Maurice Fortin, B & M Fortin Inc v. Minister of National Revenue, [1980] CTC 2680

Guy Tremblay [TRANSLATION]:—These cases were heard on common evidence at Montreal, Quebec, on May 18, 1979 and December 12, 1979.

1. Point at Issue

With respect to the appellant company, B & M Fortin Inc, it is necessary to determine first whether the appellant was justified in claiming expenditures and not including income for the years 1966 to 1973 inclusive, and second whether the respondent was justified in imposing a penalty of 25% for negligence amounting to gross negligence.

In the case of the appellant, who is the principal shareholder of the appellant company, it is necessary to ascertain whether he appropriated the sum of $59,349.75 during the years 1966 to 1972 inclusive, and whether the respondent is justified in imposing a penalty of 25%, also for negligence.

2. Burden of Proof

The appellants have the burden of showing that the respondent’s assessment notices were not justified. This burden of proof is derived from several judicial decisions, including the judgment of the Supreme Court of Canada rendered in R W S Johnston v MNR, [1948] CTC 195; 3 DTC 1182.

With respect to the penalty imposed under subsection 163(2), the respondent has the burden under subsection 163(2) of the Income Tax Act of proving fraud.

3. Prior to the hearing a motion to dismiss the appeals were filed and the following admissions made:

3.01 B & M Fortin Inc: dismissal of appeals 1972 and 1973

The respresentative of the respondent requested that the appellant company’s appeals relating to the years 1972 and 1973 be dismissed on the ground that the Board had no jurisdiction to hear the appeal, since the assessments in question were “nil”, that is, there was no tax payable.

These assessments were in fact issued on April 14, 1976. Section 152(1) of the new Income Tax Act cannot apply since it did not come into force until February 25, 1977. The rule laid down in several judgments, including Okalta Oils Ltd v MNR, [1955] CTC 271; 55 DTC 1176, rendered by the Supreme Court of Canada, applies in this case. The most recent judgment is L’Union Canadienne Compagnie d’Assurances v MNR, [1979] CTC 2210.

The basic principle is that in an appeal from an assessment (which is always in fact for a precise year) the tribunal must in principle always be able (when it allows the appeal) to reach the practical result of reducing tax for the year in question in the appeal. If such a result cannot be achieved, the appeal does not lie. This principle applies in the instant case, where the assessments state that no tax is payable. The appellant company’s appeal for the years 1972 and 1973 is accordingly dismissed.

3.02 Admissions

3.02.1 The appellant company

(a) With respect to the appellant company, which is appealing assessments for the years 1966 to 1971, the amount of $8,125.85 in unreported income is admitted. This consisted of discounts on purchases. It is admitted that the latter did not include the said amount.

(b) Also admitted is the sum of $49,520.21 for expenses claimed by the appellant company and disallowed by the respondent. The nature of the expenses is, however, disputed by the appellant.

(c) The parties also admitted that the financial year of the company ended on January 31 of each year.

3.02.2 With respect to the appellant shareholder, whose appeal relates to the years 1966 to 1972, the gross amount of $59,349.75 was admitted in regard to the item that the respondent describes as an appropriation by the appellant of the company’s property. The appellant, however, disputed that this was an appropriation of funds by him, and claimed rather that these were normal company expenditures. The following amounts were admitted:

(a) $1,261.97 (wood used for his residence);

(b) $2,000 (capital payments for the purchase of a farm);

(c) $8,125.85 (discounts on appropriate purchases);

the total of (a), (b) and (c) being $11,387.82, thus leaving a net balance in dispute of $47,961.93.

4. Facts

4.01 The principal witness for the appellant parties was Mr Maurice Fortin, a merchant who is the principal shareholder of the appellant company. The principal object of this company, which was formed in 1957, is the wholesaling and retailing of hardware.

4.02 Until 1971 the company was primarily involved in the retail trade. Since 1972, however, sales have been made principally to school commissions and general contractors. To illustrate this change, the witness Mr Denis Tremblay, CA, stated that he had made a brief check of the following figures in the company’s books.

Moreover, in Exhibit A-1 the appellant (TS1—p 107) filed the following data:

A. Expenses of the company considered by the respondent to be personal expenses of Mr Fortin

4.03 To facilitate the task of the witnesses, the respondent filed a table (Exhibit 1-4) showing expenses in the amount of $57,645.95 claimed by the company and disallowed. The respondent claimed that the improperly unreported income of the appellant shareholder amounted to $59,349.75. For the various financial years of the company ending on January 31 and for the financial years of the appellant shareholder, the expenses in dispute are given below:

4.04 This table, which was compiled from the ledgers and vouchers of the appellant company, contains sixty-three items in amounts varying from $65 to $3,960.53, which vary in kind from the keeping of horses to the purchase of an organ and include the purchase of a fur coat, purchase of a tractor and construction of a clubhouse on a farm. Both in his examination in chief and in his cross-examination the witness Maurice Fortin made comments on each of the items, which cover more than 200 pages of the transcript.

These various items may be classified as follows. The reference in parentheses is to the paragraph dealing with the expense:

—farm expenses (par 4.05);

—expenditure on residence (par 4.06);

—cocktail party expenditures (par 4.07);

—expenditure on art centre (par 4.08);

—employee bonuses (par 4.09);

—discounts on purchases (par 4.10);

—school commission elections (par 4.11);

—gift of suits (par 4.12);

— purchase of bankrupt stock (par 4.13);

— boat repairs (par 4.14);

—fur coat (par 4.15);

—children’s organ (par 4.16);

—gift for long service (par 4.17).

4.05 Farm expenses

4.05.1 In 1966 the appellant individual had rented a farm called Ferme St- Paul for $50 per month. It is situated at St-Paul I’Hermite, four or five miles from Repentigny, where the appellant shareholder was living at that time. In 1967 he purchased it for $20,000 payable at $2,000 per year. This farm is 50 arpents in area and consisted also of a pigsty and a two-storey, Canadian style farmhouse that was over 200 years old. In the years to which this appeal relates the caretaker lived on the lower floor. The second floor was converted into a clubhouse and consisted of a single room. According to the appellant the purpose of this clubhouse, and indeed of the farm, was to receive the customers of his business and the members of his riding club. The majority of the latter were customers of the business. When the clubhouse was created, the walls, ceiling, an outside staircase, the plumbing and the wiring were refurbished.

The pigsty was cleaned and converted into a stable for 12 horses. Initially customers paid $45 per month to stable and board horses.

The company incurred a large number of expenditures for labour, both to repair the house and to improve the farm and for other items.

4.05.2 This farm was used to board riding horses. There were as many as 40 of them. Currently, he is boarding 12, four of his own and 8 belonging to customers or friends. The necessary harvesting and cultivating machinery was acquired: three tractors, three trailers for carrying hay, an elevator, a plough, a rake, and a baler. There were many customers who went to the farm in the summer to ride or to harvest and in winter to go snowmobiling or cross-country skiing.

BY MR DRAPEAU

Q. Mr Fortin, when the customers went to the farm, did they use the equipment that was there?

A. Definitely, because, you know, nowadays the general contractors in Montreal, there are a lot of contractors, they are all people who come from outside the city, have been brought up on farms and nowadays enjoy themselves with tractors and machinery, especially at harvest time, when you are harvesting; I have a lot who like that, to come, and at some time or another everybody wants to drive the tractors.

That’s why I was telling you at lunchtime that on two (2) occasions it happened that some time there was ... there was one who came, he raised the wrong arm, he raised the bucket and then our electric wires which pass and supply the farm, at the house there, he tore all that down. That happened on two (2) occasions, that’s why at certain times there may be electrical repairs, that’s what that is. That happened on two (2) occasions, I remember, with the bucket, that at a certain time he tore everything down.

4.05.3 A list of more than 70 names of individuals and businesses was filed (Exhibit A-2). These were persons, most of the appellant’s customers, who visited the farm during the years in dispute and still go to the farm.

An architect, Mr Georges Lemay, testified that he had known Mr Fortin for 15 years. He knew him first as a member of the Club Richelieu- Maisonneuve . . . “and one day as we were passing side by side, he started to talk about horses and that did not interest me. I had never ridden” (TS p 313) After receiving an invitation, the witness went to the appellant shareholder’s farm and began riding his host’s horses. In 1969 he bought a horse and boarded it at the appellant shareholder’s farm. He kept it for one and a half years. During this time he went to the farm three times a week, generally on Sundays. Every Sunday there were from 20 to 25 persons there. There were also social gatherings of from 70 to 80 persons (engineers, builders, architects and others). At such times Mr Fortin himself used to pay for the drinks. Although the witness knew the appellant shareholder well he did not, however, regard him as a friend at family gatherings but Simply as a businessman, and met him at social gatherings of businessmen. The witness maintained that Mr Fortin was a major supplier of materials for a large percentage of the 25 construction contracts in which the witness was involved as architect. Mr Lemay was the architect for 12 secondary schools costing between $3 /2 million and $4 million each during the years 1966 to 1972. The hardware products required in each were in the range of from $50,000 to $60,000.

4.05.4 Since 1975 the appellant has taken up residence on the farm: . . visit us and every weekend you’ll see there are always 10, 15, 20 machines, it’s quite a laugh to see it, even nowadays”. The appellant shareholder does not feed all the visitors. However, when people decide to eat there, Chinese or other food is ordered from a restaurant and the cost is shared among the heads of families.

On the farm the appellant shareholder has built an indoor ring (a circular building for exercising the horses indoors, especially in the winter) at a cost of between $15,000 and $16,000, which is paid from his own income.

He has always paid from his own income the municipal and school taxes for the farm, in addition to the capital payment of $2,000 annually for the said farm, with the exception, however, of the final payment in 1969, which was paid by the appellant company. The appellant shareholder admitted this fact (TS 1 p 51).

4.05.5 The expenses paid by the appellant company for the farm consist of the labour of carpenters, labour of a regular employee, construction wood and the purchase of machinery:

4.05.6 The expenses for wood, labour and repairs on the farm may be broken down as follows:

4.05.7 The other expenses claimed with respect to the farm are the following:

(a) labour of the groom, Mr Ricard, who was paid $3,960.53 in 1968 and $3,334.26 in 1969;

(b) medical expenses of the daughter of a farmhand, $117.00 in 1969;

(c) repair of electric cables broken by visitors, $624 in 1968 and $969 in 1969;

(d) boarding of farm horses (the Legardeur firm), $610 in 1966.

4.06 Expenditure on residence

It was also admitted that in 1967 a sum of $1,261.97 was paid by the appellant company for wood used to repair the appellant shareholder’s residence (TS 1 pp 74 and 75).

4.07 Cocktail party and meal expenditures

4.07.1 The appellant explained (TS 1 p 53) that in 1966, following an important political appointment of a friend who had, moreover, introduced him to many customers, he gave a cocktail party (with snacks). More than 100 guests (TS p 216) attended. The cocktail party was given by an engineer, a land surveyor and the appellant company. The company’s share was $600. The guests were people with whom the three hosts had done business. The appellant company issued a cheque to Mr Fortin to reimburse him for the expenses he himself had paid (TS p 219). The cocktail party allegedly took place in the fall. However, the reimbursement cheque was issued on January 7, 1966 (Exhibit 1-9). Mr Fortin explained that the bills for expenses incurred by him accumulate for two or three months before he is reimbursed (TS p 222).

4.07.2 The appellant shareholder maintained that there were social gatherings of more than 100 people on the farm on many occasions. These gatherings took place chiefly in the spring, summer and fall. At these gatherings it was the appellant shareholder who paid for the drinks himself. Nothing was ever charged to the company during the period to which this appeal relates. The same is true of the meals and drinks that Mr Fortin bought for his customers in restaurants.

4.08 Repentigny art centre

Following the decision to construct a regional art centre at Repentigny, four of five of the promoters of the project went to see the appellant to solicit his help. He gave none at that time. Later his politician friend called him: .. you’ve been put down for a thousand bucks; you can do it . . The friend allegedly even added “You’ll be reimbursed later” (TS p 226). Some months later the appellant company obtained a large contract (TS 1 pp 59 and 60, p 225) with the help of the influential friend.

4.09 Employee bonuses

At the end of 1967, 1968, 1969 and 1970 the appellant company paid bonuses to its employees. The company had already had up to 32 employees, but not necessarily at the Christmas period. The company thus paid $1,000 per year (TS 1 p 68). Mr Earl Thibault, who worked (from 1964 to 1972) as a buyer and salesman for the appellant company, stated that he had received a bonus every year. These bonuses varied from $25 to $150. He knew that the other employees also received bonuses, although he was not able to say in what amount.

4.10 Discounts on purchases

It was admitted that the appellant individual received from a company doing business with the appellant company gifts calculated on the amount of the appellant company’s purchases. These were in fact discounts on the purchases made (TS 1 pp 60 and 61). These sums, which amount to $8,125.85, were not included in computing the appellant company’s income or in that of the appellant individual.

4.11 Expenses for school commission elections

In the summer of 1967 the appellant allegedly gave one thousand dollars ($1,000) to help a candidate in the school commission elections. It was a buyer for the School Commission, whom the appellant shareholder knew, who phoned him (TS p 235). The appellant shareholder gave the $1,000 to a person in a club at corner B1, Rosemont and Iberville or Rosemont and Delorimier (TS p 239). He did not, however, know these persons. The School Commission was a customer that gave the appellant company between $150,000 and $200,000 in business per year (TS 1 pp 65 and 66).

4.12 Gifts of suits

Instead of giving cash discounts to certain employees, truckers and buyers for the School Commission, gifts were given to him in the form of Suits. These were more practical gifts in the circumstances. Payment was made directly to the tailor. Mr Capogreco: $204.74 in the 1969 fiscal year and $766.80 in the 1971 fiscal year (TS 1 p 69 and 70). The witness Earl Thibault maintained that he had had two suits made by Capogreco and paid for by the appellant company. He knew of one Bédard, among others, who had enjoyed the same benefit.

4.13 Purchase of bankrupt stock

On several occasions the appellant company purchased bankrupt stock. This stock sold by auction was paid for in cash. Thus, in July 1967 (TS 1 pp 97 and 98) the stock, or part of the stock, of the bankrupt Raymond Hardware in the town of St-Michel was purchased for between $1,500 and $2,000, according to the appellant shareholder, and between $1,800 and $2,500 according to Mr Marcel Bédard in his testimony at the hearing on December 12, 1979. Mr Bédard was present with Mr Fortin at the time of the purchase. A sum of $2,000 was withdrawn from the company’s bank account and $1,500 was deposited in the appellant shareholder’s bank account in reimbursement of the payment made for the bankrupt stock. In April 1968 stock from a bankrupt manufacturer of first aid kits and electric ventilators was also purchased. The first aid kits cost $4 instead of the $20 normally charged. The cost of this purchase was $1,000, according to the appellant shareholder. A cheque to cash for $1,000 was issued by the appellant company, dated April 24, 1968, and deposited in the staff account. It was this money that, according to the witness, was used for the purchase of the stock.

In May 1967 a sum of $500 was used to purchase 100 special locks made in Italy. They were purchased from a manufacturing agent, who had allegedly obtained them from a former businessman who still had surplus inventory. These particular rare locks were sold to Run Engineering Ltd and were used in buildings at the World Exhibition.

4.14 Boat repairs

According to the appellant shareholder, a boat was purchased by the company at a cost of $13,000 in about 1968. Repairs carried out during the 1969 fiscal year in the amount of $432.47 were paid for by the company. In 1971 a sum of $207.47 was paid to J Beaudouin Yacht, also for repairs. A sum of $176 was also paid in 1971 for mooring the boat at the Repentigny Marina. A further sum of $185.84 was also paid to J Beaudouin Yacht for storing the boat in winter. Finally, a sum of $650 was paid to Dupuis Motor in 1971 for repairs. This boat, of which the appellant company was the proprietor for three or four years, was used only once or twice. Mr Fortin went with customers as far as Sorel. This boat gave so much trouble (the engine had to be changed every year) that the company had to get rid of it after it had been completely overhauled by the company which had built it. It was sold for $7,000, which sum was deposited in the company’s account. It should be noted that this boat did not appear in the company’s balance sheets between 1968 and 1972.

4.15 Fur coat

At the end of 1969 the appellant company paid the price of $1,006.56 for a fur coat for the appellant shareholder’s wife. The appellant shareholder explained that this coat was paid for by way of compensation for the numerous services his wife had rendered directly to the appellant company, services for which his wife had never been paid. He admitted that it would have been preferable to pay her a salary. The services allegedly rendered by Mrs Fortin were as follows.

(a) Arrangement of all the files in the filing cabinets (in 1969, following rearrangement of the premises and the purchase of new filing cabinets, the documents and vouchers were refiled; it was Mrs Fortin who did this work; she allegedly spent two or three months doing it.)

(b) Work in sorting and selling toys. Every year during the Christmas season beginning in early December Mrs Fortin unpacked, sorted and sold toys because of the increase in the firm’s work. She worked all day on Thursdays, Fridays, and Saturdays.

(c) It was also Mrs Fortin who made the curtains for the store. Finally, she also regularly washed the towels used by the employees.

In cross-examination counsel for the respondent asked the witness whether his accountant had not advised him that this expense for the fur coat should not have been paid by the company.

No, he never . . . I explained the matter to him, why I was doing it and then he told me that it was okay, he told me that was normal and then, for example, he told me “It would have been better if you’d paid her a salary, but on the other hand you can prove that it’s true that she worked in the store, that’s okay”.

4.16 Children’s organ

In the 1971 fiscal year the appellant company paid Langelier-Valiquette a sum of $2,054.60 as the first instalment for an organ, which was given to the appellant shareholder’s five children (TS p 79ff). In the 1972 fiscal year the second instalment of $2,160 was paid. The ages of the children at that time ranged from 11 to 18. This present was given to them for the services they had rendered to the appellant company. In the case of the younger children these services consisted of standing in the display windows and operating the electric trains. This was very good advertising. There were many electric trains sold during those years. For many years the older children worked in the store. They were still working there in 1979. They were then receiving Salaries. Earlier, the compensation for their work consisted of the purchase of an organ.

4.17 Gift for long service

In 1971 a sum of $500 was given to a person who had been the secretary of the company for four or five years.

B. Criminal proceedings—guilty plea

4.18 Counsel for the respondent filed in Exhibits I-5 and 1-6 seven charges dated March 24, 1975 against the appellant shareholder under subsection 239(1)(a) of the old Income Tax Act for filing false returns for each of the years from 1967 to 1972, for a total of $51,267.17 in income (TS pp 129ff). According to the transcript, which was also filed, the accused was sentenced to a fine of $3,500 or three months’ imprisonment on July 7, 1975. This sentence was imposed according to the transcript, following an admission of guilt in the witness’s absence. Only his counsel was present. Also filed in Exhibit I-6 was a bill of indictment against the appellant company and its president, the appellant shareholder, under subsection 239(1)(d), for false returns.

A fine of $2,050 was also imposed on July 7, 1975.

According to the appellant shareholder he did not go to court to plead guilty on July 7, 1975 because the lawyer had told him “There’s no need to put yourself out, it’s only a matter of form. There’s no need for you to appear’’ (TS pp 129, 131 and 132). The lawyer had also told him that his guilty plea would not have any effect on the assessment. Furthermore, according to the witness, he had clearly told his lawyer that he was pleading guilty only with respect to $8,125, that is, the total of the discounts on purchases, and not with respect to the whole sum. In fact he wished to dispute the balance. Moreover, on February 15, 1975 he had filed a notice of objection against the Department’s considering the expenses to be an appropriation of funds.

He was, furthermore, very surprised to learn that he had been fined $5,500 after he had pleaded guilty with respect to only $8,125. When he expressed his surprise to his lawyer, the latter said “You’ve got to pay”. The appellant shareholder paid the fine the following week.

According to him, it was only on the morning of the hearing before the Board, that is, on May 18,1979, that he learned that his guilty plea had been applied to the whole sum and not simply to $8,125 (TS p 137).

Prior to the hearing before the Board he attempted on many occasions to contact the said lawyer so that he could appear as his counsel, as he had promised. This was in vain; it was impossible to trace him. In the summer of 1975, even before he represented the appellant in court on July 7, 1975, the said lawyer had been appointed to a government agency. Although he had got rid of his other files, he had nevertheless retained the appellant’s file since he wished to remain as his counsel (TS p 150). Furthermore, it was this lawyer who filed the appeal before the Board on May 18, 1976. He later suggested another lawyer to replace him in this case, although he wished to remain as counsel himself. After the appellant had subsequently tried in vain to contact the new lawyer representing him, he asked his accountant to suggest the name of another lawyer to him. It was at this point that Mr Drapeau, the applicant’s counsel, entered this case (TS pp 133,134,148 149, and 155).

C. Reimbursement of the appellant company

4.19 Mr Léo Bourdeau, an employee of the respondent and Chief Investigator when the assessments were issued, testified in this case. He had at that time five or six investigators under his authority, one of whom, Mr Babecki, conducted the investigation in this case and determined the assessments. This assessor died of cancer five or six months after submitting a report recommending that assessments be issued and criminal proceedings instituted. According to Mr Bourdeau, the appellant shareholder informed him at a meeting on September 18, 1974 attended by himself, the appellant’s lawyer and his accountant that he had already repaid the amounts due to the company. The appellant shareholder had the impression that this referred to the amounts treated as advances made in 1971, 1972 and 1973. Mr Bourdeau maintained that during the investigation there was no item in the appellant company’s advance sheets for the years in question for “advances to a director”. According to him, no appropriation had been included under such an item. The amounts could therefore have related only to the assessments.

The appellant shareholder maintained, moreover, that when he made this statement concerning reimbursement of the appellant company, he was not in fact referring to the amounts that were the subject of the assessment (TS p 161) but to the amounts that had been entered in the “Advance to a director” account and which I would have to pay at some time (TS pp 160 and 161).

Question by Mr Verdon:

Q. Mr Fortin, I was simply asking you whether it was correct that you said that you had reimbursed your company the sums we are talking about today from sixty-six (’66) to seventy-one (’71)?

A. No, in seventy-four (’74) he spoke to me about that, but it was the amounts for seventy-one (’71), seventy-two (’72) and seventy-three (’73). Those I had repaid. (TS p 163)

It appears from the balance sheets of the appellant company that no item for “advances to a director” existed for the year ending January 31, 1971. However, an item “advances to director $54,189.71” appears in the assets column of the balance sheet for the year ending January 31, 1972. In the balance sheet for the year ending in January 1973 this account is reduced to $52,517.38. The Board does not have the balance sheet for 1974 to hand.

In reply to a question by the Court, the appellant shareholder said:

Q. In fact, that’s it, you’re in a better position to clarify that because it’s becoming unclear, that business.

A. When I went to the tax offices it was in seventy-four (’74) or seventy-five (’75). there were matters there, advances I had obtained from the company in seventy- two (’72), seventy-three (’73), seventy-four (’74). I paid those back, the company was reimbursed . . . (TS p 164)

Further, Mr Verdon asked:

Q. So much so that the idea never occurred to you of reimbursing your company for the farm expenses?

A. No, because in the beginning I always regarded the farm expenses as advertising expenses; I attracted customers and even today I still have customers who come, but I’m no longer buying equipment, I have it. (TS p 167)

D. Assessments issued against the appellant shareholder

4.20 On December 16,1974 the respondent issued notices of reassessment for the years 1966 to 1971.

4.21 Following notices of objection, the notices of reassessment issued for the years 1966 to 1970 were confirmed. However, notices of reassessment were issued for the years 1971 and 1972 on May 29,1975. Following notices of objection, the said notices were confirmed.

4.22 Penalties totalling $3,159.64 were imposed on the appellant for misrepresentation.

E. Assessments issued against the appellant company

4.23 On December 16,1974 the respondent issued notices of reassessment for the years 1966 to 1971 against the appellant company. Following the notices of objection the said notices of reassessment were confirmed.

F. The appeals

4.24 On May 18, 1976 the two appellants filed notices of appeal for each of the years in question.

5. Act, Case Law and Comments

5.1 Act

Subsections 8(1) and 56(2) of the old Income Tax Act (and subsection 15(1) and 163(2) of the new Act, which are to the same effect) are what the respondent relied on to establish the assessments. These sections read as follows:

8.(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 whatsoever to, or for the benefit of, a shareholder, or

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

otherwise than

(i) on the reduction of capital, the redemption of shares or the winding-up, discontinuance or reorganization of its business,

(ii) by payment of a stock dividend, or

(iii) by conferring on all holders of common shares in the capital of the corporation a right to buy additional common shares therein,

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

96.(2) Every person who, knowingly, or under circumstances amounting to gross negligence in the carrying out of any duty or obligation imposed by or under this Act, has made, or has participated in, assented to or acquiesced in the making of, a statement or omission in a return, certificate, statement or answer filed or made as required by or under this Act or a regulation, as a result of which the tax that would have been payable by him for a taxation year if the tax had been assessed on the basis of the information provided in the return, certificate, statement or answer is less than the tax payable by him for the year, is liable to a penalty of 25% of the amount by which the tax that would so have been payable is less than the tax payable by him for the year.

5.2 Case Law and Legal Opinion

The Board was referred to the following case law and legal opinions:

A. Case Law

(i) Relating to the guilty pleas:

1. Corporation professionelle des médecins du Québec v Lucien Boily, [1977] CS 84;

2. Union Insurance Society of Canton Limited v André Arsenault, [1961] SCR 766;

3. Ginette Pie v Robert Thibert et al, [1976] CS 180;

(ii) Relating to shareholder benefits:

4. Charles-Edouard Saint-Germain v MNR, [1969] CTC 194; 69 DTC 5086;

5. William Soyko v MNR, [1971] Tax ABC 140; 71 DTC 129;

6. J Edward McMahon v MNR, [1962] Tax ABC 383; 62 DTC 120;

7. Johh C Cakebread v MNR, [1968] Tax ABC 531; 68 DTC 424;

8. Joseph Valevicius and Karl H Falk v MNR, [1972] CTC 2490; 72 DTC 1407;

9. The Queen v Peter Neudorf, [1975] CTC 192; 75 DTC 5213.

B. Legal opinion

Traité de Droit Civil du Québec, p 518.

5.3 Comments

A. Facts assumed by the respondent

5.3.1 As explained in paragraph 2 above, the appellants have the burden of proof. This implies that the facts assumed by the respondent to support the assessments issued are true, unless they are contradicted by the respondent. In the instant cases the facts assumed are described in the appellant’s company’s and the appellant shareholder’s replies to the notices of appeal.

5.3.2 The appellant company

In assessing the appellant company for the taxation years 1966 to 1971 inclusive, the respondent relied on the following facts:

(a) in filing its tax returns for the taxation years 1966 to 1971 inclusive, the appellant willfully made misrepresentations for a total of $57,645.95:

(b) the appellant made these misrepresentations by deducting ineligible expenses in the amount of $49,520.10 and by omitting to report income in the amount of $8,125.85;

(c) these expenses were not incurred by the appellant for the purpose of earning income from its business;

(d) the purpose of these amounts was to pay the personal and living expenses of Mr Maurice Fortin, the president and principal shareholder of the appellant, and to defray the operating costs of a farm belonging to Mr Fortin;

(e) the income that was not reported by the appellant represented discounts it obtained on the purchase price of property held in stock;

(f) on July 7, 1975 the appellant pleaded guilty to charges of having evaded payment of $5,885.53 in tax by deducting ineligible expenses in the amount of $43,868.32 and by omitting to report income in the amount of $8,125.85;

(g) by willfully making misrepresentations in the amount of $51,994.17 in its tax returns for the 1966 to 1971 taxation years inclusive, the appellant made itself subject to a penalty of $1,470.06, that is, 25% of the tax otherwise payable of $5,885.53.

The notices of reassessment issued by the respondent with respect to the 1972 and 1973 taxation years did not determine any tax payable for each of these taxation years. As we have seen, the appeals with respect to these two years were dismissed; see 3.01.

5.3.3 The appellant shareholder

In assessing the appellant shareholder for the 1966 to 1972 taxation years inclusive, the respondent relied on the following facts:

(a) when he filed his tax returns for the 1966 to 1972 taxation years inclusive, the appellant willfuly made misrepresentations by omitting to declare the following income:

(b) the appellant had appropriated in several ways the funds of B B& M Fortin Inc, of which he was the president and principal shareholder;

(c) on July 7, 1975 the appellant pleaded guilty to charges of having wilfully evaded payment of $10,828.31 in tax by omitting to report the following income during the 1966 to 1971 taxation years inclusive:

(d) by wilfully making misrepresentations with respect to a total of $59,349.75 in his tax returns for the 1966 to 1972 taxation years inclusive, the appellant made himself subject to the following penalties, that is, 25% of the tax otherwise papyable.

B. Judicial admission

5.3.4 With respect to judicial admissions, Article 1245 of the Civil Code of Quebec lays down the following:

A judicial admission is complete proof against the party making it.

It cannot be revoked unless it is proved to have been made through an error of fact.

This admission made in another case (as in the instant case), is not a judicial admission properly speaking, but has acquired probative force from the judicial admission because it applies to the same facts at issue in the second case. (Philippe Pothier J—Ginette Pie v Robert Thibert et a/—case no 3).

Pothier, J cited Mignault and Langelier. According to Mignault (Le droit civil Canadien, vol 6, Montreal, Theoret, 1902, 485 pp No V, p 124):

The absolute probative value of an admission is moreover formally recognized by paragraph 1 of Article 1245, which states that “A judicial admission is complete proof against the party making it”. Here it is only a question of the judicial admission, but the same applies to the extrajudicial admission duly proved.

... (No Vll) . . . the effect of the judicial admission is purely relative and extends only to the trial at which it is made. Outside this trial, it is simply an extrajudicial admission. On the other hand, the extrajudicial admission—or a judicial admission made in another trial—is absolute, as long as it is proved in accordance with the law.

Langelier (De la preuve en matière civile et commerciale, Quebec City, Darveau, 1894, 437 pp, No 137, p 55) states the following:

. . . they (judicial and extrajudicial admissions) must both produce the same effect. This effect is to dispense with any evidence of what is admitted . . . (No 188) . .. What does Article 1245 mean when it says that the admission is complete proof? It means that the fact admitted is taken to exist without anyone’s needing to ascertain whether or not it exists. Generally speaking, the party making the admission would not even be permitted to prove that the fact it admitted did not exist. It can only do this by proving that its admission was the result of an error of fact.

5.3.5 In this case the admissions made before the criminal court relate to the same facts that are before the Board: that is to say, it was admitted that the appellant made misrepresentations with respect to each of the years from 1967 to 1972 (Exhibit I-5) for the amounts appearing in par 4.03.

These admissions were proved before the Board by filing Exhibits I-5 and I-6. Normally, according to the principles set out above, they should be considered judicial admissions and the appeals of the appellant shareholder should be dismissed.

However, the appellant denied in part these admissions made before the criminal court. He alleged that he authorized his lawyer to plead guilty only with respect to the sum of $8,125.85 relating to discounts on purchases. The appellant’s contentions are set out in par 4.18. There is no need to repeat them here.

The lawyer in question did not appear before the Board to give his version of the facts. It appears, moreover, that he has disappeared from circulation. Even if he had testified, however, he would not have been able to deny the following facts:

(a) he pleaded guilty in the absence of his client: Exhibits 1-5 and I-6 are clear on this point;

(b) he pleaded guilty with respect to the total sum that the respondent considers to be an appropriation;

(c) he himself filed the notices of appeal with the Board almost one year after he had pleaded guilty.

The facts set forth in (b) and (c) above seem contradictory to us if the acts are both those of the same person, especially if he is a lawyer. He could not, after all, have been aware of the effects of these admissions on the evidence before the Board. It was alleged, moreover, that he stated to the appellant that it would have no effect. Was this statement made when the appellant told him that he wished to plead guilty with respect to the sum of $8,125.85, and did the lawyer know that the appellant would in any case admit this fact before the Board? It must have been at that time that he made the said statement above.

Could it be that once he arrived at the Court he forgot the limited admission that was to be made?

In view of the serious doubts which arise as to the validity of the admissions made in the criminal court on the basis of facts that the said lawyer himself could not deny, the Board has concluded that we must give the appellants the benefit of the doubt and judge the evidence led with respect to the supposed appropriations on its merits.

C. The witness’s unsatisfactory accounting system and his credibility

5.3.6 The first conclusion to which the board came after studying the evidence was that the appellant company had an inadequate accounting system. This is often the case for a family business that begins on a small scale and grows with a person who works 15 or more hours per day as its prime mover, who does not wish, or does not know how, to surround himself with competent advisers.

Thus he never claimed the expenses for cocktail parties held once or twice a year for customers or expenses for meals for customers in restaurants as deductions. The appellant shareholder paid for these from his own pocket and did not claim reimbursement of them from the company. However, the company claimed as a deduction the purchase price of tractors used on the appellant shareholder’s farm.

Furthermore, when an expense is incurred within the business, such as employee bonuses, for example, and the company claims it as a deduction, the accounts do not even show clearly that these are in fact bonuses.

Given these inadequate accounts, the Board could probably require the company and its principal shareholder to shoulder all the consequences of this unsatisfactory system. There are many precedents to this effect. (Moreover, the Board cannot ignore the fact, even though there was an admission to this effect, that the sum of $8,125 in discounts on sales was received by the appellant and not included in his income or in that of the company. The appellant cannot plead ignorance in this instance. Nor did he plead forgetfulness. It is quite simply a case of fraud. Did not this same spirit extend to other areas of the system also? Psychologically, this is highly likely.) The Board was, however, able to form an assessment of the principal shareholder from his testimony, which took many hours. This man was not solely indulging in fraud; on the contrary, he admitted to the Board the errors he had made but gave in all honesty his idea of what his rights were. Although he may have made a few errors concerning dates, the Board feels that he told the truth and that he explained the facts as he exper ienced them. The greater part of his testimony was, moveover, corroborated by the witnesses.

D. The various items in dispute

5.3.7 Even sincerity, however, does not necessarily confer a right to deduct expenses for income tax purposes. Everything depends on the Act and on the evidence of the expenses. In certain places the Board feels that the evidence has been disproved.

There is some evidence, moreover, with the merits of which the Board was satisfied but in which the amount of the expense was less Clear.

5.3.8 Evidence disproved for certain items

The Board feels that the burden of proof was discharged with respect to the following items: the suits ($204.74 in 1969; $766.80 in 1971) given as gifts (par 4.12): the long service gift of $500 (par 4.17); the expenditure of $1,000 in 1967 for the art centre (par 4.08); and the expenditure of $600 in 1966 for a cocktail party.

5.3.9 With respect to the employee bonuses the evidence shows clearly that the bonuses were paid. However, the evidence is not clear as to the exact amount. A sum of $1,000 was transferred to the appellant’s personal account. He used it to pay bonuses. The Board will allow 75% of $1,000 for each of the years 1968, 1969, 1970 and 1971.

5.3.10 The farm expenses

The evidence showed that the farm was in fact used during the years in question as a meeting-place for a large proportion of the appellant company’s customers. There is no doubt that social relationships that develop at these meetings could only help the appellant company’s business.

Does this mean then that all the expenses relating to the farm must be allowed as deductions in computing income? The Board does not think so. The appellant shareholder himself also makes personal use of the farm. It was not necessarily purchased for business purposes, although it is used incidentally for business contacts. In reality, the farm does not belong to the appellant company but to the appellant shareholder.

It seems at first sight that on the basis of this fact all capital expenditures should be regarded as personal expenditures of the appellant shareholder. These expenditure remain for several years, and benefit the real estate, the building and finally the owner, who will keep them.

In fact, even if the farm belonged to the company and was used for business purposes, these expenses could not be deducted directly from income. This could only be done by means of depreciation. How then would it be possible to justify the direct deduction of these expenses from the company’s income when the company itself is not even the owner of the property?

The following capital expenditures on machinery: $9,781.46 (par 4.05.5); the purchase of wood and labour to repair the house and the barn: $10,515.09 ( par 4.05.6), make up the majority of the expenses claimed.

The expenses claimed are in the proportion of the amount used in a given year. What is the proportion of the amount used for the farm in the instant case? It is difficult to determine. In any case, the evidence does not show it very clearly. The customers did not use it 365 days a year but only on weekends, and then not every weekend. The maximum use would be 100 days per year and the minimum 50 days. The Board found 75 days, that is, a total of 25% of the depreciation that would have been taken by the owner if he had operated a business involving the farm. Thus 20% of 30% (sic) of the cost of purchasing machinery ($9,781.46, par 4.05.5) and 10% of the other capital expenditures, the purchase of wood, labour and so on ($10,515.09, par 4.05.6) should be allowed.

The Board refused the expense for the salary of the groom, Mr Ricard (par 4.05.7(a)). He was responsible for the horses of customers who paid for their board. The same applies to the expenses of $610 for boarding horses (Legardeur business) (par 4.05.7(d)).

It also refused the medical expenses of $117 for the daughter of an employee (par 4.05.7(b)). Moreover, it also refused the expenses for electrical repairs (par 4.05.7(c)).

5.3.11 Purchases of bankrupt stock

The facts are given in par 4.13. The Board allowed $1,500 in 1967 for the purchase of the Raymond Hardware bankrupt stock, $1,000 in 1968 for the purchase of first aid kits and $500 for the purchase of locks.

5.3.12 School commission elections

The facts are given in par 4.11. This expense was refused on the ground that the evidence was far from clear that the sum was paid to the candidate’s organizers. Although the person who telephoned was identified, the person who received the money was not identified.

5.3.13 Boat repairs

The facts are given in par 4.14. The expenses claimed for the boat amount to $1,750.78 (1969; $432.47; 1971: $207.47, $176, $650, $185.84).

This was a boat purchased by the company which did not appear on its balance sheet. However, a claim was made for the expenses of repairs and the proceeds of the sale were deposited in the company’s account. Furthermore, it was used only once, although admittedly for customers.

The Board has allowed a deduction of 40% in computing the company’s income, the balance to be retained in the appellant shareholder’s income on the ground that this asset could have been purchased by the company only for the sole purpose of serving customers. The Board holds that this purchase was made normally for the use of the family also.

5.3.14 Fur coat

The facts are given in par 4.15. This is not the regular method of remuneration practised by companies. The evidence showed that Mrs Fortin nevertheless worked for the company. The evidence as to the number of hours worked is far from precise. Furthermore, if Mrs Fortin had been paid a salary she would have paid taxes. The Board has allowed 60% as a deduction.

5.3.15 Organ for the children

The facts are given in par 4.16. The evidence as to the number of hours worked is far from precise. The Board has allowed 40% of the expense. 5.3.15 Organ for the children

The facts are given in par 4.16. The evidence as to the number of hours worked is far from precise. The Board has allowed 40% of the expense.

5.4 Treatment of the expenses refused

All the expenses refused as a deduction in computing the appellant company’s income were regarded as the appellant shareholder’s personal expenses. Since they were paid by the appellant company, they constitute appropriations by the appellant shareholder under subsection 8(1) supra.

5.5 Penalty

In view of the evidence of negligence in the accounting system and the fraud with respect to the discounts on purchases, the Board upholds the 25% penalties provided in subsection 56(2) of the old Act and subsection 163(2) of the new Act. These penalties should be imposed, however, in light of the amounts allowed above.

6. Conclusion

The appeal of the appellant shareholder (Maurice Fortin) is allowed in part and the matter referred back to the respondent for reassessment in accordance with the reasons for judgment above.

The appeal of the appellant company (B & M Fortin Inc) for the 1966 to 1971 taxation years inclusive is allowed in part and the matter referred back to the respondent for reassessment and for the 1972 and 1973 taxation years is dismissed in accordance with the reasons for judgment.

Appeals allowed in part.