Joseph Said v. Minister of National Revenue, [1986] 1 CTC 2115, 86 DTC 1009

Taylor, T.C.J.:—This is an appeal heard in Toronto, Ontario, on September 25, 1985, against income tax assessments for the years 1979, 1980 and 1981 in which the Minister of National Revenue disallowed, "farming losses" in the amounts of $7,005.11, $5,778.32 and $5,704.49 respectively claimed against other reported income. During the years in question there was "nil" income from the farming operation. At the commencement of the hearing, counsel for the Minister notified the Court, that the respondent would agree to change the assessment for the year 1979, in order to allow the appellant the "restricted farm loss" of $5,000. Counsel for the appellant rejected this accommodation, and stated that he intended to pursue the "full farming losses" for all three years. In reply to a question from the Court, counsel for the Minister stated that even if the Court should determine that there was no “reasonable expectation of profit”, a reassessment for the year 1979 would be struck according the appellant the $5,000 "restricted farm loss".

The notice of appeal read:

A. STATEMENT OF FACTS

1. In 1973, together with a partner Manuel Zahra, the Appellant purchased 250 acres of land in the Township of Proton, 200 acres of which were workable, and on this property and on a further rented 100 acres, they carried on a part-time, and eventually, for the Appellant, a full-time, farming operation generally keeping 30 head of cattle, 400 rabbits and growing cereal crops and hay. The Appellant, quit his job at Dominion Bridge in 1975 to carry on the business of farming on a full-time basis.

2. In 1976 the partnership sold the Proton farm because of losses they had incurred and the Appellant returned to his job at Dominion Bridge.

3. During 1978 the Appellant purchased a farm in Tottenham with the intention of making it into a viable mixed farming operation. There are approximately 49 workable acres (none of which had been worked when he bought the place) and the buildings consisted of a house, drive shed and an approximately 60 ft. by 50 ft. bank barn which was in a dilapidated condition. From 1978 until 1982 the Appellant divided his time between his job at Dominion Bridge and the farming operation. In 1982 he quit his job and has operated the farm as a full-time and exclusive business ever since.

4. Because of the dilapidated condition of the farm when the Appellant purchased it, over the years since 1978 he has had to do a substantial amount of work. Prior to 1982 when he quit his job the Appellant would go to the farm after work and stayed and worked until midnight. He spent every weekend and all of his three-week annual holidays on the farm working. On occasion he even took days off at Dominion Bridge when there was something pressing required doing at the farm.

5. Over the years the Appellant has carried out the following work in an effort to bring the farm into full production:

(a) When the Appellant purchased the property the barn was covered in manure up to a depth of 10 ft. He cleared this out as well as all of the other garbage which had accumulated from the previous owner.

(b) A wall was erected across the barn; loose barn boards were nailed down; defective boards were replaced and the barn was painted with oil. The roof was replaced and painted. New stables were erected, eavestroughs installed, windows and doors replaced, entrance canopy erected and wiring replaced. The plumbing has yet to be replaced.

(c) The Appellant has repaired the rail fence where it had fallen down and

installed a wire fence where needed. There is one side yet to be done.

(d) The Appellant has purchased second-hand machinery and equipment at auction sales and repaired much of it himself. In 1979 he purchased a secondhand tractor and truck and in 1981 he bought a used tractor, a New Holland baler, a wagon, manure spreader, a mower and a hammer mill.

6. Presently the Appellant considers that he is well on his way to a successful calf-to-cow Simmental cattle operation with an excellent expectation of profit.

For the Minister the reply to notice of appeal set out:

A. STATEMENT OF FACTS

1. Save as may be hereinafter specifically admitted, the Respondent denies all allegations contained in the Notice of Appeal.

2. During the taxation years in issue, the Appellant was a full-time employee of Dominion Bridge Company Ltd.

3. During 1979, the Appellant purchased a farm comprised of approximately 50 acres located in or about Tottenham. At the time of the purchase, the farm was not in a condition suitable for use as a farm.

4. During 1979, 1980 and 1981, while residing at the City of Toronto, the Appellant carried out repairs at the: farm.

5. During 1979, 1980 and 1981, the Appellant’s total gross income for each of the said taxation years was nil, whereas his expenses were as follows:

A. 1979 Taxation Year

Interest on Real Estate Mortgage	$2,717.70
Property Taxes	672.46
Machinery and Truck Expenses, Repairs, Licences, Insurance	1,275.48
Building and Fence Repairs	1,030.40
Insurance — Buildings, Crops, Livestock	300.00
Telephone (Farm Share)	95.89
Electricity (Farm Share)	913.18
Total Expenses	$7,005.11

B. 1980 Taxation Year

Interest on Real Estate Mortgage	$1,560.31
Property Taxes	770.64
Machinery and Truck Expenses:
Gasoline and Oil	110.48
Repairs, Licences, Insurance	1,177.23
Building and Fence Repairs	995.53
Small Tools and Other Miscellaneous Supplies	154.12
Insurance — Buildings, Crops, Livestock	300.00
Telephone (Farm Share)	72.39
Electricity (Farm Share)	637.62
	$5,778.32
C. 1981 Taxation Year
Interest on Real Estate Mortgage	$ 106.42
Property Taxes	949.22
Machinery and Truck Expenses:
Repairs, Licences, Insurance	144.06
Automobile Expenses (Farm Share):
Gasoline and Oil	57.45
Repairs, Licences, Insurance	93.15
Building and Fence Repairs	1,966.00
Small Tools and Other Miscellaneous Supplies	1,033.03
Insurance — Buildings, Crops, Livestock	300.00
Telephone (Farm Share)	99.52
Electricity (Farm Share)	955.64
Total Expenses	$5,704.49

6. In his 1979, 1980 and 1981 Income Tax Returns, the Appellant claimed as farming losses the amounts of $7,005.11, $5,778.32, and $5,704.49 respectively, referred to in paragraph 5 herein.

7. By Notice of Reassessment dated April 29, 1983, the Respondent assessed the Appellant’s 1979, 1980 and 1981 taxation years by deleting the farm losses referred to in paragraph 5 herein.

8. In so reassessing the Appellant, the Respondent found or assumed:

(a) the facts hereinbefore pleaded;

(b) that the farm was maintained by the Appellant for his own use and benefit or for the use and benefit of persons connected with the Appellant by blood relationship or marriage and was not maintained in connection with a business carried on for profit or with a reasonable expectation of profit;

(c) that the expenses incurred by the Appellant with respect to his farming activities were personal or living expenses of the Appellant and not outlays or expenses incurred during income from a business or property.

10. The Respondent respectfully submits that the Appellant has properly been denied the deductions of amounts on account of farming losses in the computation of his income for his 1979, 1980 and 1981 taxation years, in that amounts expended by the Appellant with respect to his farming activities were not outlays or expenses incurred to earn income from a business or property within the meaning of paragraph 18(1)(a), but were personal or living expenses of the Appellant, the deduction of which is prohibited by paragraph 18(1 )(h) of the Act.

11. The Respondent respectfully submits that the Appellant is not entitled to any deduction as a restricted farm loss within the meaning of Subsection 31(1) of the Act, in that any farming activities engaged in by the Appellant did not constitute a business carried on for profit or with a reasonable expectation of profit.

The appellant, in testimony, indicated that his plan was to start small and grow, and that he believed (when he started) that it would take until about the year 1984 for him to show a “profit.” In 1984 his livestock inventory stood at 10 cows, 26 sheep, 300 pigs as well as some rabbits. He now (1984) farmed a total of 200 acres although it was not all consistently used. While he had for a short time stopped full-time employment (notice of appeal) he had resumed his employment quickly because he required the funds he earned, and after that he continued to be so engaged as a full-time employee during the relevant years.

Reference was made by both counsel to the relevant jurisprudence on the subject, commencing with W. Moldowan v. The Queen, [1977] C.T.C. 310; 77 D.T.C. 5213, up to and including Paul E. Graham v. The Queen, [1985] 1 C.T.C. 380; 85 D.T.C. 5256.

As a first comment I would note that this case based purely on business and accounting principles could easily lead to the conclusion that during the years in issue Mr. Said was adding to, improving, upgrading or stabilising his purchased capital agricultural assets (the farm, its building, fences, machinery etc.) rather than being engaged in an active producing current farm operation at all. I would note with interest a recent judgment of this Court, Douglas N. Best v. M.N.R., [985] 2 C.T.C. 2404; 85 D.T.C. 728 (presently under appeal) in which the Judge commented as follows:

. . . For five years up to June of 1978 law was the Appellant's sole source of income. Starting then and continuing through at least to the end of the years in issue the appellant was engaged in a process of setting up or creating a farming operation. It is impossible to accurately describe the farming operation as a chief source of income not just because it generated losses continuously from June of 1978 to the present time, during which same period law alone generated income, but also because the farming enterprise, at least during the years under appeal, was In an immature state.

Despite the fact that farming was, again during the years in question, the principal focus of the appellant’s interest and attention, the key ingredients of a farming operation of a scale worthy of the description “chief source of income” were missing. The process of acquisition and improvement of the required land was incomplete. Similarly, the acquisition of machinery was still underway. The immature state of the farming operation probably resulted from the inability of the Appellant to commit sufficient capital to the enterprise.

I would also make reference to the case of Steven Gorjup v. M.N.R., [1985] 2 C.T.C. 2194 at 2201; 85 D.T.C. 530 at 535: (presently under appeal)

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.

As I see it the instant case breaks down into the usual two points which arise out of section 31, of the Income Tax Act, S.C. 1970-71-72, c. 63, as amended:

(1) Can it be said there was a “‘reasonable expectation of profit”?

(2) If so, was that reasonable expectation of profit the "chief source"" of income?.

The first question becomes redundant for the year 1979, in view of the Minister’s insistence on allowing the "restricted farm loss"" notwithstanding any conflicting views from this Court. The following two years deserve the same kind of treatment for two reasons. First, there is nothing in the evidence which would warrant a treatment for 1980 and 1981 diametrically opposite to that of 1979, — the second and third years were arguably an improvement over the first. And second the appellant would appear to fulfil the fundamental conditions, arising out of a review of Graham (supra), recited in Gorjup (supra), to establish the primary right to a “business” appellation for the enterprise. I am not aware of jurisprudence which would dictate a rejection of the “reasonable expectation of profit" hypothesis on the sole grounds that the income during the period under review had been "nil." As noted in The Deputy Minister of Revenue of Québec v. Julius Lipson, [1979] C.T.C. 247 Supreme Court of Canada, the gross income is not a critical factor. I can visualize a situation in which Mr. Said (simply to provide some "income") bought cattle worth $1,000, (or $1 million) and sold them during the same year for virtually the same amount — perhaps without even seeing them — to create the illusion of "trading" and flow of funds. I doubt that such a situation should be permitted to justify a result different from the "nil" income evident here. The "restricted farm loss" will be allowed for each year. That leaves in issue the balance of the amounts involved — as I read them — $2,005.11, 778.32, 704.49 for the years 1979, 1980 and 1981 respectively. To gain the tax benefit from these amounts, the farming operation of the appellant — already determined to be a "source of income" (supra), must warrant the identification of "chief source of income." I am not aware of a method for determining the "chief" and the “auxiliary” positions in a priority competition such as this, other than using some form of comparison, as instructed in Moldowan (supra). The signal case to be considered for that aspect of the matter is indeed Graham (supra).

Before dealing with the facts of this case as they may be related to those of Graham (supra) I would note the following comments of this Court in dismissing appeals on the same point:

From Ronald Timpson v. M.N.R., [1985] 2 C.T.C. 2114 at 2118; (presently under appeal)

. . . it is less than clear that the appellant, at least during the years in issue, could be regarded as a knowledgeable and efficient farmer.

In argument much stress was placed on evidence which showed that the appellant was fully dedicated and committed to the farming operation. Counsel, of course, was seeking to rely on the following passage from the reasons for judgment in Moldowan:

The reference in s. 13(1) to a taxpayer whose source of income is a combination of farming and some other source of income is a reference to class (1). It contemplates a man whose major preoccupation is farming, but it recognizes that such a man may have other pecuniary interests as well, such as income from investments, or income from a sideline employment or business.

I do not believe the Court there referred to subjective preoccupation. Such preoccupation, even in a case where it amounts to an obsession, will not convert sideline farming into a chief source. “Major preoccupation” refers to major preoccupation from an income-earning standpoint.

and from Kenneth J. Byron v. M.N.R., [1985] 2 C.T.C. 2139 at 2144; 85 D.T.C. 459 at 463:

. . . All of the evidence adduced leads the Court to question whether or not the appellant, who by his own admission was self taught (and whose other farming ventures had failed) was proceeding in a manner likely to develop a viable commercial operation. . . . Most certainly it can not be said that in the relevant years farming could have been reasonably expected to provide the bulk of his income nor does the evidence support the appellant’s contention that these were start-up years and that he could reasonably expect his farming operations “to provide the bulk of income" at some point of time in the future.

I assume that the emphasis on “income-earning standpoint'" and "bulk of his income"" (supra) goes back to another paragraph from Moldowan (supra) cited in Graham (supra), at 388 (D.T.C. 5263):

. . . In addition, it seems to me that the submission ignores what Dickson, J. had to say about “chief source of income" at 486 (C.T.C. 314) of the Moldowan judgment, supra, which, for convenience sake, I repeat:

. . . The distinguishing features of “chief source" are the taxpayer's reasonable expectation of income from his various revenue source and his ordinary mode and habit of work. These may be tested by considering, inter alia, in relation to a source of income, the time spent, the capital committed, the profitability both actual and potential. A change in the taxpayer's mode and habit of work or reasonable expectations may signify a change in the chief source, but that is a question of fact in the circumstances.

It would thus appear that the reasonable expectation of profit from the farming operations having been conceded (and such a concession was a proper one having regard to the evidence objectively) the next step in the determination of the “chief source of income" is to consider the taxpayer's “ordinary mode and habit of work" employing tests of the kind suggested by Mr. Justice Dickson in the last two sentences, of the quotation, supra. These, of course, involve a weighing of the facts objectively and relatively. It is abundantly clear from his reasons that Cattanach, J. was well aware of the two-step process required for the determination of “chief source’ and that it involved his objective assessment of the evidence and the relative importance of the sources of income. He did so with considerable care as is shown in the excerpts from his reasons for judgment at pages 16 and following which are quoted in full, supra, at pages 12, 13 and 14 hereof. He found that the cumulative effect of the rather unusual circumstances disclosed by the evidence in this case was to satisfy him that the main preoccupation of the respondent “is farming but he has income from a sideline employment”. [Emphasis added.]

The learned Justices in Moldowan (supra) did not provide an exhaustive list of tests for the "chief source"" determination. Equally, however, it appears to me that these tests which were provided "the time spent,"" "the capital committed,” "the profitability both actual and potential"" should be thought of as those of prime importance which came to the minds of the Justices immediately. Further it would appear to me from the wording of the Moldowan (supra): “These may be tested . . ."" [emphasis added.], that the same three (or more) tests may be and should be applied to both conditions cited “the taxpayer's reasonable expectation of income from his various sources and his ordinary mode and habit of work.” [Emphasis mine.] This is quoted directly from Moldowan (supra) which does not show the emphasis (in italics) on the connecting word "and,"" which is provided in Graham (supra), and from which emphasis I gather that there are indeed the two aspects to consider. The learned Justices in Graham (supra) noted the requirement to consider the “last two sentences of the quotation,"" but there has been no suggestion in the instant appeal of a "change in the mode and habit of work,"" as I read Moldowan (supra), and accordingly I do not see a purpose for examining the possible impact on the "chief source"" question of any "change in the mode and habit of work."

In Graham (supra), (at 388 (D.T.C. 5263) the sentence from, Moldowan (supra) already quoted is indeed crucial to the judgment:

. . . The distinguishing features of “chief source" are the taxpayer's reasonable expectation of income from his various revenue sources and his ordinary mode and habit of work . ..

The learned Judges in Graham (supra) have indicated that consideration of the taxpayer’s “ordinary mode and habit of work/' is separate from the other consideration of "reasonable expectation of profit from his various revenue sources/' as I read the judgment. It would appear to me that in Graham (supra) having agreed that farming was a "source of income" for Mr. Graham, (conceded by the Minister), it was accorded by the Court relative status at least equivalent to that of his other source of income — as an employee. At least there is no indication the Court deemed it necessary to compare it to that of his other source of income — employment income

— using the three criteria cited above.

That of course may have been particular to Graham (supra), but I have a somewhat different problem here. It is difficult for me to go directly to a comparison of the two sources of income — farming, and employment — in this case, from the second aspect “ordinary mode and habit of work,” since first it appears necessary to consider the "taxpayer's reasonable expectation of income from his various revenue sources.” The "expectation(s) of income from his various revenue sources” ("s" added) (supra) in this instance are to be tested against the three listed factors ("the time spent, the capital committed, the profitability both actual and potential") to select that which appears to be the “chief source.” This may be the distinction which the Court makes in Timpson (supra) and in Byron (supra).

In passing the primary business test for a reasonable expectation of profit — conceded by the Minister and supported by the Judges, the appellant Graham must have been able to satisfy the conditions outlined in Moldovan (supra), [1977] C.T.C. 310 at 313-14; 77 D.T.C. 5213 at 5215:

. . . The following criteria should be considered: the profit and loss experience in past years, the taxpayer's training, the taxpayer's intended course of action, the capability of the venture as capitalized to show a profit after charging capital cost allowance. The list is not intended to be exhaustive .. .

In further differentiating between (or among) sources of income with regard to “reasonable expectation of profit,” the three factors later delineated in Moldovan (supra) must be crucial — “the time spent, the capital committed, the profitability both actual and potential." In many enterprises, (although arguably not all) the interaction of “time spent,’ and “capital committed" would result in the "profitability both actual and potential." I would suggest that if time spent and capital committed on one enterprise resulted in a higher relative actual profit than another enterprise (also encompassing time and capital), the first enterprise could logically be regarded as the primary source of income, and the second auxiliary. A clear demonstration that the second enterprise had an enormous potential of profitability — much greater than the first — might conceivably weigh the scales the other way, so that the second source of income became the "chief source." Ultimately then as I read Moldovan (supra), and Graham (supra), if no clear determination arises on the basis of comparative "profitability both actual and potential," consideration may be given to the "ordinary mode and habit of work,” for greater enlightenment, in order to reach a conclusion regarding "chief source.”

So in the instant case, some 50 hours of work per week (employment) with no appreciable commitment of capital, produced about $19,000 per year of employment income. Providing say an equivalent 50 hours of work per week (assumed from his testimony) plus about $50,000 investment in the farm (estimated from his testimony) resulted in nil income in actual terms and indeed the negative results (losses) at issue in this appeal. Ac- cordingly the “actual” results do not support a conclusion that the farm was his primary source of income. No clear indication has been given that by December 31, 1981 the “potential” results were of demonstrable or outstanding proportions attributable to the years under review. Between the years 1981 and 1984 it is possible that such a development occurred, but that is not before the Court. As I see it therefore, the question of weighing the relative merits of the appellant’s “ordinary mode and habit of work” as it reflected his interest in and attachment to his employment or to farming need not come before this Court, as it did in Graham (supra), since Mr. Said has not succeeded in showing that farming was the main preoccupation, as contrasted with the auxiliary preoccupation, based on the simple expedience of profitability, either actual or potential. As noted in Moldowan (supra) at 315 (D.T.C. 5216) “.. . The test is again relative and objective, and one may employ the criterion indicative of “chief source” to distinguish whether or not the interest is auxiliary . . .”

It may be possible to conceive of a set of circumstances wherein a taxpayer would fail to establish the primacy of his farming venture (in a comparison with another source of income) from the first viewpoint “expectation of income from his various income sources,” and yet manage to overcome that built-in handicap and support his assertion on the second viewpoint “mode and habit of work” but I do not see in this appeal the prospect for such a turn of events. Indeed, I would suggest, it would be the extraordinary set of circumstances which could fit into that equation, as the judges saw in Graham (supra).

In summary therefore, while the circumstances of this case entitled Mr. Said to the “restricted farm loss” for all three years he does not succeed in establishing his claim for the “full farm loss.” I reach this conclusion understanding fully that farming would appear to be the only business in which such a restriction on deductibility is legislated. That, however, is the current state of the jurisprudence as I see it.

The appeal is allowed in part in order that the appellant may claim the “restricted farming losses” of $5,000 for each of the years 1979, 1980 and 1981. In all other respects the appeal is dismissed. The entire matter is referred back to the respondent for reconsideration and reassessment. The appellant is entitled to party and party costs.

Appeal allowed in part.