Murray a Heit v. Minister of National Revenue, [1974] CTC 2188

The Chairman:—This is an appeal by Dr Murray A Heit against a reassessment of the Minister of National Revenue for the 1966 taxation year. This is what is commonly known as a trading case and the issue is whether or not the profit made on the sale of 860 Bank Street in the City of Ottawa amounted to a capital gain, as alleged by the appellant, or. was an adventure in the nature of trade within the meaning of section 139 and therefore income as assessed by the Minister.

The facts are not really in dispute. The appellant was at the material time a practising dental surgeon in the City of Ottawa and was also a Controller in the municipal corporation. He is shown to have purchased and sold several houses which, in each instance, were connected with his own personal residence and/or his dental practice. I think these transactions in themselves do not, by any stretch of the imagination, make the appellant a trader because he was dealing mainly with what in this day and age is referred to as a principal residence which also in some instances had office facilities. However, it does indicate that he was not a novice in the legal procedures to be followed in purchasing and selling property.

As controller in a municipal corporation of Ottawa’s size he had some experience in land acquisition and knowledge of the development of the area, but this in itself again is not sufficient to stamp him with the badge of trader.

The appellant took the box and swore that it was his intention to purchase this property as an investment for his future, a time when he was no longer able to practise his profession and would need some supplementary income. lt has been said in many cases—and I think this is now almost trite law—that in trading cases the least the Board or a court can expect is that the appellant taxpayer will under oath swear that his intention was to retain the property in question as a revenue-producing business. If in fact they were not prepared to do that, I suppose 99 per cent of these trading cases would never reach this stage.

Having had that evidence adduced before me, I must look at all the surrounding circumstances to determine whether or not I can find corroboration of the avowed intention of the Appellant, or whether the evidence, either viva voce or documentary, casts doubt on the intent expressed by him and leads one to a different conclusion as to what his real intent was at the material time. The material time is, of course, the time of purchasing the property, not the time of selling it.

In these cases the Board is faced with two propositions: Was there a primary intention to dispose of the property at a profit at the first opportunity; or, as has been laid down in the Regal Heights case, was there in the mind of the Appellant at the time of the purchase a profit motivation which, if the opportunity arose, would lead him to turn the subject property to account at a profit?

The evidence in this case is that the offer to purchase 860 Bank Street for $157,750 was entered into some months before the completion of the sale. I believe the sale was completed on August 25, 1965 and the Deed to the Appellant was registered on September 3, 1965. On September 14, 1965, some eleven days later, he received an offer to purchase this property for $215,000. He refused this offer and countered with an offer of $265,000. The appellant said he did not solicit the first offer and was really being facetious in his counter offer because he did not intend to sell it; thus he offered it at a price that would dissuade the prospective purchaser from pursuing the matter.

It is interesting to note that when the property was finally sold in June of 1966. Nine months after the appellant purchased it, it was sold to the same party that made the offer in September of 1965, this time at a selling price of $200,000, $15,000 less than the original offer.

The facts surrounding the closing of this transaction are also of interest and in my view are of importance in determining the true intent at the material time. Several months elapsed between the acceptance of the offer to purchase 860 Bank Street and the taxpayer becoming the owner of the property. At the time of closing it was necessary to go so far as to issue a writ for specific performance, and it was this that resulted in the closing of the transaction.

The property at the material time was subject to a first mortgage to Dominion Life of some $93,000 (I am using rounded off figures) and so the appellant had to find approximately $64,000 to close the transaction. Throughout the period of several months before closing the appellant arranged for funds to close through interim financing at extremely high rates of interest; one is almost tempted to use the word “usury” in referring to them. One of the interim financing arrangements resulted in an interest rate of 5 per cent per month on some of the $55,000 that had to be raised. During the period he had the property the appellant paid by way of interest on interim financing some $21,500.

Even after the transaction was closed, the appellant proceeded on the basis of interim financing rather than seeking permanent or institutional financing at rates which at that time were running at 7% per cent.

Because the first mortgage to Dominion Life was originally for the sum of $150,000 at a rate of 7 /4 per cent, there is no doubt whatsoever in my mind that the appellant, had he seriously intended to retain revenue-producing property, could have and would have obtained longterm financing. I find it difficult to accept that his guarantee of the first mortgage would not have been equally as good as the guarantee that was on it at the time, and that Dominion Life would not have increased it to its original figure, particularly in view of the fact that there was a ten-year lease current with the Government of Canada at a figure of $32,672 a year.

It is also interesting to note that the delay in closing the transaction coincided with the arrival of a letter of intent from the Department of Public Works, which is Respondent’s Exhibit 10, committing the Government of Canada to a ten-year lease. It is dated August 24, 1965, and I am advised that the transaction closed the next day.

The appellant said that it made no difference whatsoever to him whether or not this lease was available at the time of closing because he intended to continue using the property, which had been used as a warehouse by such people as Hill the Mover. I find his explanation hard to accept in light of the fact that the transaction was not closed until this letter of intent was received and he had incurred a substantial debt of interest while waiting to close the transaction.

It is of interest that the offer to purchase from H and S Litwin, the people who made the September 1965 offer and who subsequently purchased the property in 1966, refers this lease to the Department of Public Works. There was also obviously a commitment to a real estate broker in this city to pay a commission for obtaining the lease, because some $14,000-odd was in fact paid over the years, based on the $326,700 value of the lease. At a commission of 5 per cent, this: would amount to $16,335, which amount was finally settled in 1969 at a figure of $14,095.85. Of this amount, $5,928.35 was paid in 1969.

The whole conduct of the appellant from the time he entered into the offer to purchase this property until the time he sold it leads me to the conclusion—and I can see no other conclusion that can be reached from the facts in. this case—that he was merely holding this property to turn it to account at a profit at the first opportunity. In my view, he misjudged what he could extract from a prospective purchaser in September of 1965 and was forced to hold the property for some eight months before he was able to dispose of it. There is no doubt whatsoever in my mind that the purchase and sale of the property at 860 Bank Street was an adventure in the nature of trade and that the profit therefrom is subject to tax as income.

The question now arises: What is the profit? The second thrust of the appellant’s argument is that certain items of expense should be allowed to him if I find that this was not a capital gain, as I have now so found. I have to consider whether or not the calculations set out in appellant’s Exhibit 1, which is a summary sheet prepared by Mr Levesque, a chartered accountant who represented the appellant before me, should be allowed as deductions in arriving at the net profit derived from this transaction.

I should point out at this time that the appellant was originally assessed as sole owner of the property, but it turned out that he had a partner and the Department has recognized that the appellant is subject only to 50 per cent of the profit for taxing purposes.

After the counter offer was refused by Litwin in September of 1965, the appellant was forced to run the warehouse and keep his losses to a minimum until he could dispose of the property. He had a tenant and he received revenues during this eight-month period of $24,125.83. The appellant has attempted to write off as business expenses against that revenue the sum of $48,458.19.

In order to write off these expenses in the year—and there is evidence to indicate that they were not all incurred in the year 1966, save and except for some of the interest and some finder’s fees—two criteria must be met under section 12. Firstly, they must be expended for the purpose of earning income; secondly, they must be reasonable.

Before dealing with this point, I come back to the fact that when. the property at 860 Bank Street was sold for $200,000 to Litwin, the offer was a cash transaction, which meant that the Appellant was required to obtain a discharge of the existing first mortgage which he was able to do only after paying a bonus of $2,972.56. He recovered $1,689.56 of this amount. He also incurred legal expenses in the purchase of the property of $4,530.09, making the total purchase price $162,030.09 less what was recovered from the vendor by way of legal fees charged to the vendor and a portion of the bonus charged to the vendor in the amount of $1,931.45. Thus the final cost of the property was $160,098.64.

There is no doubt in my mind that those are legitimate expenses and charges that should be added to the cost of the purchase. This, then, left a profit, before dealing with rental loss, of $36,928.80.

Some of the expenses are really not contentious. The taxes have been established at $4,168.39, heat at $2,231.83, insurance at $1,084.71, light at $367.07 and repairs at $2,096.68. I find all those amounts to be expenses that are reasonable and which were incurred for the purpose of earning income.

The two amounts that cause me difficulty are the interest and finder’s fees of $21,419.64, and rental commission and legal fees of $14,095.85. Having regard to my reasons for holding that this was an adventure in the nature of trade, I think that the interest expenses incurred by the appellant were not reasonable under the circumstances, because I am satisfied in my own mind that he could have arranged institutional financing had he made the effort.

A letter filed as, I think, Exhibit R-17 shows that $120,000 was approved by Manufacturer’s Life at an interest rate of 7% per cent. In addition, there is a letter from a realty company indicating that $60,000 more was required and that a second mortgage could be placed without any effort. It is my honest belief from the evidence and from the fact that the final purchase was a cash purchase that sound institutional financing at regular rates would have been available to the appellant had it been sincerely sought.

Although the appellant said in the box that applications were submitted, the evidence falls far short of satisfying me that regular financing was not available. As I have said, only some $64,000 odd was required to close in 1965, and by bringing the existing mortgage up to face value again, or by obtaining other long term conventional financing, this could have been obtained at much less cost to the appellant.

So in determining what is reasonable under the circumstances, I have allowed the sum of $5,580, being interest at 8 per cent, three- quarters of a per cent higher than that then existing, on approximately $64,000, plus $6,750 paid on the first mortgage, making a total of $12,330.

I am satisfied that the commission had to be paid and was a debt owing from 1966. However, $5,928 of this sum was paid in 1969. Since this man operated on a cash basis, he could not possibly go back from 1969 to 1966 and write off this expense. Again it is trite law to say that expenses must be written off in the year in which they are incurred. Therefore, I have allowed for rental commission and legal fees, as shown on the second page of Exhibit 1, the sum of $8,170.49 instead of the $14,000 claimed.

These three alterations, including the taxes, mean there was a profit of $14,011.86 in the nine-month period in question, rather than a loss of $24,000. In transposing this profit of $14,011.86, instead of the loss of $24,000, to page 1 of Exhibit A-1, one reaches a net profit, as it is called in the Exhibit, of $31,590.66; and the appellant is liable for tax on half of this amount, namely $15,795.33. In the result, the appeal will be allowed in part and referred back to the Minister for reassessment on the basis that this profit to the appellant was income and therefore taxable.

Appeal allowed in part.