Calb v. R., [1999] 3 CTC 2295

Bowie T . C.J.:

These appeals are from income tax reassessments for the 1991 and 1992 taxation years. By those reassessments the Minister of National Revenue (the Minister) made two adjustments to the management fees reported by the Appellant. The first of these was to assess certain amounts in the years in which they were received by the Appellant, rather than in the years in which he had reported them. The basis of this adjustment is the Minister’s conclusion that these amounts were employment income rather than business income in the Appellant’s hands. I did not understand the Appellant to be seriously challenging this conclusion. What is contested is the Minister’s addition to the Appellant’s 1992 income of an amount of $2,925,000, which it is alleged was received by him as management fees from a company wholly owned by him, and not reported. This amount, according to the Ap- pellant’s evidence, was paid not to him at all, but to a Mr. John Lee (Lee), to whom it was owed as a fee or commission in connection with a real estate transaction. The Appellant also asserts that the amount in question was paid to Lee in 1993 and later, not in 1992.

The Appellant holds degrees in architecture and town planning. Prior to 1980 he gained experience in land development working for others, and in a small way on his own account. Since 1980 he has operated his own land development business, principally in and around Newmarket, Ontario. Each of his development projects is conducted through the medium of a separate corporation. The project with which we are concerned was undertaken by Tebrik Investments Inc. (Tebrik). Carca Development Inc. (Carca) owns all of the shares of Tebrik, and the Appellant owns all of the shares of Carca. Carca serves as the medium through which the Appellant controls the flow of profits from Tebrik, and his other operating companies, to himself and other members of his family, principally in the form of management fees.

The Appellant’s evidence in connection with the disputed amount is that while Tebrik was engaged in the development of land in Newmarket, Lee came to him and indicated that he was in a position to secure a parcel of land (the W land) which was then in use as a tree farm, but which was sought after by developers as having considerable profit potential. Lee did not have the funds to acquire and develop it himself, and he offered to secure it for the Appellant. A deal was made between them, according to the Appellant, whereby, in consideration of Lee’s assistance in acquiring the W land, the Appellant would pay Lee 25% of the profits derived from the development of it, up to a maximum of $3,000,000. This amount was not to be payable, however, until the earlier of two dates — the date upon which 85% of the lots developed on the land were sold, and the date upon which the Appellant had a cash flow sufficient to make the payment. According to the evidence of the Appellant this obligation was initially treated as an obligation of Carca, but he and Lee later agreed, in 1993, that the Appellant would personally assume liability for the debt, and that it would be paid not in cash, as might be expected, but in the following way. The Appellant would, when investing from time to time in businesses, hold one half of each investment on Lee’s account, until such time as the total of his investments made on Lee’s behalf was sufficient to discharge the debt. He then went on in his evidence to describe four different projects in which he invested for himself and Lee. The total of Lee’s share of these investments, he said, came to slightly more than $3,000,000. The Appellant’s evidence was imprecise about the amount of the gross profit made from the development of the W land, but he said that it was about $12,000,000.

The Respondent’s Reply to the Notice of Appeal does little to clarify the theory underlying the Minister’s assessment. It simply asserts in bald terms that the Minister, in assessing, assumed that the Appellant had received $178,750 in 1991 and $4,202,400 in 1992 as management fees, and that these amounts constituted income of the Appellant from an office or employment with Carca. However, it became clear as the trial progressed that the Respondent’s case was based on two alternative theories. One is that the Appellant had, during 1992, removed $2,925,000 from the resources of Carca for his own benefit, either directly or routed through his shareholder loan account, under the guise of paying a fictitious debt to Lee. Support for this theory is said to lie in the fact that the Appellant’s wife bought a home in February 1992, at a cost of $2,950,000. The suggestion was that the amount which the Appellant said that he had agreed to pay to Lee, which was later quantified to be $2,925,000 was used by the Appellant to pay for this house. The Appellant denied this in his evidence, and gave an explanation as to the source of the funds used to purchase the house.

The other theory is that the debt to Mr. Lee was a fictitious one, and that the investments which the Appellant made were really made entirely on his own account, and that his evidence about agreeing with Lee to invest on his behalf to pay the debt is simply untrue.

It is understandable that the Minister would have doubts about the genuineness of the original agreement with Lee, and about the subsequent agreement of which the Appellant testified, to pay Lee by making and holding investments on his account. Documents in the form of a letter of intent signed by them, a subsequent and slightly more formal agreement between them, and four partnership or joint ownership agreements made among the Appellant, Lee, and their wholly-owned companies, were put into evidence. All of these documents suffer in one way or another from deficiencies which would at least arouse suspicion as to their authenticity. Mr. Lee was not called to testify; it was explained that he now lives in Florida, and spends much of his time in China. The Appellant made no application to take his evidence by commission in the United States, although his evidence is clearly crucial to the resolution of the question whether there ever was an agreement between him and the Appellant. The Appellant’s evidence was suspect in many ways, quite apart from its self-serving nature. It seemed to me that his knowledge of his business affairs, and his recollections, varied considerably, depending upon whether the answers would ad- vance his case. When cross-examined he took frequent refuge in the answer that only his lawyer or his accountant could answer the question. His description of his dealings with Mr. Lee and the documents which purport to have been executed by him and Mr. Lee, which invariably were not witnessed, do not have any air of business reality about them.

The other witness who testified for the Appellant was Mr. David Yee, a chartered accountant with the firm of Vottero, Fremes, McGrath and Yee. This firm, or its predecessor, has kept the accounts and prepared unaudited statements for the Appellant’s companies since 1986. Mr. Yee has been involved in this account for all of that time, and is fully familiar with the records of the companies in question. His evidence was that the Appellant first brought the agreement with Mr. Lee to his attention in early 1993, by showing him an invoice which, the Appellant told him, had been sent by Mr. Lee’s company to Carca, and which on its face appeared to be for management services rendered. The amount of this invoice was $2,925,000. Mr. Yee said that he recorded this in the books of Carca as an expense for the year ended 1992, crediting accounts payable in the same amount. When the Appellant told him later in 1993 that he had personally assumed the liability to pay Lee, Mr. Yee recorded this with a debit to accounts payable, and a credit to the loan account of the Appellant.

The crucial evidence of Mr. Yee, however, was to the effect that no payment was made to the Appellant during 1992, directly or through his shareholder loan account, of the $2,925,000 with which the appeal is concerned. Counsel for the Respondent took the position in argument that the bank records of Carca for 1992 were missing from the records provided to the Minister’s auditor, and that this substantiated his first theory. However, Mr. Yee said that he made all of the records of Tebrik and Carca, including the Carca bank records for 1992, available to the auditor during his audit. The auditor was not called to refute that assertion. I accept Mr. Yee’s evidence to the effect that it would not have been possible for the payment alleged to have been made to the Appellant in 1992, directly or by a credit to the loan account, without Mr. Yee knowing about it, and that this did not happen.

Mr. Yee also produced a record of the various payments that the Appellant made on behalf of Lee from the resources of Tebrik and Carca, by way of the investments to which I have referred earlier. Some were paid by cheque, and some by wire transfers. Some were made directly to the companies in which an interest was being acquired, and some were to Mr. Lee himself, or to his company. Counsel for the Respondent suggested that some or all of these might well be payments which were really for the bene fit of the Appellant. That may or may not be so. What is clear, however, is that all of these payments were made in 1993, 1994 and 1995; the earliest was on July 20, 1993, by way of an investment in a company called In- terpaul. Mr Yee’s evidence was that one half of these amounts was to the credit of Lee, and that he so recorded them, because that is what he was told by the Appellant was the case. Mr. Yee is not necessarily in a position to speak with authority as to the beneficial ownership of the investments; his only knowledge as to that came from the Appellant. However he, or others in his firm working under him, gave the instructions to the bank as to the wire transfers, and they maintained the records of the companies’ bank accounts. I accept his evidence as to the timing of the payments. Clearly, even if the Respondent’s contention as to these payments is correct, they cannot constitute an amount received by the Appellant in 1992. It follows that the appeal for 1992 must succeed to the extent of the $2,925,000 amount.

That is sufficient to dispose of the appeals before me. A reassessment of the Appellant for the 1993 taxation year, and a subsequent appeal from it to the Court, are not beyond the realm of possibility, notwithstanding the passage of three years since the original assessment. I shall therefore not make any finding with respect to the genuineness of the alleged agreement with Lee, or the other events which the Appellant testified followed from it.

The appeal from the reassessment for the 1992 taxation year is allowed, and the assessment is referred back to the Minister for reconsideration and reassessment on the basis that the Appellant did not receive the amount of $2,925,000 referred to in these Reasons for Judgment in the 1992 taxation year. The appeal from the reassessment for the 1991 taxation year is dismissed. The Appellant is entitled to his costs.

Appeal allowed.