Jim a McClurg v. Minister of National Revenue, [1984] CTC 2469

Goetz, TCJ [ORALLY]:—This is an appeal with respect to the appellant’s 1978, 1979 and 1980 taxation years.

The appellant was president, director and general manager of Northland Trucks (1978) Ltd (hereinafter referred to as “Northland”). The appellant was an experienced chartered accountant, having been controller for a substantial Alberta holding company with a branch office in Saskatoon, where he worked.

The appellant wished to purchase an International Harvester truck dealership in Prince Albert and in the process incorporated Northland in 1978.

It was he who set up the share structure of Northland as alleged in paragraphs 3, 4, 5 and 6 of the Minister’s reply to notice of appeal which read as follows:

3. The company has the following three classes of shares:

Class A Common — voting, participating, non-redeemable

Class B Common — non-voting, participating on consent of Directors, non- redeemable

Class C Preferred — non-voting, not-participating except as authorized by special resolution, redeemable

Each class of shares has the right to receive dividends exclusive of other classes of shares in the company and the company is authorized to issue an unlimited number of shares in each class.

4. At all relevant times the following shares were issued in the company at a price of $1 per share:

	Class A	Class B	Class C
	Common	Common	Preferred
Jim McClurg	400	—	37,500
Veryle Ellis	400	—	37,500
Wilma McClurg
(wife of Jim McClurg)		100
Suzanne Ellis
(wife of Veryle Ellis)		100

5. Since the incorporation of the company, the Appellant and Veryle Ellis have been the only directors and officers of the company.

6. The following dividends were paid out by the Company during the years under appeal:

	1978	1979	1980
Jim McClurg	—	—	—
Veryle Ellis	—	—	—
Wilma McClurg	10,000	10,000	10,000
Suzanne Ellis	10,000	10,000	10,000

The appellant and his company partner, Veryle Ellis, each subscribed for 400 shares of Class “A” common, which were the controlling stock and those which appreciated in value. They were purchased at a dollar per share and the appellant’s wife as well as Ellis’ wife, each purchased 100 class “B” common shares at a dollar per share.

The purchase price for the dealership was in the neighbourhood of $215,000. The consideration was made up of payments of: $75,000 by the appellant and by Mr Ellis; a $37,500 demand note signed by Ellis and the appellant, and their wives, and this was secured by a term certificate of the appellant’s father-in-law.

There was a debenture, a floating charge of $500,000 with International Harvester, signed by the appellant and Ellis. There was a guarantee signed by the appellant and Ellis and there was a $25,000 mortgage placed on the home of the appellant and his wife, and a guarantee to the Toronto-Dominion Bank, signed by the appellant.

The appellant and Ellis had complete control of Northland and incorporated ME Investment Corporation, (“ME”) of which Northland was a shareholder and all parties interested in ME were on the same share basis as with Northland. ME purchased 16 acres of land of which they had occupied six acres since the operation of their dealership and they continue to occupy this for Northland’s business.

ME entered into a $500,000 mortgage agreement on May 1, 1981, and that was signed by the officers of ME and Northland who were the appellant and Mr Ellis. There was a covenant of guarantors between husbands and wives, with Pioneer Trust Company for the sum of $498,530.86; this was executed on April 30, 1981; the day before the mortgage agreement referred to ME obtained a second mortgage in the amount of $120,000.

The appellant said his wife wanted some compensation for the house mortgage and for the $37,500 noted which she co-signed, and hence the issuing of Class “B” shares and the giving of dividends, as shown in paragraph 6 of the Minister’s reply, whereby the appellant’s wife and Mr Ellis’ wife each received $10,000 in the years 1978, 1979 and 1980, represented such compensation.

There was no evidence of any importance as to the appellant’s wife’s investment on behalf of Northland. The only evidence that I have was that as disclosed by the facts I have just narrated — the mortgage on their house and co-signing of a $37,000 demand note.

The appellant, when he started operation of the dealership, had 14 employees and one who was in charge of the office. He now has expanded to the point where he has 24 employees.

It is interesting to note from the financial statements filed that in 1980 there were retained earnings in the amount of $312,611 and in 1981 retained earnings of $497,481. It was agreed that the company had progressed very well financially and, in face of the company’s financial success, it is apparent that the $37,000 demand note could easily have been paid off, hence removing any apprehension on the part of the appellant’s wife.

One of the relevant sections of the Income Tax Act, SC 1970-71-72 c 63, as amended, — pleaded by the Crown, was section 56(2), which reads:

Indirect Payments. A payment or transfer of property made pursuant to the direction of or with the concurrence of, a taxpayer to some other person for the benefit of the taxpayer or as a benefit that the taxpayer desired to have conferred on the other person shall be included in computing the taxpayer’s income to the extent that it would be if the payment or transfer had been made to him.

Mr Hohmann, in his summation, said that he was relying on the words “a payment of property” and “property” is described in section 248(1) of the Act as:

Property of any kind whatsoever whether real or personal or corporeal or incorporeal and without restricting the generality of the foregoing to include a right of any kind whatsoever, a share or a chose in action.

The appellant, as general manager, and Mr Ellis, had full control of the operation of the company; their wives had nothing to say at all. To my way of thinking the share set up and the establishment of the Class “B” shares, was a channel of Northland to funnel payments of profits to the appellant’s wife and this was to the appellant’s tax benefit and is prohibited by subsection 56(2).

The appellant contends that his wife was entitled to benefits as dividends, either as remuneration for her “efforts or exposure under the guarantees”. The Class “A” shares were the growth and voting stock and the controlling shares. The Class “B“ shares were, in my opinion, merely a method of passing profits to the wives of the appellant and Ellis.

The so-called dividends were entirely disproportionate to the efforts and exposure of the appellant’s wife. See G W Titeley et al v MNR, [1977] CTC 2045; 77 DTC 36 a case on almost all fours with this appeal. The share structure of Northland was a blatant effort, under all the circumstances, of conferring a benefit on the wives of the appellant and Mr Ellis. At 2047-48 [38] of this judgment, it is stated:

The appellants operated their merchandising business in a legally correct manner as far as the details of operation were concerned. However, the broad question arises: — Did the appellants go to such extremes in arranging their affairs that they caused dividends to be paid to their wives which, pursuant to section 56(2) of the Income Tax Act, must be considered as taxable to the appellants as if they themselves had received the dividends?

I would also refer to Doug Burns Excavation Contracting Limited v MNR, [1983] CTC 2566; 83 DTC 528, in particular to pages 2570 and 531 respectively, and this is a judgment of brother Judge St-Onge, wherein he says — referring to the corporation president’s wife, —

. . . that the input of Linda Burns into the income producing process of the Appellant company does not justify the payment of such substantial bonuses . . .

Of course the facts were different in that case, but the principle is the same. And then Judge St-Onge says something that fits into the facts of this case:

. . . The fact that his wife had to guarantee the loans of the bank does not prove anything since all the assets were held jointly by the husband and wife . . .

In the present case, the wives were the puppets of the appellant and Ellis and did as they were told. The appellant’s wife’s guarantees were meaningless. They (the appellant and his wife) either sank or swam together. The appellant, an apparently astute accountant, sought to devise a method conferring a benefit which otherwise would have accrued to him, by payment of excessive dividends to his wife.

The appellant raised the issue of efforts expended by the wife and exposure under the guarantees; this has nothing to do with the giving of dividends. The appellant by his evidence and contentions, has brought himself squarely within the provisions of subsection 56(2) and as a result, I dismiss the appeal.

Appeal dismissed.