Samuel Tobis v. Minister of National Revenue, [1981] CTC 2161, 81 DTC 126

Guy Tremblay:— This case was heard in Toronto, Ontario on April 3, 1980.

1. The Point at Issue

The point at issue is whether the amounts of $10,921.31, $12,011.80 and $8,420 received from S Tobis Investments Limited by the appellant in the taxation years 1973, 1974 and 1975 respectively are taxable. The appellant, an officer, director and shareholder of STobis Investments Limited, was creditor of the said company for amounts of $138,929.84, $182,630.12, $244,516.98 and $265,255.45 at the end of the respective years 1972, 1973, 1974 and 1975.

2. Burden of Proof

The burden is on the appellant to show that the respondent’s assessments are 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. In the same judgment, the Court says that the facts on which the respondent based the assessments are also deemed to be correct.

3. Facts Assumed by the Respondent

In paragraph 7 of the reply to notice of appeal, the respondent described the facts on which he based his assessments:

7. In reassessing the aforesaid tax for the aforesaid taxation years, the respondent found or assumed the following facts:

(a) the facts set out hereinbefore;

(b) the appellant at all material times controlled and directed the business of the company, S Tobis Investments Limited, and was at all relevant times the beneficial owner of the majority of the shares in the capital of the company;

(c) during the 1973, 1974 and 1975 taxation years, the appellant withdrew the following cumulative amounts from the company:

(i) in 1973	$20,921.31
(ii) in 1974	$12,011.80
(iii) in 1975	$ 8,420.00

and these accounts (sic) constituted payments made by the company to the appellant as a shareholder, otherwise then pursuant to a bona fide business transaction, or constituted funds of property of the company which was appropriate to or for the benefit of the appellant’s shareholder, or constituted a benefit, or advantage, which was conferred upon the appellant’s shareholder by the company.

4. The Facts

4.01 The appellant is a businessman residing in Toronto, Ontario.

4.02 S Tobis Investments Limited (hereinafter referred to as “the company”) is a company incorporated under Ontario law with head office in Toronto, Ontario. It was effective on January 1, 1969. The main object of the said company is:

to purchase, lease, take in, exchange or otherwise acquire, hold, own, sell and exchange lands or interest, therein together with any buildings or structures that may be on the said lands or any of them and to lease or mortgage the said lands, buildings or structures

4.03 The appellant is and at all material times was an officer, director and shareholder of the company. He subscribed for 12 common shares in the company stock at $1 each.

4.04 From time to time the appellant has loaned substantial sums to the company. The balances of loans owed by the company to the appellant, as recorded on the books and records of the company as of December 31 in each of 1972, 1973, 1974 and 1975 were as follows:

4.05 During the years 1973, 1974 and 1975 the appellant withdrew from the company the following sums, which withdrawals were not recorded in the company’s books of account:

4.06 Prior to the incorporation of the company in 1969, the appellant acquired several rental properties in Toronto’s east end. He also invested in a number of real estate mortgages at the end of 1968; the business capital of the appellant was $328,814.13 (Exhibit A-1, Tab 1).

4.07 The appellant sold his rental properties and the mortgage investments from himself to the company. The company assumed liability for the outstanding mortgages against the rental properties and agreed to pay the balance of the purchase price in the form of a promissory note. The note was payable on demand and did not bear interest.

The debt was recognized in the company’s minutes book. The amount was $328,802.13 (business capital $328,814.13 less $12 he paid for the common shares ) (Exhibit A-1, Tab 6).

4.08 At the end of 1971, it was decided that the mortgages should be transferred back to the appellant. The transfer price was the outstanding balance of principal on those mortgages. The transfer was effective on January 1, 1972. The appellant paid the company for the retransfer of the mortgages simply by having the sum total of the principal balances of the mortgages deducted from the current balance in the shareholder loan account. The balance was $34.379.78 (Exhibit A-1, Tab 13).

4.09 Even though the mortgages had been transferred back to him, nevertheless the receipts on these mortgages were all deposited to the company’s account by the appellant. The latter considered that these sums were advances or loans to the company. They were added in the shareholder’s loan account. Paragraph 4.04 above gives the year-end balances in the shareholder’s loan account for the years 1972 to 1975. The interest element of those mortgage payments which was income for the appellant was computed

as such in his personal tax return (S.N. p. 22, lines 23 to 27, testimony of H Stone, CA).

4.10 In the periods of 1973, 1974 and 1975, the appellant collected rents from the company’s tenants and kept part of the rents for himself.

The total amounts of the collected rents were not registered in the company’s books and the amounts he kept were not recorded in the company’s books.

The appellant did not include them in his income in filing his personal tax returns. These amounts are given in paragraph 4.04 above. The company was reassessed for the same amount (S.N. p 29, lines 24 to 28, testimony of H Stone).

4.11 The appellant never mentioned to the accountant, Mr Stone, about the amount he kept from the rents.

Mr MacGregor, counsel for the respondent, asked Mr Stone the following question:

Q. Am I correct that had he mentioned to you that he was retaining amounts, the appropriate entry would be a reduction in the shareholders’ loan account?

A. That’s correct. (S.N. p 31, lines 8 to 12)

4.12 In fact, if the appropriate entries would have been made the figures would have been as follows:

SUMMARY OF THE INDEBTEDNESS OF S TOBIS INVESTMENTS LIMITED TO SAMUEL TOBIS: DECEMBER 31, 1972 — DECEMBER 31, 1975

	Column 1	Column 2	Column 3	Column 4	Column 5
	Balance of	Increase in	Amount with	Net increase	Correct bal
	the share	the share	held from	in the com	ance of the
	holder loan	holder loan	the company	pany’s in	company’s
	account on	account during	during the	debtedness dur	indebted
Year	Dec.31st	the year	the year	ing the year	ness on Dec. 31st
1972	$138,929.84	N/A	N/A	N/A	$138.929.84
1973	$182,630.12	$ 43,700.28	$10,921.31	$32,778.97	$171,708.81
1974	$244,516.98	$ 61,886.86	$12,011.80	$49,875.06	$221,583.87
1975	$265,255.45	$ 20,738.47	$ 8,420.00	$12,318.47	$233,902.34
		$126,325.61	$31,353.11	$94,972.50

Explanatory Notes

1. The balances in column 1 are the balances recorded in S Tobis Investments Limited shareholder loan account. For instance, the amount of $182,630.12 in 1973 is the total of $138,929.84 (1972) plus the increase of 1973; $43,700.28 (column 2).

2. The figures in column 2 are the differences between the balance in the shareholder loan account for each year and the balance for the immediately preceding year.

3. The amounts in column 3 are the amounts Mr Tobis withdrew from the company during the year, as acknowledged in paragraph 5 of the notice of appeal in subparagraph 7(c) of the reply.

4. The amounts in column 4 are the differences between the amounts the shareholder loan account increased (column 2) and the amounts Mr Tobis withdrew from the company (column 3) each year. These amounts are the net amounts Mr Tobis withdrew from the company (column 3) each year. These amounts are the net amounts of Mr Tobis’ further loans to the company during the year.

5. The amounts in column 5 represent the correct amount of the company’s indebtedness to Mr Tobis at the end of each year, taking into account the correct balance at the end of the prior year and the net amounts of Mr Tobis further loans to the company during each year (column 4). For instance, the amount of $171,708.81 in 1973 is the total of $138.929.84 in 1972 plus $32,778.97 (net increase of 1973, column 4).

4.13 Mr Stone testified that at the end of each year after the statements had been prepared, he discussed the statements with the appellant and that the latter was aware of his financial position as far as income (S.N. p 32, lines 13 to 22).

4.14 Mr Stone in his testimony said:

A. I discussed with him, (the appellant) the withdrawal of the mortgages and the subsequent payments that the company received on his behalf, but it is my opinion that Mr Tobis really would not be aware of the fact that his shareholders’ loan account would be increasing.

The appellant did not testify.

5. Law — Precedent Cases — Analysis

5..01 Law

The main provision of the Income Tax Act involved in the present case is paragraphs 15(1 )(a), (b) and (c) which read as follows:

15(1) Where in a taxation year

(a) a payment has been made by a corporation to a shareholder otherwise than pursuant to a bona fide business transaction,

(b) funds or property of a corporation have been appropriated in any manner whatever to, or for the benefit of, a shareholder, or

(c) a benefit or advantage has been conferred on a shareholder by a corporation

the amount or value thereof shall be included in computing the income of the shareholder for the year.

sections 131, 132 and 133 of the Ontario Judicature Act, RSO 1970, c 228 were also quoted. They read as follows:

131. Where there are mutual debts between the plaintiff and defendant or, if either party sue or be sued as executor or administrator, where there are mutual debts between the testator or intestate and either party, one debt may be set against the other. RSO 1960, c 197, s 128.

132. (1) Mutual debts may be set against each other, notwithstanding that such debts are deemed in law to be of a different nature, except where either of the debts accrue by reason of a penalty contained in any bond or specialty.

(2) Where either the debt for which the action is brought or the debt intended to be set against the same has accrued by reason of any such penalty, the debt intended to be set off shall be pleaded and it shall be shown by the pleading how much is truly and justly due on either side, and if the plaintiff recovers in any such action, judgment shall be entered for no more than appears to be truly and justly due to the plaintiff after one debt is set against the other. RSO 1960, c 197, s 129. 133. If, upon a defence of set off, a larger sum is found to be due from the plaintiff to the defendant than is found to be due from the defendant to the plaintiff, the defendant is entitled to judgment for the balance remaining due to him, RSO 1960, c 197, s 130.

5.02 Precedent cases

The counsel for the parties referred the Board to the following precedent setting cases and articles of doctrine:

1. Hyman Sheinin v MNR, [1967] Tax ABC 56; 67 DTC 86;

2. Fernand Guya and Paul Gagnon as executors of the Estate of Joseph Lorenzo Guya v HMQ, [1975] CTC 150; 75 DTC 5090;

3. MNR v Pillsbury Holdings Limited, [1964]CTC 294; 64 DTC 5184;

4. Ethel Annabelle Angle v MNP, 74 DTC 6278;

5. Bailey Cobalt Mines Limited v Benson, 1918, Vol XLIV, SCO, p 1;

6. Martin P Chess v MNP, [1973] CTC 2133; 73 DTC 103;

7. James F Kennedy v MNP, [1973] CTC 437; 73 DTC 5359;

8. The Estate of William J Fraleigh v MNP, [1968] CTC 369; 68 DTC 5244;

9. HMQ v Fred E Poynton, [1972] CTC 411; 72 DTC 6329, and,

10. Section 8(1) and Incorporation, RM Turnbull (1964), 12 Canadian Tax Journal 26.

5.03 Analysis

A. Arguments of the counsel for the appellant

5.03.1 The first argument of the appellant’s counsel, Mr Fitzsimmons, is that subsection 15(1) does not apply on the basis that there were no benefits for the appellant.

Indeed, he said in his argumentation that the whole evidence shows that in the years involved the company owed more to the appellant than the amount he withheld. Moreover, the appellant loaned to the company more in each particular year than he withdrew in the same particular year (see paragraph 4.12).

5.03.2 The counsel quoted from page 27 of the article by Mr Robert M Turnbull referred to above:

Paragraph (b) seeks to tax funds or property of a corporation which are appropriated to or for the benefit or advantage conferred on a shareholder by a corporation. Neither of these paragraphs could be applied to tax a payment received by a shareholder upon the discharge of a legally enforceable obligation which was

originally issued by a company for valuable consideration. If the shareholder has the right at law to require payment of the obligation, it cannot be said that a payment made by the company in discharge of that obligation results in any benefit to him within the ambit of subsection 8(1).

5.03.3 Mr Fitzsimmons referred to sections 131, 132 and 133 of the Ontario Judicature Act quoted above to affirm that:

There’s a mutual debt situation and in these circumstances, the sensible thing to do is to say that the one debt is set off against the other. (SN p 46, lines 10 to 12)

5.03.4 Mr Fitzsimmons referred to the case of Hyman Sheinin v MNR, in which the taxpayer withdrew from the business of his company a sum of $60,000 and his associate, a sum of $90,000. As the company owed to the taxpayer $22,500, Mr Boisvert of the former Tax Appeal Board said:

Even if we admit that the appellant was right in reimbursing himself for an amount of $22,500, “Sheinin” (the company) should have shown a benefit every year. Therefore the difference between $60,000 and $22,500 constituted a benefit to the appellant and was taxable income.

In the present case, said the learned lawyer, the debt owed by the company is greater than the amount withdrawn and hence subsection 15(1) cannot apply.

5.03.5 The counsel for the appellant referred also to the case of Guay Estate v HMQ, in which it was decided that the amount withheld by the taxpayer from the business of his company was deductible in computing the aggregate net value of the estate despite the fact that he argued that there was no deductible debt because the company did not have records of debts, and there was no cause of action against the deceased.

5.03.6 Finally, the counsel for the appellant argued that subsection 15(1) applies only to benefits received as shareholder in capacity as a shareholder of the company. He contended that if the appellant received a benefit, it was not in capacity of shareholder, but in capacity of employee or officer of the company. It was in this capacity indeed, said Mr Fitzsimmons, that the appellant collected the rent and not in his capacity of shareholder.

B. Reasons for the Board’s Decision

5.03.7 The last argument (para. 5.03.6) is refuted by the fact that the appellant owned 100% of the shares of the company, and was the only officer of the company.

If he received a benefit, how can it be possible to separate the shareholder from the officer, or vice versa?

Moreover, according to Mr Stone, the shareholder’s acount should have been reduced if the appellant had mentioned to him that he was retaining an amount. So it seems that the shareholder, in view of the appellant’s accountant, is implicated in the transaction. He is implicated not only if he had informed Mr Stone, but even if he did not.

5.03.8 Concerning the main argument of the appellant (paras 5.03.1, 5.03.3 and 5.03.4), it seems to the Board that legally the application of subsection 15(1) of the Income Tax Act is one thing and the application of sections 131, 132 and 133 of the Ontario Judicature Act is another thing. The latter Act applies only when there is a plaintiff and a defendant with mutual debts. It is clear that if a company sues a shareholder for amounts withheld by him, and, if the company owned an amount to the said shareholder, this debt can be set against the other (as in Guay Estate v HMQ para 5.03.5).

In the Board’s opinion, the principle of the appliction of the mutual debt does not automatically apply. The mutual debt must be known by the two parties and admitted by the two parties. A company is a legal entity different from the shareholder, even if a company acts through its officers and shareholders.

Where in the books of the company, can one see the amounts withheld by the shareholder? If the shares of the company had been sold before the inquiry of the respondent, the debt of the company would have remained in its whole, and who would have informed the new shareholder of the amounts appropriated by the former shareholder if this does not appear in the books? The former shareholder himself? As he has “forgotten” to mention it to the accountant, one can think that he still would have “forgotten” to inform the new shareholder.

There is a basic principle in business and accounting which is to the effect that, to know the actual life of a business, all the transactions must be registered and well registered in the accounting books. It is also a common ground in taxation, that the basic principles of accounting and business must be used to interpret the Income Tax Act, except if the Act itself stipulates to the contrary in a specific section (Royal Trust v MNR, [1957] CTC 32; 57 DTC 1055).

5.03.9 The affirmation of Mr Stone that he would have made a correction in the shareholder’s account, if the appellant had informed him about withheld rent, remains a hypothesis. In fact, the accounting books of the company did not reflect the appropriation. What is the explanation of the noninformation by the appellant to the account? The one who could give this explanation was not in court to testify. The appellant, the most interested person, was not there.

It seems, in the opinion of the counsel for the appellant, that, even if the appellant intentionally had not informed the accountant, the principle of the mutual debt applies because of the Hyman Sheinin decision. After studying this decision, the Board does not arrive at the same conclusion as the counsel for the appellant on the sentence of Mr Boisvert quoted above in paragraph 5.03.4. Indeed. Mr Boisvert wrote this sentence because the application or not of the principle of the mutual debt did not practically change the conclusion of the appeal in the Hyman Sheinin case. Indeed the appeal was not allowed in part, but was dismissed. That is why he said: “Even if we admit . ..”.

5.03.10 Once again, the application of subsection 15(1) of the Income Tax Act is one thing and the application of the mutual debt principle sections 131, 132 and 133 of the Ontario Judicature Act is another.

In the Board’s opinion, in retaining rents of the company for himself during the years 1973, 1974 and 1975, the appellant meets the wording of paragraph 15(1 )(b):

funds or property of a corporation have been appropriated in any manner whatever to, or for the benefit of, a shareholder, or

and the amount so retained must be “included in computing the income of the shareholder” for those years.

The mutual debt principle cannot be applied in application of the Income Tax Act except if, in each year involved, the amounts retained would have been recorded in the accounting books of the company according to the general principles of accounting. The appellant, in the present case, is responsible for no entries being made in the accounting books of the company for the amounts in question; that is the testimony of the accountant (para. 4.11). The appellant, who had to reverse the burden of proof, decided not to testify before the Board.

If the appellant’s opinion was maintained, this means that a shareholder would be correct, after lending money to his company (let us say $100,000), in retaining income of the company for himself up to $100,000), in retaining income of the company for himself up to $100,000 without the company nor the shareholder paying tax on this amount, with the said amount of $100,000 remaining due to shareholder; and if the Department of National Revenue following an inquiry reassessed the shareholder, the latter would have only to apply the mutual debt principle.

This is not within the Income Tax Act which prescribes that a person must file a return of his taxable income “in prescribed form and containing prescribed information” (subsection 150(1) of the Income Tax Act).

This is not according to the general accepted accounting principle which stipulates that all the transactions must be recorded in the accounting books of the company. This principle must be applied in interpreting the Income Tax Act.

Hence the assessments must be maintained and the appeal dismissed.

6. Conclusion

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

Appeal dismissed.