James C Denbow v. Minister of National Revenue, [1979] CTC 2162, 79 DTC 175

M J Bonner:—This is an appeal from an assessment of income tax for the appellant’s 1975 taxation year. On assessment the respondent disallowed the deduction of $2,500, claimed as a loss from farming. The principal issue was whether the appellant’s farming operation was carried on with a reasonable expectation of profit. Were it not, the expenses of the operation would be “personal or living expenses” within the meaning of subsection 248(1) of the Income Tax Act and, in consequence, their deduction would be prohibited by paragraph 18(1)(h) of the Act.

The appellant is thirty-one years old. He was born and raised on the family farm near Souris, Manitoba. That farm is now operated by his father. The father’s farm business is a mixed grain/cattle operation.

The appellant is now and has for the last six years been employed as a construction electrician, an occupation from which he derives a reasonable income. It is his plan, however, to make farming his sole source of income. The appellant has reached an informal understanding with his father that he will buy the father’s farm when the latter, now sixty-five years of age, retires. The appellant has therefore pursued a course of action designed to acquire farming assets which will be paid for and available as collateral to assist in the purchase from his father.

Initially in 1970 the appellant bought three cows. The herd was enlarged to eight cows in 1972 and 1973. He kept some of the calves and bred them to increase his herd.

In 1970 and 1971 the appellant kept his cattle on his father’s farm. He then rented pasture for his animals in 1972 and 1973. In 1974 he bought a one-half section of land nine miles from his father’s farm and he has since kept his animals on his own land save during winter periods when they are kept on the father’s farm. The soil on the land purchased by the appellant was of a type suitable for the production of grass for grazing. Although the appellant borrowed approximately one-half the cost of the half section from the bank he has since paid off the bank loan from his earnings as an electrician.

The appellant’s animals are beef stock, a Hereford-Charolais cross. In 1975 the appellant sold only one animal, an over-aged cow. He has generally followed the practice of keeping his calves to build a breeding herd. He is now in a position to sell some calves in the fall and keep only the stock which he wants for breeding.

Since the purchase of his own land the appellant has made diligent efforts to improve it. At the time of purchase the fences were poor. He has restored or replaced all of the fencing, doing almost all of the work himself during periods while he was layed off his work as an electrician. He has broken fifty acres and seeded it in alfalfa to produce hay. After 1975 he built a corral and ancillary installations for handling cattle.

After purchasing the one-half section the appellant acquired various pieces of farming machinery and equipment at a cost of $4,350. The equipment is fully paid for. Although the appellant does not have a complete line of equipment he is able to use his father’s equipment when needed as, for example, in the seeding operation mentioned above.

Although it is not clear from the evidence, I believe the appellant suffered a loss in 1978 because he was not prepared to sell any cattle that year. The appellant has sufferred losses consistently from 1972 to 1977. He expects to earn a profit in 1979. He bases that expectation on three factors:

(a) better beef prices,

(b) a plan to buy yearlings in the spring, graze them and sell them in the fall, and

(c) his land is “getting into shape”.

I do not consider that the appellant’s expectations of better financial results in the future is based on wishful self-deception. The appellant impressed me as a witness who was candid in giving his evidence and as a man who has and, I find, in 1975 had the requisite means, knowledge and determination to make a profit from his farming activities. I cannot therefore find that in 1975 there was no reasonable expectation of profit. The situation may well have been different in years prior to 1975 in that the appellant might not then have had sufficient capital invested in his operation to make an expectation of profit “reasonable” by objective test. In those prior years the appellant did not own (or had not fully paid for) his one-half section and his herd was smaller. It is unlikely that the appellant will earn substantial profits from farming on his present scale but I have concluded that at least as early as 1975 he had a reasonable expectation of earning some profit, even during the interim period prior to the expected purchase of his father’s farm and the inception of full-time farming operations.

Accordingly the appeal must be allowed and the assessment referred back to the Respondent for reconsideration and reassessment on the basis that the costs of the appellant’s farming operation were not “personal or living expenses”, the deduction of which is prohibited by paragraph 18(1 )(h) of the Act. However, the full amount of the loss claimed cannot be allowed on reassessment.

The appellant’s counsel conceded that the cost of fence posts should properly have been capitalized. On the reassessment to be made pursuant to this decision the respondent should give effect to that concession.

In addition, capital cost allowance was claimed on a snowmobile and, I gather, operating expenses as well. The capital cost of the snowmobile was, as a result of an error made by the appellant’s accountant, overstated on his return. The evidence established the cost to be $1,920.79. Although the respondent challenged any deduction in respect of that asset the appellant’s evidence, which I accept, was that it was used for purposes of bringing bales of feed to the cattle in the winter time, travelling to the water hole to open it, and checking the operation of an electric fence used to protect hay which was stored in the open on the appellant’s land. Such use amounted to 25% only of the total use and accordingly that percentage only of the capital cost of the snowmobile can, by virtue of paragraph 13(7)(c) of the Income Tax Act, be taken into account in computing capital cost allowance. The operating expenses of the snowmobile will similarly be adjusted on reassessment.

Appeal allowed in part.