Marjadsingh v. R., [1997] 1 CTC 2177, 96 DTC 3263 (Informal Procedure)

McArthur J.T.C.C.: - Lindsay Marjadsingh, the Appellant, appeals the reassessment of the Minister of National Revenue’s for the taxation years 1990, 1991 and 1992. The Appellant claimed rental losses in the amounts of $11,977.80, $16,348.78 and $15,838.73 in each respective year which were denied by the Minister.

In a rising real estate market in 1988 the Appellant contracted to purchase a residential condominium unit, under construction, for approximately $236,000. The Appellant advanced 25% of the purchase price from his own finances and mortgaged the remaining 75% of the price. The transaction closed in 1990 at which time the real estate market had taken a serious downturn.

The Appellant had been a real estate agent prior to the purchase and remained in the same profession during the years under appeal. He paid 25% of the purchase price in cash and arranged mortgage financing for the balance with the assistance and covenants of his wife, brother and sister- in-law.

During 1990, 1991 and 1992, the Appellant reported rental income, expenses and losses from the property as follows:

The rental projections which were prepared in 1995 by his accountant for these proceedings from information gathered by the Appellant prior to entering the contract to purchase in 1988 were as follows:

1990

INCOME EXPENSES PROFIT OR LOSS

$15.400 15,063 $337

1991

INCOME EXPENSES PROFIT

$24,486 $23,277 $1,209

INCOME	EXPENSES	PROFIT
$25,955	$23,479	$2,476

The Appellant and his accountant testified that these figures were a re-creation of the Appellant’s recollection of hand-written projections made before purchase but not retained. The Appellant’s position was that the condominium was purchased to obtain rental income.

The Respondent submitted that the Appellant’s rental property did not have a reasonable expectation of profit. The losses were personal or living expenses. In the alternative the expenses were unreasonable. Counsel referred the Court to sections 18(1 )(a), 18(1 )(h) and 67 of the Income Tax Act (the “Act”).

Both parties referred the Court to Tonn v. R., [1996] 1 C.T.C. 205, 96 D.T.C. 6001 (F.C.A.).

Analysis

The expenses were not personal or living expenses of the Appellant. The condominium was rented to arm’s length tenants. It was not maintained for the use and benefit of the Appellant or any of his relatives.

Counsel for the Minister submitted that while the property might have had an expectation of profit in 1988, it did not when the purchase was completed in 1990. He stated that the income and losses commenced in 1990 and that is the first relevant year to evaluate the situation and not 1988. The Appellant would acknowledge that in May 1990 when he completed the transaction and took possession of the condominium unit, economic circumstances had changed such that he could not expect a profit in the forseeable future. The maximum rent he could achieve in 1990 was $1,050 per month. Interest alone was approximately $1,750 per month.

Obviously, had he not been legally bound to do so, Mr. Marjadsingh would not have completed the purchase in May 1990. I find that the Appellant’s legal obligation to purchase the condominium was entered into in 1988 and that is the relevant year to be considered in determining whether the Appellant had a reasonable expection of profit.

In 1988 the Appellant’s projections were that the property would be carrying itself in the first year. These projections were not substantially challenged. Common sense leads one to conclude that prior to entering into the agreement to purchase, 1988 is the effective date for the Appellant to determine rental profitability.

In the present case it was not suggested in direct examination, cross- examination or anywhere else that the Appellant’s purpose in incurring the expenses was other than that normally associated with rental real estate. The Appellant entered into a contract to purchase in 1988 during a rising market where one could well speculate on capital appreciation to eventually offset income losses. Resale at a profit was not suggested as the Appellant’s purpose in purchasing. Further, there was no suggestion that the Appellant’s purpose was to obtain a tax advantage.

Based on 1988 calculations the Appellant concluded that he could gain income from property namely, the condominium unit. At this point in time, based on his projections, he had a reasonable expectation of profit. This is income from property as referred to in paragraph 18(l)(a). In May of 1990 when the Appellant was obligated to make the expenditures for the purchase and maintenance of the rental unit, he did not have a reasonable expectation of profit. Had he been in a position to abort the purchase, I am sure he would have. At this time it was too late. He, in effect, had purchased the property by agreement in 1988. He could not be expected to foresee the dramatic economic downturn of market conditions for condominium units in the Toronto area.

I find the Appellant had a reasonable expectation of profit from renting the property in the three relevant years. The losses were not personal or living expenses. The Appellant did not occupy the property for his own use or that of a relative. It was rented to an arm’s length tenant at the going rate in 1990, 1991 and 1992 which was approximately $1,050 per month. This was almost 50% less than he had projected in 1988.

The issue narrows down to whether the expenses claimed are reasonable. The Respondent pleads that the expenses are prohibited by section 67. In Tonn (supra) the Court suggested that where the Minister desires to challenge the reasonableness of a taxpayer’s transaction, she should refer to section 67 of the Act. It provides that an expense may be deducted only to the extent that it is reasonable.

Considering that it was a new unit, I believe that maintenance charges should not be claimed as deductions against rental income but should be attributed to the capital cost of the unit.

In the 1990, 1991 and 1992 income tax returns of the Appellant, the statement of real estate rentals included the following expenses:

The Appellant’s 1991 income tax return Exhibit R-3 included the following Rental Expense

I conclude that it is not reasonable to include the total expenses claimed My conclusion is that the appeal is allowed to reflect that the expenses claimed for 1990, 1991 and 1992 taxation years be reduced by $3,200.67, $3,786 and $4,400 respectively. This matter is referred back to the Minister for reconsideration and reassessment in accordance with these determinations.

Appeal allowed.