Sam Wise v. Minister of National Revenue, [1987] 1 CTC 2319, 87 DTC 238

Taylor, T.C.J.:—This is an appeal heard in Montreal, Quebec on October 30, 1986, against an income tax assessment for the year 1980, in which the Minister of National Revenue taxed a gain of $95,392 as on income not capital account. While the court case was conducted in the French language, the argument of counsel for the appellant, and the jurisprudence to which he referred was in English. Accordingly this judgment is being rendered in that latter official language.

The critical facts of the matter evolved out of circumstances in which the appellant acquired a ten per cent interest in the purchase of a building in Montreal (Place Delormier) for $30,000 in July 1979, and upon the sale of that building consummated in July of the following year (1980) was entitled to the gain at issue — $93,392. The purchase price of the building was $2,421,083 and the selling price $3.5 million. The various participants in the transaction, and their respective interests were:

Both Mr. Segal and Mr. Fisher testified on behalf of Mr. Wise, in addition to the appellant himself. The testimony and evidence disclosed that Prague Investment Corp., Fisher Consultants Ltd., and Marsted Holdings Ltd. (supra) were the vehicles owned and/or controlled by or on behalf of Mr. David Segal and Mr. Hyman Fisher, and used by them in real estate transactions. With regard to their real estate transactions it was understood that both Mr. Segal and Mr. Fisher “were involved in all sorts of things. They had clear trading cases, they had clear investment cases and there were probably some grey area cases also where it was a bit more difficult.” Mr. Wise apparently was the only one of the participants (supra) who objected to and appealed the “income” nature of the assessments at issue. Mr. Fisher and Mr. Segal in their later testimony gave various explanations for the fact that they had reported their (or their companies’) share of the gains as “income”, and not followed up the resultant assessments on appeal at this trial. However, at this trial both contended that the original intention of the purchase of “Place Delormier” had been on “investment” not “income” account. The subsequent property had been for sale for some time before its purchase in July 1979. It was partially rented — but was not producing (and could not produce in the near future) a “profit”, without some increase in rentals and/or reduction in expenses. The major tenant was Dawson College of Montreal. Dawson College had a lease, and originally Mr. Segal had understood they would be remaining as tenants, probably renewing the lease, but some time in 1980 he was informed they were considering leaving the building. In the meantime about $125,000 had been spent on major repairs and renovations to the building and some additional space had been rented. Montreal Trust had been assisting the owners in renting the building, but suddenly appeared with an offer from one of its clients to purchase the building. With the possibility of Dawson College leaving, the prospect existed for a search for another major tenant and probably additional funds to renovate to suit — estimated by Mr. Segal as high as $500,000. Against that Mr. Segal and Mr. Fisher weighed the $3.5 million offer to sell — and sold.

Mr Wise had sold his business, and effectively retired by 1979. Looking for a place to put his money, and knowing both Mr. Segal and Mr. Fisher he readily accepted their proposition to join in the purchase of “Place Delormier''. He did not expect immediate return on his funds, but believed that given a few years it would be a good rental property, as he stated it. Although he was consulted about both the purchase and the sale he recognized that he did not have a major voice in the transaction. He was aware that both Mr. Segal and Mr. Fisher had considerable real estate related experience and trusted them. He was pleased that the efforts to rent additional space and reduce expenses had been somewhat successful even during the few months they kept the building, and in his view this indicated his stated intention to go into the transaction as a rental investment proposition. Also, as he saw it, according to the financial statements, if the $125,000 spent on major repairs and renovations (above) had been charged off to “capital” rather than to “operating” expenses during the period, the building would have been about on a “break-even” basis. Mr. Wise had engaged in other small real estate transactions — at least one of which was with Mr. Segal and Mr. Fisher — but he considered these others to be “rental” propositions. His original business, from which he retired, had been dealing in paintings, not in real estate.

Several documents were filed with the Court, and referenced in questioning the witnesses. Among these were the financial statements for “Place Delormier” and the personal income tax returns of Mr. Wise, to which references had been made earlier in this judgment. In addition, I would quote from the following:

Exhibit A-1 — Memorandum of Agreement dated July 4, 1979:

(Between the parties, which included Mr. Wise, with his interest of 10%)

6. The parties hereby establish themselves as joint investors, and not as business partners;

7. The parties hereto agree that PRAGUE shall be solely responsible for the day- to-day operation, management, supervision, and/or administration of the PROPERTY and that PRAGUE shall be entitled to delegate the foregoing responsibilities to any person, at its sole discretion. PRAGUE or its delegate shall be entitled to charge a fee of 3% of revenues after payment of expenses for such services;

8. The joint venture shall commence on the day the present agreement is executed by the parties and shall terminate with the sale of the PROPERTY or with the conclusion of all business and transactions for which the joint venture has been established, whichever date is later, at which time the joint venture shall be dissolved;

9. Any decision, other than a decision relating to the day-to-day operation, management, supervision and/or administration of the PROPERTY which are made at PRAGUE’S sole discretion, shall require the approval of one or more parties holding a cumulative, undivided interest of 55%;

11. No party may give, assign, transfer or otherwise dispose of, or pledge or encumber in any way, its undivided interest in the PROPERTY, save as may be provided hereunder;

20. This joint venture is formed only for the purposes set forth herein and constitutes the entire agreement between the parties and establishes all their respective rights and obligations with respect to the said joint venture and the immoveable property. All parties agree to execute such further documents and instruments in writing as may be necessary in order to carry into effect the terms hereof.

The document filed as Exhibit I-2 — was an OFFER TO PURCHASE — dated April 3, 1980 for $3.0 million increased to $3.5 million before April 30, 1980 and agreed to on April 30, 1980 at that price.

In argument, counsel for the appellant stated that there were three points the Court should consider:

(1) . . the intention declared by the parties”.

(2) “. . . what is called secondary intention”.

(3) . . general course of conduct of the parties”.

In counsel’s view the Court should accept the testimony of Mr. Segal and Mr. Fisher, that it was the combination of the two events — the possibility of losing Dawson College, — and the incredibly attractive offer to sell, which culminated in the decision to sell. At that time — April 1980 — the building was showing signs of making a profit, and it held considerable attraction for an investor as a rental property, according to counsel. That it was attractive, was demonstrated by the offer to sell which was received. Since all three witnesses for the appellant had stated their common intention was to hold the property as an investment, that should satisfy the first point above.

On the second point, there was no evidence or testimony — only assumption or allegation brought by the Minister — that there even was any other (secondary) intention.

With regard to the conduct of the parties, the fact that some $125,000 had been spent out of the building — not in just "cosmetics", but in real renovation; the expenses reduced and the rental income increased should satisfy the Court regarding their conduct.

Turning to another aspect of the matter, counsel noted that while Mr. Wise was a "passive" participant he had been "consulted". Mr. Wise also assisted to some degree in the management of the building and even maintained a room there as his "office". Even if Mr. Segal and Mr. Fisher were "traders" in this transaction, that should not so identify Mr. Wise.

Finally, any argument from the Minister, that the investors, particularly Mr. Segal and Mr. Fisher, should have been and probably were, aware that real estate values would go up, and they might sell at a profit, was not sufficient to characterize this operation as a "trading" venture, according to counsel for the appellant. "Awareness is not enough. You have to show the possibility of reselling at a profit was an operating motivation for the purchase . .." stated counsel.

After presenting and discussing several significant cases touching on this matter, counsel concluded:

So, to summarize, we submit that Mr. Wise realized a capital gain when he disposed of his interest in that property and that he had no intent or secondary intent to resell the property at a profit and that he was in some ways a silent partner but was also consulted in the decisions ...

Counsel for the respondent emphasized several significant points:

(1) In reality the building had been held for nine months.

(2) Mr. Wise had accepted a completely minority position with no real chance, in effect, of influence on decisions — particularly the one to sell.

(3) He had made no separate analysis or examination of the proposition — leaving that to Mr. Segal and Mr. Fisher.

(4) The participants were not "partners", they were in a "joint venture".

(5) The principal participants had declared the gain as on income account.

(6) Mr. Wise was aware of the "trading" history of the other participants.

With regard to the three salient points which counsel for the appellant wished the Court to consider (supra) Mr. Cossette noted:

(1) It was not the "stated" intention of the parties that was the deciding factor — but their intention as that could be determined from all the relevant facts.

(2) With regard to "secondary intention", again all the circumstances should be taken into account, and at least a "secondary intention” could be seen in this situation. With every investment, there is always that possibility — of resale at a profit.

(3) The conduct of the parties could only be seen as holding the property until a satisfactory offer came along, to dispose of it at a profit. It was the contention of counsel for the respondent, that the facts indicated that the intention of the major participants at purchase, was to hold for a while and sell. The agreement (Exhibit A-1) states that, and their reporting of their share of the profits confirms it. Mr. Wise must accept the same position as that of the other major participants.

On the question of Dawson College, Mr. Cossette noted that the possibility of losing the tenant would have been known to Mr. Segal and Mr. Fisher at purchase — there was a lease in effect. In any event there had been no proof presented that Dawson College really intended to leave — or did leave — in 1980 as suggested by the appellant. In fact Mr. Wise had never had dealings with Dawson College — only reading about the possibility of the move in the newspapers. At best, there was no proof regarding the estimated $500,000 additional, in repairs and renovations it allegedly would have taken to restore the “Dawson”space to suit a new tenant. And there was no information on what a renewed “Dawson” lease or a new tenant might pay in rent to offset the alleged additional expenditure above. All in all the “Dawson College” issue was not a critical one according to counsel

— merely a diversion brought up by the appellant.

Mr. Cossette referred to several relevant cases of current tax law.

Analysis

I would put forward as a realistic basis for determining an issue of this kind, the general framework outlined in the case of Arthur E. Kruger, Elmer

D. Bassani, Pantel Holdings Ltd. v. M.N.R., [1977] C.T.C. 2311 at 2321; 77 D.T.C. 208 at 215:

In my opinion, to determine a question of the kind posed at this hearing, particularly dealing with the purchase and sale of land and considered against the background just described, requires the following:

(a) an examination of the appellants’ personal and business circumstances at the time of acquisition, as such circumstances conflicted with, or complemented the probable fulfilment of their stated intention;

(b) a review of the efforts made and the progress demonstrated toward such stated intention as an objective;

(c) a critical consideration of the reasons advanced for the eventual abandonment or the frustration of the stated intention.

To the degree this procedure describes a rather objective test of the evidence, it may be so termed but I am unaware of any other approach save accepting, without such scrutiny, the assertions of the appellants, leaving the case open to a completely subjective assessment, and risking thereby not giving due attention to the facts and evidence the appellants have brought forward. The stated intention of an appellant in such matters may be regarded as that which he holds to have been his primary, often sole, objective at the critical point in time, e.g. the purchase of an asset. I do not hold that such a purchaser need have at that time only one possible objective — the primary one — and indeed it would be an unusual business matter which did not contain or allow for some flexibility of eventual outcome. It should be, however, the responsibility of an appellant in such a situation to adduce evidence based on the above criteria which reflects favourably upon his contention as the predominant one, rather than as subsidiary or, in fact, inconsequential. Bearing in mind the retrospectivity of this review” process, it is inadequate for the appellant merely to establish that the stated intention is of such a character that it merely could have or should have occupied the central role in the initial decisions taken. It must be shown to have conspicuously done so.

There is nothing in the prior business history of Mr. Wise which would militate against him acquiring a rental property as an investment, and per- haps that is what he thought he had done or at least hoped he had done in this situation. But whatever assurance of that status he might have understood at the date of purchase is certainly not reflected in the agreement (Exhibit A-1). Clause (8) of that agreement (supra) reflects the purpose of the joint venture and its proposed tenure — "the sale of the property” or "the conclusion of all business and transactions for which the joint venture has been established”. I have reviewed Exhibit A-1 carefully, and I remain at a loss to appreciate what purpose, other than "sale of the property” can be read into it. It seems to me that if the prime purpose (sole purpose according to the appellant and his supporting witnesses) was to acquire, improve and develop a rental property, and retain it as an investment, some clear reference thereto might be found in the agreement. In simple terms one would be hard pressed to comprehend "rental” even as a "secondary intention” of the participants from a reading of the agreement alone. With regard to Mr. Wise's intention at purchase, not only did he neglect to establish in the agreement the intention he now espouses, with regard to the use of his investment, but further he left himself in a position ( as a minority participant) that he could not have maintained it in that direction, as a rental property, even if he wanted to do so.

We turn then to the weight to be given to the testimony of the two witnesses Mr. Segal and Mr. Fisher, that it was also their intention to use the property as a long-term investment. Again the agreement, as noted above, reflects exactly the opposite objective. I am not persuaded that the reasons they now advance for having treated their own shares of the gain as on "income” account when filing their income tax returns, should be given much weight. I am quite satisfied that both Mr. Segal and Mr. Fisher could embark on a “rental investment” transaction, as opposed to a venture in the nature of trade, where real estate is concerned. But I am equally satisfied that given their wide background and experience in the field, that the agreement (supra) would clearly reflect such an objective. There is no support for Mr. Wise’s current contention to be found in the assertions of Mr. Segal or Mr. Fisher.

Turning then to the conduct of the parties during tenure, one must give credit to Mr. Segal and Mr. Fisher for renovating the building, improving it and acquiring additional tenants. That is certainly the kind of conduct one would expect from a proprietor looking to improve and retain the property as an investment. But it is equally consistent with the conduct of a knowledgeable proprietor intending to improve a building which he had purchased for a reasonable amount, and to see if the better physical appearance and operating results would attract a buyer. I am not of the view that in order to sell a property, or to have interest in that property exhibited by prospective purchasers, one needs to put it "on the market” as such, or to list it or advertise it for sale. As I see it, there is nothing in the use of the building, or the conduct of the parties during tenure which would distinguish the operation as evidence of a firm, long-term commitment to the retention and rental of the building. As I understand it, certain renovations were necessary to the building in order to rent more of it, and efforts to reduce operating expenses were long overdue when the purchase was made by the participants. The participants did that — and nothing more. The "conduct during tenure” was not a negative factor for the appellant in this matter, but I do not regard it as a truly positive one either.

Finally, the reasons for the sale at issue. There were two asserted — the possibility of losing Dawson College, and the attractive sale offer. With re- gard to the “Dawson College” prospects, I do not think it is substantial. First, the participants (at least Mr. Segal and Mr. Fisher) were aware at the time of purchase that a certain risk reposed in the Dawson tenacy — it was based on a lease. Second, the question of Dawson College leaving was only a possibility, and even then some time in the future. Third, there is no supporting evidence to warrant the $500,000 estimate of the costs of renovating the building, for different tenants, nor is there any reflection in the rationale proposed by the witnesses of greater rental revenue therefrom, even if that amount of funds was required. The “Dawson College” item is not a valid reason used to sell the property. The real reason rests with the very attractive offer received — first $3.0 million then ultimately $3.5 million.

No one could quarrel with the decision of the participants to sell the property — for them, it was probably a good decision — but it was determined almost exclusively by the recognition of the very substantial gain. The fact that they might have taken the time to “weigh” this very attractive offer against future “rental” prospects, does not alter the results in this appeal. There is no evidence to suggest that this sale disrupted any fixed and determined plan to retain the building as a rental investment property. The evidence points quite the other way. The agreement calls out loudly for the prospect of a sale, the building was rehabilitated, which at the minimum brought it more to the attention of real estate investors, and the property was sold as soon as a Satisfactory attractive offer was brought forward. There is nothing in the above scenario which is inconsistent with the modus operandi of a trader in real estate, and that is perfectly proper. There is no stigma attached to that conduct, but it does not lend itself to the opposite interpretation. Both Mr. Segal and Mr. Fisher were knowledgeable about these matters and capable of conducting them to advantage. Mr. Wise, by his own conduct left himself with no alternative but to accept the objective, operation, and results as determined by Mr. Segal and Mr. Fisher. He cannot distinguish himself, his intentions, or his situation from that of the major other investors.

The contentions of counsel for the Minister are adequately persuasive for me in this matter and the assessment will be sustained.

I would make general reference to the following case law which in my view supports the position outlined above:

Kostiner v. M.N.R., [1978] C.T.C. 3063; 78 D.T.C. 1746;

F. Hochachka et al. v. M.N.R., [1984] C.T.C. 2773; 84 D.T.C. 1673;

Leonard Reeves Inc. v. M.N.R., [1985] 2 C.T.C. 2054; 85 D.T.C. 419;

Marsted Holdings Ltd. et al. v. M.N.R., [1986] 1 C.T.C. 436; 86 D.T.C. 6200.

The appeal is dismissed.

Appeal dismissed.