Toric Optical LTD v. Minister of National Revenue, [1974] CTC 2095, 74 DTC 1054

The Assistant Chairman:—These are the appeals of Toric Optical Ltd from income tax assessments in respect of the appellant’s 1966, 1967 and 1968 taxation years.

The parties to these appeals were in agreement on the fact that since June 18, 1963 the issued share capital of Toric Optical Ltd was 1,000 common shares, of which 500 common shares were owned by Mr Arthur J Crockett and 500 were owned by Imperial Optical Co Ltd or held by the latter’s nominees.

By a written agreement between Mr Crockett and Imperial Optical Co Ltd it was agreed:

(a) that at the end of twelve months’ Illness preventing him from actively carrying on his duties as Manager of Toric Optical Ltd, Mr Crockett would sell to Imperial Optical Co Ltd, who agreed to purchase Mr Crockett’s shareholder’s equity at a cash purchase price set forth in clause 7 of the shareholders’ Agreement—(Ex A-1);

(b) that the legal representatives of Mr Crockett would be entitled to sell his shareholder’s equity to Imperial Optical Co Ltd If they so elect following Mr Crockett’s death (clause 6 of the Agreement)—(Ex A-1);

(c) should Mr Crockett retire from active participation in the business of Toric Optical Ltd after five years from the date of the Agreement, Mr Crockett would sell and Imperial Optical Co Ltd would purchase his shareholder’s equity at a cash purchase price set forth in clause 7 of the Agreement— (ExA-1).

By notices of reassessment, which were confirmed by the Minister, Toric Optical Ltd’s tax was increased to $6,613.01 and interest of $1,697.10 was charged to the appellant in respect of its 1966 taxation year. The appellant’s tax was increased by $6,900.03 and interest of $1,759.75 was charged in respect of the appellant’s 1967 taxation year. In 1968 the appellant’s tax was increased by $4,849.50 and interest in the amount of $836.41 was charged for that year.

The appellant’s taxes were so increased by the Minister on the grounds that. Toric Optical Ltd, Imperial Optical Co Ltd and Standard Optical Company Limited were deemed to be associated companies by virtue of subsections 139(5d) and 39(4) of the Income Tax Act.

The evidence in these appeals reveals that Mr Arthur J Crockett and Mr Edward A Hamilton were operating Toric Optical Company in equal partnership for some years. On February 1, 1961 Toric Optical Ltd was incorporated and the authorized capital of Toric Optical Ltd was 20,000 shares at a par value of $1 each, of which 1,000 shares were fully paid and issued—500 shares to Mr Crockett and 500 shares to Mr Hamilton. By an agreement between Mr Crockett and Mr Hamilton dated February 17, 1961 neither party could sell, dispose of, hypothecate or pledge any of his shares in Toric Optical Ltd without the written consent of the other party (Exhibit R-2).

On June 18, 1963 Mr Hamilton, having obtained the required written consent of Mr Crockett, sold his 500 shares of Toric Optical Ltd to Imperial Optical Co Ltd for a total purchase price of $103,296, which included a $13,528.92 loan credit (Exhibit A-1 and Exhibit R-3, clause 1).

In a letter dated January 7, 1972 from Standard Optical Company Limited to the Department of National Revenue, to which was attached form T2013 (Agreement between Associated Corporations) (Exhibit R-4), it would appear that Imperial Optical Co Ltd and Standard Optical Company Limited were associated companies, both controlled by Sydney Hermant (Exhibit R-1). Toric Optical Ltd was not mentioned in Form 12013 as associated with either Imperial Optical Co Ltd or Standard Optical Company Limited.

In the annual report pursuant to section 130 of the Companies Act for the years 1966, 1967 and 1968, Mr Crockett is shown as owning 999 common shares of Toric Optical Ltd and Mr Archibald J Dickson is shown as owning one share of that company (Exhibit A-2). However, in an affidavit, also dated June 18, 1963, addressed to Standard Optical Company Limited and signed by Mr Arthur J Crockett, the latter acknowledges that he holds 499 shares owned and paid for by Standard Optical Company Limited (Exhibit A-3).

Although this constitutes the rather complex background of these appeals, the issue as to whether the appellant company was associated with Imperial Optical Co Ltd or Standard Optical Company Limited, or both, can best be determined by the application of sub- section 139(5d) of the Income Tax Act to clauses 6, 7 and 8 of the agreement between Imperial Optical Co Ltd and Mr Arthur J Crockett of June 18, 1963 (Exhibit A-1).

tn the above-mentioned agreement there are, in my view, three separate and distinct conditions whereby Imperial Optical Co Ltd can acquire Mr Crockett’s shareholder’s equity in Toric Optical Ltd—

(a) At Mr Crockett’s death (clause 6) when his executors may sell his shareholder’s equity In Toric Optical Ltd to Imperial Optical Co Ltd at a price established in sections (a) and (b) of clause 6 of the Agreement— (Ex A-1);

(b) In case of Mr Crockett’s illness for a period of twelve months (clause 7), he agrees to sell, and Imperial Optical Co Ltd agrees to purchase, Mr Crockett’s shareholder’s equity in Toric Optical Ltd at a price established by subsections (a) and (b) of clause 7 of the Agreement; and

(c) At Mr Crockett’s retirement from active participation in the appellant company’s business (clause 8) on 90 days’ written notice to Imperial Optical Co Ltd after a lapse of five years from the date of the Agreement, Mr Crockett covenants to sell and Imperial Optical Co Ltd covenants and agrees to purchase Mr Crockett’s shareholder’s equity in the company at a price established in clause 7(a) and (b) of the Agreement.

Subsection 139(5d) of the Income Tax Act reads:

139. (5d) For the purposes of subsection (5a)

(a) where a related group Is in a position to control a corporation, It shall be deemed to be a related group that controls the corporation whether or not it Is part of a larger group by whom the corporation Is In fact controlled;

(b) a person who had a right under a contract, in equity or otherwise, either immediately or in the future and either absolutely or contingently, to, or to acquire, shares in a corporation, or to control the voting rights of shares In a corporation, shall, except where the contract provided that the right Is not exercisable until the death of an individual designated therein, be deemed to have had the same position in relation to the control of the corporation as if he owned the shares; and

(c) where a person owns shares in two or more corporations, he shall as shareholder of one of the corporations be deemed to be related to himself as shareholder of each of the other corporations.

Although, in my view, subsection 139(5d) of the Income Tax Act is not applicable to clause 6 of the agreement because of the death provision contained therein, clauses 7 and 8 of that agreement fall clearly within the meaning and intent of subsection 139(5d) because there is in both these clauses a “buy” and “sell” agreement whereby Imperial Optical Co Ltd has the right under a contract to acquire and control the voting rights of Toric Optical Ltd’s shares under specific circumstances which do not include the death of Mr Crockett. In the case of Arctic Geophysical Ltd v MNR, [1968] Ex CR 485; [1967] CTC 571; 68 DTC 5013, cited by counsel for the appellant, it was held that under paragraph 139(5d)(b) a person, in order to be deemed to be in the same position in relation to control of a corporation as if he owned the shares, must have a right to (1) the shares, (2) acquire the shares, or (3) control the voting rights of the shares.

Counsel for the appellant contends that in the sale agreement, Imperial Optical Co Ltd has no rights to the shares of Toric Optical Ltd owned by Mr Crockett because there is no mention of the Toric Optical Ltd’s shares in clauses 7 and 8 of the agreement which refer to Mr Crockett’s shareholder’s equity in the company. Clause 9 of the agreement defines a shareholder’s equity as meaning both the book value of Mr Crocket’s shares and the amount of any loan to his credit or minus any amount of any loan to his debit.

Counsel for the appellant holds that in interpreting the agreement which is not clear as to the acquisition of shares, the Board cannot consider that the shareholder’s equity includes the shares because by so doing, the Board would, in a restrictive covenant, be adding to the rights and obligations of the parties concerned which are not included in the agreement.

It seems to me that the definition of “shareholder’s equity” as meaning both the book value of Mr Crockett’s shares plus the amount of any loan to his credit, was included in the agreement in order to establish the purchase price which Imperial Optical Co Ltd was to pay Mr Crockett so that no moneys would be owing him after the transaction.

The cash purchase price was determined by clause 7(a) of the sale agreement as follows:

The greater of:—

(a) One and three tenths >(1.3) times Crockett’s total shareholder’s equity in the company at the date of sale, or . . .”.

Since Mr Crockett, as at June 1, 1963, had a loan credit with the Imperial Optical Co Ltd of $14,665.50, his total shareholder’s equity in Toric Optical Ltd as defined in clause 9 of the agreement was the book value of his 500 shares as at the date of sale of the -shares, plus the amount of his outstanding credit with Imperial Optical Co Lid. Clause 7(b) reads as follows:

(b) The sum of $75,000 times the earned surplus of the company at the end of the month preceding such sale divided by the earned surplus of the Company at January 31, 1963, ($49,009.54).

In this alternative price determination, it would appear that a fixed amount of $75,000 was established for the book value of Mr Crockett’s shares plus his loan credit which was to be increased by the difference in the earned surplus of the company between the time of sale and January 31, 1963. In both cases, however, what was being established was the purchase price Imperial Optical Co Ltd was to pay Mr. Crockett. What Imperial Optical Co Ltd was paying for is the pertinent question of these appeals. In my view, Imperial Optical Co Ltd agreed to purchase Mr Crockett’s 500 shares in Toric Optical Ltd as it had purchased Mr Hamilton’s 500 shares including in the purchase price the book value of the shares as well as outstanding loan credits.

I am satisfied that the only possible consideration for which the purchase price was established in the agreement was Mr Crockett’s 500 shares with all the associated rights and privileges including voting rights passing to Imperial Optical Co Ltd on completion of the sale.

I do not believe by so interpreting clauses 7 and 8 of the sale agreement (Exhibit A-1) that anything is being added to the rights or responsibilities of the parties to the agreement. On the contrary, the main purpose of the agreement taken as a whole is the eventual purchase by Imperial Optical Co Ltd of Mr Crockett’s 500 shares. Without that consideration, the agreement is meaningless.

I hold, therefore, that the pertinent facts of these appeals falls clearly under paragraph 139(5d)(b) of the Income Tax Act and that the Minister did not err in deeming that Toric Ootical Ltd and imperial Optical Co Ltd are related companies within the meaning of that section of the Act.

These appeals are dismissed.

Appeal dismissed.