Melvin Zwaig, Trustee to the Bankruptcy of John Dunn v. Minister of National Revenue, [1974] CTC 2172

Roland St-Onge (orally):—This appeal is from reassessments dated August 11 and August 27, 1971 made by the respondent with respect to the appellant’s taxation years 1966, 1967, 1968 and 1969.

At the hearing counsel for the appellant admitted in its entirety the reply to notice of appeal which reads as follows:

That on 21 September, 1965, John J Dunn sold certain shares to Morgan,

pany for $227 000 an, for $23,395.77, and certain others to the same com-

That cheques in these amounts were deposited in a new bank account on 21 September, 1965;

That on 21 September, 1965, John J Dunn issued a cheque in the amount of $250,075.00 to Excelsior Life for the purchase of a single premium in-

That on 21 September, 1965, John J Dunn signed an agreement to borrow from Excelsior Life on the collateral of his single premium life insurance policy with the said insurance company;

That on 23 September, 1965, Excelsior Life issued a cheque in the amount of $215,000.00 with respect to a loan that John J Dunn made on his life insurance policy and on that same date, the said John J Dunn deposited this cheque in his bank account;

That on 23 September, 1965, John J Dunn borrowed $4,823.74 from Morgan, Ostiguy & Hudon Inc in order to have his bank account the exact amount to cover a cheque made to Sherbrooke Trust, said cheque being more fully described in the following paragraph herein;

That on 23 September, 1965, John J Dunn issued a cheque in the amount of $220,155.00 to Sherbrooke Trust Company and this cheque was cashed only on October 7, 1965, by Sherbrooke Trust;

That on September 24, 1965, Morgan, Ostiguy & Hudon Inc sold certain shares purchased from Mr Dunn to Jan Pick:

That on October 7, 1965, Sherbrooke Trust Company issued a cheque in the amount of $220,697.00 to said Jan Pick for ‘and in the name of John J Dunn for the re-purchase of the shares that he had bought from John J Dunn through the intermediary of Morgan, Ostiguy & Hudon Inc:

That the cumulative loans made from Excelsior Life and the interest paid with respect to the said loans are as follows:

	Loan	Interest
1965	$215,000.00
1966	$232,140.00	$12,794.01
1967	$247,207.38	$13,928.40
	$261,716.00	$14,822.80
.: 1968
1969	$275,143.57	$15,427.25

The Minister disallowed the interest paid on the loans made to Excelsior Life Insurance Company in the taxation years as indicated in the above paragraph.

The Minister reassessed the taxpayer on the basis that the amounts in question, in the taxation years in question, were not paid pursuant to a legal obligation to pay interest on borrowed money used for the purpose of earning income from a business, or property, but rather were amounts paid pursuant to a legal obligation to pay interest on borrowed money used to acquire an interest in a life insurance policy and relied on paragraphs 11(1)(c), 12(1)(h) and subsection 137(1) of the Income Tax Act.

In other words, in September 1965 Mr Dunn sold securities to a brokerage firm and with the proceeds purchased a life insurance policy of a nominal value of $558,030 for a cash payment of a unique premium of $250,075. Thereupon he borrowed from the insurance company $215,000 and with this money and with funds from other sources he repurchased the securities which he had previously sold to the brokerage firm. This firm had already disposed of these securities to a third party, Mr Jan Pick, from whom Mr Dunn therefore had to repurchase them.

Mr Dunn testified that he sold the securities because he had no cash and that he had to buy a life insurance policy; that when he sold the securities it was well understood that he would repurchase the said securities; that he always wanted to keep control of his companies and for this purpose he acted on the advice of Mr Faust.

Mr Pierre Brunet, comptroller for the brokerage firm, testified that when Mr Dunn sold his securities there was actually a change of ownership.

Counsel for the appellant argued that the property acquired with the borrowed money was acquired to earn income; that the form and substance of the transaction was the same and that Mr Dunn never parted with the securities. He referred the Board to Trans-Prairie Pipelines, Ltd v MNR, [1970] CTC 537; 70 DTC 6351.

On the other hand, counsel for respondent argued that the money was borrowed to acquire a life insurance policy and that Mr Dunn did not comply strictly with paragraph 11 (1)(c).

He referred the Board to W A Sheaffer Pen Company of Canada Limited v MNR, [1953] Ex CR 251; [1953] CTC 345; 53 DTC 1223, to say that the exempting provisions of a taxing Act must be construed Strictly; taxation is the rule and exemption the exception.

According to the evidence adduced, it appears that Mr Dunn’s intention was always to keep his securities and by the same token the control of his companies. It also appears that he wanted to purchase a personal asset, namely a life insurance policy and therefore he sold some securities for about $250,000.

In his argument counsel for appellant referred the Board to the Trans-Prairie Pipelines case (supra) and read the following paragraph at page 540 [6353]:

When a business person has borrowed money to use in a business, he Is, according to the ordinary use of language, using that borrowed money in his business to earn income therefrom even though part of it has been converted into “bricks and mortar” and part of it was paid out during the first year for inventory and by way of salaries. Indeed, except in very unusual circumstances, he is using that borrowed money in his business to earn income until the loan matures and is paid off. By contrast, the actual money borrowed will, according to the ordinary use of language, have been “used” to acquire plant and machinery and to pay running expenses and will, in fact, have completely ceased to belong to the business man once it has been so used.

In the present appeal the borrowed money was not converted into bricks and mortar, part of it was not paid out for inventory and by way of salaries, or used to acquire plant and machinery and to pay running expenses. On the contrary, according to the form of the transaction, it was used to repurchase the securities that had just been sold and, according to the substance of the transaction, to purchase a life insurance policy.

Counsel for appellant quoted another extract from this judgment and I read from page 541 [6354]:

Prior to the 1956 transactions, the appellant’s capital used In its business consisted in part of $700,000 subscribed by preferred shareholders. As a result of those transactions, the $700,000 had been repaid to those shareholders and the appellant had borrowed $700,000 which, as a practical matter of business common sense, went to fill the hole left by redemption of the $700,000 preferred.

In the case at bar the proceeds of the sale of the securities was not used to earn income from the business. In Trans-Prairie Pipelines (supra) the preferred shares were used in the business to earn income. So, when Mr Dunn borrowed moneys on his life insurance policy, it was not to fill the hole left by the redemption of preferred shares, as is the case in Trans-Prairie Pipelines. On the contrary, the business was deprived of about $250,000 to earn income because the life insurance policy did not contribute in any way whatsoever to increase the power of the business to earn more income.

I agree that in Trans-Prairie Pipelines the borrowed money went to fill the hole left by the redemption of the $700,000 preferred shares, whereas in the case of Mr Dunn the borrowed money went to fill the hole left by the buying of an insurance policy, a personal capital asset, which does not earn any income. Mr Dunn did not have to borrow money to get the securities in question because they were his and, if the money was borrowed, it was in fact to acquire the life insurance policy—that is the substance of the transaction.

One must look at the whole picture of the transaction to discover its substance and by the same token to find out if the borrowed money was used to earn income in the business.

It is self-evident that the borrowed money did not go back into the business to earn income but was used to purchase a life insurance policy. Consequently, the appeal is dismissed.

Appeal dismissed.