Vincent Doriste Moreau v. Minister of National Revenue, [1977] CTC 2249, 77 DTC 153

The Assistant Chairman:—Mr Moreau carries on the business of a general insurance agent in the Town of Penetanguishene in the Province of Ontario. In preparing the financial statements for his business for the 1973 taxation year, Mr Moreau deducted an expense in the amount of $29,493.55 in determining his net profit for the year from his business. A notation opposite the expense on his financial statement stated: “Purchase of List of Customers”. The Minister of National Revenue, in due course, assessed Mr Moreau for the 1973 taxation year and disallowed that deduction. The Minister, however, did allow Mr Moreau a deduction on account of eligible capital property. Mr Moreau, believing that the expense was properly deductible, objected to the Minister’s assessment and, following a further reassessment on another point, appealed to the Tax Review Board. The only issue between the parties is whether or not Mr Moreau may claim the amount mentioned as a deduction in arriving at his net profit for his business for the year 1973. The parties agree that, if Mr Moreau is entitled to the deduction, the appeal should be allowed and the matter referred back to the Minister to allow the deduction, but then he would have to remove the allowance on account of eligible capital property. Should it be that the Minister was correct in disallowing the claim of Mr Moreau, then the assessment has been properly made.

Purely for background, it should be noted that Mr Moreau was born in the Town of Penetanguishene and worked for a chartered bank for some 22 years. In 1963 he returned to Penetanguishene and opened an insurance office. In Penetanguishene at that time was a gentleman whose name was Jerome J Gignac. Mr Gignac was in a business and concurrently had a business or sideline of selling insurance. Mr Moreau purchased from Mr Gignac his insurance business. The business he purchased consisted of about 150 clients’ names and files. Initially Mr Moreau carried on his business from his home, but then, around 1965, moved to a business office. Mr Moreau has been active in local politics, having been the mayor of the Town of Penetanguishene for, I believe, the last seven years.

In 1972, as well as for many years previous, another insurance agent had been carrying on business in the Town of Penetanguishene. His name was Marcel Francis Bellehumeur. Mr Bellehumeur let it be known that he was prepared to retire and was interested in disposing of a list of his clients. As a result of this information, Mr Moreau got in touch with Mr Bellehumeur and, as a result of their discussions, the two of them entered into an agreement which is dated December 29, 1972. It was pursuant to this agreement that Mr Moreau incurred the cost of $29,493.55 which is the quantum in dispute in this appeal. The relevant paragraphs of the agreement are as follows:

6. The Vendor agrees that the physical delivery of the renewal customer lists and the files in conjunction therewith shall constitute the transfer of all his right, title, interest, property claim and demand whatsoever of the Vendor of, into and out of the same in every part thereof.

7. It is agreed that no other assets of the Vendor’s business are part of this transaction, nor is the vendor to be limited in the use of his name for further continuance of business, nor is there any transfer of goodwill in this transaction.

9. The Vendor shall from time to time, at the purchaser’s request and without further consideration execute, and deliver such other instruments of transfer, conveyance and assignment and such other action as the purchaser may require more effectively to transfer, convey and assign to and vest in the purchaser the renewal customer lists and files and to put the purchaser in possession of any property to be transferred, conveyed, assigned and delivered pursuant thereto.

10. The Parties hereto agree that the clients or customers of the Vendor and their files as set out in Schedule “A” attached hereto shall remain the sole and exclusive property of the Vendor and are not to be considered as part of this transaction and shall be serviced by the Vendor and he shall be entitled to all commissions paid thereon.

Schedule “A” which is referred to in paragraph 10 above lists approximately 32 names. The majority of the individuals who were referred to, if they were not relatives of the vendor, were very close friends of his. Three or four of the names were companies or corporations with which the vendor had had a long personal contact. The transaction was duly completed in 1973.

The representative of the appellant clearly brought out that, in the appellant’s submission, there was not a business purchased. Not only that, nothing was purchased except a customer list: there was no furniture, no accounts receivable, no fixtures, no name and no obligation on the part of Mr Bellehumeur not to compete against Mr Moreau. Mr Moreau stated, if I recall correctly, that Mr Bellehumeur was prepared to retire and he was an honourable man. Mr Moreau was not concerned that Mr Bellehumeur would go out and compete against him. Even though he had turned over all his files save those referred to in Schedule “A” to Mr Moreau, he still could start a new file if he wished, but, in so far as Mr Moreau was concerned, that would not be like Mr Bellehumeur. It was also pointed out that Mr Bellehumeur does carry on a small insurance agency today consisting basically of selling insurance to those persons mentioned on Schedule “A”. It was also brought out that, while Mr Bellehumeur does his business in his own name and from his own office, since his agency is so small, the insurance is placed through the agency of Mr Moreau. Mr Moreau gets the billings from the insurance company with respect to the insurance placed by Mr Bellehumeur and Mr Moreau sends those billings on to Mr Bellehumeur for collection. Mr Bellehumeur collects from his own clients and Mr Moreau has nothing to do with them. He does, however, charge Mr Bellehumeur 10% of his commission for the services he renders. Mr Moreau has no connection with those clients in that he does not invoice them or remind them that their policy is coming up for renewal. Mr Moreau hoped, when he made the purchase of the customer list, that he would retain about 80% of those names as his clients. He stated that he thought he had retained about 85% but he does know that he did lose some, and some of those which he did lose were substantial accounts. As to the transfer between the parties, Mr Bellehumeur sent a letter to his clients dated December 22, 1972. Mr Moreau stated that Mr Bellehumeur did this on his own. There was no requirement for him to do so, but Mr Moreau believed that Mr Bellehumeur mentioned it to him before the letter was sent out. Naturally Mr Moreau did not object to the letter going. The body of the letter reads as follows:

22 December, 1972.

Dear Client,

In order to maintain my standards of service to you, while permitting myself to devote more time to life insurance promotion and to well-earned periods of leisure, I have made arrangements to have most of my general insurance accounts serviced by the agency of Vincent Moreau, 79 Main Street, Penetanguishene, P.O. Box 261, telephone 549-8362.

Realizing that I am mortal, I had to decide to make this move sometime. Now, while there is no urgency, I have been able to select the agency which I feel will best maintain the conscientious and reliable service I have always tried to give.

From January 1, 1973, Vince, ably assisted by his son, John, will have the full responsibility (and profit) of your account.

Vince has had several years experience as a bank branch manager; for the past eight years, he has been operating his own insurance agency here in Penetanguishene, while taking an active part in several community organizations; he is now starting his fifth year as Mayor of our town. I am confident that he will serve your insurance needs competently and sympathetically.

I thank you and my other clients for the co-operation and patronage you have given me for twenty-six years, and trust you will give the same to Vince and John.

Sincerely yours,

(signed) Marcel Bellehumeur.

Within the first couple of weeks in January 1973, Mr Moreau placed an advertisement in the Midland Free Press. The advertisement reads as follows:

PUBLIC

ANNOUNCEMENT

Vince Moreau Insurance

Has Purchased the Files of

MARCEL BELLEHUMEUR INSURANCE

Effective January 1st, 1973

Mr. Moreau extends an invitation to former Bellehumeur Insurance clients to discuss their insurance needs with Vince Moreau insurance now that Mr. Moreau has purchased Mr. Bellehumeur’s insurance business. You are assured the same kind of sincere and co-operative service, with your personal needs in mind at all times.

ALSO WE ARE NOW LOCATED AT OUR NEW ADDRESS

PEEL STREET (OPPOSITE THE ANGLICAN CHURCH)

VINCE MOREAU INSURANCE

Penetanguishene 549-8362

With this as a background, the representative for the appellant takes the position that Mr Moreau purchased only a customer list, nothing more. He did not purchase goodwill, he did not purchase a business, and consequently what he did purchase was an expense within the meaning of paragraph 18(1 )(a) of the Income Tax Act, and so deductible.

The Minister of National Revenue takes the position, through his representative, that the expenditure outlined above was not within the ambit of paragraph 18(1)(a) of the Act, but rather was an expenditure within the ambit of paragraph 18(1)(b). Those two paragraphs read as follows:

18. (1) In computing the income of a taxpayer from a business or property no deduction shall be made in respect of

(a) an outlay or expense except to the extent that it was made or incurred by the taxpayer for the purpose of gaining or producing income from the business or property;

(b) an outlay, loss or replacement of capital, a payment on account of capital or an allowance in respect of depreciation, obsolescence or depletion except as expressly permitted by this Part;

The representative for the appellant relied on three cases of the Tax Review Board. They are: Harbord Investments Limited v MNR, [1970] Tax ABC 717; 70 DTC 1488; Francis David Moyls v MNR, 41 Tax ABC 411; 66 DTC 553; and Halliday Fuels Limited v MNR, 25 Tax ABC 186; 60 DIC 541. The three cases would clearly seem to indicate that the position taken by the appellant herein is correct and that the appeal should be allowed.

Counsel for the Minister referred to the Cumberland Investments Limited case reported as Cumberland Investments Limited v The Queen, [1973] CTC 821; 74 DTC 6001, a decision of Mr Justice Heald of the Federal Court of Canada, Trial Division. He referred to the case especially at page 828 [6006] for the principle set forth there by the former President of the Exchequer Court, President Thorson, in the Losey case. The paragraph he referred to reads as follows:

President Thorson (as he then was) said in the case of Losey v MNR, [1957] CTC 146 at 152; 57 DTC 1098 at 1101:

“But the value of the goodwill of a business is what a purchaser would be willing to give for the chance of being able to keep the connection of which it consists . . . But two things are clear. One is that the sale of the goodwill of a business does not include a covenant by the vendor that he will not compete against the purchaser. If the purchaser wishes the benefit of such a covenant he must provide for it apart from the goodwill. And it is also clear that the sale of the goodwill of a business does not carry with it a right to the personal services or the business ability of the former proprietor of the business.”

Counsel for the Minister pointed out that that case had been appealed to the Federal Court of Appeal, which Court dismissed the appeal. In the Court of Appeal, Mr Justice Thurlow, now the Associate Chief Justice of the Court, states ([1975] CTC 439 at 440; 75 DTC 5309 at 5310):

In my view the determination of the question does not turn on the minutiae of how little or how much of what was formerly W R Maclnnes & Co was included in the precise terms of the written contract or of how comprehensive a restrictive covenant was obtained. Nor does it turn on what alternative courses were open to the appellant to expand its business and to deduct the costs as expenses of the business. Had some other course been taken for that purpose by the appellant in October 1971 at a cost of $150,000, the deduction might have been challenged and we might have had it for consideration.

As I see it, the reality of what transpired and of what, from the point of view of the appellant, the outlay of $150,000 and the follow-up procedure carried out to establish the necessary relationships with the former Maclnnes agents were calculated to achieve was the absorption by the appellant of the supervising insurance agency business of W R Maclnnes & Co and at the same time the effective elimination of that concern and its owner as a competitor. The expenditure was thus, in my view, incurred to work an immediate and substantial expansion of the appellant’s business and to expand and enhance the goodwill attaching thereto by adding to it as much of the business and goodwill of W R Maclnnes & Co as, with the blessing of its owner, Austin E Hayes, the appellant could retain.

It should be mentioned that the evidence clearly indicated that the gross commissions of the appellant in the year 1972 from his insurance business were approximately $8,700, while in 1973 the gross commissions were approximately $37,000. Mr Moreau attributed the increase to the purchase of the list of customers.

Mr Justice Urie was a member of the appellate court which heard the Cumberland Investments Limited appeal. In his reasons at page 442 [5312] he states as follows:

On October 25, 1971 the appellant entered into an agreement in writing with Austin E Hayes, who carried on business as a general insurance agent in Halifax under the firm name of W R Maclnnes & Co. By its terms the agreement provided for the purchase by the appellant of ‘‘a list of all of the Vendor’s sub-agents, a copy of each current policy of insurance placed with the Vendor by any of its sub-agents and the card index system of policy renewal dates.” The purchase price was $150,000 payable $25,000 on closing and the balance in annual instalments of $25,000 each. The agreement contained the following restrictive covenant:

”5. The Vendor covenants that on and after the Closing Date he will cease carrying on the business of a provincial general insurance agent under the firm name and style of W R Maclnnes & Co.”

At the same date the appellant entered into an agreement with Hayes Insurance Limited, a company of which Austin E Hayes was president, majority shareholder and chief operating officer, which was a local agent for the sale of insurance to the public. That agreement provided, inter alia, that 75% of all applications for insurance received by Hayes Insurance Limited in its capacity as local agent for 5 years had to be offered to the appellant as Supervising General Agent.

Ten days before the two agreements were signed Austin E Hayes wrote a letter to each of his sub- or local agents advising them that the Maclnnes firm was no longer able to provide them with the service they required, because they had insufficient companies with which to place the business flowing from the sub-agents. He stated that ‘“‘We cast about to seek out a single facility to replace us as General Agent and we believe we have found this in Douglas, Rogers Limited, of Amherst, NS . . . . I ask your acceptance of and co-operation with, the representatives of Douglas, Rogers Limited when they call on you shortly. . . .’ The evidence of R M Van Snick, the president of the appellant, was that this letter was written voluntarily by Mr Hayes and not at the request of the appellant.

The thrust of the learned trial judge’s reasons for judgment was that the substance of the transaction was the sale of a business together with its goodwill. While I agree with the disposition of the appeal made by the trial judge, I find it unnecessary to decide whether or not he was correct in concluding that the sale was of such a kind.

Neither in the pleadings nor at any stage has any question been raised as to whether the purchase price of $150,000 was paid for the purpose of gaining or producing income from the appellant’s business within the meaning of paragraph 12(1)(a) of the Act. The sole question raised is whether or not it was a payment on account of capital which would not be a deductible expense by virtue of paragraph 12(1)(b) of the Act.

Mr Justice Urie continues at page 444 [5313] as follows:

The advantage sought in this instance, it seems to me, was twofold: (1) to enlarge the income earning structure of the appellant by gaining access to a number of new sub-agents capable of diverting applications for insurance to it, and (2) to eliminate a competitor.

Admittedly there was no assurance that the new sub-agents would do business with the appellant but this was a business risk which Mr Van Snick, based on experience derived from other acquisitions, was prepared to assume. He was optimistic of retaining the sub-agents and justifiably so apparently, since 90% continued their association with the appellant. In my view this points to an expenditure capital in nature. Such a view is reinforced by the undoubted fact that a competitor was eliminated.

Mr Justice Urie then concluded as follows at page 445 [5313]:

In my view, the key to ascertaining the nature of the expenditure in this instance lies in the knowledge that the appellant through its acquisition enlarged its potential income earning structure by about 10%. To turn this potential into actuality required the further expenditures necessary to ensure that the sub-agents whose names were acquired would do business with the appellant. The latter undoubtedly would be outlays made for the purpose of earning income from the enlarged income earning structure and thus deductible in calculating the appellant’s taxable income. Viewed in this way it is quite apparent the acquisition was a capital asset capable of increasing the appellant’s income and the respondent was, therefore, correct in disallowing the deduction pursuant to paragraph 12(1)(b) of the Act.

This view of the matter is in no way affected by the fact that, in addition to the once and for all expenditure made to Mr Hayes, expenses would be incurred thereafter to keep the sub-agents in the appellant’s fold. Such recurrent expenditures can, in my view, be analogized to those made by the owner of capital assets, such as production machinery for repair and maintenance. It is difficult to envisage a case where the purchase price of such income earning machinery would not be a capital expenditure while cost of repairs and maintenance would undoubtedly be, in the normal course, deductible expenses. The same may be said for the once and for all payment made to Mr Hayes for the capital assets he sold and for the continued expenditures made by the appellant thereafter to maintain the Capital asset acquired intact.

As I view the matter, there seems to be considerable similarity between this case and the Cumberland Investments Limited case as set forth by Mr Justice Urie. Mr Moreau had no assurance that he would retain the business of those persons on the customer list but he was hopeful that he could retain 80%. He did retain 85%. In the Cumberland case Mr Justice Urie makes a similar observation that it was a business risk and that the purchaser was optimistic of retaining some agents, and about 90% continued their association with the appellant. As stated, Mr Justice Urie continues: “In my view this points to an expenditure capital in nature.” And of course the next sentence is pertinent to the appeal, namely: “Such a view is reinforced by the undoubted fact that a competitor was eliminated.” As in the present case, in the Cumberland case it was pointed out that the vendor was not bound by a restrictive covenant. Neither was Mr Bellehumeur bound in this case. However, one need only look at the letter Mr Bellehumeur sent to his former clients to indicate that he was out of that business, he has retired, and not only that, but he was able to, as he put it, “select the agency which I feel will best maintain the conscientious and reliable service which I have always tried to give.”

The result is, having considered the facts of this case, and having read the Cumberland Investments Limited case several times, I have concluded that the expenditure made by Mr Moreau in 1973 in connection with his acquisition from Mr Bellehumeur was an outlay within the meaning of paragraph 18(1)(b) of the Income Tax Act, SC 1970-71-72, c 63, as amended, and not within paragraph 18(1)(a). Consequently, the result is that the assessment was properly made and the appeal is dismissed.

Appeal dismissed.