Hallbaurer v. R., [1997] 1 CTC 2428, [1997] DTC 767

Rip J.T.C.C.: — The primary issue in these appeals from income tax assessments for 1986 and 1987 taxation years is whether the Minister of National Revenue (“Minister{H3}”) properly included the non-taxable portion of capital gains from purported dispositions by Holm Hallbauer (“appellant”) of interests in two properties in computing his adjusted taxable income for each of 1986 and 1987, as defined by paragraph 127.52( 1 )(d) of the Income Tax Act (“Act”), for the purpose of calculating his alternative minimum tax for each year: sections 127.5 and 127.51. [1]

To determine the issue for 1986 I must decide if the transfers of interests by the appellant in a property situated in Edmonton, Alberta, referred to as the “Liberty Building”, were dispositions within the meaning of section 54 of the Act or if the transfers were merely security arrangements in respect of the appellant’s indebtedness to two creditors. If I find the appellant did dispose of interests in the Liberty Building, then I must decide whether the creditors acquired their interests in the property as a consequence of the appellant’s failure to pay all or any part of the indebtedness owing by him to the creditors, as contemplated by section 79 of the Act.

For the 1987 appeal, I must also determine whether a transfer by the appellant of an interest in a property in Victoria, B.C., referred to as the “Weiler Building”, occurred as a consequence of his failure to pay all or any part of the indebtedness owing by him to the transferee: section 79. The parties agree this transfer was a disposition of property within the meaning of section 54.

Paragraph 127.52(l)(d) provides that a disposition of property to which section 79 applies is not included in the computation of an individual’s adjusted taxable income for a taxation year for purposes of the alternative minimum tax. In other words, the non-taxable portion of a capital gain realized on a transaction referred to in section 79 is not included in the computation of adjusted taxable income. Thus, if the transfers of interests in the Weiler Building and the Liberty Building were dispositions of properties as a consequence of the appellant’s failure to pay all or part of debt owing to the transferees immediately before the surrender, no amount is to be included in computing the appellant’s adjustable taxable income for the relevant year. If I find the appellant did not dispose of any interest in the Liberty Building within the meaning of section 54,1 need not concern myself with section 79 and the appellant will succeed in his appeal for 1987.

FACTS

Mr. Hallbauer immigrated to Canada from Germany in 1976. When he arrived in Canada, he looked for investment opportunities and eventually acquired 10,000 acres of farmland near Tees and in Grand Prairie, both in Alberta, and Arkansas. Between 1979 and 1982, the appellant also acquired commercial properties in Calgary, Edmonton and Victoria.

Mr. Hallbauer’s source of funds to acquire the properties were banks, vendors giving back a mortgage, his sister, Renate Doerre and his former wife, Monika Hallbauer, both of whom resided in Germany.

In 1985, the appellant’s financial circumstances changed due to the decline in real estate values. The rents he received from the farmland and commercial properties were reduced. At the same time interest rates increased. He was in default on several loans. During 1985 and 1986, the appellant said, financial pressure forced him to sell much of his farmland, leaving him with about 1,000 acres.

The appellant’s sister and former wife were among his creditors. He had owned properties in Germany with his sister and former wife. When some of those properties were sold, his sister used some of the proceeds to lend him money in 1980 and 1981. Mr. Hallbauer said the times are “approximate”. The loans were not documented but, said the appellant, “bank transfers were made”. The loans were to be repaid in the short to medium term, within two to three years “maximum”. In 1985 and 1986 interest payments on the loans were “sporadic” since “some months I could not handle the interest”.

The appellant testified that Mrs. Doerre asked for repayment of the loan on several occasions, “at least five times”. According to the appellant, she asked for repayment orally, during Mr. Hallbauer’s frequent visits to Germany, and in correspondence. The appellant said he advised her of his previous financial situation and said he could not make the payments.

Mrs. Doerre stated in an affidavit that before December 1986, she loaned money to the appellant. As a result of the loans “and other transactions” the appellant owed her, as of December 1986, an amount which they agreed was the equivalent of $2,333,250. She agreed the loan was unsecured.

Monika Hallbauer also stated in an affidavit that she also loaned funds to the appellant. Again, as with Renate Doerre, the loans were unsecured and the terms were not reduced to writing.

Mrs. Hallbauer, the appellant testified, asked for her money at about the same time as his sister. He gave her the same response he gave his sister: he was in a difficult financial situation and could not pay until he sold some property. In her affidavit, Mrs. Hallbauer stated that as of December 1986 the appellant was indebted for over $600,000 and by 1986 she became concerned the appellant would be unable to repay. She stated she “repeatedly demanded payment of the indebtedness in full”.

Liberty Building

During 1985 and 1986 the appellant’s sister and former wife were getting nervous and demanded payment of their loans. The appellant could not repay the loans and, therefore, he said he offered them an interest in the Liberty Building “as security for a portion of the loan”. He instructed a lawyer in Calgary - not present counsel - to prepare Offers to purchase and sell (sometimes referred to as “agreements of purchase and sale”) for Mrs. Hallbauer to purchase an undivided 15 per cent interest and Mrs. Doerre a 25 per cent interest, each as tenant in common, in the Liberty Building for $750,000 and $1,250,000 respectively. Mrs. Hallbauer was to assume $150,000 of an existing mortgage and the balance of the purchase price of $600,000 was to be paid in “certified funds” on closing. The mortgage then outstanding on the Liberty Building was $2,400,000. Mrs. Doerre was to assume the mortgage to the extent of $250,000 and pay the balance of the purchase price of $1,000,000 on closing. Both Offers were accepted by Mr. Hallbauer in December 1986. The mortgages to be assumed by Mrs. Hallbauer and Mrs. Doerre were never formalized.

In response to a question from his counsel, Mr. Hallbauer said each of his sister and former wife preferred the security as owner of the Liberty Building rather than as mortgagee. He said they knew he was trying to sell the property and they wanted to be “involved” in the sale.

Mr. Hallbauer testified “he came up” with the amount of $2,000,000 as the purchase price for the interests in the Liberty Building. “It was based on the money I put into the building ...” and he calculated the purchase price of the whole of the building to be $5,000,000.

The appellant never received any cash or “certified funds” on closing of the transfers of interests in the Liberty Building and no statement of adjustments was ever prepared. Mr. Hallbauer said the amounts payable on closing were applied against the loans from his sister and former wife. He added that neither Mrs. Doerre nor Mrs. Hallbauer made any payments against the mortgage.

The Offers to Purchase and Sell also provided that Mr. Hallbauer guarantee to the purchaser “a minimum payment of 6 per cent per year” from the property, calculated on the purchase price. Mr. Hallbauer did not have any funds to honour the guarantee and never made the “minimum payment”.

In an appendix to the Offer to Purchase and Sell, dated December 13, 1986, the appellant and Mrs. Hallbauer agreed that notwithstanding her several demands, Mr. Hallbauer had not repaid the loan of $600,000. They also stated “the value of the Liberty Building shares is approximately 25 per cent lower” and Mrs. Hallbauer “accepts this transfer as full settlement of the loan”. It appears Mrs. Doerre also agreed to accept the transfer of the interest in settlement of her loan on a similar basis.

Mr. Hallbauer said that the agreement to sell the Liberty Building arose out of discussions he had with his sister and former wife in Germany in December 1986. As he explained it, there was an understanding he would try to sell the property but, at the time, its value was not certain. They “suspected” the value was less than $5,000,000. Mr. Hallbauer, his sister and former wife believed that if the property was sold for anything above $4,000,000, their loans would be satisfied; the mortgage on the Liberty Building, $2,400,000 and the amount of loans outstanding, $1,600,000, aggregated $4,000,000.

The affidavits of Mrs. Hallbauer and Mrs. Doerre corroborated much of the appellant’s testimony. The affidavits were executed in June 1995. The deponents stated that undivided interests in the Liberty Building were transferred to each of them because the appellant advised he was unable to repay the debt. In Mrs. Doerre’s case, her 25 per cent interest in the Liberty Building was to secure $1,000,000 of the amount owed her and in Mrs. Hallbauer’s case, the amount to be secured was $600,000. Each deponent said she was not prepared to settle, nor did she intend to settle or forgive, any part of the debt unless she received payment of the amount secured when the building was sold. Both deponents said their agreements with Mr. Hallbauer for the transfer of the Liberty Building were made to secure a debt.

The deponents added that their agreements with the appellant were premised on the assumption the Liberty Building had a value of $5,000,000 in December 1986 and, on a sale of the building, their undivided interests would yield the amounts secured. The following is included in the affidavits:

8. Notwithstanding the wording of the Liberty Building Agreement, the clear agreement and understanding between me and the Appellant was that the Appellant remained indebted to me to the extent that the proceeds of the sale of the Liberty Building did not realize an amount sufficient to repay me the ... portion of the Loan secured by the interest registered in my name.

On January 14, 1987 a Deed of Conveyance was registered in the Land Transfer Office in Edmonton. The Deed provided that the appellant transferred individual interests in the Liberty Building, as to an undivided 60 per cent interest as tenant in common to himself, as to an undivided 25 per cent interest as tenant in common to Renate Doerre and as to an undivided 15 per cent interest as tenant in common to Monika Hallbauer. In the affidavit of transfer Mr. Hallbauer identified himself as one of the transferees and described “the true consideration paid by us”. He concluded that in his opinion, the value of the Liberty Building at date of transfer was $2,000,000. At trial the appellant explained that the value only of the interests acquired by Mesdames Doerre and Hallbauer was $2,000,000. In other words, the appellant said he now understands that the sale price of the interests to his sister and former wife was based on the building having a value of $5,000,000 in 1986; that is, a 40 per cent interest in the building had a value of $2,000,000. At trial the parties agreed that in fact the value of the Liberty Building in 1986 was $2,950,000.

Each of Mesdames Doerre and Hallbauer also filed Caveats on January 14, 1987 forbidding registration by any person as transferee or owner of an interest in the Liberty Building. Each claimed an interest in the Liberty Building by virtue of the respective Offers to Purchase and Sell. Mr. Hallbauer said the Caveats were filed by Mrs. Doerre and Mrs. Hallbauer “to increase their security on the property”.

Mesdames Doerre and Hallbauer stated in their affidavits that the appellant remained indebted to them after the foreclosure of the Liberty Building in 1991. The Liberty Building was foreclosed by the mortgagee in October 1991. The fair market value of the building at time of foreclosure was not greater that $2,000,000; the amount owing under the mortgages registered against the building exceeded its fair market value. Mr. Hallbauer testified none of him, his sister and his former wife “collected anything” on the foreclosure.

Nowhere - not in the Offers to Purchase and Sell, Deed of Conveyance, Caveat or any other documents prepared at the time of the transfers of the interests - did the parties agree that the ownership of the interests transferred by Mr. Hallbauer would revert to him on the happening of an event, such as payment of the debt. That the ownership of the interests may revert to the appellant in the future was beyond his control and was not forseen by the parties.

Weiler Building

By agreement dated December 15, 1987, and made in Munich, Germany, Mr. Hallbauer agreed to sell a one-sixth interest in the Weiler Building in Victoria to his sister, Renate Doerre for $l,233,000. [2] The appellant also agreed to sell one-half interest in the building to one Urban Meister, a person to whom the appellant is not related, for $3,700,000. The purchase price was to be paid by Mrs. Doerre to the appellant in cash on closing date, December 31, 1987. In fact, the appellant testified, no cash changed hands and the money he owed her was offset by the purchase price. The consideration paid by Mr. Meister was a combination of shares and cash.

Under the terms of the Offers to Purchase and Sell the Weiler Building by Mrs. Doerre to Mr. Meister, the appellant remained liable on the mortgages outstanding. The purchasers agreed that if the appellant paid down the mortgages, he had the right to remortgage what was effectively their interests in the building. However only the appellant, not the purchasers, would be liable on any new mortgage.

The appellant testified he was to apply - and did apply - the funds received from Mr. Meister to reduce the amount of mortgages against the Weiler Building. His sister received no cash from the sale to Mr. Meister since “my debts were so high”. After the sale, he said, he still owed his sister $1,000,000.

In her affidavit, Mrs. Doerre stated that when the Weiler Building was eventually sold she advanced to the appellant “by way of a new loan, my share of the proceeds of the sale of the Weiler Building”.

On April 30, 1992, Mrs. Doerre stated in her affidavit, Mr. Hallbauer repaid her on account of his loan the sum of DM 260,000. By agreements with Mr. Hallbauer, dated January 2, 1993, Mesdames Doerre and Hallbauer settled on the terms of repayment of the $1,000,000 and $600,000 owed to each of them respectively by Mr. Hallbauer; copies of the agreements were attached to the particular affidavits. In December 1994 Mrs. Hallbauer and Mr. Hallbauer agreed further to extend the payment of money owed to Mrs. Hallbauer; a copy of the terms of the agreement is also attached to her affidavit.

Tax Returns

Produced at trial were the appellant’s income tax returns for 1986, 1987, 1988, 1989 and 1990. In his 1986 tax return Mr. Hallbauer reported the disposition of a 40 per cent interest in the Liberty Building for proceeds of $2,000,000. However, he insisted that he did not sell a 40 per cent interest in the building. (The 40 per cent represented the aggregate of the 15 per cent and 25 per cent interests the appellant transferred to each of Mrs. Hallbauer and Mrs. Doerre.) He acknowledged he gave his accountant information in order to prepare the 1986 tax return. He acknowledged that errors were present in his 1987 return: the Liberty Building was referred to as a partnership, which was wrong, he said, and the loss from the Liberty Building was allocated to him, his sister and his former wife. This, too, was wrong. All these errors were made by his accountant, the appellant insisted. Mr. Hallbauer is “sure I reviewed the return[s] but [I] didn’t put major meaning behind it because no tax was payable” in any event.

The disposition of interests in the Weiler Building was reported in the appellant’s 1987 tax return.

In his 1988 tax return, Mr. Hallbauer (or his accountant) allocated income from the Weiler Building as to one-sixth (1/6) to Mrs. Doerre, two- sixths (2/6) to the appellant and three-sixths of ten-twelfths (3/6 x 10/12) to Mr. Meister. The loss from the Liberty Building was allocated as to 60 per cent to Mr. Hallbauer, 25 per cent to Mrs. Doerre and 15 per cent to Mrs. Hallbauer. Similar allocations were made in the appellant’s 1989 and 1990 tax returns. Mr. Hallbauer explained the allocations of losses from the Liberty Building were a “consequence of 1987”. He said “numbers” were put in the documents by mistake and the mistake continued over the years.

Principal Statutory Provisions

Subsection 54(c) of the Act, as it read in 1987, defined “disposition” of any property, except otherwise provided, to include:

(i) any transaction or event entitling a taxpayer to proceedsof disposition of property,

(ii) any transaction or event by which

B) any debt owing to a taxpayer or any other rightof a taxpayer to receive an amount is settled or cancelled

but, for greater certainty, does not include ...

(iv) any transfer of property for the purpose only of securing a debt or a loan, or any transfer by a creditor for the purpose only of returning property that had been used as security for a debt or a loan, ...

The term “proceeds of disposition” was defined by subsection 54(h) to include:

(i) the sale price of property that has been sold,

(viii) any amount included in computing a taxpayer’s proceeds of disposition of the property by virtue of paragraph 79(c), and ...

The relevant portions of section 79 state:

Where, at any time in a taxation year, a taxpayer who

(a) was a mortgagee or other creditor of another person who had previously acquired property,...

has acquired or reacquired the beneficial ownership of the property in consequence of the other person’s failure to pay all or any part of an amount (in this section referred to as the “taxpayer’s claim”) owing by him to the taxpayer, the following rules apply:

(c) there shall be included, in computing the other person’s proceeds of disposition of the property, the principal amount of the taxpayer’s claim plus all amounts each of which is the principal amount of any debt that had been owing by the other person, to the extent that it has been extinguished by virtue of the acquisition or reacquisition, as the case may be....

APPELLANT’S SUBMISSIONS

Weiler Building (1987)

Appellant’s counsel directed his comments first to the appeal for 1987 and I shall follow his example. In 1987 Mrs. Doerre was a taxpayer who was a creditor of Mr. Hallbauer who had previously acquired the Weiler Building. Mrs. Doerre acquired a one-sixth interest in the Weiler Building because the appellant had failed to pay her the principal amount of a debt owing to her. The transaction was intended to relinquish the appellant’s debt to Mrs. Doerre.

Section 79, stated counsel, is a very broadly worded provision and may apply to unsecured debts as well as secured debts. See Moysey v. R., (sub nom. Moysey v. Canada) [1992] 2 C.T.C. 2657, 92 D.T.C. 1861 (T.C.C.), at pages 2662-63 (D.T.C. 1865), and Peters v. Minister of National Revenue, (sub nom. Peters v. Canada) [1993] 1 C.T.C. 2628, 93 D.T.C. 422 (T.C.C.), at pages 2632-33 (D.T.C. 425). Revenue Canada also has recognized that section 79 applies to both secured and unsecured creditors. [3] I agree. Therefore, appellant’s counsel submits that section 79 will apply to a transaction where there is an acquisition of property as a result of a taxpayer’s failure to pay an amount of debt. Mrs. Doerre acquired a beneficial interest in the Weiler Building “in consequence” of the appellant’s failure to pay an amount owing to her. The transfer of the interest to Mrs. Doerre would not have occurred had Mrs. Doerre not demanded payment and had the appellant not failed to repay her any money he owed her at the time. The transfer of the interest in the Weiler Building was a disposition of property to which section 79 applied and therefore, counsel concluded, the appellant had no adjusted taxable income for 1987: paragraph 127.52(l)(d) of the Act.

Liberty Building (1986)

Two issues are present in the appeal from the 1986 assessment: a) if there were dispositions of interests in the Liberty Building by the appellant to Mrs. Doerre and Mrs. Hallbauer, and if there were dispositions, then, b) do the dispositions fall within the exception of adjusted taxable income in paragraph 127.52(l)(d), that is, are they dispositions to which section 79 applies?

Appellant’s counsel acknowledged his client’s tax returns and the agreements of purchase and sale of interests in the Liberty Building indicate dispositions did take place. However, he said, there are other facts suggesting the opposite.

Counsel stated that his client did not pay close attention to how the transfers of the Liberty Building were treated in his 1986 income tax returns since he incurred a loss in the year and no tax was payable. The allocation of losses reported in the appellant’s tax returns for 1986, 1987 and 1988 were simply not correct.

Under the agreements of purchase and sell the purchasers of interests in the Liberty Building were liable for $400,000 of mortgage debt. However Mesdames Doerre and Hallbauer never made any mortgage payments. In counsel’s view, “the assumption of a mortgage was all part of the arithmetic that [was] needed to be done based on the $5,000,000 value ... it just doesn’t make sense for them [i.e. Mesdames Doerre and Hallbauer] to assume that mortgage .... when they already have a liability of $1.6 million. They weren’t looking to increase their liability, they were looking to get paid out”.

Appellant’s counsel said that in any event the consideration for the interests in the Liberty Building was settlement of the debts, not cash.

In their affidavits, at paragraph 5, Mesdames Hallbauer and Doerre say they were not prepared, nor did they intend, to forgive or settle any part of the debt owed to them by the appellant unless they received payment in full of their loans out of the proceeds of the Liberty Building. Mr. Hallbauer invested approximately $5,000,000 in the Liberty Building, said his counsel. If the buildings were sold for $3,750,000, the amount owing to Mesdames Hallbauer and Doerre would be forgiven; if the building sold for less than $3,750,000, the debts would continue to exist and in fact, declared counsel, they did continue to exist. Mr. Hallbauer continued to owe the amounts of $600,000 to Mrs. Hallbauer and $1,000,000 to Mrs. Doerre after he transferred the interests to them.

According to the evidence, counsel argued, Mesdames Doerre and Hallbauer held their interests in the Liberty Building as registered owners only to be in a better position than a mortgagee, and not as beneficial owners. An owner of a property subject to a mortgage may sell any of its interest in the property to a purchaser who may assume the mortgage, in which case the mortgagee would not realize any cash and be left to deal with the new owner. On the other hand, a registered owner, Mr. McKenzie stated, could prevent Mr. Hallbauer from dealing with the property on his own. Mesdames Hallbauer and Doerre, as registered owners, had some comfort that if any cash was paid on a sale of the Liberty Building each would be in position to get her proportional share.

A disposition of property did not take place in 1986, counsel submitted, because the interests were transferred for the purpose only of securing the debts of Mesdames Doerre and Hallbauer. The transfers were not dispositions of property as defined in section 54. The transaction was not a disposition based on the Liberty Building having a value of $5,000,000, that is, interests aggregating 40 per cent of the property were not sold for $2,000,000. Mr. McKenzie distinguished the transfer of interests in the Liberty Building from that in the Weiler Building on the basis there was value in the Weiler Building and there was no value in the Liberty Building. Also, the Weiler Building transactions included a transfer to a person with whom the appellant dealt at arm’s length.

In the event I find the transfers of interests in the Liberty Building were dispositions of property within the meaning of subsection 54(c), counsel submitted, the transfers were “in consequence of” the appellant’s failure to pay his debt to the creditors. The evidence in this regard was reviewed earlier: Mr. Hallbauer was indebted to Mrs. Hallbauer and Mrs. Doerre, both Mesdames Hallbauer and Doerre made demands for payment, property was transferred to the creditors and no cash passed hands. There was no immediate forgiveness of debt; the debts were to be settled from the proceeds of a future sale of the Liberty Building. Section 79 applies to the transfers of interests in the Liberty Building, my reasons are the same as with respect to the transfer of the interests in the Weiler Building to Mrs. Doerre.

RESPONDENT’S SUBMISSIONS

(a) Disposition of Liberty Building

As far as the respondent is concerned, the appellant disposed of property, as defined in subsection 54(c), in both 1986 and 1987. Section 79 of the Act does not apply to these transfers, counsel for the respondent submitted, because even if they are sales to creditors, the consideration paid is brought into income under section 54 of the Act. What is included in the debtor’s proceeds of disposition of the property, for purposes of section 79, is the amount of debt but only that portion of the debt that was extinguished on the acquisition of the property. All other amounts are included in income pursuant to section 54.

The documentary evidence compels one to conclude the tranfers of the interests in the Liberty Building were dispositions. The Agreements to Purchase and Sell are what they say they are: purchase and sale agreements. The appellant instructed his solicitor at the time to prepare these documents. He swore an affidavit in which he stated he sold a 25 per cent interest to Mrs. Doerre for $1,250,000 and a 15 per cent interest to Mrs. Hallbauer for $750,000. He also opined in his affidavit on transfer of his interests that the value of the property at time of transfer was $2,000,000. The appellant also reported the dispositions in his 1986 tax return and in his 1986 to 1990 tax returns, allocated 40 per cent of the income and losses of the Liberty Building to Mesdames Doerre and Hallbauer. The action of foreclosure of the Liberty Building was against Mesdames Doerre and Hallbauer as well as the appellant.

Respondent’s counsel conceded no cash was paid on the transfer of the interests in Liberty Building but, she said, there were set-offs against the loans outstanding. She concluded that notwithstanding the appellant’s possible intention, his actions are consistent with dispositions by him of beneficial interests in the property for $2,000,000. Any addenda signed subsequent to the Agreements of Purchase and Sell do not derogate from the fact he disposed of interests in the Liberty Building for value.

(b) Applicability of section 79

Section 79 does not apply to the Weiler and Liberty Buildings transactions, respondent’s counsel argued, because the interests were not transferred to each of Mrs. Doerre and Mrs. Hallbauer in their capacity as creditors. Where the words “in consequence of the other person’s failure to pay...” appear in section 79, counsel submitted, the acquirer of the property must acquire in the capacity of creditor and not as a purchaser for value.

Counsel stated that pursuant to subsection 54(h) of the Act, when a property is disposed of for cash consideration, say $2,000,000, the amount of the cash consideration is proceeds of disposition and the amount of $2,000,000, is included in computing the vendor’s income for the year.

In counsel’s view paragraph 79(c) does not “exclude”, affect or derogate from the definition of “proceeds of disposition” in subsection 54(h) of the Act. Paragraph 79(c) simply “adds to the amounts already includable under section 54, ... amounts in excess of the sale price”. This amount includes the principal amount of the loan which is set off, or forgiven, by mortgage foreclosure, for example.

The sale price of property sold is proceeds of disposition: subsection 54(h). Respondent’s counsel explained that other amounts in excess of the sale price are included proceeds of disposition by section 79. Were this not so, she declared, the proceeds of the sale would be included twice. She submitted that where a sale price is thus established, section 79 does not apply to the proceeds of disposition. Section 79, she declared, ensures that if a taxpayer is relieved of debt, he or she must include the amount of the debt forgiven in income. When no consideration is given for the relief of the debt, “there is no mischief because the taxpayer is already forced to include those amounts in income under section 54”.

Counsel also submitted that if I find the appellant disposed of interests in the Liberty Building, section 79 does not apply to those dispositions. The dispositions took place for consideration aggregating $2,000,000, and that is the amount that was set off against the loan to Mesdames Doerre and Hallbauer. The words in section 79, “... has acquired or reacquired the beneficial ownership of property”, whether capital property or inventory, “in consequence of the debtor’s failure to pay all or any part of an amount ...” are significant, counsel said. By using the phrase “in consequence of”, the legislator has coloured the words “acquired or reacquired” to mean “something akin to acquisition by virtue of a creditor’s remedy”. Counsel referred to Montreal Trust Co. v. Minister of National Revenue, (sub nom. Tory, J.S.D., Estate (Montreal) Trust Co. v. Minister of National Revenue) [1973] C.T.C. 434, 73 D.T.C. 5354 (F.C.A.). At pages 436-37 (D.T.C. 5357) Bastin, D.J. observed that the meaning of the words “transferred or distributed” in subsection 64(3) of the Act, R.S.C. 1952 [4] is also colored by their conjunction with the words “beneficiaries or persons beneficially interested in the estate or trust”.

The Court of Appeal concluded in Tory that the value of the rights or things is therefore restricted to the amount of the inheritance of the beneficiary. If a beneficiary “acquires more than that he takes as a purchaser for value...” and not as a beneficiary.

Respondent’s counsel cited several other cases in which the courts have considered the words “as a consequence of” in section 70 of the Act to determine whether a person acquired property as purchaser for value or as a beneficiary. In each of these cases the courts concluded that where there has been a sale, the transfer or distribution did not occur “as a consequence of” the person being a beneficiary but “as a consequence” of the person being a purchaser: Penner v. Minister of National Revenue, (sub nom. Penner, N.G., Estate v. Minister of National Revenue) [1984] C.T.C. 2502, 84 D.T.C. 1444 (T.C.C.), Coleman Estate v. Minister of National Revenue, [1988] 1 C.T.C. 2010, 87 D.T.C. 664 (T.C.C.), Husel Estate v. R., (sub nom. Husel Estate v. Canada) [1995] 1 C.T.C. 2298, 94 D.T.C. 1765 (T.C.C.).

Respondent’s view is that in the appeals at bar, interests were transferred to Mesdames Doerre and Hallbauer not in their capacity as creditors but in their capacity as purchasers for value, whether or not cash passed on closing. Hence, section 79 does not apply.

ANALYSIS

(a) Whether a Disposition of Interests in the Liberty Building

I cannot accept the appellant’s view that the transfers of interests in the Liberty Building were not dispositions of property, but simply transfers for the purpose of securing debt.

The subsection 54(c) definition of “disposition” of property includes any transaction or event entitling a taxpayer to proceeds of disposition, whether or not a particular transaction or event is described in that provision. The term “proceeds of disposition” in subsection 54(h) includes the sale price of the property that has been sold. Proceeds of disposition are defined by the sale price of the property sold, not the amount or type of consideration received. The aggregate of the sale prices of undivided interests aggregating 40 per cent of the Liberty Building was $2,000,000 and the amount of $2,000,000 was the appellant’s proceeds of disposition of these interests.

Paragraph 54(c)(iv) precludes from the term “disposition” of property any transfer of property for the purpose only of securing a debt or loan. This is the appellant’s position: he transferred interests to his former wife and sister to secure their loans. In the appeal of 106443 Canada Inc. v. R., (sub nom. 106443 Canada Inc. v. Canada) [1995] 1 C.T.C. 2788, (sub nom. 106443 Canada Inc. v. R.) (sub nom. 106433 Canada Inc. v. Canada) 94 D.T.C. 1663 (T.C.C.), my colleague Judge Lamarre Proulx considered whether there was a disposition of shares within the meaning of subsection 54(c), or if the transfer of the shares was not a disposition by virtue of paragraph 54(c)(iv) because the shares were transferred only for the purpose of making a loan.

The appellant 106443 Canada Inc. (“Canada”) transferred ownership of shares to a lender when a loan was made to a subsidiary for a price of one dollar with an option to repurchase at the book value. Canada claimed that the transfer was genuine and not made solely as security for the loan in an attempt to have the matter characterised as a disposition. The shares were held in trust so that they could not be sold without the consent of the transferor.

In order to determine the correct application of paragraph 54(c)(iv), Lamarre Proulx J.T.C.C. considered the legal positions of the transferor and the transferee and the nature of the act which transferred the ownership. She wrote that in order for a disposition to occur and to avoid the consequences of paragraph 54(c)(iv):

[parai 3] The transferor must not have the intention of absolutely giving up ownership to the property transferred. He must retain the power of recovery. It must be possible to infer from the circumstances of the transfer of ownership that the transferor’s intention was not to give up the ownership of property and that he only gave it up temporarily and in order to provide security for a loan.

[parai5] The intention of the transferee also must not be to absolutely acquire the property, and in my opinion the provisions of the agreement do not indicate such an intent either.

In Canada the shares were given to a trustee who could not sell them without the consent of the transferor who retained the right to repurchase the shares. The provisions of the share transfer agreement did not indicate an intention to make an absolute disposition of them. They indicated an intention to retain some measure of ownership and to be able to recover Ownership completely once certain conditions had been met. Paragraph 54(c)(iv) provides that what would otherwise be a disposition is not a disposition when the transfer is made solely for the purpose of securing the repayment of a debt and not to absolutely give up the ownership of property. Accordingly, my colleague held that since the transferor retained legal rights over the shares, Canada's shares had been transferred as security for a loan and not to make a final transfer. The retention of rights by the transferor is inconsistent with an absolute transfer.

Hence in order for paragraph 54(c)(iv) to apply

(a) The transferor of property must not have the intention of absolutely giving up ownership to the property transferred. The transferor must retain the power of recovery. It must be possible to infer from the circumstances of the transfer that the transferor’s intention was not to surrender beneficial ownership of property but to surrender ownership temporarily in order to provide security for a loan; and

(b) The transferee of the property must not have the intention to acquire beneficial ownership of the property.

In the appeal at bar, the documentary evidence (Agreements to Purchase and Sell, the income tax returns and the Land Transfer affidavits, for example) indicate that Mr. Hallbauer did not, and never intended to, retain the power of recovery over the interests in the Liberty Building he transferred to Mrs. Doerre and Mrs. Hallbauer. The transferees intended to acquire absolute ownership of the interests transferred to them in the property. There is no evidence that Mr. Hallbauer was to regain beneficial ownership of the interests he transferred to Mesdames Doerre and Hallbauer at any time in the future or upon any condition being fulfilled. The appellant testified that he intended to transfer the interests in the Liberty Building for the sole purpose of providing additional security for the outstanding debts. Similar evidence is set out in the affidavits of Mesdames Hallbauer and Doerre. Nevertheless, even if I accept this evidence, I am confronted with the situation that Mr. Hallbauer did not have the power or right to get back the property if he paid the debt, for example. There is also no evidence Mesdames Hallbauer and Doerre did not intend to acquire - and retain - the interests in the property absolutely. As absolute owners they had control as to how the property would be dealt. That was what they intended and that was what they got.

Mesdames Doerre and Hallbauer owned interests in the Liberty Building and upon the building being sold, they would be entitled to proceeds of the sale pro rata to their interests in the property. There was no requirement or intent that their interests ever be returned to Mr. Hallbauer.

In the circumstances, the appellant had disposed of property when he transferred interests in the Liberty Building to Mrs. Doerre and Mrs. Hallbauer: subsection 54(c) of the Act. The interests in the Liberty Building were not transferred for the purpose only of securing a debt or loan.

Applicability of Section 79

Section 79 sets out rules dealing with the tax treatment of the creditor or debtor where the creditor acquires beneficial ownership of a debtor’s property “in consequence of” the debtor’s default in repaying a debt to the creditor, whether or not the debt is secured. For subsection 79(c) to apply,

(i) a debt must have existed between the parties, (ii) the debtor must have previously acquired property, (iii) the debtor must have been in default in paying the debt owing to the creditor, and (iv) the creditor must have acquired (or reacquired) beneficial ownership of the property “in consequence of” the debtor’s failure to pay all or any part of the amount of the debt.

I find that debts existed between the appellant and each of Mrs. Doerre and Mrs. Hallbauer, and that notwithstanding demands on Mr. Hallbauer for payment by these ladies, the appellant did not pay these debts, or any part of them. The issue before me, then, is whether the interests acquired by Mesdames Doerre and Hallbauer in the Liberty Building and by Mrs. Doerre in the Weiler Building were “in consequence of” the appellant’s failure to pay all or any part of the respective debts.

The words “in consequence of” in section 79 have a definite meaning, but the words are not defined in the Act. Linden, J.A. considered the words “Where a person ... receives a loan, ... because or or as a consequence of … a ... office or employment ...” in subsection 80.4(1) of the Act in A.G. of Hoefele v. R., (sub nom. Krull v. Canada) [1996] 1 C.T.C. 131, (sub nom. Canada (Attorney General) v. Hoefele) 95 D.T.C. 5602, at pages 139-43 (D.T.C. 5607-08). [5] At pages 141-42 (D.T.C. 5608) he stated:

the phrases ... “because of” or “as a consequence of” ... as well as ... “by virtue of” ... require a strong causal connection. I find little or no difference between the meanings of the phrases “because of’, “as a consequence of’ and “by virtue of’. Each phrase implies a need for a strong causal relation between subject matters, and merely a slight linkage between them”.

The Shorter Oxford Dictionary On Historical Principles (“Oxford”) defines the word “consequence” as:

1. A thing or circumstance which follows as an effect or result from something proceeding. 2. The action, or condition, of so following; the relation of a result to its cause or antecedent 1656. A logical result or inference M.E.; logical sequence 1571 ...

The french language version of section 79 uses the phrase “par suite de” where the words “in consequence of’ are used in the English version. Le Petit Robert Dictionaire De La Langue Française, 1990, defines “par suite de” as follows:

à cause de, en conséquence de. V. Grace (à). “Par suite d’un refroidissement il lui vint une angine” (FLAUB)

Black’s Law Dictionary (1990 Edition) (Black’s) defines the word “consequence” as

[T]he result following in natural sequence from an event which is adapted to produce, or to aid in producing, such a result; the correlative of “cause”. Board of Trustees of Firemen’s Relief and Pension Fund for City of Tulsa v. Miller, 186 Okl. 586, 99 P. 2.ed 146, 147.

The word “consequence” in the phrase “in consequence of” in section 79 demands that there be a strong causal relation between the acquisition (or reacquisition) of the beneficial ownership of the property by the taxpayer (i.e., the creditor) and the failure by the other person (the debtor) to pay all or any amount owing to the creditor. It is not enough that the debtor’s failure gives rise to, or provides opportunity for, the creditor to acquire ownership of the property. The debtor must realize that if he or she fails to pay the debt when required to do so, the creditor has, as a remedy, the right to acquire the property. The creditor’s right to acquire the property is caused by the debtor’s default. [6]

When the loans were made to Mr. Hallbauer - or subsequently, but before default by the appellant - none of Mrs. Hallbauer, Mrs. Doerre or Mr. Hallbauer had agreed or intended that each of Mesdames Doerre and Hallbauer would be entitled to any interest in the Liberty or Weiler Buildings in the event of the appellant’s failure to pay the particular debt. The acquisition of the interests in the properties by Mrs. Doerre and Mrs. Hallbauer were in respect of or occasioned by Mr. Hallbauer’s failures to pay, between not in consequence of his failures to pay. The difference is slight in fact but clear in law. [7] Mesdames Doerre and Hallbauer did not have any remedy available to acquire interests in the two buildings when Mr. Hallbauer failed to pay the debts. They acquired their interests in the respective properties as a result of negotiations with Mr. Hallbauer after he failed to pay his debt, or at the earliest, when it became clear he could not pay.

The transfers of the interests in the Liberty Building in 1986 and the Weiler Building in 1987 are not dispositions of property to which section 79 applies. The taxable portions of the capital gains realized on the dispositions of the interests are to be included in the computation of the appellant’s adjusted taxable income, as determined by section 127.52 of the Act, for 1986 and 1987 taxation years for the purpose of calculating the appellant’s minimum tax for each year.

The appeals will be dismissed with costs.

Appeal dismissed.