Sidney Bossin v. Minister of National Revenue, [1974] CTC 2311, 74 DTC 1231

A J Frost:—This appeal is from an income tax assessment dated August 14, 1972 in respect of the 1970 taxation year. By notice of appeal dated July 26, 1973 the appellant has alleged the following:

On February 1, 1969, the appellant, together with Messrs. Herbert Binder, Dave Pomotov and Irving Bloomberg, entered into an agreement with one Philip Kosoy, whereby Philip Kosoy agreed to lend funds to the four other parties named in the agreement in order to permit them to buy and sell publicly listed securities.

In his 1970 taxation year, the appellant incurred a loss in the amount of $14,600.00 being his proportionate share of a loss realized from the sale of shares in United Bata Limited which shares had been acquired under the terms of the agreement detailed in Paragraph I above.

The appellant further contended:

that the speculative purchase and resale of the shares of United Bata Limited by the taxpayer was “an adventure or concern in the nature of trade” and as such any gain or loss resulting from the transaction is to be used in calculating the income of the taxpayer from a business under the provisions of Section 3 of the Income Tax Act of Canada as the law in force in the year under appeal.

He thereby emphasized that:

the funds used to acquire the shares of United Bata Limited were borrowed funds; that the shares acquired were clearly of a speculative nature and that no return other than an increase in value from a subsequent resale could be expected of the shares; and that the intent of the taxpayer together with that of his co-adventurers at all times was to purchase the shares for resale at a profit.

In his reply to notice of appeal the Minister substantially admitted the correctness of the factual data as presented by the appellant but contended that:

the appellant was at all times material hereto a partner in the firm of William Eisenberg & Company, Chartered Accountants;

[that] pursuant to the agreement mentioned in paragraph 1 herein, Kosoy purchased on February 1, 1969, 3500 shares of United Bata Limited as an investment and sold in February, 1970, after a two for one split on 2500 of those shares the resulting 6,000 shares in United Bata Limited;

[that] the appellant has never been a dealer in securities;

[that] the purchase and sale of shares by the appellant and his associates was not a business within the meaning of the Income Tax Act;

[and that] the loss incurred by the appellant on the disposition of the shares was a loss on capital account.

The appeal was heard by me on March 12 and 13, 1974 at the City of Toronto.

The question in issue is: Are stock market losses a deductible expense when an outsider enters into an arrangement with other outsiders with a view to making a “trading” profit? In other words, is a taxpayer’s gain or loss from a stock market transaction subject to the same criteria as are used in deciding trading cases involving other markets?

My answer is that the action must suit the market and any criteria must depend upon the nature of the market in which the taxpayer operates. Trading in stocks is quite different from trading, say, in real estate or commodities. In this connection, it is highly instructive to take notice of what a leading authority in the field of trading in stock has to say. George L Effler, Professor of Finance, Pennsylvania State University, in his authoritative text The Stock Market (2nd edition) published by the Ronald Press Company of New York, states in his opening paragraph on “Technical Analysis of Stock Prices”:

Technical analysis of stock prices deals with the interpretation of stock price movements over short periods. Few forms of speculation are as illusive in their rationale or more dangerous than trading to obtain short-term profits.* [1]

This confirms that trading is an activity which requires highly developed skill and experience and it makes one wonder whether an unskilled person could nevertheless be considered to be a trader within the terms of the Income Tax Act. I would like to note that the essential difference between trading in securities and trading in real estate here becomes apparent. Almost anybody can trade in real estate but to consider everyone a trader who, as the saying goes, “dabbles in the stock market” would in my opinion be wrong and have catastrophic consequences from an income tax policy point of view.

It seems to me that in view of the above observations we should be very careful to weigh all these considerations before qualifying an “outsider” as a trader for income tax purposes, and that our legal concept of trading should as much as possible follow the interpretation which those who are professionally engaged in trading in securities attach to that expression.

I attribute great importance to the well-known dictum of Mr Justice Martland of the Supreme Court of Canada in his reasons for judgment in the Irrigation Industries Limited v MNR, [1962] SCR 346 at 352, [1962] CTC 215 at 221; 62 DTC 1131 at 1133-4, where he says:

Corporate shares are in a different position because they constitute something the purchase of which is, in itself, an investment. They are not, in themselves, articles of commerce, but represent an interest in a corporation which is itself created for the purpose of doing business. Their acquisition is a well-recognized method of investing capital in a business enterprise.

This statement has given rise to the “Irrigation Industries doctrine” which sets trading cases concerning securities apart from cases dealing with ventures in the nature of trade pertaining to real. estate and other commodities.

In a recent decision of the Federal Court—Trial Division in Wellington Hotel Holdings Limited v MNR, [1973] CTC 473; 73 DTC 5391, Mr Justice Urie, in order to be able to allow that appeal in favour of the taxpayer, distinguished the facts of that case from those in Irrigation Industries Limited in so far as in the Wellington Hotel Holdings Limited situation a substantial number of purchases and sales of securities had taken place, while in the Irrigation Industries Limited case only one isolated transaction had occurred. However, this was not the only hurdle he had to overcome. Mr Justice Martland had also found (at p 354 [222, 1134] that Irrigation Industries Limited had not been engaged in:

the sort of trading which would be carried on ordinarily by those engaged in the business of trading in securities. The appellant’s purchase was not an underwriting, nor was it a participation in an underwriting syndicate with respect to an issue of securities for the purpose of effecting their sale to the public, and did not have the characteristics of that kind of a venture.* [2]

In respect to this important consideration, Mr Justice Urie noted in his Wellington Hotel Holdings judgment (at p 482 [5397]):

I do not understand Martland, J to have rejected the possibility that a company can engage in the business of trading in securities notwithstanding that it is not its main business and it is not a securities broker in the accepted sense.

With due respect, I do not think that the Honourable Judge of the Supreme Court made that apodictic a statement at all. What he apparently did find was that the trading must be “the sort of trading which would be carried on ordinarily by those engaged in the business of trading in securities”. His subsequent decision in N R Whittali v MNR, [1968] SCR 413; [1967] CTC 377; 67 DTC 5264, was therefore not necessarily a contradiction of his judgment in Irrigation Industries Limited. In that case the Supreme Court decided that Mr Whittall, the appellant therein, who was primarily an inventor, had, in the circumstances of that particular case, performed the sort of trading mentioned above. This finding was not surprising, because Mr Whittall had been active in a stock brokerage firm and had been engaged in underwriting activities.

I think that Mr Justice Cattanach when rendering the decision of the Exchequer Court in Admiral Investments Limited v MNR, [1967] 2 Ex CR 308; [1967] CTC 165; 67 DTC 5114, defined the situation quite well when he stated at page 319 [175, 5120-1] that:

While shares may be the subject matter of investment, they are equally Susceptible of being the subject matter of trade. Whether they fall into one category or the other, is dependent upon the particular facts of the case. The evidence above recited leads me to the conclusion that the purchase and sale of shares here involved was done in the course of business.

What must be looked at is what was done by the appellant with a view to asking the question in Lord President Clyde’s words in C.I.R. v. Livingston et al., 11 T.C. 538, at page 542:

“. . . whether the operations involved (in the transactions of the company) are of the same kind, and carried on in the same way, as those which are characteristic of ordinary trading in the line of business in which the venture was made.”

While the appellant was not a trader in securities in the sense of that term that it was an underwriter and held a seat on a stock exchange, but rather made its purchases and sales through a stock exchange in the usual

manner, nevertheless, the acts of the appellant were just the ordinary transactions of a person who deals in shares.* [3]

I would like to put the emphasis on the quoted remark of Lord President Clyde and I think that in this observation the key must be found to solving the problem which concerns us in share trading cases like the present one. It is very well possible that an outsider to professional share trading could, in extraordinary circumstances, make a gain or suffer a business loss within the terms of paragraph 139(1 )(e) of the old Act. However, one should, in my view, give adequate weight to the opinion of what, in professional trading circles, is considered to be “trading” in securities.

It looks to me that, in order to keep the income tax law flexible, one has to adjust its terminology to the reality of everyday commercial practice. I do not see any benefit in completely segregating a concept of trading in securities for tax purposes from that which in the professional trading circles is understood by that expression.

There is a wide difference between the trading carried on by “insiders” and the buying and selling engaged in by “outsiders” in the stock market, because trading in shares is an activity which requires a great deal of skill, training and inside information. For those who are acquainted with this kind of trade it is a well-known fact that an ordinary investor or speculator lacking professional know-how does not usually qualify as a trader in securities.

The stock market trader takes short-term positions moving in and out of stocks, trying to catch minor price swings in an effort to beat the market. A trader is usually an insider or a professional who closely watches the market to achieve short-term profits. The investor also watches the market, because of its high volatility, and endeavours to improve his portfolio from time to time with a view to conserving his capital and preserving its purchase power. The function of capital is not only to produce income but also to produce more capital. The

trader and investor may have a number of characteristics in common but their aims, beliefs and purposes are different. The investor invests essentially to provide himself with security and income over the longer term, despite the fact that he may decide to make substantial changes in his portfolio holdings if the conditions of the market indicate a change of primary direction. The trader, on the other hand, zeros in on timing profits.

Turning now to the case at bar, it appears that none of the participants in this particular venture had any specialized knowledge of the stock market at all. Their activity was purely, in my opinion, a gamble, in that they relied entirely on “the scuttlebutt of the market place”. Having heard rumours that some interesting things were happening in connection with the operations of United Bata Limited and trying to get a piece of the action, they risked their money for this purpose and lost it. Even though the appellant could very well quote one or more criteria for what he might call his “badge of trade”, it appears to me that the overriding factor in this case must be that the appellant, without any expert knowledge, tried to make a gain where only highly skilled professionals would normally succeed. For that reason I cannot accept the appellant’s position that the transactions on which he suffered the losses which he tried to deduct from his income from other sources constituted a “venture in the nature of trade”. Those transactions certainly were not “the sort of trading which would be carried on ordinarily by those engaged in the business of trading in securities”.

I therefore have to dismiss the appeal.

Appeal dismissed.