Lamarre T.C.J.:
1 This is an appeal from an assessment of income tax made by the Minister of National Revenue (the “Minister”) with respect to the Appellant's 1990 taxation year. In assessing the Appellant, the Minister disallowed the deduction from income of a loss of $151,250 arising out of the disposition of 25,000 shares of Walwyn Stodgell Cochran Murray Limited (“Walwyn”), a brokerage company of which the Appellant was an employee. The Appellant claimed the entire loss at issue as an employment expense. The Minister disallowed it on the basis that it was a non-deductible capital loss within the meaning of paragraph 39(1)(b) of the Income Tax Act (the “Act”). In his Notice of Appeal, the Appellant now argues that the loss is a fully deductible business loss.
Facts
2 Apart from the Appellant, two other witnesses were called by counsel for the Appellant. The first was Mr. Brent Burke, account manager for the Royal Bank of Canada (“Royal Bank”) in Toronto, who testified concerning the loans given to the Appellant and other employees of Walwyn for the purchase of the Walwyn shares. The second was Mr. Manfred Schleich, chartered accountant, who held positions as financial officer and director of Walwyn between 1979 and 1989. He testified as to the circumstances surrounding the private share placement carried out by Walwyn on October 20, 1987 as a part of which the Appellant purchased the shares at issue.
3 According to Mr. Schleich, the private placement was made shortly after Walwyn was taken over by a new group (Financial Trustco). It was offered primarily to selected employees for the purpose of tying those employees to Walwyn for a certain period of time. Another goal was to raise additional capital to fund any expansion plans contemplated by the new group.
4 The new group had bought approximatively 60 or 70% of Walwyn shares from the employees at a high price of $10 per share in early 1987. At that time, the shares were trading at approximately $4 or $5, according to Mr. Schleich. The Appellant himself sold 5,994 shares at that time and realized a gain on the sale of $42,497 (the indicated cost of these shares was $17,442 for an average of $2.90 per share[FN1: <p>See the 1987 Tax Return, Exhibit A-1.</p>] ). Following the private placement mentioned above, the new group resold some of the shares to selected employees at a price of $8 per share. Mr. Schleich and the Appellant were among these employees.
5 In October 1987, the Royal Bank offered a loan facility for the purchase of Walwyn shares by the employees.[FN2: <p>See Exhibit R-1.</p>] Walwyn made all the arrangements and guaranteed payment of the loan, giving, in addition to the shares, other forms of security as collateral for the loan. The employees made no down payment on the shares and pledged only their Walwyn shares. Walwyn paid the interest charges on the loans to the employees, who in turn included that amount of interest as a taxable benefit in the computation of their income.
6 The offer for private placement specifically indicated that the subscription was subject to certain holding periods. In the first place, the shares could not be sold under any circumstances for a period of one year. This was a statutory requirement. Another requirement was imposed for subscribers for more than 5,000 shares: such a subscriber would have to seek permission to sell the shares after the one year mandatory holding period and no shares pledged to support borrowing would be released during the first three years of the facility. Furthermore, if the share price fell, or if he left the employ of Walwyn, the subscriber would be responsible to the Royal Bank for any shortfall or for the full repayment of the loan should the bank request it. As it happened, the employees (while they were employed by Walwyn) were not required to make up any shortfall.
7 The Appellant worked as the general manager of the Walwyn regional office in Halifax, Nova Scotia, in 1987. He took part in the employee share purchase plan. He first bought 20,000 shares under this plan for an initial issue of 2,500,000 shares. There was no requirement on the face of the private placement document that employees take up the share offer, but the Appellant stated that he felt some pressure to do so. Mr. Schleich testified that he felt the same way. The Appellant took up 5,000 additional shares allotted for an even more select group of employees. These additional shares were bought under the same conditions even though a crash in the value of the shares occurred shortly before, at the end of 1987.
8 The Appellant testified that it was not his intention when he bought the shares to keep them for longer than three years. He was under the impression that after the expiration of that time, he would have to take responsibility for payments on the loan and it was obvious to him that he could not afford to carry the shares (which he bought for $200,000) and could not have borrowed the money on his own due to his precarious personal financial situation. Furthermore, at the moment he bought the shares, although the nature of the stock was very volatile, the senior management of the company indicated to the employees that the price of the shares could go up to $15 to $20. As it turned out, the Appellant's employment with Walwyn was terminated in 1990 and he did not have any choice but to sell his shares at a loss. Walwyn paid the Royal Bank an amount of $151,250 to pay off the loan out of the severance pay to which the Appellant was entitled on leaving his employment. The Appellant included in his income for that year the amount of the severance pay of which he in fact did not receive a penny.
9 There is no indication in the private placement document as to who was going to carry the debt after the three year holding period expired. However, there was a projection for ten years of principal repayment. The same document also provided that no penalty would apply for early repayment.
10 In the past, namely from 1986 to 1989, the Appellant had traded stock (approximately ten transactions a year) and had declared gains and losses on capital account in his tax returns, including proceeds from the sale of his Walwyn shares in 1987.
Issue
11 The basic issue is whether the loss incurred on the disposition of the shares may be deducted from the Appellant's income as a business loss in the 1990 taxation year.
Counsel's Arguments
12 Counsel for the Appellant argued that a loss from an isolated transaction may be an income loss if that transaction is an adventure in the nature of trade. According to counsel, the disposition of Walwyn shares was an adventure in the nature of trade because it bore many of the hallmarks recognized by the courts as so identifying a share disposition.
13 Counsel for the Respondent argued that, on the facts, the Appellant had made an investment when he purchased the shares and had not engaged in an adventure in the nature of trade. Therefore the loss was a capital loss.
Analysis
14 For the Appellant to be able to treat his loss as a business loss from the operation in question, he has to show that it is not to be characterized as an investment but rather as an adventure in the nature of trade, which expression is found in the definition of “business” in the Act. Subsection 248(1) defines business as follows:
“business” includes a profession, calling, trade, manufacture or undertaking of any kind whatever and, except for the purposes of paragraph 18(2)(c), section 54.2 and paragraph 110.6(14)(f), an adventure or concern in the nature of trade but does not include an office or employment;
15 The expression “adventure in the nature of trade” was considered by Thorson P. of the Exchequer Court in Minister of National Revenue v. Taylor.[FN3: <p>(1956), 56 D.T.C. 1125 (Can. Ex. Ct.)</p>] Certain general propositions, some positive some negative, were formulated for determining whether or not a particular transaction constituted an adventure in the nature of trade. These are accurately summarized by Cartwright J. in the decision of the Supreme Court of Canada in Irrigation Industries Ltd. v. Minister of National Revenue[FN4: <p>(1962), 62 D.T.C. 1131 (S.C.C.)at p. 1137, and approved by Martland J., speaking for the majority, at p. 1133.</p>] as follows:
On the negative side:(i) The singleness or isolation of a transaction cannot be a test of whether it was an adventure in the nature of trade — it is the nature of the transaction, not its singleness or isolation that is to be determined.
(ii) It is not essential to a transaction being an adventure in the nature of trade that an organization be set up to carry it into effect.
(iii) The fact that a transaction is totally different in nature from any of the other activities of the taxpayer and that he has never entered upon a transaction of that kind before or since does not, of itself, take it out of the category of being an adventure in the nature of trade.
(iv) The intention to sell the purchased property at a profit is not of itself a test of whether the profit is subject to tax for the intention to make a profit may be just as much the purpose of an investment transaction as of a trading one. The considerations prompting the transaction may be of such a business nature as to invest it with the character of an adventure in the nature of trade even without any intention of making a profit on the sale of the purchased commodity.
On the positive side:(i) If a person deals with the commodity purchased by him in the same way as a dealer in it would ordinarily do such a dealing is a trading adventure.
(ii) The nature and quantity of the subject matter of the transaction may exclude the possibility that its sale was the realization of an investment or otherwise of a capital nature or that it could have been disposed of otherwise than as a trade transaction.
16 In the Irrigation Industries case, an otherwise inactive company had purchased from a mining company 4,000 treasury shares out of an initial issue of 500,000 shares. The majority in the Supreme Court held that this was an investment and that the gain obtained by selling the shares at a profit a few weeks later was not income. Martland J. said:[FN5: <p><em>Ibid</em>, at p. 1133.</p>]
In my opinion, a person who puts money into a business enterprise by the purchase of the shares of a company on an isolated occasion, and not as a part of his regular business, cannot be said to have engaged in an adventure in the nature of trade merely because the purchase was speculative in that, at that time, he did not intend to hold the shares indefinitely, but intended, if possible, to sell them at a profit as soon as he reasonably could. I think that there must be clearer indications of “trade” than this before it can be said that there has been an adventure in the nature of trade.
17 Applying the second positive test referred to in the Taylor case, Martland J. observed that the acquisition of corporate shares “is a well recognized method of investing capital in a business enterprise”.[FN6: <p><em>Ibid.</em>, at page 1134.</p>] The Federal Court of Appeal said in Pollock v. R.[FN7: <p>(1993), 94 D.T.C. 6050 (Fed. C.A.), at pp. 6054-6055.</p>] that there is not necessarily a presumption that the sale of shares is of a capital nature, as seemed counsel for the Respondent to infer. Hugessen J. analysed the question as this:
This passage [from Irrigation Industries] needs to be read with care and in context. In my view, it does not support any general proposition that the acquisition of corporate shares is presumed to be for capital rather than for income account. The paragraph occurs in the course of Martland, J.'s discussion of one of the well-known tests for determining whether there has been an adventure in the nature of trade, namely “whether the nature and quantity of the subject-matter of the transaction may exclude the possibility that its sale was the realization of an investment, or otherwise of a capital nature, or that it could have been disposed of otherwise than as a trade transaction”. In the passage quoted, Martland, J. was discussing a number of reported cases where the very nature of the property in question was such as to exclude any practical likelihood of its purchase being a simple investment. He then went on to indicate that corporate shares do not fall into that category. That, however, is a very different thing from saying that corporate shares are presumptively an investment. In my view, there is no presumption one way or the other.[FN8: <p>It is to be noted that in<em>The Queen v. Mandryk</em>, 92 D.T.C. 6329at p. 6334, the Federal Court of Appeal was of the opinion that “there is ... a presumption that [the sale of shares] is of a capital nature, though it may be rebutted by the taxpayer.”</p>]
18 In the case of Minister of National Revenue v. Sissons,[FN9: <p>(1969), 69 D.T.C. 5152 (S.C.C.)</p>] Pigeon J. pointed out that there was a clear indication of “trade” to be “found in the fact that the acquisition of the securities was a part of a profit-making scheme. The purpose of the operation was not to earn income from the securities but to make a profit on prompt realization. The operation ha[d] therefore none of the essential characteristics of an investment, it [was] essentially a speculation.”[FN10: <p><em>Ibid</em>, p. 5154. In that case, the transactions in issue involved the purchase by the taxpayer of debentures from two companies which were losing money in the same line of business as the taxpayer's successful company. One of the money-losing companies, having made profit out of the transaction, redeemed two years later the debentures held by the taxpayer. The question in issue was whether the amounts received by the taxpayer less his costs were taxable as income or as a taxable capital gain.</p>]
19 In the present case, it is worth noting that in the same year, 1987, the Appellant sold 5,994 shares of Walwyn to the very group (Financial Trustco) from which he repurchased the shares a few months later. The initial sale of the 5,994 shares gave rise to a gain of $7.50 per share. When the private placement took place, the Appellant repurchased at that time 20,000 shares at $8.00 per share, that is, $2.00 per share less than the price at which he had sold a few months before. Even after the crash, he agreed to buy 5,000 more shares at the same price of $8.00 per share. The whole represented for the Appellant a total commitment of $200,000 with regard to which he did not have to lay out any money for the first three years. When the shares were bought, the management team (of Financial Trustco) also indicated that the same shares would be worth approximately $15 per share in the near future.
20 The Appellant was an experienced employee in a brokerage company, as is evidenced by the fact that he was offered so many shares (four times more than he already had at the beginning of 1987 and 13,000 more shares than Mr. Schleich himself bought). The Appellant had already realized a considerable gain on these same shares a few months before. This was treated as a capital gain by the Appellant. While I do not have to make a decision as to the correctness of this treatment as it was not contested by the Respondent, nevertheless it seems to me that the purchase of the Walwyn shares in issue was made in circumstances completely different from those that may have surrounded the purchase of the 5,994 shares. In my view, the above-mentioned circumstances surrounding the purchase of the 25,000 shares bear indicia that the Appellant had the intention to speculate on these shares.
21 It is also clear from the evidence that the value of these shares was highly volatile -- in other words they were very speculative in nature. The course of conduct of the Appellant indicates that in engaging in such a venture -- even though he stated that he felt compelled by the new management's “moral suasion” to purchase the shares -- he was also prepared to take, and in fact intentionally took a chance, hopeful of making another huge gain out of this transaction, but risking losing money, which, as it turned out, was what actually did occur.
22 No dividends, except for one of 15 cents, was paid out on these shares. It is clear that the Walwyn shares could not yield any significant income to the Appellant. Moreover, no penalty was to be incurred on early repayment of the principal. The Appellant furthermore indicated that he had absolutely no intention of keeping the shares after the three-year holding period elapsed, as he was financially unable to repay the loan. In my view, these are clear indications of speculation or trade. As was mentioned by Pigeon J. in Minister of National Revenue v. Sissons:[FN11: <p><em>Ibid.</em>at p. 5155.</p>]
It is equally well established that even a single operation entered into for gain takes a business character when it cannot properly be considered as an investment but it is to be characterized as a speculation. In such circumstances, it is an adventure in the nature of trade: Fraser v. Minister of National Revenue (1964, S.C.R. 657 [64 DTC 5224]), Minister of National Revenue v. Freud (1968, C.T.C. 438 [68 DTC 5279]).
23 In Irrigation Industries, the positive tests from the Taylor case, supra, that were applied in order to decide whether the operation was an adventure in the nature of trade or an investment were:
(1) Whether the person dealt with the property purchased by him in the same way as a dealer would ordinarily do and (2) whether nature and quantity of the subject-matter of the transaction may exclude the possibility that its sale was the realization of an investment, or otherwise of a capital nature, or that it could have been disposed of otherwise than as a trade transaction.[FN12: <p><em>Supra</em>, footnote 4, at p. 1133.</p>]
24 As to the first test, the words of Pigeon J. in Sissons,[FN13: <p><em>Supra</em>, note 9, at p. 5155.</p>] could very well apply in the present case:
...while the acquisition was not made in the way in which an investment dealer would, it was in no way done as an investment is normally made. It was part of a scheme for quickly making a very substantial profit out of the prompt realization of debentures payable immediately or in the near future.
25 In my view, the evidence reveals in the present case that the Appellant surely did not act as an investor would normally do. First, the obvious intention of the Appellant was not to hold the shares and to collect the dividends therefrom but to realize over the three-year period a good appreciation in the value of these shares. Second, under the loan agreement, he was personnally liable for any losses.
26 As to the second test applied by the Supreme Court, while the nature of the shares does not in itself exclude the possibility that their sale was of a capital nature, the quantity of the Walwyn shares involved in this transaction (four times more than the number the Appellant had owned before the deal was made) is also indicative in my view of an adventure in the nature of trade.
27 I am of the opinion that the Appellant established on a balance of probabilities that the loss he incurred on the disposition of his Walwyn shares in the 1990 taxation year was a business loss within the meaning of paragraph 9(2) of the Act.
28 The appeal is allowed with costs.
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