La Cie D’immeubles Courville Ltée v. Minister of National Revenue, [1980] CTC 2834, 80 DTC 1719

Guy Tremblay:—This case was heard at Quebec City, Quebec on April 20, 1979.

1. The Issue

The issue is whether the appellant is entitled to deciare as a capital gain a profit of $64,656.39 arising from the sale in September, 1974 of an apartment building, known as ‘‘Place des Braves”, which was built in 1972. The respondent taxed this profit as a business profit.

2. The Burden of Proof

The burden is on the appellant to show that the respondent’s assessment is incorrect. This burden of proof derives not from one particular section of the Income Tax Act but from a number of judicial decisions, including the judgment rendered by the Supreme Court of Canada in Johnston v MNR, [1948] CTC 195; 3 DTC 1182. In addition, according to this judgment, each fact relied upon by the respondent in making the assessment is presumed to be true, unless it is contradicted by the taxpayer-appellant.

3. The Facts Relied Upon By the Respondent

The facts relied upon by the respondent in this case are described in paragraph 5 of the reply to the notice of appeal. They are the following:

In assessing the appellant for its 1975 taxation year the respondent relied, inter alia, on the following presumptions of fact:

(a) the appellant was a construction company specializing in the purchase and sale of land and real estate.

(b) The appellant was controlled by Mr Jean-Paul Marcoux, who has very extensive experience in real estate speculation.

(c) At the beginning of April 1971, the appellant built a building known as “Place des Braves” which was completed in September, 1975.

(d) In September 1974 Japcan Establishment Corporation, a Liechtenstein company represented by Valorinvest (Canada) Ltée, bought “Place des Braves” for a price of $2,226,971.17.

(e) The appellant paid a commission of $110,000 to Valorinvest (Canada) Ltée for the sale of the said property.

(f) This sale was consummated after 3 offers made by Valorinvest (Canada) Ltée.

(g) In its tax return for the 1975 taxation year, the appellant declared $32,328.19 as a taxable capital gain.

(h) By notice of assessment dated July 14, 1977, the respondent added $32,328.20 as business income resulting from the sale described in subparagraph 5(d) hereof.

4. The Facts Proved

4.01 The appellant, which was incorporated in June 1956, had the following principal object according to its letters patent:

(a) the operation of a business for the sale of land and

(b) the acquisition and administration of rental revenue buildings or apartment buildings.

4.02 The principal shareholder (85% of the common shares) and manager of the appellant is Mr Jean-Paul Marcoux. He has been working in real estate since 1956. The other shareholders are his wife and his two sons.

4.03 According to Mr Jean-Paul Marcoux, the appellant has been engaged in the following two categories of activity since its incorporation, namely:

(a) the operation of a business for the sale of land and (b) the acquisition and administration of rental revenue buildings or apartment buildings.

4.04 The appellant’s business for the sale of land consisted mainly of the acquisition in 1956 of the former Kent Golf Club at Courville with an area of approximately 4,000,000 square feet, and the subsequent sale, over the years, of the many lots which resulted from subdividing this large property.

4.05 His investments in the acquisition of apartment buildings consisted of the purchase or construction of various apartment buildings which were then retained and administered by the appellant, who derived substantial rental income therefrom, Mr Marcoux testified that he normally spent 5 to 10% of his time at the company, but that during the construction of the Place des Braves building (namely from mid-71 to mid-72), he devoted 90% of his time to it.

4.06 Since its incorporation in 1956, the appellant sold two apartment buildings: (a) one in 1974, which is the object of this case; (b) the other in 1968, two buildings situated on the same lot, on rue Trinité in St-Pascal, which had to be sold because of soil defects and repeated floods. The Tax Review Board recognized the profit from this transaction as a capital gain, [1973] CTC 2024; 73 DTC 35.

4.07 The following list indicates all the apartment buildings acquired by the appellant for investment purposes since its incorporation.

4.08 These two distinct kinds of activities, investment in revenue apartment buildings and the land business, also were always clearly reflected in the annual financial statements. By way of example, for the taxation year concerned which ended on July 31, 1975, revenues from the sale of land were $81,482.50 and rental revenues were $108,027.66. The same was true for the years prior to the completion of the construction of Place des Braves. Thus, for the year ending on July 31, 1971, rental revenues were $40,786 and revenue from the sale of lots was $63,475 (Exhibit A-21).

4.09 According to Mr Marcoux, his intention in building Place des Braves was to add it to his other apartment buildings to obtain additional rental revenue as part of his usual long-term investment activities.

4.10 An option on the land was obtained in 1969. After a delay of 2 years (an amendment had to be obtained to the charter of the Battlefield Commission, etc), namely on March 1, 1971, the purchase contract was executed (Exhibit A-3).

4.11 According to the architects’ plans, this apartment building of 110 apartments was originally to cost $1,742,500 Following an application for a loan made under the 1954 National Housing Act (Exhibit A-4), a mortgage loan was granted for 90% or $1,570,000 (Exhibits A-7 and A-8) at 9 Zz% interest with an amortization of 25 years. The monthly payments (principal and interest) were $12,682 plus monthly provisions for taxes of $5,040. The contract was executed on July 5, 1971. After delays in construction (3 to 4 months), however, and an increase in salaries (the contractors on these contracts would not bear the cost of these increases, and the owner had to do so), the final cost of construction was $2,016,476. The mortgage loan was increased to $1,636,850 (Exhibits A-9 and A-10). The new loan agreement was executed on January 31, 1973. The witness emphasized that no contractor (due to strikes, delivery delay, etc) would agree to a penal clause if the construction was completed late.

4.12 The price of apartments had been fixed and announced based on the estimated cost of the apartment building, namely $1,742,500, whereas the work had not yet been completed (begun in April 1971, it was only completed in May 1972). Tenants had begun to occupy the apartments at the lower price. There were 3 of them in February 1972, 2 in March, 2 in April and 46 in May 1972. 53 apartments out of 100 were therefore occupied in May 1972 (Summary of first occupants: Exhibit A-11).

4.13 In February 1973, the Place des Braves apartments, like all new construction housing, came under the Quebec Rental Board (Bill 280, given royal assent on February 28, 1973). The Board refused the increases in rent fixed by the owner; 90% of the tenants had objected to the Board. In addition, several tenants had applied to the Rental Board and obtained reductions of rent due to inconvenience because of the fact that construction had not been completed. However, according to the witness, the apartments had been rented to them at a lower price particularly because of this. The cases of the other tenants were settled out of court.

4.14 According to the statement of income and expenditure for the period from August 1, 1972 to July 31, 1973, (Exhibit A-12) and from August 1, 1973 to July 31, 1974 (Exhibit A-13), the following data appear:

4.15 From 1972 to 1973, the cost of electricity increased 18.5% (Exhibit A-15). Municipal and school taxes were also very substantially increased.

4.16 According to Mr Marcoux, it was necessary to increase the rent in order to obtain a reasonable rate of return. The Board prevented this. The Board only allowed for a 3.2% increase in rent after 26 months of occupancy. According to Mr Marcoux, he would not have built the building if he had expected it to fall under the Board’s jurisdiction, with the results that he experienced.

4.17 Also, certain persons carried out acts of vandalism in the building. They stole appliances and broke equipment in support of the tenants’ position.

4.18 In order to construct a more solid and durable building, the appellant followed the suggestions of the architects and engineers by applying standards which were stricter than those required by law on the following three points, although this resulted in higher costs (however, not exceeding $10,000):

(a) the roof was insulated according to higher standards than those normally accepted (3 inches of styrofoam instead of 2 Z> inches);

(b) the wrought iron on the balconies was made of galvanized iron, to make it last longer and to avoid annual painting (cost $5,000 instead of $2,000);

(c) to avoid damage caused by earthquakes, which frequently occur in the Quebec area, stronger beams were installed to form the support structure of the building (cost $1,000 to $2,000 more).

4.19 Shortly after the end of construction of the building, during 1972, a Mr Bernard came to see Mr Marcoux to offer to purchase the property from him. He was refused outright. According to Mr Marcoux, this gentleman did not come because of advertising that the property was for sale. There was never any such advertising. The only advertising related to the leasing of apartments.

4.20 In April 1974, a gentleman came to the appellant’s office stating that he represented Valorinvest Canada Limited (hereinafter referred to as Valorinvest), which had just bought the Samuel de Champlain apartment building in Ste-Foy, Quebec. He said that he was interested in buying Place des Braves.

4.21 On June 21, 1974, the appellant received a written offer to purchase from Valorinvest (Exhibit A-16), valid until June 23, 1974. The elements of this offer relating to the financial clauses were the following:

(a) a down payment of $50,000 deposited with trustee Ahern de Brabant Nuss & Drymer;

(b) $1,630,000 to cover the mortgage;

(c) $480,000 payable in cash (in addition to the $50,000 deposit) on the signature of the contract;

(d) in addition, the appellant was to pay the purchasers’ agent a commission of 5% of the purchase price amounting to $116,000.

4.22 After this offer, several telephone calls were made. Because of the problems already mentioned and the continuing vandalism, the appellant began to think seriously about selling. It then began to discuss the offer in order to obtain the best possible price. It refused the first offer as drawn up, objecting at first to paying the commission (then agreeing for $75,000) and requiring an increase in the amount paid in cash.

4.23 On July 11, 1974, a second modified offer to purchase (Exhibit A-17), valid until July 16, 1974, was made to the appellant. The main amendment was to increase to $520,000 the amount payable in cash on signature of the contract (in addition to the $50,000 deposit), still maintaining at 5% the real estate agent’s commission. The appellant refused this 2nd offer as drawn up.

4.24 On July 26, 1974, a third modified offer to purchase (Exhibit A-18), valid until July 31, 1974 with another deposit of $50,000, was made to the appellant. The main amendment was to increase to $550,000 the amount payable in cash on signature of the contract (in addition to the $50,000 deposit) and fixing the agent’s commission at $110,000.

4.25 On July 31, 1974, the appellant accepted this third offer.

4.26 On September 27,1974, the appellant was informed (Exhibit A-19) that Valorinvest had sold its rights to Japcan Establishment.

4.27 On the same day, September 27, 1974, the appellant executed a contract directly with Japcan (Exhibit A-20) for a total sale price of $2,226,380.95, $600,000 of which was paid to the appellant. It also issued that same day a cheque in the amount of $110,000 to the order of Valorinvest to pay to “Ahern, de Brabant, Nuss & Drymer, in trust [the trustee through whom the offer was made] the commission of $110,000” on the purchase price (Exhibits A-18 and A-22). The purchaser took possession of the property on October 1, 1974.

4.28 The net proceeds from the sale of the property were reinvested in the purchase of shares, certificates of deposit and a mortgage loan, after paying the loan of $150,000 made to invest in Plade des Braves.

4.29 In filing its 1974 tax return, the appellant declared a taxable capital gain of $32,328.19 on the sale of the apartment building.

4.30 On July 14,1977, the respondent issued a notice of reassessment adding the sum of $32,328.20 to the income declared, thereby considering the sale of the apartment building as a business profit and not a capital gain.

4.31 A notice of objection to the Minister was filed on August 20, 1977. In his reply of March 9, 1978, the Minister confirmed the said notice of reassessment. On June 21, 1978, the appellant appealed to the Tax Review Board.

5. Act—Case Law—Comments

5.1 Act

The main sections of the Income Tax Act involved in this case are 3, 9 and 248. They will be cited later, if necessary.

5.2 Case Law

The main case law cited by the parties is:

A. By the appellant

1. Place des Soeurs v MNR, [1978] CTC 3188; 78 DTC 1862;

2. S & S Properties Ltd v The Queen, [1978] CTC 412; 78 DTC 6294;

3. Hiwako Investments Limited v The Queen, [1978] CTC 378; 78 DTC 6281;

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

5. Nathaniel C Brewster v The Queen, [1976] CTC 107; 76 DTC 6046;

6. David Tobias v The Queen, [1978] CTC 113; 78 DTC 6028;

7. Paul Racine, Amédée Demers and François Nolin v MNR, [1965] CTC 150; 65 DTC 5098;

8. Roy M Power v The Queen, [1975] CTC 580; 75 DTC 5388;

9. The Queen v Harold Borinsky, [1977] CTC 570; 77 DTC 5389;

B. By the respondent

10. Regal Heights Limited v MNR, [1960] CTC 384; 60 DTC 1270;

11. Brian McKinney, Stanley G Watson v MNR, [1978] CTC 2675; 78 DTC 1490;

12. Norton Investments Ltd v The Queen, [1978] CTC 154; 78 DTC 6078;

13. Joseph Friedman v MNR, [1977] CTC 2611; 78 DTC 1020;

14. Arnold Kostiner, Marsted Holdings Ltd, Hyman Fisher v MNR, [1978] CTC 3063; 78 DTC 1746;

15. Carribean Properties Limited v The Queen, [1974] CTC 858; 74 DTC 6660;

16. Irwin A Blackstone v The Queen, [1973] CTC 842; 74 DTC 6020;

17. Irrigation Industries Limited v MNR, [1962] CTC 215; 62 DTC 1131;

18. Be-vi Investment Corporation v The Queen, [1975] CTC 636; 75 DTC 5444;

19. Kensington Land Developments Ltd v The Queen, [1976] CTC 783; 77 DTC 5011;

20. MNR v James A Taylor, [1956] CTC 189; 56 DTC 1125;

21. Hillside Shopping Centre Limited v MNR, [1977] CTC 402; 77 DTC 5256;

22. De Salaberry Realties Limited v The Queen, [1976] CTC 6567; 76 DTC 6408;

23. Sam Grossman v MNR, [1979] CTC 2132; 79 DTC 141;

24. Donald Mitchell Contracting Limited v MNR, [1978] CTC 2642; 78 DTC 1477.

5.3 Comments

5.3.1 Has the burden of proof been reversed?

Have the facts relied upon by the respondent to support the assessment, and described in paragraph 3, been contradicted? In practice, these facts are not contested, but the appellant must show by its evidence that even if the facts are true, the respondent’s conclusions and the issue of the assessment are unjustified.

5.3.2 The investment intention from the outset

In his assumed facts, the respondent does not clearly state that the appellant’s intention at the time of purchase was to resell, but in alleging the objects of the company and then pleading the presumption of commerci- ality of a company, it must be concluded that this is the basis on which he relied in making his assessment.

Let us examine the appellant’s evidence on this subject.

After the testimony of Mr Marcoux, the Board is of the opinion that the purchase of the land and the construction of the building were made for the purpose of long-term investment, in the same manner as the appellant’s other apartment buildings. Although the Board has no doubt about the witness’ credibility on this subject, this statement must, however, be confirmed by certain circumstances. Several circumstances confirming this testimony are:

(a) the dual category of the appellant’s activities since its incorporation clearly reveals an important place for long-term investments. The Board is aware that there is a presumption of commerciality for a company. In this case, in particular, one of the objects of the letters patent is real estate transactions (para 4.01). Also, the principal shareholder’s experience of 22 years in the real estate field adds to this burden. Because of the appellant’s policy since its incorporation of having two different categories of transactions, one of which is the acquisition and administration of apartment buildings (para 4.03 and 4.07), the Board considers that this fact alone reverses the presumption and confirms on this point the statement of having the intention from the outset of acquiring the property as an investment;

(b) In addition, the appellant’s actions with respect to expenses which were not required during construction, but were nonetheless made to ensure greater durability and a better long-term return, again confirm the desire for a long-term investment.

5.3.3 However, certain circumstances arose which, according to the appellant, obliged him to change his mind about his intention of a long-term investment with respect to the property concerned.

As an alternative argument, the respondent submits that the reasons alleged by the appellant to justify the sale of Place des Braves are not valid, that they reveal a secondary intention from the outset and result in “a concern in the nature of trade” within the definition of the word “business” in section 248 of the Income Tax Act. The circumstances surrounding the sale are the following: the actual cost of construction ($2,016,476) exceeded the original estimate ($1,742,500) by $260,000 because of delays, increases in Salaries, etc (para 4.11). As the rent had been determined from the original estimate, there should have been a major increase in the rent at a later date to make up for this cost increase. Beginning in February 1973, the Quebec Rental Board had its jurisdiction extended to all new construction, and 90% of the tenants objected to the increases in rent (para 4.13). After 26 months of occupancy, the Board granted only a 3.2% increase without even taking account of the increase in the cost of electricity and municipal taxes (para 4.16).

These facts adversely affected the return from the property, not only immediately but also on a long-term basis, with all the difficulties experienced by the owner as a result of applications to the Rental Board whenever there iS an increase in rent, which occurs almost yearly.

When the acts of vandalism are added to this, can it be said that the appellant had sufficient objective grounds for deciding to sell? According to the respondent, a delay of at least 3 years from the date of the first rentals would have been necessary to make an objective judgment as to profitability. It may also be added that there must certainly have been a possibility of profitability because someone was interested in buying this property for $2,226,380.95.

On the other hand, it is possible that psychologically, someone (in this case, Mr Marcoux, the principal shareholder, must be equated to the appellant: his decision and reasons are those of the company) might be tired of it and accept an offer which frees him from those immediate problems. Let us examine this offer.

5.3.4 This offer was unsolicited, according to Mr Marcoux. The appellantvendor still had to pay a $110,000 commission (para 4.27) to the agent Ahern, de Brabant, Nuss & Drymer, in trust, the same agent who had the $50,000 deposit. Normally, the person who pays the commission hires the agent. Since the vendor paid, at first glance it would not seem to be an offer by a purchaser but an offer of sale by the appellant.

This condition about the commission was nevertheless found in the 3 offers to purchase, in clause 10 (Exhibits A-16, A-17 and A-18). Since Mr Marcoux was unable to remove it, he tried to have it reduced. It was 5% of the purchase price in the first offer, or $116,000. He asked for $75,000. Finally, an amount of $110,000 was agreed upon in the 3rd offer (para 4.21 to 4.24). It is true that there is nothing to prevent two parties from agreeing on this subject. On the other hand, the fact that the clause refers to “5% of the purchase price” is an indication which seems to confirm that this clause was Originally inserted by the buyer. It appears to the Board that if the appellantvendor had originally approached the agent, then the reference would have been to “5% of the sale price.” The Board is well aware that the same amount is in fact involved, but it seems to it that the use of the term “purchase” instead of “sale” is indicative of the party who originally contacted the agent, thereby confirming Mr Marcoux’ testimony.

Nevertheless, the fact that the appellant accepted this charge indicates his desire to complete the transaction. In fact, the commission paid ($110,000) is higher than the profit on the transaction ($64,656). The profit only amounts to 3% of the cost of the building without taking account of the fact that during the construction of the building, Mr Marcoux devoted 90% of his time to the appellant, whereas he normally devoted only 5 to 10% (para 4.05). This sacrifice also reveals the desire of the appellant to sell.

5.3.5 With the balance of the sale price of $490,000 ($600,000 - $110,000), the appellant paid off the bank loan of $150,000 which was made to invest in Place des Braves. It also made a loan secured by a mortgage for $57,386. It invested in certificates of deposit and in the purchase of shares. According to the witness Marcoux, “it’s just as profitable and less trouble.”

5.3.6 Do all the circumstances disclose a secondary intention from the outset and result in a concern in the nature of trade?

With respect to secondary intention, the learned Mr Justice Noël in the case of P Racine, A Demers & F Nolin v MNR, referred to above, stated at 159 [5103]:

In examining this question whether the appellants had, at the time of the purchase, what has sometimes been called a “Secondary intention” of reselling the commercial enterprise if circumstances made that desirable, it is important to consider what this idea involves. It is not, in fact, sufficient to find merely that if a purchaser had stopped to think at the moment of the purchase, he would be obliged to admit that if at the conclusion of the purchase an attractive offer were made to him he would resell it, for every person buying a house for his family, a painting for his house, machinery for his business or a building for his factory would be obliged to admit, if this person were honest and if the transaction were not based exclusively on a sentimental attachment, that if he were offered a sufficiently high price a moment after the purchase, he would resell. Thus, it appears that the fact alone that a person buying a property with the aim of using it as capital could be induced to resell it if a sufficiently high price were offered to him, is not sufficient to change an acquisition of capital into an adventure in the nature of trade. In fact, this is not what must be understood by a “secondary intention” if one wants to utilize this term.

To give to a transaction which involves the acquisition of capital the double character of also being at the same time an adventure in the nature of trade, the purchaser must have in his mind, at the moment of the purchase, the possibility of reselling aS an operating motivation for the acquisition; that is to say that he must have had in mind that upon a certain type of circumstances arising he had hopes of being able to resell it at a profit instead of using the thing purchased for purposes of capital. Generally speaking, a decision that such a motivation exists will have to be based on inferences flowing from circumstances surrounding the transaction rather than on direct evidence of what the purchaser had in mind.

The learned Mr Justice Addy in the case of Roy M Power v The Queen, supra, after citing the above mentioned 2nd paragraph of the learned Mr Justice Noël, made the following comments:

I agree fully with the statement of Mr Justice Noël in so far as it purports to define the nature of a secondary intention to engage in an adventure or concern in the nature of trade, but if, in so far as it relates to the evidence required to either establish or negate the existence of any such intention, it purports to state a general rule of evidence to the effect that surrounding circumstances, whatever they may be, must be preferred to direct evidence of intention, then I must express reservations. The only direct evidence of what a person has in mind at any given time must necessarily come from a statement by that person either at the trial or orally or in writing to another person.

All issues must be determined by a careful consideration of all of the relevant evidence both direct and circumstantial. In any particular case, a specific piece of evidence might, by reason of the surrounding circumstances of that case, necessarily possess great probative value while, in anothe case, evidence to the same effect might carry little or no weight. The Court must also bear in mind that facts often speak louder than words and that free acts are a very good indication of what a person really intends, and overt acts and their results constitute an excellent means of deciding what the intention actually was.

5.3./ In view of the principles stated above and the facts proved and commented on particularly in paragraph 5.3.2 above, the Board does not find any evidence of a secondary intention at the outset.

On the other hand, secondary intention has not been alleged as an assumed fact by the respondent in support of the basis of the assessment. It has been raised as an alternative argument. It is advisable to keep in mind what the learned Mr Justice Gibson stated on this subject in N C Brewster v The Queen, supra 111 [6049]:

Pleading assumptions in the alternative is novel in view of the state of the law. In law the onus is on the taxpayer to destroy some or all of the assumptions. But it is open to the defendant to plead other facts not relied upon in making the assessments or reassessments, but in that event, the onus is on the Minister of National Revenue to prove such other facts.

The respondent has not proved a secondary intention, but has merely alleged that the reasons given by the appellant for selling are insufficient and reveal a secondary intention from the outset. It is the Board’s opinion that the evidence establishes that the principal shareholder’s decision to sell the property is based partly on the problems which surrounded the construction of the building and particularly the renewal of the leases, and partly on the expectation of a profit, although it was a small one in relation to the cost of the purchasers’ offers. A part of the citation from the learned Mr Justice Noël should be kept in mind:

... the fact alone that a person buying a property with the aim of using it as capital could be induced to resell it if a sufficiently high price were offered to him, is not sufficient to change an acquisition of capital into an adventure in the nature of trade.

The Board is of the opinion that an enormous offer is not essential to justify a person changing one investment into another. The expectation of even a small profit coupled with the desire to put an end to problems which the interested party considers bothersome may also be valid reasons. It is understood, of course, that this principle only applies when the intention has been clearly established that the property was originally purchased for investment purposes only, as in the present case.

As a final argument, it is useful to cite the learned Mr Justice Jackett in the case of Hiwako Investments Limited v The Queen supra:

With reference to the alternative plea in the Statement of Defence, if it may be considered as an allegation of an “assumption”, I do not think that it can be taken as a plea that the Minister assumed in making the assessments, that a motivating reason for the purchase of the property was an expectation that it would be sold for a profit (in the event that it did not prove to be a satisfactory profit producing property) of such a nature as to stamp a subsequent sale as a trading transaction.

In my view, an intention at the time of acquisition of an investment to sell it in the event that it does not prove profitable does not make the subsequent sale of the investment the completion of an “adventure or concern in the nature of trade”. Had the alleged assumption been that there was an expectation on the part of the purchaser, at the time of purchase, that, in the event that the investment did not prove to be profitable, it could be sold at a profit, and that such expectation was one of the factors that induced him to make the purchase, such assumption, if not disproved, might (I do not say that it would) support the assessments based on “trading” if not disproved. In my view, however, even on the most liberal interpretation of the Statement of Defence, it cannot be interpreted as alleging such an “assumption”.

The Board ts of the opinion that these principles also apply to the present case.

6. Conclusion

The appeal is allowed and the matter referred back to the respondent for reassessment in accordance with the above reasons for judgment.

Appeal allowed.