R. v. Arthill Enterprises Ltd., [1975] C.T.C. 594, 75 D.T.C. 5419

Mahoney, J:

1 The Crown appeals a decision of the Tax Review Board which allowed the defendant's appeal against directions by the Minister, pursuant to subsection 138A(2) of the Income Tax Act, as it stood in 1967 to 1971 inclusive, that the Defendant be deemed to be associated, for purposes of the Act, with certain other companies for its taxation year ended in each of those years. By virtue of a consent order made herein this action was tried, on common evidence, with an appeal by the Crown against a similar decision involving Montbel Trading Company Limited.

2 The pertinent provisions of the Act are:

138A. (2) Where, in the case of two or more corporations, the Minister is satisfied

• (a) that the separate existence of those corporations in a taxation year is not solely for the purpose of carrying out the business of those corporations in the most effective manner, and

• (b) that one of the main reasons for such separate existence in the year is to reduce the amount of taxes that would otherwise be payable under this Act

the two or more corporations shall, if the Minister so directs, be deemed to be associated with each other in the year.

(3) On an appeal from an assessment made pursuant to a direction under this section, ... the Federal Court may

• (a) confirm the direction;

• (b) vacate the direction if

  • (ii) in the case of a direction under subsection (2), it determines that none of the main reasons for the separate existence of the two or more corporations is to reduce the amount of tax that would otherwise be payable under this Act; or

• (c) vary the direction and refer the matter back to the Minister for reassessment.

3 Arthur W Leggett and Belmont Tames went into business together in 1947. Initially, they dealt entirely in used cars, at first primarily as a factor for an established new car dealership on a commission basis and, as time passed, increasingly for their own account. The business operations were all conducted in and around Toronto. At first they operated in partnership. In January 1953 the partnership sold the used car business to a company they had caused to be incorporated, Belmont Motors of Ontario Ltd, and, in 1955, they got into the new car business when that company obtained an Oldsmobile franchise. In 1961 Leggett and Tames each bought 50% of outstanding shares of a going concern, now Belant Motors Ltd, thereby adding a Chevrolet franchise to their existing Oldsmobile franchise. In the result, Belant emerged as the company active in the automobile business with a franchise for both Chevrolets and Oldsmobiles.

4 The business continued to grow and prosper. In particular the real estate owned by Belant rapidly appreciated in value. While the automobile dealership was their principal business, it was not their only business. In all of their enterprises, Leggett and Tames were equal participants; in some, third parties were involved. Throughout, Leggett and Tames were committed to each other that when one died, the survivor would be both entitled and obliged to acquire the deceased's interest in their joint enterprises. There is no evidence of funding, by life insurance or otherwise, of this commitment although there was provision for a deferred balance to be paid, with interest, over a period of years.

5 Late in 1965 and during the first part of 1966 Leggett and Tames, after consultation with their legal and accounting advisors, set in process a major reorganization of their affairs, the essential elements of which follow:

6 1. Arthill Enterprises Limited, Montbel Trading Company Limited and Belmont Chevrolet Oldsmobile Limited were all incorporated in December 1965. The authorized capital of each company consisted of common shares and Class A and Class B preference shares. The Class A shares are 7% non-cumulative voting preference shares of $1 par value, ranking in priority to the Class B and the common shares as to both dividends and return of capital. The Class B shares are 7% non-cumulative redeemable non-voting preference shares of $10 par value. The Class A shares as originally authorized were not redeemable; however, supplementary letters patent issued in 1967 made provision for their redemption in the cases of Arthill and Montbel.

• (a) Arthill Enterprises Limited

  Common    Class A     Class B
       Arthur W Leggett        nil      25,000       4,000
       Hilda Leggett           601        nil         nil
       Bryan Leggett           601        nil         nil
       Stephanie Leggett       601        nil         nil
       Jeffrey Leggett         601        nil         nil

Hilda Leggett is the wife of Arthur W Leggett; Bryan, Stephanie and Jeffrey are their children.

• (b) Montbel Trading Company Limited

  Common    Class A     Class B
       Belmont Tames           nil      25,000       4,000
       Mariea Tames            802        nil         nil
       William Tames           802        nil         nil
       Byron Tames             802        nil         nil

Mariea Tames is the wife of Belmont Tames; William and Byron are their sons.

8 3. Arthill and Montbel formed a partnership, known as Lawrence Enterprises Company. The first public manifestation of the partnership was the registration, in the County of Simcoe, of a partnership declaration, dated June 23, 1966, relative to the conduct of a drive-in theatre business on the property owned by Wasagan Drive-In Theatre Ltd.

9 4. On August 25, 1966 Belmont Chevrolet Oldsmobile Limited was organized. The common shareholdings then established, which pertained throughout the entire period in question, were Arthur W Leggett and Belmont Tames: 4,500 each and Montbel and Arthill: 10,500 each. In addition, Belant Motors Limited was issued 40,000 Class B shares.

10 5. On August 26, 1966 Belant sold the assets of its automobile dealership, except its land, buildings and fixtures, to Belmont Chevrolet Oldsmobile Limited for a net price of $850,584.96 and, in addition, assumed certain of the vendor's liabilities in the sum of $1,353,050.52. A new franchise agreement was subsequently obtained by the purchaser for the unexpired term of the vendor's franchise. The land and buildings had been independently appraised, as of January 1, 1966, at $772,000.

11 6. Effective September 1, 1966 Arthill and Montbel, in their capacities as partners in Lawrence Enterprises Company, which was described in the agreement as “the management company” entered into a 5-year management contract with Belmont Chevrolet Oldsmobile Limited whereby in return for management services, a fixed annual fee of $42,000 plus additional bonuses as might be determined by the directors of Belmont Chevrolet Oldsmobile Limited were payable to the partnership.

12 The directors of Belmont Chevrolet Oldsmobile Limited were and, at all material times have been, Belmont Tames, Arthur W Leggett, Terence J O'Brien and Joseph Rosenfeld. In fact O'Brien and Rosenfeld are nominees of Tames and Leggett and bound to go along with them in whatever they agreed upon and to refrain from taking sides if they disagreed. The management fees and bonuses actually paid in the years in question were:

1967       $ 21,000
                        1968       $217,215
                        1969       $142,000
                        1970       $117,000
                        1971       $ 92,000

13 The franchise agreement obtained by the dealership, expressly required that Leggett and Tames, personally, participate in both its ownership and its operation. Manifestly the manufacturer is primarily concerned with the people vending its products rather than with the organizational paraphernalia through which they vend them.

14 While both Arthill and Montbel have, over the years, entered into a few real estate transactions independent of each other, their business has, with one major exception, been conducted through the partnership. The single exception is that Arthill has, in recent years, developed a substantial philatelic business with an inventory Leggett estimates is now worth $500,000 and current annual sales in the $400,000 range. The partnership has itself undertaken some activities not previously carried on by Leggett and Tames personally; however, I am satisfied that the great bulk of the partnership's business activity is simply a continuation of their previous personal activities.

15 I have set out the major transactions that occurred in the implementation of the scheme. There were others involving their minor business interests. These were entirely consistent with what was done vis à vis the automobile dealership and no useful purpose would be served by reciting them.

16 Leggett and Tames both testified, Leggett at some considerable length. Tames is patently not in robust good health and was not called upon to do much more than confirm the evidence he had heard Leggett give. Leggett was straighforward and credible. So were the professional advisors who counselled them in respect of the reorganization. The objects are said to have been:

17 1. On the basis that, so to speak, they pretty well “had it made”, time and money was now available to permit each to pursue personal interests, eg, Leggett's philately, not shared by the other or necessarily related to their joint business activities.

18 2. The removal of the real estate from the dealership assets would enhance the marketability of the dealership as and when they decided to sell it, ie, there would be more potential purchasers able to finance the purchase of the dealership without the real estate than could afford both real estate and other assets.

19 3. They wanted to effect a partial “estate freeze”, viz, while retaining the same effective operating control over their business as they had enjoyed before, part of the future growth in the value of the business would accrue directly to other members of their families, thus reducing the death duties that would eventually be levied.

20 While the first reason may well reflect the state of mind that prepared them to effect the reorganization when they did, it is hardly a reason for doing what was done. Leggett and Tames were obviously in a position to pursue other interests, if they chose to do so without causing the incorporation of Arthill and Montbel.

21 The second reason is the reason for the separate corporate existence of Belant Motors Ltd and Belmont Chevrolet Oldsmobile Limited but it does not, even tenuously, provide a reason for the separate existence of either Arthill or Montbel. On the other hand, it is a valid reason for an important part of the whole reorganization and does not detract from the validity of the third reason.

22 I have considered the cases referred to me by counsel[FN1: <p><em>Holt Metal Sales of Manitoba Ltd et al</em>v<em>Minister of National Revenue</em>, [1970] Ex. C.R. 612, [1970] C.T.C. 144, 70 D.T.C. 6108;<em>Jordan Rugs Ltd et al</em>v<em>Minister of National Revenue</em>, [1969] C.T.C. 445, 69 D.T.C. 5290;<em>Doris Trucking Co Ltd</em>v<em>Minister of National Revenue</em>, [1968] 2 Ex. C.R. 501, [1968] C.T.C. 303, 68 D.T.C. 5204;<em>Dominion Freehold Limited</em>v<em>Minister of National Revenue</em>, [1971] C.T.C. 523, 71 D.T.C. 5261;<em>C P Loewen Enterprises Ltd</em>v<em>Minister of National Revenue</em>, [1972] F.C. 773, [1972] C.T.C. 396, 72 D.T.C. 6298;<em>MNR</em>v<em>Howson &amp; Howson Ltd</em>, [1970] C.T.C. 36, 70 D.T.C. 6055;<em>Alpine Furniture Company Limited</em>v<em>Minister of National Revenue</em>, [1969] 1 Ex. C.R. 307, [1968] C.T.C. 532, 68 D.T.C. 5338;<em>Debruth Investments Limited</em>v<em>Minister of National Revenue</em>, [1973] C.T.C. 268, 73 D.T.C. 5233, [1975] C.T.C. 55, 75 D.T.C. 5012;<em>MNR</em>v<em>Furnasman Ltd et al</em>, [1973] F.C. 1327, [1973] C.T.C. 830, 73 D.T.C. 5599.</p>] as well as other cases. While each turns on its own facts, the test that has been consistently applied was succinctly stated by Cattanach, J in the Loewen case, at page 794 [410, 6308]:

if there had been no tax advantage would the plan have been adopted in any event?

23 Leggett and Tames wanted to effect a partial estate freeze. It was a legitimate objective in no way connected with taxation under the Income Tax Act. In their circumstances it was a prudent move. Counsel for the plaintiff argues that they could have achieved that objective without incorporating separate companies. He has not suggested how and, while the onus is on the defendants to prove that the separate corporations were necessary for the purpose, they discharged the onus when they proved that it did achieve the purpose and there are no readily apparent alternatives. The onus is then on the plaintiff to suggest the alternatives; it is not up to the defendant to advance hypotheses and explain why they were not viable. The separate corporate existence of both Arthill and Montbel from the operating companies was an essential feature of the scheme. Their separate existence from each other was dictated by a decision which Leggett and Tames were quite entitled to make: namely, that each wanted to continue to be in business with the other but did not want ever to be forced to be in business with the other's family.

24 I am satisfied that none of the main reasons for the separate existence of Arthill and Montbel was to reduce the amount of tax otherwise payable under the Income Tax Act. The appeal is dismissed with costs.