E R Probert v. Minister of National Revenue, [1982] CTC 2608, 82 DTC 1628

Guy Tremblay:—This case was heard in Edmonton, Alberta, on March 1, 1982.

1. The Point at Issue

The point at issue is whether the appellant is correct in claiming in the computation of his income for the taxation year 1978 the amount of $8,159.60 as a non-capital farm loss. The respondent allowed only the amount of $5,000 as a restricted farm loss invoking section 31 of the Income Tax Act.

2. The Burden of Proof

2.01 The burden is on the appellant to show that the respondent’s assessment is incorrect. This burden of proof results particularly from several judicial decisions, including the judgment delivered by the Supreme Court of Canada in Johnston v MNR [1948] CTC 195; 3 DTC 1182.

2.02 In the same judgment, the Court decided that the assumed facts on which the respondent based his assessment or reassessment are also deemed to be correct. In the present case, the assumed facts are described in the Reply to Notice of Appeal as follows:

6. In reassessing the Appellant in respect of his 1978 taxation year, the Respondent assumed, inter alia, that:

(a) that the Appellant is a teacher in the City of Edmonton and reported total earnings of $33,431.98 received from the Edmonton Public School Board in 1978;

(b) that in 1973, the Appellant purchased 160 acres of land in the Rocky Mountain House area of Alberta and in 1975 purchased an additional 480 acres near Veg reville, Alberta;

(c) that both of the acreages referred to above are leased out by the Appellant on a crop share basis where the Appellant receives one-third of the crop share and is required to pay one-third fertilizer costs and one-half of the weed-killer costs;

(d) that the Appellant owns no farm machine;

(e) that in previous years, and to previous year losses, which were substantial in an amount in respect to the gross income declared, the Appellant had voluntarily applied Section 31 or Section 13 as appropriate, and voluntarily restricted the farm losses to the amount allowed under Section 31; and

(f) that the Appellant’s chief source of income for the 1978 taxation year was neither farming nor a combination of farming and some other source of income.

3. The Facts

3.01 Concerning the assumed facts described above, the appellant:

(a) admitted subparagraph (a) (SN p 4);

(b) admitted subparagraph (b) subject to the following change: that it was in 1976 and not in 1975 that he purchased the second farm (SN pp 4 and 5);

(c) made the following distinctions concerning subparagraph (c): in 1978, the first farm was not leased. However, concerning the second farm, the lease was terminated in 1981. At the present time, the two farms are Cultivated by himself and his family;

(d) admitted subparagraph (d) that he owned no farm machinery, but owned a truck. The cattle operation is far more important than the crop operation, and as the latter will become less and less important, he does not see why he should invest in machinery;

(e) admitted subparagraph (e); and,

(f) denied subparagraph (f).

3.02 In filing his 1978 individual income tax return dated March 14, 1979, the appellant claimed a restricted farm loss of $5,000 based on a farm loss of $8,159.60 which amount was arrived at by deducting total expenses of $19,092 from gross income of $10,932.40. The appellant further claimed as non-capital losses from other years restricted farm losses from 1974, 1975 and 1976 of $5,785.62.

3.03 By Notice of Reassessment dated December 19, 1979, the Minister reassessed the appellant’s 1978 income by accepting the claimed restricted farm loss of $5,000 but disallowing the restricted farm losses carried forward from 1974, 1975 and 1976 of $5,785.62 on the basis that such losses may only be claimed in the year in which the appellant had farming income.

3.04 In his testimony, the appellant first established before the Board the substance of the facts alleged in paragraphs (1), (2) (3) and (4) of his Notice of Appeal, which outlines his plans for developing the operation and activities. Paragraph (1), (2) and (3) read as follows:

(1) In 1973 I purchased my first quarter section, whereon we crop the land and have established a basic herd. By 1976, the income from this quarter exceeded the mortgage payments. At this point in time, I did not mind being classified as a hobby farmer with a restricted farm loss because of the limited size of operation. However, Mr Quilley and Mr Head advised me at the time that if my intent was to become a farmer I should enlarge my operation and hence claim as a full-time farmer.

(2) In 1976, I purchased three more quarters of land and increased the size of my operation and farm income substantially. However, the latest ruling by Mr Dun- woodie (Chief of Appeals who maintained after the Notice of Objection the application of section 31 (1) and the restrictive loss of $5,000) has severely restricted my ability to make farming a viable operation. The $5,000 maximum deduction against other income may have been realistic ten years ago, but at today’s interest rates it will only prevent people from going into farming.

(3) Every farming operation needs a substantial cash flow. The $5,000 deductible limit against other income and over $14,000 of accumulated restricted farm losses has definitely curtailed my cash flow and reinvestment potential.

Concerning paragraph 3, the appellant made the following comment: “. .. it definitely restricts my abilities to increase my operation and make my cash flow and my profit in forthcoming years. It limits my reinvestment substantially as stated”.

3.05 Paragraph 4 of the Notice of Appeal reads as follows:

(4) I can assure you that my intent was to make a profit at farming but with the aforementioned restrictions I may have to sell some land to cover my farming debts and increase my cash-flow. Consequently, my initial ambitions to develop a viable farming operation and become a full-time farmer appear to be destined to failure unless some tax-advantage can be attained to make farming a more viable alternative.

To confirm this affirmation, the appellant filed as Exhibit A-1 the actual gross income and expenses for the years 1974 to 1980:

In 1981, the appellant expected to reach the break-even point between the income and the expenses. At the beginning, he had anticipated five (5) years to reach that break-even point, but it took seven (7) years. However, despite “high interest rates” and other things he thought he did well (SN p 23). In 1978, there were 500 acres out of 600 acres which were cultivated: crop land, hay land or pasture.

3.06 The appellant explained that in a beef cattle operation the purchase of a lot of expensive equipment is not always required. “It is much more feasible to either rent it or share-crop with someone who has the expensive equipment and is trying to make the mortgage payments on their equipment than for me to go out and pay $150,000 for some of the equipment I would need.” (SN p 16)

3.07 He said that he intended to avoid this heavy expenditure of money for the equipment until the very last moment.

Most of the operation, he explained, is labour intensive, fencing, haying and the feeding of cattle. This does not need expensive equipment.

3.08 The three-quarter section purchased in 1976 is located 120 miles from the first quarter section. He did not purchase it near the first quarter section because “. .. land in that area had gone up and was far, far out of range . ..” (SN p 18). He bought the second piece of land at “a viable price”. There were 24 head of cattle on the first piece of land.

3.09 The second piece of land is 65 miles from Edmonton. He spends all summer, many weekends and holidays there with his family. From October 30, 1978 to October 1981, 260 acres out of 480 of the second piece of land was leased to a Janice Dulaba (Exhibit R-1). It is rented “at a yearly rental of the full one-third (1/3) share or portion of the whole crop of grain of all the different kinds and qualities that shall be grown on the said land in each year .. .”. Mr Dulaba also has his own farm (SN p 24). The appellant explained that the lessee did the grain crop, but he and his family “did all the cattle through, the pasture work and the hay work” themselves. When he is not on the farm, the feeding operation is done mechanically by a “back grounder”. On this second piece of land he buys young calves in the spring, raises them and sells them in October or November. On the first piece of land there is a reverse operation. It is indeed “a cow-calf operation to produce calves” (SN p 22).

3.10 The first piece of land was bought for $34,000 and the down payment was $10,000. The second piece of land was bought for $78,000 with a down payment of $5,000.

3.11 The appellant said he anticipated teaching three or four years more before giving up his job, selling his house in Edmonton and moving to the farm. There is a little house on the farm.

3.12 The quality of the soil is no 2 on the first quarter and no 3 on the second piece of land.

3.13 The appellant has a girl (18 years old) and three boys (17, 16 and 15 years old).

3.14 In 1978, the gross income of $10,932.40 is detailed as follows as it appears from the 12042 form filed with the 1978 income tax return:

3.15 The main expense of the appellant consisted of interest. Despite the fact that the quantum of the expenses is not in dispute, it is useful to give the expense claimed by the appellant in his 1978 return:

3.16 In 1981, he sold about 45 animals. The appellant calls himself a “cowcalf operator”.

3.17 The appellant explained that he worked on his uncles’ farms when he was young, and his wife was brought up on a farm.

4. Law — Cases at Law — Analysis

4.01 Law

The main provision of the Income Tax Act involved is subsection 31(1). It reads as follows:

31. (1) Where a taxpayer’s chief source of income for a taxation year is neither farming nor a combination of farming and some other source of income, for the purposes of sections 3 and 111 his loss, if any, for the year from all farming businesses carried on by him shall be deemed to be the aggregate of

(a) the lesser of

(i) the amount by which the aggregate of his losses for the year, determined without reference to this section and before making any deductions in respect of expenditures described in section 37, from all farming businesses carried on by him exceeds the aggregate of his incomes for the year, so determined from all such businesses, and

(ii) $2,500 plus the lesser of

(A) /2 of the amount by which the amount determined under subparagraph (i) exceeds $2,500, and

(B) $2,500, and

(b) the amount, if any, by which

(i) the amount that would be determined under subparagraph (a)(i) if it were read as though the words “and before making any deductions in respect of expenditures described in section 37” were deleted,

exceeds

(ii) the amount determined under subparagraph (a)(i);

and for the purposes of this Act the amount, if any, by which the amount determined under subparagraph (a)(i) exceeds the amount determined under subparagraph (a)(ii) is the taxpayer’s “restricted farm loss” for the year.

4.02 Cases at Law

The appellant and counsel for the respondent referred the Board to the following cases:

1. William Moldowan v HMQ, [1977] CTC 310; 77 DTC 5213;

2. Fred S Goring et al v MNR, [1976] CTC 2255; 76 DTC 1202;

3. Stewart J Cooke v MNR, [1975] CTC 2296; 75 DTC 223;

4. Joseph Shiewitz v MNR, [1979] CTC 2291; 79 DTC 340.

4.03 Analysis

4.03.1 It is useful to quote the sound principles given by the Supreme Court of Canada in the Moldowan case at 314 of the [1977] CTC and 5215 and 5216 of the 77 DTC.

Whether a source of income is a taxpayer’s “chief source” of income is both a relative and objective test. It is decidedly not a pure quantum measurement. A man who has farmed all of his life does not cease to have his chief source of income from farming because he unexpectedly wins a lottery. 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. 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.

and on 314 and 315 of the [1977] CTC and 5216 of the 77 DTC,

It is clear that “combination” in section 13 cannot mean simple addition of two sources of income for any taxpayer. That would lead to the result that a taxpayer could combine his farming loss with his most important other source of income, thereby constituting his chief source. I do not think s 13(1) can be properly so construed. Such a construction would mean that the limitation of the section would never apply and, in every case, the taxpayer could deduct the full amount of farming losses.

In my opinion, the Income Tax Act as a whole envisages three classes of farmers:

(1) a taxpayer, for whom farming may reasonably be expected to provide the bulk of income or the centre of work routine. Such a taxpayer, who looks to farming for his livelihood, is free of the limitation of s 13(1) in those years in which he sustains a farming loss.

(2) the taxpayer who does not look to farming, or to farming and some subordinate source of income, for his livelihood but carried on farming as a sideline business. Such a taxpayer is entitled to the deductions spelled out in s 13(1) in respect of farming losses.

(3) the taxpayer who does not look to farming, or to farming and some subordinate source of income, for his livelihood and who carried on some farming activities as a hobby. The losses sustained by such a taxpayer on his nonbusiness farming are not deductible in any amount.

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. The section provides that these subsidiary interests will not place the taxpayer in class

(2) and thereby limit the deductibility of any loss which may be suffered to $5,000. While a quantum measurement of farming income is relevant, it is not alone decisive. The test is again both relative and objective, and one may employe the criteria indicative of “chief source” to distinguish whether or not the interest is auxiliary. A man who has farmed all of his life does not become disentitled to class (1) classification simply because he comes into an inheritance. On the other hand, a man who changes occupational direction and commits his energies and capital to farming as a main expectation of income is not disentitled to deduct the full impact of start-up costs.

4.03.2 In the instant case, the Board is not convinced by the evidence that for the taxpayer in 1978 “farming may reasonably be expected to provide the bulk of income or the centre of work routine.” Even if the appellant had paid cash for the farms and interest costs were therefore excluded from the profit and loss statement, the 1978 profit would have been only about $4,400 and in such case it is plain that farming would have been a subordinate source of income.

In the present case, indeed the preponderance of the evidence is that his profession as a teacher is not only the main source of income ($33,000), but the one on which he spent most of his time and for which he is more qualified. It is in fact his main occupation. The Board thinks that the appellant “carried on farming as a side-line business”. His interest in farming was only auxiliary when compared with his profession.

With the evidence given, the Board would have no hesitation in allowing the $5,000 provided in section 31, if the respondent had classified the farming of the appellant as a hobby. However, the Board thinks that the appellant’s farming is well classified as a gentleman farmer’s business and that the reassessment issued by the respondent concerning the 1978 taxation year must be maintained.

5. Conclusion

The appeal is dismissed in accordance with the above reasons for judgment.

Appeal dismissed.