Morris Feinstein v. Minister of National Revenue, [1978] CTC 2219, 78 DTC 1171

Roland St-Onge (orally: February 28, 1977):—The appeal of Morris Feinstein came before me on February 25, 1977 at the City of Montreal, Québec, and it is with respect to a reassessment wherein non-resident tax, interest and penalties were levied in respect of the appellant’s 1970 and 1971 taxation years.

The appellant, a resident of Canada, owned a complex of nine rental buildings of 28 apartments each, known as Fleury Gardens, located at Place Meilleur in Montréal. In 1970 the appellant entered into negotiations with Mr Herman Lipsitz, a resident of the United States, and received $100,000.

At the hearing Mr Morris Feinstein explained the following: Since 1952 the appellant has been buying and selling buildings, raw land, either personally or through companies. He kept some buildings for himself and he was always in need of money that he was getting from the banks, mortgage companies, Central Mortgage and Housing Corporation, private parties, and consequently he was in the habit of giving his buildings as securities and of borrowing money at a rate of some 14% interest.

In the month of October 1970 Mr Lipsitz, a lawyer from the United States, came with his wife to Montreal for a weekend. On this occasion the appellant tried to sell him some land but the latter was not interested. As already mentioned, the appellant was in need of $100,000. Mr Lipsitz agreed to lend the money and was even ready to accept the appellant’s personal guarantee and a mortgage on the said buildings which he owned personally. The next day Mr Lipsitz with his wife, who is also well off, went to see a lawyer and were advised not to accept a mortgage, but instead to get titles to the buildings. The explanation was that the appellant had already granted two mortgages on the said buildings and his equity therein was only some $500,000. On October 14, 1970 the appellant transferred his titles on five of the nine buildings to Mr Lipsitz and received $100,000 therefor. On November 3, 1971 the appellant exercised his option and purchased back the five buildings from the non-resident; later, he sold the nine buildings to a Mr Roy for $1,650,000, who in turn sold them for $3,200,000.

Mr Feinstein testified that he never sold the five buildings but obtained from Mr Lipsitz a loan of $100,000 at 9% interest; that he never paid or credited to him the sums of $32,499.75 in 1970, and $123,729.25 in 1971, as alleged by the respondent, but only $9,000 in each year; that before selling the nine buildings to Mr Roy, he offered them to Mr Lipsitz for $1,650,000, which was $20,000 less than the transfer for each building but Mr Lipsitz was not interested. He went on to say that he transferred $455,000 to one Mr Hurwitz, a friend of Mr Lipsitz, in order to protect his own equity in the buildings.

At this juncture the Board has to refer to the documentary evidence. On October 14, 1970 Messrs Morris Feinstein and Herman Lipsitz were parties to three separate documents, a deed of sale, a lease and an option to purchase the said properties. According to the deed of sale, the appellant sold five buildings. for $1,100,000 and received $100,000. The purchaser undertook to pay the balance of $1,000,000 to the Crown Life Insurance Company and some $455,000 to the vendor on October 14, 1973 at an interest rate of 5% per annum. It is further stipulated, and I read from Exhibit A-1, tab 1, at pages 19 and 7:

p 19:

The Purchaser shall have the right to prepay the whole or any part of the said sum at any time remaining unpaid without notice, bonus or indemnity.

Notwithstanding any other term, clause, condition or stipulation herein contained, the Vendor renounces by these presents to any right, recourse or action existing in his favour to hold the Purchaser personally responsible or sue the Purchaser personally for the said sum of FOUR HUNDRED AND FIFTY-FIVE THOUSAND SIX HUNDRED AND TWENTY-EIGHT DOLLARS AND SIX CENTS ($455,628.06) and interest thereon, it being acknowledged between the Parties hereto that payment of the said sum of FOUR HUNDRED AND FIFTY-FIVE THOUSAND SIX HUNDRED AND TWENTYEIGHT DOLLARS AND SIX CENTS ($455,628.06) shall only be guaranteed by a Privilege and a Hypothec and the rights under the Resolutory Clause created in favour of the Vendor in virtue of these presents.

P 7:

The Vendor hereby warrants that he will pay the required stipulated payments of interest and furthermore warrants that he will pay and discharge the capital sums due to the said Creditors at maturity or earlier, should the said Creditors have the right to demand earlier payment, together with any penalty assessed thereon and the Purchaser will not be called upon to pay the said sums.

The Purchaser agrees to tolerate the said Hypothec but does not assume the same.

According to this document, the appellant had no right to obtain the sum of $455,000 before the end of three years. The appellant testified that he never received this sum and that the 5% interest was never paid. As already mentioned, a deed of lease was executed the same day by the same parties for the same buildings and for a term of three years which corresponded to the clause in the deed of sale by which the appellant renounced to sue Mr Lipsitz for the sum of $455,000, which sum was payable only on October 14, 1973. The lease was made for an annual rental of $9,000 payable by way of 12 monthly instalments of $750 each.

It was further provided that the appellant would be in exclusive control and possession of the premises and that Mr Lipsitz would not, in any event whatsoever, be liable for any injury or damages to any property or to any person happening in, upon or about the leased premises. On the same day again Mr Lipsitz granted to the appellant an option to purchase the same buildings by paying the $100,000 and assuming the balance then remaining payable in capital to the Crown Life Insurance Company and also by assuming the payment of $455,628.06 due to himself.

Counsel for the appellant argued the following three points:

(1) the substance and not the form of the transaction must prevail in civil law and income tax matters;

(2) should the form prevail, the deed of sale and the option to buy back constitutes a sale with right of redemption rather than a sale with an ordinary option;

(3) de facto there is no amount of money credited as rental except the $9,000 a year on account of the non-resident, all the expenses relative to the five buildings were paid by the appellant.

Counsel for the appellant referred the Board to a voluminous jurisprudence on form and substance, on sale with contre-lettre, on sale with right of redemption and on ordinary options. He has also Summarized the facts and examined every pertinent clause of the three documents to come to the conclusion that the true nature of the three documents passed on the same date was a loan of $100,000 at 9% interest and. that effectively. the appellant paid the said sum of $9.000 in each taxation year, 1970 and 1971.

Counsel for the respondent argued that in 1970 the appellant wanted to borrow money but effectively he sold his buildings because the first document is a registered deed of sale and the two other documents are not; that the said documents cannot be contradicted by verbal evidence and that they are not ambiguous, that nowhere in the documents mention is made of a loan and that this transaction cannot be regarded as a sale with a right of redemption.

According to the terms of the three documents, the deed of sale, the lease and the option to purchase, which were entered into on the same day by the same parties and with the same goal in sight, which had to be executed at the end of three years, it appears that the substance of the transaction was the loan of $100.000 at 9% interest, that the appellant was still acting as the owner of the buildings and the non-resident was only a lender of money with the best security for his loan of $100.000.

This situation can be well understood by the way the appellant used to do business. Furthermore, the uncontradicted evidence of the appellant has to be taken into consideration in fact and in law because the deeming and the uncommon clauses of the three documents allowed the Board to. disturb the form of the document in order to find the true nature of the transaction. Furthermore, the respondent was very vague in trying to establish under which section of the Income Tax Act the appellant was reassessed and how the Minister arrived at this substantial rental income of some $32,000 in 1970 and some $123.000 for 1971. The Board cannot understand that a taxpayer would consent to an irrevocable sale of his buildings under such conditions, nor does it understand that a taxpayer would manage five buildings of 28 apartments each and pay in a span of one year and three’-weeks some $156.000 in rental in addition to $18,000. In the case at bar the respondent is going much too far by asking the appellant to decide what was the income of a non-resident when the respondent himself was unable to establish his figures and also that the Board was put in a position to decide whether the transaction was an ordinary sale, a loan. a lease, a sale with a right of redemption or what was the effect of a resolutory clause. The Board is of the opinion that the respondent would have been more reasonable to accept as income to a non-resident the amount of some $18,000 that the appellant actually paid to him. After all, the appellant is asked to pay tax. penalties and interest on income of a non-resident; in such a situation, the respondent has the onus to establish his case with much more precision and should not rest on mere suspicions.

For these reasons, the appeal is allowed and the matter is referred back to the respondent for reconsideration and reassessment accordingly.

Appeal allowed.