Independent Gas Service Inc v. Minister of National Revenue, [1981] CTC 2646, 81 DTC 606

Roland St Onge:—The appeal of Independent Gas Service Inc and that of its principal shareholder, Mr François Durocher, came before me on Febu- ary 14 and 15, 1980 at Montreal, Quebec and on May 20 and 23, 1980 in Quebec City, Quebec, and the points at issue with regard to the company are the following:

(1) did the block sale of the business in December 1971 for a gain of $175,460, constitute a capital gain or business income?

(2) for 1967 to 1972 inclusive, was the respondent entitled to include the sum of $73,030.75 as unreported income of the appellant company?

(3) for 1969 to 1972 inclusive, the respondent disallowed the capital cost allowance for an automobile and a trailer;

(4) for 1967 to 1972 inclusive, he also disallowed an expense of $16,166, because this was a personal expense of Mr Durocher.

After a day of hearing, the Board held that there had been sufficient misrepresentation by the appellant for the Minister to apply subsection 46(4) of the Income Tax Act, and assess the appellant beyond the four-year period. The misrepresentations consisted in the appellant reporting and omitting the following income:

In addition, in 1975 the appellant pleaded guilty to having defrauded the National Revenue Department.

Following the said decision of the Board, the parties agreed on the following amounts:

(1) the expenses of $2,079.45 allowed by the Department of National Revenue, appearing under the heading “Other Expenses Allowed”, are increased by $1,829.79 to $3,909.24;

(2) a further amount of $383.60 is allowed for maintenance expenses in proportion to the expenses disallowed for each of the taxation years of the appellant at issue;

(3) a further amount of $670.30 is allowed for telephone, electricity and heating expenses in proportion to the expenses disallowed for each of the taxation years of the appellant at issue;

(4) a further amount of $1,125 is allowed for automobile expenses in proportion to the expenses disallowed for each of the taxation years of the appellant at issue;

(5) an amount of $300 for the 1967 taxation year and an amount of $240 for the 1968 taxation year is allowed as a capital cost allowance on the trailer;

(6) an amount of $6,811.55 will be credited to the category “Building” of the appellant’s capital assets, and an amount of $6,811.55 will be debited to the category “Equipment”, so that the amount of the capital cost allowance, allowed on unregistered assets:

(A) will be increased by $6,811.35 with respect to the equipment amounting to $22,052.86;

(B) the corresponding adjustments will be made as to the building to take into account the reclassification of assets;

(7) that the matter shall be referred back to the Department of National Revenue for re-examination and reassessment, in accordance with the Minutes of Settlement.

It remains to be decided whether the gain realized by the appellant on the block sale of its business constitutes a capital gain or taxable income.

The evidence established that Mr B Masse, a chartered accountant, appears to have been the advisor of his brother-in-law Mr Durocher, the majority shareholder in the appellant company. He apparently advised him to sell in 1971, first of all because the price was attractive, and more important, before the capital gain became taxable.

In cross-examination, Mr Massé admitted that his brother-in-law had sold five service stations in 1966 and thereby realized a gain of some $178,000. The said service stations had been purchased as follows:

He also advised Mr Durocher to incorporate the appellant company in 1966, so that it could become the owner of the new service stations he would be purchasing.

Mr F Durocher testified, in his turn, that he began his business in 1961 by leasing five service stations for the sum of $1, and that a Mr Robitaille gave him gas on credit. Then, from 1962 to 1965 he built five service stations at the rate of one a year, which he operated himself until he met Mr Robitaille, who offered to buy them from him. It appears that Mr Robitaille, who was himself the owner of twenty-five stations, had a purchase offer for thirty- three service stations. He accordingly wanted to make up this number by purchasing those of Mr Durocher.

On March 26, 1966, therefore, Mr Durocher signed an option in Mr Robitaille’s favour for the five service stations, and this option expired on June 1 of the said year. When the time came to sign the contract of sale, Mr Durocher refused for reasons which are not clear. However, after further negotiation he signed the contract of sale and obtained a lease allowing him to operate the said service stations for thirteen months. In return for this concession, Mr Durocher waived the interest on the balance of the selling price, at the rate of $1,000 a month for thirteen months.

After selling the first five service stations in 1966, Mr Durocher built five more:

1. in 1966, the St-Jean service station:

2. in 1967, the St-Luc service station;

3. in 1968, the Auteuil service station;

4. in 1969, the Rouyn service station;

5. in 1970, the Beauharnois service station;

only the Auteuil and Rouyn stations had car washes.

In 1969, he interested his nephew, Laurin Durocher, in building and operating the Joliette service station, which was sold along with those in 1971. In the same year, 1971, Mr Maurice Chevalier, general manager of Independent Gas Ltd, approached Mr Durocher and made him a purchase offer, and the appellant company gave independant Gas Ltée an option. On the same day a counter-letter was signed between the parties, apparently for the purpose of obtaining a better price in the event of expropriation.

After the second sale, Mr Durocher sold the gallonage and gave up gasoline retailing. He installed pumps for Messrs Gilbeault and Lachapelle and sold them bulk gasoline. At one point Messrs Gilbeault and Lachapelle owed him $85,000 and Mr Durocher apparently lost $35,000 through the transaction.

In cross-examination he testified that the appellant company had never paid him any salary; that he had never approached Mr Robitaille regarding the sale of the service stations; that he gave two sale options and waived $13,000 in interest in order to obtain a lease for thirteen months; that in 1971 he approached Mr Gilbeault in order to obtain a higher price, and that he sold because he was tired of being in this line of business.

Mr Maurice Chevalier corroborated Mr Durocher’s testimony: the latter did not contact him, but since his service stations were of the same type as Independant Gas Ltée (independent stations with lodging for the employee), his company was interested in purchasing them.

Mr Laurin Durocher testified that he had sold his service station because his uncle was selling his business. Mr Pierre Lachapelle admitted that he and his partner owed $80,000 to $100,000 to Mr François Durocher.

In rebuttal, the respondent called two witnesses. Mr Leo-Paul St-Jean explained that he had sold car washes to Mr François Durocher, and that the latter had told him of his intention to increase his turnover: “that he (Mr François Durocher) had already sold a group of several stations, and that he wanted to make up another block for resale: this was the idea”.

The other witness, Mr Roger Benjamin, manager of the property department of Golden Eagle, testified that he had had a number of conversations and meetings with Mr François Durocher regarding the sale of the Terrebonne service station.

On May 20, 1980 in Quebec City, counsel submitted arguments and counsel for the appellant company maintained that:

1. Mr Durocher had never had any intention of being in the business of the block sale of service stations, and that the proven facts demonstrated that at the time the second group of stations was purchased he had no intention of disposing of them at a profit; that Mr Durocher, who had an opportunity to dispose of the St-Jean service station in his first sale, did not do so: on the contrary, he purchased other land to build other service stations:

2. in the first block sale of service stations, he retained control for thirteen months so he could stay in business;

3. he also incorporated the appellant company and went to see his nephew to interest him in the business and make him his right-hand man;

4. the witnesses Maurice Chevalier, Laurin Durocher and Barthlélemy Massé all testified that they had never heard any mention of the second group of service stations being purchased for resale;

5. finally, the second group of service stations had been sold because of a number of problems resulting from the operation of car washes, and also because Mr Durocher was tired and wanted to retire from business.

Counsel then referred the Board to the following decision to show, first, that the intent to sell at a profit must exist at the time the assets were purchased, and also that secondary intent is insufficient to make a transaction commercial in nature:

MNR v Foreign Power Securities Corp Ltd, [1967] CTC 116; 67 DTC 5084;

Birmount Holdings Ltd v The Queen, [1977] CTC 34; 78 DTC 6254;

Racine Demers & Nolin v MNR, [1965] CTC 150; 65 DTC 5098;

Choice Realty Corp v The Queen, [1978] CTC 613; 78 DTC 6415.

He also cited several other cases.

Finally, counsel for the appellant noted that this was not a sale of vacant land producing no income, but rather a sale of a functioning business or a disposal of inventory, and that because of the nature of this transaction, the gain should be regarded as a capital gain.

However, counsel for the respondent argued that the second block sale was a commercial transaction for the following reasons:

1. that in order to promote a transfer of the service stations, Mr Durocher had chosen the same initials as those used by the purchasing company, and had built the same type of service station as those operated by the said company;

2. that in both sales, the period for which the stations were held was an average of three years;

3. that the reasons given for the second block sale were not convincing, since the evidence showed that the quipment was operating well and that the operation was profitable;

4. that the introduction of the taxable capital gain was not a valid reason because of the existence of transitional provision;

5. that the desire to retire at forty-nine was not proven, since shortly after the sale Mr Durocher became involved in the GNL Gas Service; that in 1973, he applied for a licence to export gas to the United States, and he stated himself that he did not decide to finally retire until 1975;

6. that his intention was to operate a business, although he neglected to pay himself a salary;

7. finally, the uncontradicted statement of Mr St-Jean that Mr Durocher wanted to increase his turnover by the sale of car washes and so make another block sale at a profit.

There are many points in this appeal which suggest that everything was arranged to carry through a commercial transaction: the same initials for the two contracting companies; the building of service stations of the same type as those operated by the purchasing company; the incorporation of a company to own the five new service stations; the failure by the majority shareholder to draw a salary; the advice of his accountant brother-in-law that the second group of stations to be built should not be owned by Mr Durocher personally but by a corporation; the unconvincing reasons given to justify sale of the second group of service stations; Mr Durocher’s actions after the second block sale; the same period of possession used in both block sales; and most important of all, the uncontradicted statement by Mr François Durocher to Mr St-Jean that the second group of service stations was bought and improved in order to increase their value, so that they could be sold at a profit at the first opportunity — all of which clearly indicates a real intention on the part of the appellant company at the time the service stations were purchased to dispose of them as soon as the opportunity offered.

For all these reasons, the Board holds that the second block sale resulted not in a capital gain but in income.

The appeal is therefore allowed in part in accordance with the settlement agreed between the parties on February 15, 1980, and the matter referred back to the respondent for reassessment in accordance with the foregoing reasons.

Appeal dismissed.