Her Majesty the Queen v. George H Garneau, [1977] CTC 288, 77 DTC 5190

Marceau, J:—This is an appeal by Her Majesty the Queen against a judgment of the Tax Review Board vacating an assessment dated November 16, 1973 issued by the Minister of National Revenue in respect of the defendant’s taxation year 1972. The issue it raises is whether a loss in the amount of $57,800 sustained by the defendant in the year 1972 should be treated as a business loss, a loss on income account, as claimed by the taxpayer, or a capital loss limiting the defendant to a $1000 deduction from his other income in the said year.

The facts can be summarized as follows.

The defendant has been in brokerage business for more than 20 years. A former chairman of the Canadian Stock Exchange and governor of the Montreal Stock Exchange, he is presently the officer in charge of an investment and brokerage firm for the Province of Quebec.

In 1971, the defendant was president and director of an investment and brokerage firm of Montreal, known as Garneau & Associates Inc. During the summer months of that year, he and other principals of his firm were invited to join a United States partnership carrying on business as J R Timmins & Co, a much larger investment firm than was Garneau & Associates Inc. The offer was made by the senior partner of the group, Robert N Timmins, son of Jules R Timmins, the founder of the more than 50-year-old firm who had died a few months previously.

The defendant was well aware that the capital requirements of J R Timmins & Co were largely satisfied by property contributed to it by the late Jules R Timmins and that under the terms of the constitution agreements this capital could be withdrawn by the latter’s estate within 12 months after his death. He believed, however, that the withdrawal option would not be exercised. He was then assured and took for granted that neither he nor the others coming into the partnership would have to contribute any capital into it. The offer was interesting and he determined to accept it, considering that his association with J R Timmins & Co offered the possibility of a successful future. The business activities of Garneau & Associates Inc were interrupted and a partnership agreement with the new partners was executed, dated October 1, 1971 and entitled “Fifteenth Amendment to Partnership Agreement of J R Timmins & Co” (tab 2 of the book of common evidence). The defendant was to get a salary of $48,000 per annum plus a 7% share of the profits.

Shortly after the commencement of the operations of the new partnership, however, the defendant and his new associates were informed that the executors of the estate of the late Jules R Timmins had decided to exercise their right to withdraw, as of December 31, 1971, a portion of the capital contributed by the deceased. Moreover, as a condition of the continued participation of the estate in the operation of the firm, the executors were requiring that the business of J R Timmins & Co be transferred to a new company to be incorporated, that the remaining capital which was not to be withdrawn be then represented by a subordinated debenture of the company and that the balance of capital required by the rules of the New York Stock Exchange be furnished by the individual shareholders of the new company.

The defendant explained how particularly upset he was by the turn of events, but unlike some of his associates who declined to put up any money, he finally decided to stay on and participate in the proposed company. A revised partnership agreement dated December 1, 1971, was drawn up and executed by the remaining partners (tab 3 of the book of common evidence). A new corporation known as J R Timmins & Co Inc was to be incorporated in the State of Delaware, USA effective January 1, 1972 and each partner was required to buy shares in the corporation at $200 per share to cover the amount of $600,000 needed for the new venture to commence business. The defendant subscribed for 425 shares and paid $85,000, becoming thereby the second largest shareholder in the new company.

The company fared very well for a while but its success proved to be short-lived: not only was it again sustaining losses in the second quarter of the year but moreover, due to a newly-passed regulation of the Ontario Securities Commission, it was faced with the obligation to split in two in order to continue operations in Canada as well as in the United States, thus requiring a new substantial infusion of capital. By midsummer, the principals decided and agreed to sell their shares to some other investment house which would be in a position to carry on the operations in a profitable manner. The sale was completed for $64 a share, that being the best and highest offer they could obtain. The defendant had thus sustained a loss of $57,800.

It is clear to me that, regardless of the decision of the Tax Appeal Board, the burden of proof as to the treatment to be given to such loss for income tax purposes lies on the defendant, and it is a very weighty one indeed. In claiming that the loss he sustained ought to be considered a loss from an employment or business under the Income Tax Act on the ground that the transaction had been “an adventure or concern in the nature of trade’’ (subsection 248(1)), not only is the defendant trying to disprove facts regularly assumed by the Minister when making the assessment* [1] but his contention goes against what can be accepted as being “normal’’ and readily believable. A man does not normally purchase shares in a new company he is himself setting up with others and with which he will remain employed as a speculative venture; the fact that the man is a broker, and the company a brokerage company does not make any difference as the operation cannot but be seen as being isolated and unconnected with his usual trading operations.

And yet, after reviewing the evidence, I have finally come to the conclusion that the defendant had satisfactorily discharged the onus of proof imposed on him. It is well settled that, under exceptional and unusual circumstances, an isolated venture can be considered as a business and the acquisition of shares in a company may be a trading opération!. [2] In my view, the circumstances surrounding the transaction involved here are quite exceptional and unusual and the inferences flowing therefrom induce me to believe the defendant’s contention that he did not purchase the shares as an investment but for the main purpose of making a profit on the resale.

It is not disputed that, when he agreed to join the partnership, the defendant had no intention of putting any money into it. In fact, he had no money to invest, and, like all the others who had joined with him, he was “shocked’’ by the turn of events. He was disturbed and did not know what to do. The evidence shows that he waited until the last minute before he made up his mind and decided to take his chance and participate in the proposed company. He was a professional trader in the field of securities and his analysis of the situation was that the new company, with its background of experience, goodwill and extensive connections in the main trading centres of Canada and the United States, was bound to succeed, at least in the immediate future, which would have enabled him to sell out at a profit within months. True, there were restrictions in the transfer of shares, but these were the restrictions imposed by the rules of the various stock exchanges on which the company held seats and those creating a right of first refusal in favour of the other shareholders given by the articles of incorporation: in his view, no special difficulties were to be expected to follow from these restrictions if the company was to be successful. In any event, it is clearly established that, as soon as April 1972, at a time when the company was doing well, the defendant was actively exploring the possibility of resale and soliciting offers in an effort to complete a deal.

There were no doubt other business reasons behind the defendant’s decision to participate in the new company. He himself testified that he was afraid of having to share in the costs of an inevitable winding-up if the firm were to be left without sufficient capital. It can also be assumed that he was reluctant in resigning himself to such a professional setback, even though it was never suggested that his decision could have been made for the purpose of retaining his employment. But, in my view, the possibility of reselling his shares at a profit in the near future was the main motivating reason why the defendant agreed to purchase them in the first place.

The principle being that it is the intention of the purchaser of an asset when he acquires it that is crucial to the question whether that asset is an investment or a stock in trade,* [3] I am of the opinion that the Minister was wrong in assuming that the payments made by the defendant in 1972 to acquire a certain number of shares of J R Timmins & Co Inc were on account of capital and must be considered an investment. In the circumstances in which they were made, they were Outlays for gaining income from “‘an adventure in the nature of trade”. As the adventure turned out to be unsuccessful, the loss sustained on the resale of the shares a few months later is to be treated as a business loss.

The action therefore must be dismissed with costs.