King Edward Hotel (Calgary) LTD v. Minister of National Revenue, [1985] 1 CTC 2002, 85 DTC 124

Sarchuk, TCJ:—These are appeals from reassessments for the appellant’s 1979, 1980 and 1981 taxation years. The issue to be resolved is whether the gains made from the sale of four separate hotel properties constituted capital gains as alleged by the appellant or income from an adventure in the nature of trade as assessed by the respondent.

The appellant is a company duly incorporated under the laws of the province of Alberta and registered extra-provincially in the province of British Columbia. The major shareholder, Mr Domenico Alessio (Alessio), is unquestionably the directing mind and will of the appellant. Whether it was policy, management, or the timing of an acquisition or disposition of a property by the appellant (or for that matter by Didsbury Inn Ltd, and 3629 Enterprises Ltd, two other companies in which Alessio had an interest) in all instances his view prevailed. In view of this, certain other transactions involving Alessio are relevant to the issue of the appellant’s intent.

Prior to 1972 Alessio owned and operated a small insulation business in Calgary. That year at the urging of Jim Jackson, a realtor and a close friend, Alessio sold this business and purchased the Didsbury Inn, 30 miles north of Calgary. Alessio provided the bulk of the required capital, while Jackson invested the commission he earned on the sale and a small amount of cash for a 27 per cent interest. After renovation the hotel was managed and operated by Alessio until its eventual disposition.

In 1974, Jackson brought the King Edward Hotel (King Edward) to Alessio’s attention. Following a rather cursory examination of the business Alessio and one Benny Freitag each acquired 50 per cent of the issued shares of the appellant. The purchase of the King Edward commenced the series of acquisitions and dispositions which are the subject of these appeals. Chronologically the transactions were:

(a) The King Edward Hotel. Acquired in February 1974, it was sold in July 1978, for $1,050,000; the appellant realizing a net gain of $539,753.

(b) The Willingdon Hotel, (Willingdon) Okotoks, Alberta. Purchased on January 1, 1979, the hotel was sold on February 4, 1979 for a net gain of $129,922.

(c) The Westwind Hotel, (Westwind) Victoria, BC. Acquired on or about May 14, 1979, and sold on April 12, 1980. a gain of $249,547 was realized.

(d) The Cambridge Hotel, (Cambridge) Victoria, BC. This hotel was purchased on April 1, 1980, and was sold on January 1, 1981, producing a net gain of $19,064.

Prior to the disposition of the Cambridge the appellant purchased the Kings Hotel (Kings) in Victoria, BC. This hotel continues to be managed by the Ales- sio family for the appellant.

Three further transactions in which Alessio was involved in his personal ca pacity must be noted:

(a) In December 1980, 3629 Enterprises Ltd, a company in which Alessio had a substantial interest, purchased the Duncan Hotel near Victoria, BC. This hotel was sold at a profit in 1983.

(b) In 1978, Didsbury Inn Ltd, a corporation controlled by Alessio purchased the Yale Hotel in Calgary. This property was sold in 1979.

(c) In 1977, Alessio attempted to purchase the Carlsbad Hotel, tendering a non-refundable deposit of $10,000. The transaction was not completed and Alessio claimed the loss of the deposit as a business loss.

The activities of the appellant (and of its principal shareholder Alessio) from 1974 to 1981 as disclosed by the evidence lead me to the conclusion that the transactions in issue were not fortuitous realizations of capital investment as suggested by the appellant’s counsel but rather were adventures in the nature of trade. With respect to the Willingdon, Westwind and Cambridge the sequence of events is particularly significant. In 1978, when the appellant sold the King Edward, Alessio consulted the appellant’s accountants with respect to any potential tax liability arising from the sale, and, acting on their advice the appellant purchased the Willingdon as a “replacement property”. The appellant took possession on January 1, 1979, and by February 4, 1979, had effected a sale and had given up possession. During this period Alessio was in Hawaii. There is no evidence that the appellant was ever involved in the operation of the hotel. With respect to the sale Alessio testified that he received an unsolicited offer by way of a telephone call from a friend who was in the hotel business (and who knew that the appellant had purchased the hotel solely for the purpose of deferring taxes). No other reason for the quick resale was advanced.

The evidence adduced in my view totally fails to support the appellant’s contention that the Willingdon was acquired as an income earning investment.

Turning to the next acquisition, On May 14, 1979, the appellant purchased the Westwind, in Victoria. This fifty-room hotel included a cabaret, a dining-room, two lounges and a thousand-seat capacity beer parlour. The purchase was arranged by a close friend of Alessio’s who was a realtor carrying on business in both Alberta and British Columbia. According to Alessio the Westwind was to be the family business and was to provide all of his children with employment in the foreseeable future. Thirteen months later it was sold because, in Mr Alessio’s words, it became “too much to handle, it was always a dog”.

His evidence is not persuasive. He insisted that the motivating factor for this acquisition was the investment opportunity. His evidence however, disclosed that:

(a) Alessio did not know Victoria, nor the commercial climate prevailing there at the time of purchase and made no enquiries;

(b) His examination of the financial statements disclosed that the

Westwind had not produced much income in prior years;

(c) The appellant made no effort to obtain any professional advice. No analysis was made of the operation of the hotel to determine why it was not producing income. No demographic studies were conducted. There was no evidence of a program or plan to effect economies or to attract a larger clientele.

Within four months Alessio decided that the acquisition was not right for the appellant, telephoned his Calgary real estate broker and arranged to have the Westwind listed for sale.

On balance the evidence does not support the appellant’s contention that it acquired the property for its income producing capacity. In my opinion the Westwind was purchased by the appellant as much for its resale value as for its investment potential.

Prior to the disposition of the Westwind the appellant acquired the Cambridge for $230,000. This purchase followed an extremely cursory examination of the hotels’ financial statements and commercial history. Although title was taken in the name of the appellant, according to Alessio the Cambridge was acquired for his daughter and her husband. To explain the quick resale Alessio stated that the Cambridge proved to be too small an operation for his daughter and son-in-law; that they wanted a larger complex. In the next breath Alessio testified that managing the Cambridge was too much work for them and that as a result he himself spent more time there assisting them than he wanted to. From Alessio’s comments it was evident that he had no idea whether or not they had any managerial ability. It is noteworthy that the purchase had never been discussed with them. These facts tend to cast doubt as to the appellant’s intention at the time of purchase. I find that the evidence falls short of supporting the appellant’s contention that the Cambridge Hotel was purchased with an investment intention.

The factors motivating the appellant in its acquisition of the King Edward, are not so readily determined. It was the first of the acquisitions, and, according to Alessio was purchased as a capital investment to provide both a financial base and employment for his family. The appellant’s stated intention can only be tested by reference to the conduct, knowledge and experience of its principal shareholder, Alessio. It is a fact that when Alessio purchased the Didsbury with Jackson he was aware of the possibility if not the probability of a quick resale at a profit. In fact Jackson had no motive other than resale. Alessio testified that Jackson was in real estate and that “real estate people want to make a buck today” and that “he, (Jackson), wanted to sell the hotel immediately”. Alessio had no previous experience in the hotel business — nor did Jackson, yet he sold his insulation business and his residence in order to obtain the capital to purchase the Didsbury. He did not discuss the investment potential of the acquisition with anybody; no business or financial adviser was consulted; and the financial statements were looked at only by Jackson. The purchase of the hotel was as Alessio said “a gamble”. In light of the risk he was taking, his failure to conduct anything more than cursory investigation of the profit history of the hotel is remarkable to say the least unless one of the principal motivating factors was resale at the first opportune moment. They proceeded to make improvements to the hotel and while Alessio testified that these were made to increase its profitability he also stated that while Jackson “did not say he wanted to fix it up and sell, he did say he wanted to make a few bucks”.

According to Alessio he disposed of the Didsbury and acquired the King Edward for several reasons. In the first place, total responsibility for the management of the Didsbury rested on Alessio since Jackson refused to become involved. Secondly, Alessio’s family continued to live in Calgary and he was forced to commute. Beyond that there was constant pressure from Jackson to sell. Jackson’s investment had been minimal and his intention had always been to effect a quick resale at a profit. Alessio claimed that he resisted this pressure until Jackson came to him with the King Edward proposal.

Alessio’s motives in acquiring the Didsbury and the experience and knowledge gained by him in the course of that transaction do not per se lead to a conclusion that the King Edward transaction was an adventure in the nature of trade. At the same time because of the dominant role that Alessio played in the appellant’s affairs it would be improper for the Court to ignore these facts in endeavouring to determine what factors motivated the appellant in its purchase of the King Edward.

What is the evidence supporting the appellant’s contention that the acquisition of the King Edward was made solely for the purpose of investment and as a future and permanent source of income for the Alessio family? After its purchase it was operated by Alessio and his wife, with occasional assistance from their eldest son. The hotel was in a rough district attracting a similar clientele. There was almost no room trade and income was generated primarily by the beer parlour. The premises were in bad shape requiring substantial renovations. To attract more customers the appellant commenced a program of renovation converting the 52 rooms into 35 larger rooms with washrooms. The beer parlour was redecorated. These renovations were completed in 1975 at an approximate cost of $200,000. These improvements, argued the appellant, were undertaken to increase the earning capacity of the investment and were not made for the purpose of putting the hotel into a marketable condition as suggested by the respondent.

In so far as the sale of the King Edward was concerned, it was merely a fortuitous turn of events. Alessio told the Court that for several years, his wife had been in poor health and wanted to move to a more temperate climate and eventually the decision to move to Victoria was made. Although the appellant did not list the King Edward for sale, Alessio’s desire to dispose of the hotel was apparently well known. Not surprisingly, a neighbour approached Alessio and inquired whether the hotel was for sale. When told that it was, in Alessio’s words “he made me an offer and I could not refuse it”.

I accept as sincere the intention of the appellant as expressed by Alessio that the King Edward was acquired for the purpose of operating it and for the purpose of providing the family with a source of income. That intention is understandable. However, on all of the evidence, I am of the view that there was another motivating factor behind the acquisition of the King Edward, namely the possibility of reselling at a profit at the earliest reasonable opportunity.

The doctrine of “secondary intention” was considered in Racine, Demers and Nolin v MNR, [1965] CTC 150; 65 DTC 5098. Mr Justice Noël stated at 159 [5103]:

To give to a transaction which involves the acquisition of capital the double character of also being at the same time an adventure in the nature of trade, the purchaser must have in his mind, at the moment of the purchase, the possibility of reselling as an operating motivation for the acquisition; that is to say that he must have had in mind that upon a certain type of circumstances arising he had hopes of being able to resell it at a profit instead of using the thing purchased for purposes of capital. Generally speaking, a decision that such a motivation exists will have to be based on inferences flowing from circumstances surrounding the transaction rather than on direct evidence of what the purchaser had in mind.

The evidence adduced fails to convince me that the appellant at the time of the King Edward acquisition had a long-term plan in mind or that the acquisition was a phase or a step in the methodical development of an investment plan. The appellant did not, as one would expect a prudent investor to do, seek out the advice or assistance of financial consultants or chartered accountants or any other expert knowledgeable in the hotel business in analysing the investment potential of the King Edward. This is but one circumstance from which the inference of “secondary intention” is readily drawn. Although the appellant has no previous “trading” history the activities of Alessio are a circumstance which may be considered in determining what was in the mind of the appellant at the time of purchase.

The appellant relied in part on the Decision in Reich Hotels Ltd v MNR, [1982] CTC 2334; 82 DTC 1297. Although similar on its facts two substantial features distinguish it from the present appeal. The Court found that the appellant had an overall plan to develop a total business of operating hotels to produce income. Secondly, as contrasted to the case under appeal throughout the various transactions Mr Reich consistently relied on the advice of experts. Neither feature is present here.

There was no satisfactory evidence explaining the resale. Mr Alessio’s evidence was imprecise. It was not corrobated [sic] at any detail by other evidence either documentary or that of independent witnesses. His testimony was not consistent. For example, he suggested that the appellant sold the King Edward because a neighbour made a great offer which came at a time when he was tired of working and his sons were still too young to run the hotel. At another point in the hearing when he gave evidence relating to the acquisition of the Willingdon some four months later, Alessio said that the purpose of that acquisition was so that the two sons could run it and because it provided ‘‘a good opportunity for the kids”.

The evidence of Alessio is that of an interested party. It is trite law that one must view with some suspicion the evidence of persons endeavouring to establish that they were interested in investment and investment only. The comments of Walsh, J in Pierce Investment Corporation v MNR, [1974] CTC 825; 74 DTC 6608 at 831 [6612] are applicable to the evidence of Mr Alessio:

Without intending to cast any aspersions on the credibility of the witnesses in the present case it is nevertheless evident that in any case where a distinction must be made between a transaction which constitutes an adventure in the nature of trade and one which leads to a capital gain, one must expect the witnesses to insist that their intentions were solely to make an investment and that the idea of reselling the property at a profit had never occurred to them even as a secondary intention at the time of making the original investment, but was merely forced on them subsequently by some event beyond their control. If they were not in a position to testify to this effect they would have little or no ground for appealing against the assessment.

On the evidence adduced I have concluded that the gains from the sales of the properties in question were income from a business within the meaning of sub- section 248(1) of the Income Tax Act and therefore hold that they were properly assessed as income of the appellant for its 1979, 1980 and 1981 taxation years respectively.

The appeals are dismissed.

Appeals dismissed.