A J Frost:
1 I shall now give my decision in this appeal from the income tax assessment dated September 14, 1973 in respect of the appellant's taxation year ended August 31, 1972. Upon notice of objection duly filed on November 6, 1973, the Minister of National Revenue confirmed the assessment on the ground that the taxpayer corporation did not have any income from an active business and, accordingly, did not qualify for the small business deduction provided under subsection 125(1) of the Income Tax Act.
2 The appellant company was incorporated for the purpose of providing management services to professionals and others. Its powers include the following purposes and objects:
1. To act as managers and perform managerial services for individuals, partnerships, syndicates, and corporations.
2. To act, through its officers, agents and servants as managers, brokers, directors and agents for individuals, partnerships, syndicates, and corporations.
3. To act as executors or administrators when duly appointed by any court of competent jurisdiction.
4. To provide accommodation, clerks and services, furniture, furnishings for individuals, partnerships, syndicates and corporations and acquire, hold and dispose of any property for such persons.
5. To engage the services of persons, professional or others, for performing any services considered as incidental to the powers of the company.
6. To purchase, sell, lease, own, mortgage and take mortgages on lands and personal property.
3 The shareholders of the appellant include the senior partners of the firm of Donovan and Stone, Chartered Accountants at Brandon, Manitoba. The list of directors is as follows:
M S Donovan -- Accountant
D W Stone -- Accountant
K O Bicknell -- Accountant
P J Kelleher -- Accountant
Vivianne G Bicknell -- Housewife
Shirley J Kelleher -- Housewife
Mildred A Stone -- Housewife4 In considering the question whether or not a taxpayer is entitled to any deduction from the tax otherwise payable, as provided by section 125 of the Act, on the ground that the income of the appellant, a Canadian-controlled private corporation, is from an active business carried on in Canada, there is no ready made set of criteria which could be applied to determine the existence of the correct amount of “activity” commensurate with the (statutorily unexpressed) intentions of the Legislature. The Board must weigh the evidence in the light of various factors which seem reasonably relevant in distinguishing an active business from a non-active one. Without claiming that they are the only criteria applicable, and without pretending that they are necessarily useful under all circumstances, the following factors have in this case come to mind:(1) volume and frequency of transactions,
(2) the quality and nature of management decisions that are required to generate income, and
(3) the use made of capital and labour.
5 Factors such as the fact of incorporation, the declared objects in a corporate charter, etc may be of secondary importance only. The function of management is to gain, and if possible to enhance, profits by bringing into harmonious relationship all the successful elements of a business. If management skills require deliberate action to enhance profits, the business so managed is, in my opinion, most likely to be of an active nature. Management may be provided by virtue of special contract or through direct employment. The important question is what management is doing, not who does it. The contractual arrangements on the basis of which such management is provided are not important. However, what management in fact does in generating income for the business is, and this will decide whether the business is to be regarded as active or not. If we evaluate the “activeness” of the appellant company's business in the light of the above-mentioned factors, we could formulate the relevant questions as follows:(a) Did the volume and frequency of transactions in the taxation year under review indicate an active business?
(b) Did management generate economic expansion and employment?
(c) Did the use of capital and labour generate business growth?
6 With respect to the volume and frequency of transactions, the financial statements indicate little economic activity. The appellant “managed” exclusively the professional accounting firm of Donovan and Stone. The total of all fees received for management services relate to that firm only and, in the taxation year, are equivalent to 5% of expenses, exclusive of partners' drawings. Further, the use of labour and capital was relatively insignificant, as no charges appear in the financial statements for salary or wages. Looking at the entire arrangement, one cannot avoid the impression that, aside from the performance of the various professional duties, there was little left to manage, and that we in fact have to deal with professionals who are managing themselves, and who, in order to distribute the impact of the tax on the management fees, charge them through their company to themselves, while bringing in their wives as token directors.
7 Not satisfied with the tax advantage obtained through the arrangement of a management company, the owners and real actors also tried to claim for the appellant the small business incentive afforded by subsection 125(1) of the Act. However, in the opinion of the Board, Parliament never contemplated the sort of activity carried on by the appellant company as qualifying under the said section.
8 What constitutes an active business is a question of fact and of degree, properly assessed by an objective observer with knowledge of the facts who can view the situation impartially. Having fulfilled this task of an impartial, independent observer, I cannot find in favour of the appellant. The financial statements of the appellant company in this case cry: “Res ipsa loquitur.”
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