James N. Sissons v. Minister of National Revenue, [1968] CTC 363, 68 DTC 5236

GIBSON, J.:—J. N. Sissons appeals from income tax re-assessments for the taxation years 1962 and 1963 whereby he was re-assessed for income tax by the inclusion as taxable income of an item of $57,000 in 1962 and an item of $30,000 in 1963, being the profits made on the redemption in those years of certain debentures originally purchased by him in 1961.

The appellant, an expert in philately, for many years until 1954 carried on business as an individual proprietorship in several branches of dealing in postage stamps. In 1954 he caused to be incorporated in Ontario J. N. Sissons Limited, a private company controlled by him, and caused it to acquire his inventory of stamps of his business as of January 1, 1955. At that time the branches of the postage stamp business consisted of wholesale and retail merchandising, auctioneering, and special contract work.

From 1955 to 1961 J. N. Sissons Limited carried on all these branches of the business, but progressively during the period the auctioneering, bulk sales, and private treaty transactions branches increased and became the principal and most profitable.

In September, 1961, after several months’ negotiation between the solicitor for the appellant and for J. N. Sissons Limited, on the one side, and the solicitors for Sonograph Engineering and Manufacturing Company Limited (herein called Semeo) and Sonograph Limited (herein called Sonograph) and the directors and officers of these two latter companies, on the other side, two transactions were entered into.

At the time Semco and Sonograph, both of which had been financially successful operating companies, were insolvent, having many trade and other creditors and insufficient assets to pay outstanding claims. These companies at the time also had substantial income tax loss positions. The directors and officers of Sonograph and Semeo (which were associated companies for all practical purposes at the time, having among other things, common and original shareholders) wished to avoid bankruptcy proceedings. They knew that the capital stock and long-term capital liabilities of these companies had a realizable value only by virtue of the corporate tax loss positions of these companies and they entered into and caused Sonograph to enter into respectively these said two transactions as a method of honourably compromising and discharging the debts of these companies.

The said two transactions were as follows:

(1) J. N. Sissons Limited sold its entire inventory of stamps to Sonograph and Sonograph bought to same, which had a book value of $115,592.72 for $150,000. (See pages 10-11, Exhibit A-7.)

(2) J. N. Sissons, the appellant, on his own account, purchased from the original investors in Semco and Sonograph

(a) (re Semco) 3,000 common shares of Semco, being all the issued shares, and $102,000 six per cent first debentures of Semco;

(b) (re Sonograph) 2,100 five per cent non-cumulative preference shares of $100 par value of Sonograph and $100,000 six per cent first debentures of Sonograph. (The original investors retained 150 of these preferred shares and all of the 25,000 authorized and issued common shares of Sonograph. )

The appellant also purchased from Sonograph 1,000 preference shares of Semco. (See pages 15 to 20, Exhibit A-7.)

The original owners of these said debentures and preferred shares had advanced to Semco and Sonograph the full amount thereof and the funds advanced had been used in the respective businesses of these companies and never withdrawn or paid out.

The consideration given by the appellant for these acquisitions was:

(a) $15,000 cash, subject to the provisions of clause two of the said agreement;

(b) $10 cash to Sonograph, pursuant to clause four of the said agreement; plus

(c) the appellant’s agreement to arrange credit for Sonograph and Semco in the amount of $20,000 for settlements with creditors, pursuant to clause three of the said agreement.

The said two transactions were implemented.

In implementing the second transaction, it was agreed by all the parties to both transactions that Sonograph would and it did make a compromise with certain of its creditors, but not all. It made a settlement with most of its trade creditors for about 40¢ on the dollar and with the balance at 100¢ on the dollar. It did not make any compromise with its debt to J. N. Sissons Limited arising out of the first transaction or of its debt in the sum of $112,000 which was owed on open account at the time to Semco. As part also of implementing the second transaction the debentures of Sonograph were postponed in favour of a new debenture of $50,000 to a bank to secure a new loan to Sonograph to assist it in paying J. N. Sissons, pursuant to the terms of the first transaction and in paying Sonograph’s trade creditors.

Sonograph thereafter employed J. N. Sissons Limited to sell the inventory of stamps purchased and to purchase and resell new inventory. In the years 1962 and 1963 Sonograph, taking advantage of the business losses by virtue of Section 27(1) (e) of the Income Tax Act, earned sufficient net income to pay off its said indebtedness to Semco on open account in the said sum of $112,000. Semco in turn used this sum to redeem its said debentures which had been purchased by the appellant (as detailed above) in the second transaction.

As a result, in October 1962, the appellant received $72,000 from Semco, upon the redemption of part of its six per cent first debentures; and, in September 1963, the appellant received $30,000 from Semco on the redemption of the balance of these debentures.

As stated, the said re-assessment for 1962 for income tax included $57,000 (being $72,000 less the appellant’s cost of $15,000) as an item of income; and the said re-assessment for 1963 included the whole of the said $30,000 as an item of income.

The issue on this appeal is whether, in the circumstances of this case, the said $57,000 in 1962 and the said $30,000 in 1963 are income and not capital gains.

Counsel for the respondent submitted, among other things, that these sums were income in that they were:

(1) money received from a "‘business'', namely "‘an adventure or concern in the nature of trade”;

(2) income from a source within the meaning of Section 3 of the Income Tax Act ; and

(3) that the profits that J. N. Sissons Limited would have made if it had not entered into the said first transaction with Sonograph were a "‘benefit'' conferred by it on the appellant within the meaning of Section 8(1) and also Section 137(2) of the Income Tax Act.

Counsel for the appellant submitted, among other things:

(1) that the monies received on the redemption of these said debentures were not from a "‘business'' within the meaning of the extended definition in Section 139(1) (e) of the Income Tax Act but rather as a result of the maturities of investments;

(2) that no ‘‘benefit’’ was conferred on the appellant in 1961 within the meaning of Section 8(1) of the Income Tax Act because the said first transaction constituted a " " re-organization” of the business of J. N. Sissons Limited within the meaning of that word in Section 8(l)(c)(i) of the Act; and

(3) that no ‘‘benefit’’ was conferred on the appellant within the meaning of Section 137(2) of the Income Tax Act because in September, 1961, the date of these transactions, the only relevant time,

(a) full consideration was paid by the appellant for the debentures, and

(b) there was no transfer of property from J. N. Sissons Limited to the appellant personally.

In reaching the conclusions that I do, it is apparent, and the appellant admits it, that the said second transaction out of which the redemption of these debentures arose, the subject matter of this appeal, would not have been entered into unless the said first transaction was also entered into, and vice versa. As a consequence, this was not a simple purchase of debentures which were realized upon at maturity; it was something more than that, namely, the purchase was a part of the whole transaction involving several parts, and the cause of the redemption was due to many factors, as the above brief summary of the facts shows.

It is in the context of these particular facts that, in reaching a conclusion, four questions are answered.

The first question for decision is whether or not the discounts on these debentures in the circumstances should be classified as income from a "‘business’’ within the meaning of the extended definition in Section 139(1) (e) of the Income Tax Act. As to this, upon a full review and consideration of the facts in this case, since these debentures (a) came into existence for a full consideration in a market over which the appellant had no control, (b) the discounts arose unfortuitously by a capital loss to the original owners thereof, and (c) were purchased by the appellant in an arm’s length transaction, the purchase price thereby representing the then market value; and since the gain, being the amount of these said discounts, to the appellant, from the redemption of these debentures arose, in part, from the indirect efforts of the appellant through J. N. Sissons Limited, which company in turn earned income working for Sonograph in selling its inventory of stamps and merchandising new inventory and, in part, fortuitously, both in a substantial way, I am of opinion that the purchasing of these debentures and the holding of them to maturity by the appellant was not a "‘busi- ness’’ of the appellant as defined in Section 139(1) (e) of the Income Tax Act.

The second question for decision is whether or not the said sums are income from a source within the meaning of Section 3 of the Income Tax Act. As to this, again, upon a similar review and consideration of the facts, for the same reasons stated above in answering the first question for decision, I am of opinion that the said sums are not income from a source within the meaning of Section 3 of the Income Tax Act.

The third question for decision is whether or not the said sums are "‘benefits’’ conferred on the appellant within the meaning of Section 8(1) of the Income Tax Act. As to this, I am of opinion that they are not because in my view what was done in the said first transaction was a "‘re-organization’’ of J. N. Sissons Limited within the meaning of that word in Section 8(l)(c)(i) of the Income Tax Act; and in any event, the alleged conferral of profits that J. N. Sissons might have earned does not thereby constitute a conferral of a benefit within the meaning of that subsection.

The final question for decision is whether or not the alleged profits that J. N. Sissons Limited would have earned if it had not entered into the said first transaction with Sonograph was a conferral of a benefit” within the meaning of Section 137 (2) of the Act. In my view, such cannot and does not constitute the conferral of a benefit within the meaning of that subsection. Money or other assets must be paid out to a shareholder who was a shareholder at least immediately prior to such payment- out and such payment-out must arise out of a contemporaneous transaction or a series of practically contemporaneous transactions to constitute a conferral of a benefit within the meaning of Section 137(2) of the Income Tax Act.

The appeal is therefore allowed with costs, and the re-assessments are referred back for re-assessment not ineonsistent with these reasons.