Akhtar v. R., [1998] 3 CTC 2888

Lamarre T.C.J.:

This is an appeal under the informal procedure from an assessment made by the Minister of National Revenue (“Minister”) under the Income Tax Act (“Act”) for the 1993 taxation year. The Minister disallowed, pursuant to subparagraph 20( 1 )(/)(ii) of the Act, a reserve for doubtful debts in the amount of $11,150.06 that was claimed by the appellant in her 1993 tax return as “carrying charges and interest”. In so assessing the appellant, the Minister relied on the following facts:

(a)

(b) the Appellant commenced a money lending operation of an investment nature in 1985:

(c) she did not hold herself [out] to the public as a moneylender by any type of advertising;

(d) the borrowers of her funds were restricted to a few individuals (3 individuals in the period from 1985 to 1993) with whom her lawyer was acquainted;

(e) the number of loans and mortgages given by her over the period from 1985 to 1993 approximated 8 transactions;

(f) during the period from 1985 to 1993, the loans and mortgages given by her were usually of short duration and there were periods when she held none in her portfolio;

(g) the Appellant had no commercial organization such as an office, employees, stationery, and office equipment;

(h) in all instances the loans and mortgages were made through her lawyer, Mr. Flumian;

(i) in all instances the negotiations with respect to the rates of interest, amount, duration, terms of repayment were performed by Mr. Flumian;

(j) in all instances no credit checks on the borrowers were performed;

(k) no books or records with respect to the loans and mortgages were kept by her;

(l) there were no other active business transactions performed by her after she acquired the loans and mortgages;

(m) the lending operation of the Appellant required very little of her time and she devoted most of her time to her store on the Sparks Street mall;

(n) she did not identify herself as operating a money lending business in any of her tax returns since [the] inception of her lending operation;

(o) her money lending operation was of an investment nature in which the emphasis is predominantly on the capital aspect and the return one may expect from capital alone;

(p) lending of money was not part of her ordinary business and the loans and mortgages were not made or acquired by her in the ordinary course of her business of lending money;

(q) the loans and mortgages given by her and outstanding as at December 31, 1993 do not individually constitute a venture in the nature of trade.

The agent for the appellant admitted subparagraphs c), f), h) and n) above. The appellant listed in Schedule A to the Notice of Appeal all the transactions that took place. That list is reproduced as an attachment to these reasons.

The relevant portion of paragraph 20(1 )(/) reads as follow:

(1) Notwithstanding paragraphs 18(1 )(a), (6) and (/i), in computing a taxpayer’s income for a taxation year from a business or property, there may be deducted such of the following amounts as are wholly applicable to that source or such part of the following amounts as may reasonably be regarded as applicable thereto:

(/) a reserve determined as the total of

(i) a reasonable amount in respect of doubtful debts that have been included in computing the income of the taxpayer for that year or a preceding year, and

(ii) an amount in respect of doubtful loans or lending assets of a taxpayer who was an insurer or whose ordinary business included the lending of money, made or acquired by the taxpayer in the ordinary course of the taxpayer’s business of insurance or the lending of money, equal to the total of

In order to deduct a reserve for doubtful debts, the appellant must show on a balance of probabilities that the debts in issue arose from loans made in the ordinary course of a business operated by her and that part of her ordinary business includes the lending of money.

In Schedule A to the Notice of Appeal, the appellant detailed the loan transactions. From 1985 to 1993, she recorded 10 transactions in total, with three individual borrowers only. Of these 10 transactions by the appellant, six loans were apparently secured by second, third and fourth mortgages at rates varying between 11% to 18% (with the exception of the first loan, which carried a 40% interest rate and was financed out of the appellant’s personal funds). The rest of the loans, according to this Schedule, were secured by three promissory notes and one general security agreement.

In fact, the evidence revealed that the first two promissory notes were given by one individual (Mr. Cotroneo): one, in the amount of $50,000, was dated December 4, 1989, and the other, in the amount of $20,000, was dated January 18, 1990. The appellant never received payment on these two promissory notes, which were rather incorporated into one mortgage loan ($133,000) made on February 23, 1990 (being one of the six mortgage loans mentioned above).

The evidence also revealed that one of the loans, in the amount of $210,000, made to another individual (Mrs. Lucio) on June 21, 1991 and secured by a third mortgage broke down as follows: one mortgage loan of $154,773 and a $50,000 loan secured by a general security agreement. The $50,000 loan plus the unpaid interest in the amount of $16,500 were in turn converted into a $66,500 loan secured by a promissory note.

In the end, the three loans to Mrs. Lucio appearing in Schedule A ought more properly be categorized as one transaction. The same reasoning could apply to the three above-mentioned loans to Mr. Cotroneo, as they were in fact related to one transaction.

The appellant was not in court to testify. Her husband, Sultan Akhtar was the only witness. He said that the appellant had owned a ladies’ boutique in Ottawa since 1972 and that she had been working there full time ever since. He himself had worked full time for the government of Canada but he retired in 1996.

In 1985, the appellant was hurt in a car accident and she received a settlement amount from an insurance company. Part of that lump sum was used to reimburse the mortgage on their personal home and the balance was invested in the loans.

Mr. Akhtar mentioned that he wanted to place the money in suitable ventures. His lawyer, Mr. George Flumian, identified some of his clients who were in need of money. He therefore suggested to the Akhtars that they participate in the real estate market through second, third and fourth mortgages. The Akhtars did not perform any independent investigation regarding the borrowers and relied totally on the recommendation of Mr. Flumian. Mr. Akhtar however satisfied himself that the amounts of the mortgage loans were covered by the appraised value of the mortgage property. The first three loans were financed out of personal funds and the other loans by borrowings against the equity of the Akhtars’ personal home. The Akhtars in fact borrowed around $225,000 from Canada Trust and the Bank of Montreal to finance their loans.

With regard to the loans to Mr. Cotroneo, Mr. Akhtar had in hand a list of Mr. Cotroneo’s assets. According to Exhibit A-l, the total assets owned by Mr. Cotroneo at that time totalled approximately $3,000,000. The property securing the $133,000 loan was appraised at $530,000 by the Royal Bank and the first two mortgages on that property that had priority over the appellant’s mortgage amounted to $350,000 altogether. Mr. Cotroneo apparently made payments for three years before declaring bankruptcy. Mr. Cotroneo apparently also paid a $3,000 bonus to the Akhtars at the time the loan was granted.

As for the mortgage loan in the amount of $210,000 to Mrs. Lucio, Mr. Akhtar apparently relied as well on an appraisal made on an apartment building securing the loan - this building was valued at $2,030,000 and, according to. Mr. Akhtar, the appellant’s mortgage was substantially covered by that appraised value (See Exhibits A-2 and A-3).

Mrs. Lucio was declared bankrupt in October 1997. At that time, an amount of $230,000 was owed to the appellant (Exhibit A-10). The appellant was apparently not repaid out of the proceeds of the bankruptcy. After that, the appellant made no more loans.

During all the years in question, the income from the loans was reported as investment income. The amount of $11,150.06 that is now claimed as a doubtful debt reserve was initially claimed as a carrying charge against the income from the loans.

Furthermore, Mr. Akhtar could not provide any evidence that the promissory notes were secured in any manner. As well, most of the mortgage loans described in Schedule A to the Notice of Appeal are unsupported by any document.

The agent for the appellant submits that the loans made by the appellant and her husband constitute a business. In the alternative, he submits that if, taken together, the loans do not constitute a business, each loan constitutes a venture in the nature of trade, and consequently a business, by virtue of the definition of a business in subsection 248(1) of the Act. In either case, he submits that the reserve for doubtful debts is a proper deduction in computing profit under the provisions of subsection 9(1) by virtue of subparagraph 20(1 )(/)(») of the Act.

As for the respondent, her counsel’s submission is that the appellant’s money-lending activities do not constitute a business or a venture in the nature of trade entitling her to the deduction of a reserve for doubtful debts pursuant to subparagraph 20( 1 )(/)(ii). Counsel submits that the appellant’s money lending activities are of an investment nature.

Analysis

The question of whether or not someone is carrying on a business as a money-lender is essentially a question of fact. In Orban v. Minister of National Revenue (1954), 54 D.T.C. 148 (Can. Tax App. Bd.) (a decision of the former Income Tax Appeal Board), reference was made to the case of Newton v. Pyke (1908), 25 T.L.R. 127, at p. 128, where it was held that there must be a certain degree of system and continuity about the loan transactions before these transactions can be considered as the carrying on of a money-lending business.

In the Orban case, the taxpayer made only three loans in two years and the Board accordingly concluded, at p. 150:

On the facts established and considering the foregoing authorities, I cannot find that appellant was a money-lender, properly so called. It appears to me that he was more of an investor. He did not hold himself out as being a money-lender, and that he had some money available was known to only a few individuals with whom he was acquainted. He neither advertised himself nor was listed anywhere as a money-lender. I have reached the conclusion that, unfortunate as it may be, what the appellant lost must be regarded as a capital loss and not deductible from his net income and that on no ground raised by him in his notice of appeal can the relevant assessment be disturbed.

In R.S. Jackson Promotions Ltd. v. Minister of National Revenue (1985), 85 D.T.C. 145 (T.C.C.), the taxpayer became involved in investing its surplus earnings in mortgages. It lost substantial sums of money on one mortgage, which loss it tried to deduct as a bad debt expense. The Minister had disallowed the deduction on the basis that the taxpayer was not carrying on a business as a money-lender. Judge Sarchuk of this Court concluded as follows at pages 148 and 149:

I have concluded:in the particular circumstances of this case that the appellant was not in the business of lending money but was investing its surplus assets. The appellant did not conduct this activity as a money-lender would. It never bought or sold mortgages at a discount and never borrowed money for the purpose of its alleged money-lending business but only invested its retained earn- ings. Money-lending was not one of the business objects of the corporation. It was not ready and willing to lend to all and sundry; there was no pattern of making funds available to potential borrowers nor was there a seeking out of borrowers; all mortgage loans were granted to the same individual and were made through one law firm. The appellant did not hold itself out as a moneylender either by advertising or word-of-mouth, was not licensed or listed as a money-lender and had no commercial organization. The number of loan transactions was extremely limited totalling ten in a period of six years. The principal officer in addition to his promotional and media activities was the principal of a high school in Ottawa from 1971 to 1974 and in 1975 and 1976 coached the Toronto football team and devoted little if any time to “managing” the business. There was no active business-like involvement by the appellant in the production of this income. In addition to the foregoing in its 1975, 1976, 1977, 1978 and 1980 taxation years the appellant did not take the interest earned into account in its active business income (for purposes of a small business deduction pursuant to section 125 of the Act) but rather treated such amounts as investment income.

The presence or absence of any single factor referred to does not by itself establish whether that the appellant was not carrying on the business of money-lending. It is the cumulative effect of this evidence that leads the Court to that conclusion in the case at bar.

These comments may properly be applied in the present case. All the mortgage loans were granted to three individuals and were made through the appellant’s lawyer, with whom she was acquainted. The evidence did not reveal that the appellant held herself out as a money-lender either by advertising or word-of-mouth. She was not licensed as a money-lender and had no commercial organization. The number of loans was extremely limited, totalling in fact six transactions in a period of 8 years. There was no active business-like involvement by the appellant in the production of this income and it was in no way related to her business activities in her ladies’ boutique. Over the years, the appellant always treated her income from the loans as investment income in her tax returns.

The only distinction that can be made between this case and the Jackson case is that the appellant borrowed money for some of the loans. However, Mr. Akhtar testified that he and his wife took advantage of the settlement amount received from the insurance company to reimburse the loan on their personal home. Later on money was borrowed against the equity of their house. Had they not done this, they would presumably have invested the money available in these mortgage loans.

The agent for the appellant put much emphasis on one decision of the former Tax Appeal Board, Valutrend Management Services Ltd. v. Minister of National Revenue (1971), 72 D.T.C. 1147 (Can. Tax App. Bd.), in arguing that the appellant made judicious loans of substantial sums that were part of her income earning process and part of her ordinary business activities. I find the evidence in Valutrend to be distinguishable from the evidence in the case at bar.

In the Valutrend case, the taxpayer company had a number of offices with about 15 employees. In its tax returns, its business was referred to as being in the area of management services and securities trading, but in a subsequent amended return its business was stated to be loans and administration services. The loans in question were designated as commercial loans rather than individual loans. Hence, the Board came to the conclusion that the loans were made in the ordinary course of the taxpayer’s business. On the facts before me in the case at bar I cannot arrive at the same conclusion.

Similarly, the other case referred to by the agent for the appellant, R. v. E.V. Keith Enterprises Ltd. (1976), 76 D.T.C. 6018 (Fed. T.D.), is easily distinguishable. In this latter case, the defendant company was able to demonstrate that it had established over the years a pattern of loaning money to accommodate persons and companies doing business with the operating entities through which its construction and other activities were carried on. In the present case, the appellant, who owns a ladies’ boutique, has not shown that the loans in question were made in the ordinary course of her business.

I therefore conclude that, in advancing funds to the three individuals Dietz, Cotroneo and Lucio, the appellant was not carrying on the business of lending money. On the evidence before me, the activities of the appellant may be more accurately described as the making of a series of investments. The following words of M.J. Bonner (now of this Court but at that time a member of the Tax Review Board) in Eisen v. Minister of National Revenue (1980), 80 D.T.C. 1430 (T.R.B.) at p. 1432 are apposite here:

Where an individual uses money which he has saved by lending it at interest he is, I think, prima facie making an investment. The fact that he evaluates the risk inherent in a loan does not change the position. No prudent investor would fail to do so.

The interest so earned in the case at bar was not therefore derived from an activity which could be characterized as a business or an adventure in the nature of trade.

Furthermore, even if each loan was to be characterized as an adventure in the nature of trade, the appellant was not carrying on a business with respect to the money-lending (as by definition one involved in an adventure

in the nature of trade does not carry on a business: see Friesen v. R. (1995), 95 D.T.C. 5551 (S.C.C.), at pp. 5561 and 5571; Minister of National Revenue v. Tara Exploration & Development Co. (1970), 70 D.T.C. 6370 (Can. Ex. Ct.), aff’d (1972), [1974] S.C.R. 1057 (S.C.C.); Direnfeld v. Minister of National Revenue (1985), 85 D.T.C. 172 (T.C.C.)). Therefore, it cannot be said that the debts arose from loans made in the ordinary course of the appellant’s business, which implies in my view the carrying on of a money- lending business.

The appeal is dismissed.

Appeal dismissed.