

Using the reply to notice of appeal for André Demers, the Court would note the following as the Minister's position:

— during the years under appeal and in 1983 and 1984 the Appellant worked fulltime as a school teacher for the Province of British Columbia and reported the following employment income:

1. 1981 - $29,687.00

2. 1982 — $36,636.00

3. 1983 — $37,936.00

4. 1984 - $39,452.00;

— during the years in question farming was not the centre of the Appellant's work routine or his major pre-occupation;

— during the years in question the Appellant's chief source of income was neither farming nor a combination of farming or some other source of income;

— in 1981 and 1982 the Appellant had no reasonable expectation of profit from his farming operation;

— the Appellant would not have been able to sustain the claimed farm losses in the years under appeal and in the subsequent years if not for the earnings received from his school teaching activity;

— in 1981 and subsequent years, the Appellant engaged in farming activities near Kamloops, British Columbia in partnership with his spouse, Carolyn Demers;

— in each year since 1981 the Appellant and his spouse have divided the net operating profit (loss) equally;

— the Appellant reported the following amounts of gross income from the farming operation from 1981 through 1984:

1. 1981 - nil

2. 1982 — $ 3,548.00

3. 1983 - $ 2,790.00

4. 1984 — $ 6,573.00

— the Appellant reported his share of the losses from the farm operation in 1981 through 1984 as follows:

1. 1981 — $ 4,920.00

2. 1982 - $10,607.00

3. 1983 - $ 8,977.00

4. 1984 - $ 4,214.00

For Carolyn Demers, the only major difference was that with respect to “outside” income as follows:

— during the years under appeal and in 1983 and 1984 the Appellant worked fulltime as a worker for the Province of British Columbia and reported the following employment income:

1. 1981 — $16,401.00

2. 1982 — $17,863.00

3. 1983 — $18,377.00

4. 1984 — nil;

As I see it, for purposes of this appeal, the “outside” income of the taxpayers has no bearing on the outcome — it is only a question of whether the “farming activity" can be characterized as a business with "a reasonable expectation of profit". In considering this perennial question, I have reviewed some of the more recent case law and I would particularly refer to:

Steven Gorjup v. M.N.R., [1985] 2 C.T.C. 2194; 85 D.T.C. 530;* [1]

Grant Dunstan v. M.N.R., [1985] 2 C.T.C. 2275; 85 D.T.C. 567;

William Hall v. M.N.R., [1985] 2 C.T.C. 2314; 85 D.T.C. 624;

Les M. Zichy v. M.N.R., [1985] 2 C.T.C. 2340; 85 D.T.C. 639;

Joseph Said v. M.N.R., [1986] 1 C.T.C. 2115; 86 D.T.C. 1009.

That line of cases arises from the view expressed in Gorjup (supra) at page 2200 (D.T.C. 535):

Therefore, I must conclude (from the Minister’s determination above, and from the Courts' agreement) that none of the following inhibits the right of a taxpayer to claim the "restricted farm loss":

(1) full-time employment

(2) farming in spare time

(3) consistent, continued and even increasing farm losses in excess of $5,000 per year, over several years.

And, I must conclude that the demonstration of a devotion to farming, efforts to put that devotion into actual practice, and some physical (not necessarily financial progress) toward bringing that about, are supportive, indeed determinative of the question of entitlement to "restricted farm losses" (see nine points above, extracted from Federal Court of Appeal judgment in Graham (supra)).t [2]

Therefore, what do we have in the instant appeal? Mr. Gorjup is not barred from the claim for "restricted farm loss" based on the conditions cited and accepted in Graham (supra) — (1) full-time employment, (2) spare time on the farm, (3) consistent losses. In addition Mr. Gorjup meets the apparent fundamental requirements of dedication to the rural way of life recited in Graham (supra).

It might well be argued that in the circumstances of this case an appropriate way of looking at the "losses", would be as a form of capital expenditure", in the sense that virtually all of the taxpayer's effort and resources had been devoted to either holding or improving the capital asset elements of the operation (land, buildings, machinery, inventory, expertise, etc.), from which he hoped to make a profit eventually (see Warden v. M.N.R., [1981] C.T.C. 2379; 81 D.T.C. 322). However, this aspect of the matter was not raised by the respondent and in light of the Graham (supra) judgment, it might have been irrelevant in any event.

We also turn, however, to another expression of the Court's view on the "reasonable expectation of profit” issue as found in Victor Croutch v. M.N.R., [1984] C.T.C. 2113; 84 D.T.C. 1112, in which the contention of the taxpayer was rejected, and as I follow the judgment on the following grounds (to be found on page 2114 (D.T.C. 1114):

(1) The Appellant knew, or ought to have known, the risk involved in raising horses for breeding purposes . . . ;

(2) . . . It appears that up to 1980 the farm's operations were devoted to horse breeding and any other activities, such as crops, boarding and putting horses to pasture, were incidental to breeding horses, which was showing continuous losses.

On appeal, at the Federal Court Trial Division, reported as Victor Croutch v. The Queen, [1986] 2 C.T.C. 246; 86 D.T.C. 6453, the decision of this Court was confirmed, and as I read pages 249-50 (D.T.C. 6455-56) of the judgment of Mr. Justice Rouleau, with the following reasoning:

(1) . . .the crop side of the plaintiff's farming operation consisted of the sale of surplus stock, that portion of the crops which he did not require for his own use;. . .

(2) Jurisprudence has established that the breeding, raising and selling of thoroughbred horses is an undertaking involving high risk. . .

(3) . . .the plaintiff was, for the most part, engaged in full-time employment as a construction supervisor, an employment which required long hours of absence from the farm. . .

(4) . . .There is no evidence of a plan wherein the plaintiff indicated how he expected to ever make a profit from the farming operation in question. . .;

(5) . . .there is no evidence that such a plan had been formulated at the outset of the operation or at any point in time in the course of carrying on the farming operation. . .

(6) . . .By 1977, the first of the four taxation years in dispute, the plaintiff was entering his tenth year of carrying on this business and had never made a profit. . .

It is probably fair to say that the reasons advanced in the Tax Court judgment — noted as (1) and (2) above, cited from the Federal Court judgment — at least to the degree that the other four referenced reasons (above) from the Federal Court judgment, are not as clearly described in the Tax Court judgment. To that extent, I believe these additional four reasons should be reviewed in a determination of a question of this nature, and since the Federal Court judgment in Croutch (supra) is subsequent to the Gorjup (supra) line of cases consideration of precedence should be given.

In the instant appeal, it can be said with certainty that number (3) above applies to Mr. Demers, not only for the years under appeal, but for at least the following two years. As for Mrs. Demers, for the two years under appeal, and the years following, she was also fully occupied. Accordingly that, when combined with (2) and (1) above, adds further to the negative side of any "balance of probabilities" for these appellants.

Turning to reason (4) above, it also would come into play against these appellants. It is surely correct that Mr. Demers presented to the Court several schedules and outlines of the efforts made on the property, to provide out of the farming endeavour as much income as possible, or at least to minimize the net farm expenses involved.

A summary of this was provided by the appellants in this way:

Exhibit A-1

. . .During those years, we redid all of the parameter (sic) fencing, plowed disked, harrowed, reseeded and fertilized all the different pastures, brought power to the barn and redid the roof on it. In order to save costs, we leased equipment and counted on the goodwill of friends and neighbours to help. On this land in 1984, we maintained 7 heads of cattle, 30 sheep, 30 rabbit does, 75 chickens, 18 ducks, produced several hundred pounds of apples, 150 pounds of honey, a full garden for ourselves as well as harvested 10 tons of hay. I would like to suggest that this kind of production is at the very least a —SIDELINE BUSINESS well beyond the so called “hobby farm”. Since our purchase date we have produced on the land on Westsyde Road for public sale the following:

1. 3,900 lbs. of dressed lamb,

2. 3,290 lbs. of beef,

3. 1,778 lbs. of rabbit meat,

4. 540 lbs. of bird meat (poultry, ducks, geese),

5. 112 lbs. of honey,

6. Over 3,000 dozen eggs.

How can someone suggest as it is done in Appendix C, that this production is “personal or living expenses"?

As stated earlier we run a family business. That is all of us are involved in the daily operation of the farm. If you wish the children themselves will describe their tasks.

We process on the farm all of the lambs, rabbits, spent hens, etc. What I mean by processing is this, last year our lamb production which included for sale 40 lambs and 3 ewes was slaughtered, hung and cut in half on the premises. Thirty two clients were found and came to our farm to pick up the carcasses. This process alone took 5 weekends in the Fall.

A detailed list of the different tasks we accomplish during the year is included as Appendix D. All my weekends from the end of January to the middle of November are directly involved with matters ‘of the farm. During the Summer months all 8 weeks are tied to the farm. The major portions of this will be taken by two cuts of hay usually in excess of eleven tons which will be used to feed our own animals. The surplus if any will be sold to local clients.

Steps Taken to Reduce Costs.

Like other business people, we make decisions based on the Balance Sheet. For example, when the reassessment for 81-82 came we sold our cattle as well as personal belongings to avoid bankruptcy and please the bureaucrats at Revenue Canada. Based on the Balance Sheet we have made the following modifications to Our operations over the years in order to decrease costs and bring us closer to our ultimate goal — which is to show a profit:

1. As you will notice in Appendix E, we have reduced our capital cost on the land by 70% in other words from $250, 000 in 81 to $76,500 in 87 a decrease of $173,000. Not many business people with our income can make the same claim during the years in question.

2. We have taken advantage of and benefited from a series of short term open mortgages.

3. We have produced our own food (produce and meat) and cut our own firewood on this land thus leaving more disposable income to service the capital debt.

4. We decreased the number of rabbit does from a high of 35 to 8. The return on capital investment cannot be made until we can control the climate in the breeding area.

5. The equipment we have purchased is all second hand. The tractor we own is dated 1941. The bailer 1950 etc.

6. We kept our truck off the road for two years. Thus eliminating insurance and fuel costs.

7. We now have feed bins which allows us to buy the feed by the ton. This step results in a saving of 60$ a ton.

8. We have increased the number of chickens from 35 for the years in question to over 100 now.

9. We have increased the number of ewes to a high last year of 22 giving us 40 marketable lambs.

10. We have cleared the ground of litter, broken glass, pieces of barb wire both loose and buried as part of old fencing. This time consuming labor was done in order to minimize injuries to livestock thus reducing vet bills.

11. We provide most of the medical care needed by our animals ourselves, eliminating animals whose care cost would exceed their market value.

12. We have increased the amount of pasture available by reclaiming an additional 1.5 acre of previously impenetrable brush along the river.

13. Improved the fencing along the chicken and lambing areas to reduce losses to coyotes and dogs.

For comparison purposes I would also include the summary of the results of farming operations, as reported by the appellants, and filed by the Minister's counsel.

E xhibit R-1

These appellants can only be commended for their efforts, which covered several different lines and products at various stages in their activity — pigs, sheep, grain, — etc. But making every effort (as these appellants certainly did) to reduce as much as possible the direct and indirect costs of using the property in a farming endeavour, is not synonymous with an indication of "how he ever expected to make a profit”. When this point (No. 4) is taken into account in conjunction with No. 5 above, the basic rationale of the learned judge in dismissing the appeal of Mr. Croutch becomes clear.

Just as in Croutch (supra), neither at the start of this venture, nor at any point in time during the years under appeal, had Mr. or Mrs. Demers "formulated . . . such a plan". I would suggest that it would be difficult indeed to propose and support such a plan . . . to earn a profit from farming

— when the farming had to be conducted on an eight acre plot, and by virtue of the location and the size of the operation had to be very general and varied in nature in addition to being very limited in scope. Simply put, there was little or no persuasive evidence that these appellants could make a profit on the Westsyde property from either one or any reasonable combination of grain, animals, market produce, etc. during the years in question or in the immediate future. That is a "profit", as it is commonly understood in purely financial terms using accounting and income tax terminology.

Turning to the last point from Croutch (supra) — No. 6, the situation for these appellants is certainly different than for Mr. Croutch. They had not operated for ten years by the time of the relevant taxable years — but to the degree it is acceptable to look back at the record before the specific years in question, it should be equally acceptable to look at subsequent years, particularly if the results of these subsequent years could possibly be of any assistance to the taxpayers in proving their case. Unfortunately, this does not aid them greatly either.

As I comprehend the information made available to this Court, it can only be said that the known results of the farming operation up to the present time do not add. any weight to the appellants’ arguments. The farming "losses" did show a modest decrease after the appellants had been reassessed, and disposed of much of their livestock — in order to pay the income tax at issue. That action of course reduced materially the "source" of income, and left the operation for the years after that in additional jeopardy, at least as far as there being any substantial base for "a reasonable expectation of profit". The on-going direct costs remained — mortgage interest, municipal taxes, machinery and building repairs, electricity, even depreciation — and the probability of covering even these costs out of any produce or product that could be raised on the property was not made known at the hearing.

From the judgment in Flush v. M.N.R., [1985] 2 C.T.C. 2310; 85 D.T.C. 611 the following reasons for the dismissal at the Tax Court level are referenced:

1. He ought to have known of the high risks involved . . .

2. ... He disregarded insuring his most valuable asset when the costs would have been great as the animal was not racing . . .

3. ... He did not display to the Court any formal plan for his operation . . .

4, . . . He had no partnership agreement and in fact ended up in disagreement with his partner.

While Flush (supra) has been appealed to the Federal Court, and has not yet been determined there, we can readily see some similarity to Croutch (supra) in at least two of the reasons — Nos. (1) and (3), and the other two reasons advanced in Flush (supra) could add weight to the dismissal when related to the specific facts of that case.

Underlying acceptance by a Court of a taxpayer's contention that there was indeed "a reasonable expectation of profit", seems to be the demonstration of an "organized and comprehensive plan for making a profit", as it is described in the headnote for another significant case — Harold Bud Karpish v. M.N.R., [1986] 2 C.T.C. 2347; 86 D.T.C. 1782. Absence of such a plan appears to be very detrimental to a taxpayer's appeal. It was also earlier noted — Wesley H. Warden v. M.N.R., [1981] C.T.C. 2379; 81 D.T.C. 322 — even when "losses" were characterized by the taxpayer as "start-up costs", that to be allowed, ”. . . the initial outlays were an integral part of that process, taken into account in the planning, and capable of absorption by the appellant in anticipation of the eventual production of profits . . .”. (See Warden (supra) at page 2389 (D.T.C. 328).

On this aspect of the appeals of Mr. and Mrs. Demers, it is difficult to see how or where there were any “probabilities’ on the positive side for the appellants, in any effort for this Court to “balance” the evidence presented when the question of "profit" alone is looked at. Where in an assessment (not these at bar) the Minister has accorded to a taxpayer, a status permitting the "restricted farm loss’, the Court generally accepts that the totality of information available to the Minister warranted such a treatment — and the Court then may be called upon to look at some other aspect of the matter — such as the “chief source of income” question. However, when the Minister has not seen fit to accord to a taxpayer just such a "restricted farm loss" status then it remains on appeal for the taxpayer to point out to the Court some clear evidence which the Minister has overlooked, ignored, or simply rejected, which if taken into account would produce the opposite result — a determination that there was “a reasonable expectation of profit”, or some favourable jurisprudence not referenced by the Minister in opposing the appeal. In my view on that pure question of “reasonable expectation of profits" these taxpayers have not been persuasive. However, we must return to Gorjup (supra) and the very recent judgment on appeal, given by The Honourable A. C. Jerome, Associate Chief Justice of the Federal Court of Canada — The Queen v. Steven Gorjup, [1987] 2 C.T.C. 129; 87 D.T.C. 5348. Also in fairness to counsel for the respondent in this instant appeal, it should be noted that the Federal Court judgment (supra) was not available at the date of the hearing — but I do not believe it can be overlooked.

In Gorjup (supra) at the Federal Court, the learned Justice brings out several additional interesting points — as I read it, which serve to amplify comments from Moldowan v. The Queen, [1977] C.T.C. 310; 77 D.T.C. 5213.

First, that "start-up costs" can be, and should be regarded as legitimately deductible (and I quote):

.. . Even if the losses experienced during the years in question could be considered "start-up costs", there is authority that 10 or even 15 years may not be excessive for an operation to experience such costs, providing the operation is basically sound.* [3]

Second, the appellant in Gorjup (supra) to some degree did "change direction" (and I quote):

. . . The move to cash crops was part of a systematic plan to make this farm profitable.

Third, the genuineness of the taxpayer's expectation of profit (and I quote):

. . is as important as its reasonableness.

Fourth, the level of expectation (and I quote):

. . . It would also appear that the test for a reasonable expectation of profit for an agricultural business will be of a lower standard in general than for other businesses.

A review of the line of cases leading up to Croutch (supra) — at the Federal Court level would provide a rationale for regarding as a very important criterion, a demonstration of "an organized and comprehensive plan for making a profit”, in order to arrive at a favourable determination for a taxpayer. From Gorjup (supra) — at the Federal Court Level, I must conclude that:

(a) genuine devotion and dedication to farming is an indication of the level of a taxpayer's expectation of profit;

(b) the level of that expectation should reflect the difficulties of the agricultural industry, and not be too great — probably not so great as to require the actual production of a profit;

(c) experimentation with different products or produce is a positive factor;

and (d) the financial results of (a), (b) and (c) above may be described as “start-up costs" and therefore deductible.

Applying the above to the facts of the instant appeal, I do not find any substantial difference between Gorjup (supra) — Federal Court level, and the circumstances of Mr. and Mrs. Demers. I could not possibly quarrel with their intent and concern for farming as a way of life; they have requested that the Court take into account the depressed condition in the agricultural industry; they did try several different combinations of livestock, grain, etc.; and they recognized from the outset that there would be "start-up costs" and they were prepared to commit time and resources to the venture in order to surmount this period. There is no indication in Gorjup (supra) — Federal Court, that the learned Justice accepted the contentions of counsel for the Minister, that such "start-up costs" had a character of "capital" as opposed to “income”, nor does there appear to be any application of the provisions of section 111 of the Act, in circumstances of this kind.

Summary

I readily admit that there has been no demonstration to this Court, that the Demers were moving toward a situation that could produce a “profit” on the Westsyde farm. Its physical constraints and characteristics make that prospect difficult to see. And as noted earlier, there was no organized plan presented which would support such a contention — a profit. However, those negative factors must be weighed against the positive factors (above) which arise out of Gorjup (supra) — Federal Court. The judgment in Gorjup (supra) must serve to allow these appellants the deductions they seek.

The appeals are allowed in order that the taxpayers may claim farm losses up to the level permitted by the restrictions under section 31 of the Income Tax Act. The appellants are entitled to party and party costs — one set of costs for all the appeals. The entire matter is referred back to the respondent for reconsideration and reassessment.

Appeals allowed.