Alan White v. Minister of National Revenue, [1981] CTC 2456, 81 DTC 457

Guy Tremblay:—This case was heard in Toronto, Ontario, on September 30, 1980.

1. The Point at Issue

The point is whether the appellant is correct in claiming a farming loss of $2,887 for the 1975 taxation year from his operations which involve the raising, breeding and racing of quarter horses. The respondent disallowed the said loss on the contention that the appellant during 1975 was not carrying on a farming business with reasonable expectation of profit and that the expenses were personal or living expenses.

2. Burden of Proof

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. According to this judgment, the assumptions of facts, on which the Department of National Revenue based the assessment or reassessment, also are deemed to be correct.

The assumptions of facts alleged by the respondent in the present case are as follows:

(a) at all material times, the Appellant was not carrying on a farming business;

(b) the expenses incurred by the Appellant in relation to his farming activities, constituted expenses of properties maintained by the Appellant for the use or benefit of the Appellant or any person connected with the Appellant by blood relationship, marriage or adoption, and not maintained in connection with a business carried on for profit or with a reasonable expectation of profit;

(c) the expenses incurred by the Appellant in relation to his farming activities were personal or living expenses of the Appellant.

3. The Facts

3.01 The appellant was 28 years old in 1975. At the time of the trial he was director of Burnside Equipment Limited and general manager of Harry White Holdings which manages Burnside Equipment and Industrial Supply House. The appellant and his brother, in fact, own (50%-50%) of the common shares of Harry White Holdings which own Burnside Equipment Limited. Burnside Equipment Limited is a company that the appellant started in Toronto in 1971. It manufactures industrial maintenance equipment (vacuum cleaners, carpet cleaners). In the appellant’s opinion, this business is a successful business (S.N. p. 4).

3.02 In 1972, the appellant set out to develop a quarter horse stable with a view to breeding, racing and selling quarter horses. A quarter horse runs quarter mile maximum. According to the witness, quarter horse racing “is much less risky as standardbred or thoroughbred racing. The horses run longer in terms of years of eligibility. The horses are a lot more sound”. (S.N. p 5). “. . . the quarter horses can race up until twelve or thirteen years old . . (S.N. p. 32).

However, he testified that in 1972 “. . . it might’ve been a little more risky because it was not established in Canada or Ontario at that point”. (S.N. p 5).

3.03 The appellant gave the reasons for his decision to go into quarter horse racing in 1972:

Q. Why did you decide to go into quarter horse racing at that particular time?

A. Well, for one thing it was my estimation that it would become very substantial and very profitable in Ontario, possibly in all of Canada, Ontario first. Also with having a job in Toronto, the other forms of racing such as thoroughbred racing and standardbred racing could not be done with working eight hours a day or ten hours a day as well. (S.N. p. 5 and 6)

A. No, it was my decision based on the fact that quarter horse racing in the United States is very popular and one of the most or if not the most popular form of horse racing and is an unknown entity in Canada at that time. I would say probably the situation, probably some twenty-five years ago when standardbred racing attempted to establish itself in Ontario and they had great difficulty with the thoroughbred people thinking that it would take away the crowd or the money that was spent. This is the exact situation. Quarter horse people were in Canada in 1973 and at one time I guess were in the United States, so like everything else, I thought that it would establish itself and become very popular as it was in the United States. (S.N. p. 6 and 7)

3.04 The appellant in 1972 bought a stallion and a filly , both for $900. They were quarter horses. The stallion was five years old. It had never raced and never did race. It was only used for stud for a small breeding fee. The appellant in 1975 (and only in that year) declared income from breeding; the amount was $100. About this stallion, the witness said:

.. . his grand sire was half sister to Peppe Sand, which, is an American quarter horse triple A runner, American quarter horse champion. The lineage of that horse would stem back from a portion racing in the United States. Quarter horse champion can achieve points through other types of showing. One part that they require is the racing. (S.N. p. 13)

In examination in chief the appellant said that the stallion was sold in 1977 for about $1,500 (S.N. p. 14). In cross-examination, he said he sold it in 1979. He also said that in 1976 when he received the reassessment from the Department of National Revenue, he did not continue and sold the stallion. The filly was sold in 1977 and she is now in California.

3.05 The appellant started the operation on a ten-acre farm that he purchased in 1972 in Orangeville, Ontario. It is called White Acre Farm:

A. I started the farm I was on. It had a small old barn on it and I started with a few horses that I had in that barn. It was really inadequate and too small and I wanted to expand to have more than two or three horses. I built another barn on the farm that would’ve held about seven or eight horses maximum. I constructed that and began the breeding program and in 1975 I think I had six horses in the barn. (S.N. p. 7)

3.06 He also said:

I bred them and I trained them myself. I did everything but was the jockey at the track. (S.N. p. 7)

3.07 The appellant described a typical day’s work:

Q. Can you describe to the board what your typical day would be like involved with the horses, et cetera?

A. I would be up about five-thirty in the morning. I guess I’d be in the barn until about seven-thirty cleaning the stalls and feeding. I would then change and go to Toronto and work and I would be back about probably six-thirty from Toronto and I would be in the barn till about ten o’clock at night feeding and doing whatever needed to be done and then all day Saturday and Sunday with going to the track and training or major clean up. (S.N. p. 8)

3.08 In 1973, the appellant bought a mare for $1,200. He raced her duing the 1973-74 season. During the said racing season, the mare won five races, was second in four races and third in a few races.

At that time however, there were no purses for the winning horses:

Q. At that time were there any purses that you won?

A. There wasn't a purse actually. There was an entry fee and the top three horses divide a portion of the entry fee after track expenses. So if you won, you got back your entry fee basically.

Q. So in other words, there were no purses at that time that you could win that would offset your expenses?

A. There was no betting and there were no purses that were offered that would be substantial where you would consider a profit. (S.N. p. 9)

This situation lasted only until the year 1978 and after that purses were given.

As Exhibit A-1, the appellant filed a book entitled Quarter Racing Owners of Ontario Inc. 1980 Stakes Program and Condition Book. From this exhibit, it appears that there were different purses in the amount of $7,500, $10,000, $15,000 and $20,000. The appellant did not win any money racing his horses (S.N. p. 34). From the time the mare was purchased she ran only during the season 1973-74. The first gelder [sic] ran once in 1977. The appellant never took his horses to run in the United States.

A. I could never afford to, but many people do that for the winter or the very expensive purses in Ohio and New Mexico, Texas where it is popular. People go down there for a lot of purses. It costs a lot of money. (S.N. p. 34)

3.09 In late 1974 and in late 1975, the mare was bred with a view to racing the foal. However, it was not bred to the appellant’s stallion, but to two different stallions. At each time, the stud fee was $600.

The appellant still owns the two foals and at the time of the trial, the mare was expecting another one. The appellant explained in detail the two factors involved in the choice of a sire: one is his racing record, the other is his lineage. According to him, one must try to match the lineage of the mare with the lineage of the stallion (S.N. p. 29). He said that the first sire was a double A running stallion. “When they race, you are not rated until you race a certain speed and then you can race A, double A and triple A. The faster you run, the higher — the more A’s, exactly”. (S.N. p. 30)

Later, in cross-examination, he said that there was another factor which was involved in the choice of a sire:

the horses are shown on halter and then they are shown in pleasure. They are ridden actually and as you enter those three events, you accumulate points and when you reach a certain number of points, the horse becomes champion. So it is not all derived from racing. It isn’t all just from pleasure. (S.N. p. 31)

The two foals were colts; they were neutered, then they named them geldings.

3.10 In his return, the appellant declared no gross farming income in 1972, 1973, 1974 and 1976. In 1975, he declared $100 as breeding income. However, he claimed net losses as follows:

3.11 The appellant explained about his intention of breeding horses:

Q. Can you explain what your intention was in breeding these horses, whether it was to sell or what you planned to do with these horses, just to clarify that for the Chairman?

A. My intention was to use this mare for breeding purposes and race her babies and at the same time after she had had a baby or two, race her again. The first foal at this time might be worth fifteen hundred or $2,000. If I were to race the — and his younger brother might be worth half that. If I race that foal, the first foal and he should win, it increases his value and increases his younger brother at home and maybe only as a baby tenfold, so the more horses that you have bred that are racing and doing well, the offsprings from that horse’s parents become more valuable to the point where you can by — my mare could be leased which she is now to somebody who would want to breed her and take the foal and pay me X numbers of dollars, foal born dead or alive because the mother has proven herself and has had two foals which have each raced and done well at the track. So it stands to reason that future foals to different stallions would also do well. So my idea before there were purses where you could really earn a lot of money was to buy a good mare, which I think I had and still have, breed her, train and race the foals and start off with a small racing stable that as these purses began to increase in value and it attracted more attention from the public and people wanted to get started in quarter horse racing, they would come to me to buy one or two horses that they could immediately start to race and that was my plan. (S.N. p. 42 and 43)

3.12 According to the appellant, when he was a teenager, he was involved with horses. He taught riding and was involved with the care and maintenance of a summer camp of horses. Mr White, from the cross-examination, particularly demonstrated his knowledge of the quarter horse and racing industry.

3.13 Under cross-examination, the appellant testified about another operation in which he was involved, i.e. dog showing. He had two bull mastiff dogs: one male he bought in 1970 ($300 to $400) and one female he purchased in 1976 (around $750). He showed the dogs in Ontario and also in the United States (Windsor, Detroit, Buffalo); they were champion show dogs. The appellant was a member until 1977 of the association of bull mastiff owners: the Bull Mastiff Fanciers of Canada. The appellant explained it was a hobby. He said he never showed horses. It was too expensive.

3.14 The appellant testified he had 5 horses in 1975. The most he had was 6, but at the time of the trial in 1980, he had 4 horses.

4. Law — Cases at Law — Analysis

4.01 Law

The main sections of the Income Tax Act involved in the present case are paragraph 18(1 )(h), subsection 31(1) and section 248 (definitions of “farming” and “personal or living expenses”). It is not necessary to quote subsection 31(1).

As it is admitted indeed by the appellant that if the Board arrives at the conclusion that the expense is not a personal or living expense, the loss is restricted to a farming loss in the sense of subsection 31(1) and not an Ordinary farming loss.

The other provisions read as follows:

18. (1) In computing the income of a taxpayer from a business or property no deduction shall be made in respect of

(h) Personal or living expenses.—personal or living expenses of the taxpayer except travelling expenses (including the entire amount expended for meals and lodging) incurred by the taxpayer while away from home in the course of carrying on his business;

248. Definitions.—(1) In this Act,

"Farming".—“farming” includes tillage of the soil, livestock raising or exhibiting, maintaining of horses for racing, raising of poultry, fur farming, dairy farming, fruit growing and the keeping of bees, but does not include an office or employment under a person engaged in the business of farming;

"Personal or living expenses”.—"personal or living expenses” includes

(a) the expenses of properties maintained by any person for the use or benefit of the taxpayer or any person connected with the taxpayer by blood relation- ship, marriage or adoption, and not maintained in connection with a business carried on for profit or with a reasonable expectation of profit.

(b) the expenses, premiums or other costs of a policy of insurance, annuity contract or other like contract if the proceeds of the policy or contract are payable to or for the benefit of the taxpayer or a person connected with him by blood relationship, marriage or adoption, and

(c) expenses of properties maintained by an estate or trust for the benefit of the taxpayer as one of the beneficiaries;

4.02 Case at Law

The judgments that counsel for the parties referred to the Board are the following:

1. Donald Carom v MN Fl, [1977] CTC 2085; 77 DTC 67;

2. Donald A Holley v MNR, [1973] CTC 539; 73 DTC 5417;

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

4. Philrick Limited v HMQ, [1977] CTC 217; 77 DTC 5158;

9. McCleary Drope v MNR, [1978] CTC 2639; 78 DTC 1483

6. Terrence S Gray v MNR, [1978] CTC 3101; 78 DTC 1814;

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

8. Donald J Gillis v HMQ, [1978] CTC 44; 78 DTC 6103;

9. Fred L Johnson v MNR, [1978] CTC 2122; 78 DTC 1109;

10. Robert Mullin v MNR, [1979] CTC 2080; 79 DTC 113.

4.03 Analysis

4.03.1 There is no dispute that the appellant’s operation with a view to breeding, racing and selling quarter horses is a “farming” operation within the meaning of farming quoted above. Moreover, cases at law referred by counsel confirm this point.

4.03.2 Reasonable expectation of profit

As the main basis of the re-assessment is the following assumption of the fact: there is no expectation of profit in 1975 (paragraph 18(1 )(h) and section 248 of the Act definitions quoted above), the crux of the matter is whether in 1975 there is a reasonable expectation of profit in the appellant’s farming operation.

4.03.3 In William Moldowan v HMQ, [1977] CTC 310 at 313, and 77 DTC 5213 at 5215 the Supreme Court of Canada made the following comment on what reasonable expectation of profit means:

There is a vast case literature on what reasonable expectation of profit means and it is by no means entirely consistent. In my view, whether a taxpayer has a reasonable expectation of profit is an objective determination to be made from all of the facts. 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. The factors will differ with the nature and extent of the undertaking: The Queen v Matthews, 74 DTC 6193. One would not expect a farmer who purchased a productive going operation to suffer the same start-up losses as the man who begins a tree farm on raw land.

4.03.4 What is the profit and loss experience from 1972 to 1980? During the six years from 1972 to 1977, there was from the farming operation only a gross income of $100 (paragraph 3.10). If there were other gross incomes in 1978 and 1979, they did not come from breeding or racing but from the rental of the farm and the sale of the stallion. The evidence shows that during those years, the farming operation ran in the red (paragraph 3.10). In fact the appellant never won any money from racing his horses (paragraph 3.08) and the only income from breeding was $100.000 (paragraph 3.10). Therefore profit and loss experiences during all those years do not seem, at first glance, items in favor of the appellant.

4.03.5 However, the appellant knew in 1972, when he bought the two first quarter horses, that it would be a long time before he made a profit. Quarter horse racing indeed was something new in Ontario and even in Canada (paragraph 3.02) and there were no purses for the winning horses (paragraph 3.08). There were purses only from 1978. From another point of view, quarter horses racing was less risky than standard-bred or thoroughbred racing. Quarter horses indeed run longer in terms of years of eligibility.

4.03.6 In paragraph 3.11, the appellant explained his plan to make money before there were purses: to buy a good mare, breed her, train and race the foals and start off with a small racing stable when these purses began to increase in value. He started to apply this plan in 1973 (paragraph 3.08).

At the time of the trial, the appellant owned two foals from the mare and the mare was also expecting another foal (paragraph 3.09).

4.03.7. The Board must admit that, at first glance, there is logic in this plan and that the appellant seems to have succeeded in its application. However, when one looks at the facts more attentively, he states that therefor is a contradiction between the appellant’s intention (to develop a quarter horse Stable with a view to breeding, racing and selling quarter horses) and the reality. The appellant neutered the two colts he owned from the mare he bought in 1973. Therefore they cannot breed (paragraph 3.09). On the one hand the appellant chose for his mare a sire which was a double “A” (because it raced at a certain speed) (paragraph 3.09). On the other hand, the appellant seems not to care that the stallion, he purchased in 1972 and sold in 1979, never raced (paragraph 3.06), and that the first gelding ran only once.

4.03.9 Concerning the criteria of knowledge and time spent, the Board thinks that the appellant met them (paragraphs 3.07 and 3.12).

4.03.9 Despite the fact that the appellant meets some criteria, he does meet the main one which is that in 1975; the operation did not have a reasonable expectation of profit and the expenses must be considered personal and living expenses.

5. Conclusion

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

Appeal dismissed.

Tadeusz Specht, Appellant,

and

Minister of National Revenue, Respondent.

Tax Review Board (The Chairman: L-J L Cardin, QC), June 12, 1981.

Income tax — Federal — Bonus received for pre-payouts of mortgages — Whether

The taxpayer purchased mortgages from several brokers. Six mortgages had early payout clauses for which the taxpayer received a bonus. At issue was whether $3,903.29 received from such payments represented a capital gain or was to be included in income as contended by the Minister.

HELD:

The taxpayer was not in the business of buying or selling mortgages and the amount in question represented a capital gain. Appeal allowed.

J Rosner for the appellant.

W Mah for the respondent.

The Chairman:—The appeal of Mr Tadeusz Specht is from an income tax assessment with respect to the 1975 taxation year. The issue is whether an amount of $3,903.29 which was earned by the appellant in the 1975 taxation year is on account of capital, or whether it is income from a business.

As stated by counsel for the respondent, it really boils down to a trading case which is usually determined on the facts of the case.

In this appeal, it appears that the appellant was of Polish descent and had come to Canada and worked as a carpenter around 1952. He slowly worked his way into a small contracting business; sometime in 1959, he had a heart attack and discontinued the contracting business. In the meantime, he had acquired a considerable knowledge of housing and mortgages and felt at home in that field.

The appellant is a man who lives alone; he has no office, no telephone and does not advertise. He is a shrewd businessman who does not in fact, in my view, lend money directly. The evidence was that he had several brokers from whom he purchased mortgages and he was honest enough to admit that he was trying to get the best bargain, which is certainly not condemnable. By 1975, he had purchased about ten mortgages, and his whole evidence indicated that the mortgages were purchased as an investment in security for the purpose of gaining interest on the mortgages.

Of the ten mortgages that he had, six had early payouts clauses. The appellant received a bonus on each one of these early paid-out mortgages, and that is the subject of this appeal.

The whole basis of the decision lies in whether or not Mr Specht was in the business of buying and selling mortgages, and whether or not he was engaged in an adventure in the nature of trade in the field or speculating on early payouts of mortgages.

I do not think that I am wrong in believing that the appellant did not himself have these early payout clauses included in the mortgages that he purchased when the mortgages were assigned, nor to I believe that it is that unusual to have that kind of a clause in a mortgage agreement. I have no reason to doubt the credibility of the witness, and on the balance of probability, there can be in my mind no doubt that he was, and he intended to invest in these mortgages rather than to trade in them, even though he may have had several mortgages at one time.

The question arose, and it was suggested by counsel for the respondent, that if there were any way that I could see that the appellant did not actively deal, or trade in mortgages, it would be significant. The evidence was again that the appellant did not borrow any money for the purpose of purchasing and selling. He was not actually trading: he was using his own money to acquire these, what in fact I believe to be securities, and although counsel for the respondent produced several cases on the subject, I am not really convinced that they are all that applicable to the facts of this appeal.

The appellant was certainly not incorporated, nor were there any objects of incorporation which had to do with the buying and selling of mortgages; he seemed to be a very knowledgeable and shrewd businessman. In my opinion, he was an investor who was trying to make money in investments in a field which he knew best, and I believe that on the basis of all the evidence, I cannot come to the conclusion that the appellant was in fact in the business of buying and selling mortgages, and that the amount of $3,903.23, which he earned as a bonus for pre-payouts of mortgages, is in fact on capital account.

The appeal is therefore allowed and the matter referred back to the respondent for reassessment.

Appeal allowed.

Tax Review Board (D E Taylor), June 13, 1981.

Income tax — Federal — Income Tax Act, RSC 1952, c 148 (am SC 1970-71-72, c 63) —

The taxpayer, a self-employed plumbing contractor, did not file income tax returns for 1973 to 1976. The Minister by arbitrary assessment determined the appellant’s taxable income and levied penalties on him for wilfully attempting to evade payment of taxes pursuant to subsection 163(1). The taxpayer said the reason he had not filed the required tax returns was that he was not certain of his income since many accounts receivable had not been collected and he did not have the funds required to pay an accountant to do the necessary work.

HELD:

The circumstances for the enforcement of subsection 163(1) did not exist in the case. Appeal allowed.

Roy Saintonge for the appellant.

Werner Heinrich for the respondent.

D E Taylor:—This appeal was heard in Vancouver, British Columbia, on May 7, 1981. The facts upon which the parties were in agreement included:

— The appellant is a self-employed plumbing contractor.

— He did not file income tax returns for the years 1973 to 1976.

— By arbitrary assessment the respondent determined the appellant’s taxable income for the years in question to be as follows:

1973	$12,827.00
1974	1 4,848.59
1975	2,224.54
1976	12,624.27

— By notices of assessment dated July 13, 1978 the respondent levied, inter alia, penalties under subsection 163(1) of the Federal Income Tax Act and section 19 of the BC Income Tax Act.

It was the contention of the agent for the appellant that:

Subsection 163(1) provides for a penalty of 50% of the amount of the tax sought to be evaded in the case of a person who “wilfully” attempts to evade payment. The term “wilfully” as used in subsection 163(1) comprehends the conscious and deliberate formation of an intent to do an act with the full knowledge that the act in question is unlawful.

In response, the Minister submitted that the appellant wilfully attempted to evade tax payable for each of the years under appeal by failing to file an income tax return as and when required by subsection 150(1) of the Income Tax Act SC 1970-71-72, c 63, as amended, and that accordingly penalties were properly imposed under subsection 163(1). The respondent relied, inter alia, upon subsections 150(1), 152(7) and 163(1) of the Income Tax Act, SC 1970-71-72, c 63, as amended, and section 19 of the Income Tax Act, SBC 1962, c 27, as amended.

Witnesses for the Minister outlined the efforts to have the appellant produce the income tax returns, and their general failure in this endeavour. The appellant provided certain reasons that he believed accounted for the fact that he had not filed the required tax returns — primarily that he was not certain of his income since many accounts receivable had not been collected, and he did not have the funds required to pay an accountant to do the necessary work.

As I see it, there is only one issue here — whether the failure to file income tax returns, even after formal demands (for whatever reason or excuse) can be regarded as a wilful attempt to evade payment of tax. Counsel for the respondent put forward that if the result of such non filing was even a “temporary evasion” of tax payable, the requirement of subsection 163(1) of the Act had been met and a penalty was justified. I do not share the opinion expressed above by the appellant in the notice of appeal that the term “wilfully” as used in subsection 163(1) implies actions greater and more deliberate than those of this appellant. I am quite satisfied that Mr Fulcher was aware that in the circumstances he was contravening the provisions of the Income Tax Act by not filing the required returns, and if the appeal depended on the defence raised by his agent, it should fail. However, I am also unable to read into the words of subsection 163(1) the interpretation placed thereon by counsel for the respondent. Where a taxpayer’s name, address, and location of employment or business are known to the Minister — as was the situation here — the failure to file income tax returns can hardly be founded in a serious belief in the mind of the taxpayer that, by such failure, he is evading the payment of income tax due. At best, he might be deferring payment, even avoiding it, but it would be optimistic in the extreme on his part to expect he was evading it. The Board makes no attempt to indicate what circumstances should obtain to permit the enforce- ment of subsection 163(1) of the Act, but only points out that they do not exist in this case.

The appeal is allowed and the matter is referred back to the respondent for reconsideration and reassessment accordingly.

Appeal allowed.