Minister of National Revenue v. Société Coopérative Agricole Du Comté De, [1952] CTC 245, 52 DTC 1129

SAINT-PIERRE, Acting Judge:—This is an appeal from the judgment of the Income Tax Appeal Board under date of June 22,1951, with respect to the notice of assessment for the taxation years 1947 and 1948 of la Société Coopérative Agricole du Comté de Châteauguay of the Village of Ste. Martine in the Province of Quebec.

The Income Tax Appeal Board allowed the appeal of the respondent and ordered the appellant to amend the notice of assessment for each of the taxation years 1947 and 1948 so as to allow the said sums paid by way of dividends to the preferred shareholders as a deduction from the respondent’s income for the taxation years 1947 and 1948.

The appellant submits the following as reasons for appeal :

15. The appellant invokes the provisions of Section 5(1) (b) of the Income War Tax Act.

16. The appellant submits that the amounts of $1,354.99 and $1,467.61 paid by the respondent to the holders of preferred shares by way of dividends during the taxation years 1947 and 1948 are not amounts paid as interest on borrowed capital used in the business to earn the income.

17. The appellant submits that the income of the respondent for each of the taxation years 1947 and 1948 was properly assessed pursuant to the provisions of the Income War Tax Act.

The respondent denies the allegations of the appeal and in particular argues as follows:

10. The respondent is a co-operative agricultural association organized under and governed by the Co-operative Agricultural Associations Act (R.S.Q. Chapter 120 and amendments).

11. The respondent paid in interest to persons designated by the aforesaid Act as ‘‘holders of preferred shares’’ the sums forming the subject matter of this appeal.

12. In determining its taxable income for each of the years 1947 and 1948, the respondent entered the sums it had paid in interest on the said ‘‘preferred shares’’ as deductible expenses and charges.

13. The amounts paid in interest, as aforesaid, are in reality an operating charge for the respondent, not a distribution of profits, the capital obtained by the respondent through “preferred shares’’, within the meaning of the said Co-operative Agricultural Associations Act (R.S.Q. 120 and amendments), being in effect borrowed capital used by the respondent in its business to earn the income.

14. Notwithstanding the words used in the aforesaid Act to designate them, the securities called ‘‘ ‘ preferred shares ’ ’ represent loans ‘ 1 sui generis ’ ’ and in no way correspond to the shares so designated and issued under the limited companies Acts.

and seeks to have this appeal dismissed and the decision of the Appeal Board, delivered on June 22, 1951, upheld, all with costs.

The case was submitted and the parties proceeded to the evidence. The following witnesses were heard:

1. Emile Simard, manager of la Société Coopérative Agricole du Comté de Châteauguay, witness for the appellant. He filed as exhibit Al the income tax returns for the years 1947 and 1948, the assessment notices, the notices of objection and the notification by the Minister. He filed as exhibit A2 an extract from the minutes of la Société Agricole de Châteauguay for the years of April 27, 1944, June 3, 1944, and June 19, 1944. He filed as exhibit A3 a copy of a preferred share certificate. He filed as exhibit A4 a list of the number of ordinary shares and of preferred shares for 1947. He filed as exhibit A5 a list of the number of ordinary shares and of preferred shares for 1948. He declared that the preferred share certificate was not in agreement with resolutions passed by the association. To a question put by the Court, to wit: ‘‘On the other hand, the certificate holder was satisfied to accept the certificate in its existing form and the association was satisfied to furnish the certificate in its existing form. Is this not so?’’ Answer: ‘‘That was the method used.’’ To another question put by the Court, to wit: “I am not speaking of legal value, I am speaking of guarantee. The holder of a preferred share certificate could not have the association’s assets sold if he were not paid the amount of his certificate unless he took out a judgment and effected a seizure ? ’ ’ Answer: ‘ 6 That is right. ’ ’

“Q. Whereas the holder of a mortgage loan had the guarantee that the association’s assets were there to pay him?

A. That is so.”

Emile Simard. He filed as exhibit R1 a list of holders of ordinary shares and preferred shares for 1947 and as R2 the same list for 1948. He filed as exhibit R-3 a form of purchase and sales contract. He declared that at the meeting of December 12, 1947, the co-operative association adopted the balance sheet which was filed and that the sums received from the preferred shares were used for the development of the association. Interest on the preferred shares was paid on July 15, 1947, and July 15, 1948.

Raymond Houde, accountant, is the party who prepared the balance sheet and showed the interest on ordinary capital as well as on preferred capital in the association’s expenses.

Counsel for the appellant raised the following question: Is the capital represented by the preferred share, borrowed capital or capital invested in the capital stock of the co-operative association ?

He referred first of all to the case of T. E. McCool Ltd. v. M.N.R., [1948] Ex. C.R. 548; [1948] C.T.C. 247, confirmed by the Supreme Court of Canada, [1949] C.T.C. 395, where it was decided that “Section 51(b) of the Income War Tax Act is applicable only to borrowed capital”. He added that there must exist an essential legal lender-borrower relationship between the shareholder who subscribes for a preferred share and the co-operative association. This legal relationship arises from the Act and whether a loan or a capital investment is involved will be found in the Act.

He based his argument on the last paragraph of Section 3 which provides that the association shall also include, in addition to ordinary shareholders, the subscribers to preferred shares. He added that Sections 4 and 5 make no distinction between ordinary shares and preferred shares and that the preferred shareholder is not a creditor of the association and, therefore, a lender, but that he is a debtor towards the creditors of the association to the extent of the total amount of his holding or of the outlay represented by the amount of his shares.

He referred to Sections 13(1) (b) and 13(1) (e) which make no distinction between the ordinary share and the preferred share. Section 5(1) (b) of the Tax Act makes no distinction between interest deductible or exempt from tax and interest or dividends on preferred shares and he quoted the case of Income War Tax Act v. Crassweller ((1949), 1 Tax A.B.C. 1) where it was decided that any profit whatever received by a person in his capacity of shareholder or by reason of capital stock he holds in a company is always a dividend; whether called ‘‘interest’’ or ‘‘dividend’’, it is income in the nature of a dividend.

He referred to the balance sheets of the association where during the years 1947 and 1948 the association entered in the “capital” account the ordinary shares and the preferred shares but did not enter them in the ‘‘loan’’ account.

In exhibit A2 there is no question of loan. The certificate is in accordance with the resolution and therefore in accordance with the Act. He concluded that the issue of preferred shares was a capital increase and admitted that the agricultural association is not a company but is a joint-stock company in accordance with Article 1889 of the Civil Code and that, in the event of liquidation, the ordinary shareholder like the preferred shareholder would be liable to the extent of his holding and no more. In the case of doubt as to the interpretation of Section 5(1) (b), it must be interpreted against the person invoking it and in favour of the general law. Wilder v. M.N.R., [1949] Ex. C.R. p. 347 ; [1949] C.T.C. 302; Lumbers v. M.N.R., [1943] Ex. C.R. 202; [1943] C.T.C. 281.

In the Quebec Companies Act, preferred shareholders are owners of capital stock, Dupuis Frères Ltd. v. M.N.R., [1927] Ex. C.R. 207; [1917-27] C.T.C. 326. In the case of Younger v. Imperial Tobacco, 58 B.R. 310, the very new members participate so as to be liable to those who no longer are. The provision of the Act which permits the subscription in three parts or in three instalments does not exclude preferred capital.

Regarding shareholders not entitled to vote, he referred to Waganese Edition, 1931, p. 474, and Lighthall Dominion Companies Act, 1935 Edition, p. 104. He referred also to the case of Rub as v. Parkinson, [1929] 3 D.L.R. 1, to establish the fact that the nature of the income must be examined not the right to vote, and the preferred shareholder is assured out of the profits of the association of that part of the profits equivalent to 5% of his capital holding. He concluded that the appeal should be allowed on the principle that it is not a loan but a capital holding with a profit expectancy represented by interest.

Counsel for the respondent raised the question, do the sums received at the rate of 4% on what are called preferred shares issued by the association constitute interest on money loaned or not. He declared that the whole debate rests on the nature of the transaction alone and that the nature of the transaction, not the terminology used, must be examined to solve the question. He referred to Law Reports, Queen’s Bench Division, Vol. 1, Inland Revenue, and to the case of M.N.R. v. Saskatchewan Grain Growers Association in 1930. To determine the nature of the legal relationship an examination must be made of the Act and the resolution under which these loans were made to the association. Account need not be taken of the share certificates for there is no resolution approving them and these certificates contain conditions which are not authorized by the Act. Steel v. Ramsay, [1931] A.C. 270.

He gave the history of the Act.

In 1925 it was Chapter 57, R.S.Q. 1925, Act respecting Cooperative Agricultural Associations.

Section 3 at that time read as follows:

‘ 1 The association shall consist of at least 25 persons who sign a declaration.”

At that date there were no preferred shares. Section 5 does not speak of preferred shares.

Section 9 read as follows:

“The association shall consist of the persons who have signed the declaration mentioned in Section 3 and of all who may afterwards subscribe for shares in the association.”

This Act was amended by Chapter 38 of 20 George V and Section 3 was replaced by Section 2 of Chapter 38, 20 George V. Section 2 includes shareholder-producers, affiliated producers and preferred shareholders.

Section 5 was amended by adding ‘‘ preferred shareholders’’.

Section 9 was amended by adding the word ‘‘ordinary’’ before the word ‘‘shares’’ in the third line. Section 8 of the present Act determines that :

14 The association shall consist of the persons who have signed the declaration mentioned in Section 3 and of all who may afterwards subscribe for ordinary shares in the association.”

As a result of this amendment, preferred shareholders would not be among the persons making up the association.

Section 19 has been amended replacing the word “member” (sociétaire) by the words “shareholder-producer” with regard to the general meeting.

By these amendments counsel for the respondent concluded that the preferred shareholder is not entitled to vote, cannot be represented at meetings and is not even in the category of persons making up the association.

He declared that wherever in the Act the word ‘‘share’’ is used it concerns the shares of ordinary shareholders and he supported this claim by Section 14 which declares that in the case of default of the shareholder-producer to fulfill his obligations, he is struck off from the list of members and his shares converted into preferred shares. He further declared that the preferred shareholders have no privilege within the meaning of the Act.

The fact that the preferred share is repayable likens it at least to a loan and nothing is provided in the Act in the case of failure to pay the interest which would give it a somewhat higher rank than that of an ordinary share.

He contended that the issue made was an issue of bonds and not an issue of preferred capital and referred to the case of Touquoy Gold Mines (1906), Eastern Law Reporter 142. He admitted that in the certificate and in the resolutions there was no question of a loan. The transaction made was truly a loan, and the payment of interest is a charge of a constant nature. He concluded that the appeal should be dismissed.

The question raised is to determine whether the payments made by the association in 1947 and in 1948 to its preferred shareholders represented interest on a loan made by the said shareholders or whether they represented interest on capital invested by the said shareholders and resulted from the profits of the said association. If these amounts are the result of a loan, Section 5(1) (b) of the Income War Tax Act is not applicable and if these amounts are from profits on invested capital, Section 5(1) (b) of the Income War Tax Act is applicable.

The Chairman of the Income Tax Appeal Board based his judgment on the decision handed down in the case of Touquoy Gold Mining Company (1906), Eastern Law Reporter 142, where the Court reached the conclusion that although the issue that had been made was called an issue of preferred shares, it was really an issue of debentures and was a loan contracted by the company. If we read this case we note the following facts:

Under its charter, 1897, ce. 108, s. 7, the shareholders had the right to issue ‘‘bonds, debentures or preferred shares, under its seal’’ and it was provided that these bonds and debentures would be payable at such time and at such place and would bear interest at such rates and that these bonds, debentures or preferred shares entitled to holder to priorities or privileges and would be subject to such conditions as the company might decide.

At a meeting of July 30, 1903, it was decided to issue a series of ‘‘preferred shares’’, in accordance with Section 17 , for a sum not exceeding $12,000, the said preferred shares or debentures would bear interest at 8% payable semi-annually and would be redeemed in one, two or three years at the company’s option.

In accordance with this resolution, a notice was sent the shareholders quoting the resolution and indicating the use to which this amount would be put and adding further that these preferred shares ‘‘would constitute a first lien on all assets of the Company, including mining areas, woodland, machinery and plant ’ and that the principal and interest would be payable in full before the ordinary shares could participate in the company’s profits.

Later a trust deed was passed and it provided that the y trustee” was ‘‘to hold the property of the company embraced in the deed of trust for the repayment of said loan with interest as aforesaid.’’ There is no doubt that in this case it was a matter of a loan represented by preferred shares as it might have been represented by a debenture. This case cannot be applied to the present case because there was no question of loans either in the Act, or in the resolutions of the association or in the certificates issued.

The Chairman, after making the distinction between the Quebec Companies Act and the Co-operative Agricultural Associations Act and setting aside the certificate issued as ultra vires, came to the conclusion that the amounts paid the holders of “preferred shares’’ issued by the appellant represented interest on borrowed capital and did not have the characteristics of dividends paid on the preferred shares of a joint-stock company.

As Chapter 120, R.S.Q. 1941 and amendments is the Act governing the creation of co-operative agricultural associations reference must therefore be made to it. Before going into the interpretation of that Act, since it has not been done, the question arises, what is a share, what is an ordinary Share, what is a preferred share.

A share is the outlay of funds subscribed by a person in the capital of a company with the expectation of drawing income from the profits. An ordinary share might be defined as a share with no special features, and is also called a common share. A preferred share is a share to which are attached certain privileges determined either by the Act or by a resolution passed by the general meeting of shareholders and, in the case of co-operative agricultural associations, by the board of directors.

According to the Co-operative Agricultural Associations Act, Chapter 120, R.S.Q. 1941, there are two kinds of shares, ordinary shares and preferred shares. The specific sections dealing with preferred shares are the following: 3, 5-1, 5-8, 14, 25 and 31. Section 3 determines the composition of the association and declares that ‘‘the association shall also include the subscribers to preferred shares’’. Section 5 determines the privileges attached to such shares, 1. unlimited denomination, 2. rate of interest not exceeding 7%, 3. repayable under conditions fixed by the board of directors; and the section adds that ‘‘the holders of these preferred shares shall not be entitled to be present nor to vote at the meetings of the association’’. Section 5-8 gives the agricultural association the right to subscribe for and acquire ordinary or preferred shares in la Société Coopérative Fédérée de la province de Québec. Section 14 declares that if a shareholder-producer fails to fulfill his obligations, the board may strike him off from the list of members and convert his ordinary shares into preferred shares. Section 25 before amendment by 11 George VI, Chapter 45 in 1947, read as follows: ‘“The general meeting shall decide, in accordance with such Statement, the amount of the profits to be allotted. After paying the dividend on the preferred shares and the amount to be paid into the reserve fund, the association may distribute the surplus to shareholder-producers, etc.” This Section 25 was replaced by the following: ‘‘The general meeting shall decide, in accordance with such statement, the amount of the surplus operations to be allotted.’’ It shall assign such amount to the constitution of reserves as well as to the allocation of refunds to members. Section 31, second paragraph, says that dissenting members are entitled to be refunded the sums paid into the capital of the association, by means of a preferred share bearing interest at five per cent.

What sections deal with ordinary shares? Sections 5-6, 5-8, 5-9, 8 and 14. Section 5-6 says that “to become a shareholder, a produced must subscribe for a least five ordinary shares or the number of ordinary shares exceeding five fixed by by-law pro- vided that, in the latter case, the total amount of such shares does not exceed five hundred dollars.’’ Section 5-8 gives the agricultural association the right to subscribe for and acquire ordinary or preferred shares in la Sociéte Coopérative Fédérée de la province de Québec. Section 5-9 gives the agricultural association the right to make agreements with the Société Fédérée des Agriculteurs regarding the subscription for ordinary and preferred shares of the said association. Section 8 determines the composition of the association by declaring that it shall consist of the persons who have signed the declaration mentioned in Section 3 and of all who may afterwards subscribe for the ordinary shares in the association. Section 14 declares that should a shareholder-producer fail to fulfill his obligations, the board may strike him off from the list of its members and convert his ordinary shares into preferred shares.

What sections of the Act deal with shares only without specifying whether ordinary or preferred shares?

Section 4 says that ‘‘each association shall be a joint-stock company’’. Now, as the joint-stock company includes ordinary and preferred shareholders, the word share includes both. This section continues ‘‘The responsibility of its members or shareholders being limited to the amount of their respective holdings.” This section makes no distinction between ordinary and preferred shareholders but limits their responsibility to their holdings. I am of opinion that this section is applicable both to ordinary shareholders and to preferred shareholders as I will explain later.

Section 5 says that ‘‘the amount of each share shall be ten dollars, payable in four annual and equal instalments, whereof the first shall be paid not later than one month after date of subscription.’’ This section is no doubt applicable to ordinary shares but may legally be applicable to preferred shares, if the board of directors decides to fix the denomination of the preferred shares at ten dollars. Section 5-2 permits the replacing of shares of twenty dollars by shares of ten dollars. As the section does not distinguish, I am of opinion that it concerns both ordinary and preferred shares. Section 5-3 says ‘‘the association may decide, by by-law, that the shares subscribed for after adoption thereof, shall be payable in cash or in less than four instalments, and determine the amount of each.’’ The section does not mention which shares are concerned and I am of opinion that this section is applicable to ordinary and to preferred shares if the by-law of the association so decides.

Section 5, paragraph 5, states that “the association may summarily confiscate all the shares upon which no instalment has been paid for two years and may dispose of such shares in the manner prescribed by by-law adopted by the directors.’’ This section does not mention which shares are concerned and I believe this section is applicable to ordinary and to preferred shares.

Section 6 says, ‘‘The shares shall be in the name of the holder and be transferable on performance of the formalities prescribed by the by-laws of the association. Nevertheless they may be transferred only to a transferee who has been accepted by the association.’’ The section does not mention which shares are concerned and I believe this section may be applied to ordinary as to preferred shares if the by-law of the association so decides.

Section 12 says, ‘‘the association, or its board of directors, may make, amend or repeal, among others, by-laws respecting the admission of shareholders, the transfer of shares and the maximum number of shares for which a shareholder may subscribe.”

The section does not mention which shares are concerned and I believe this section applies to ordinary and to preferred shares if the by-law of the association so decides. As for the maximum number of shares for which a shareholder may subscribe, however, it concerns preferred shares only because Section 5-6 governs the case of subscriptions for ordinary shares.

Section 13-e says, ‘‘ Transfer, in whole or in part, to a financial institution or to any other person, upon the conditions thought proper, the instalments due or to become due upon the shares subscribed by the shareholders as collateral security for the payment of any loan made to the association by note or otherwise. The word ‘‘shares’’ is not qualified and consequently may be applied to both ordinary and preferred shares because the word ‘‘shareholder’’ is applicable to ordinary shareholders and to preferred shareholders as we shall see further on.

Section 13-2 reads as follows: ‘‘The total amount of the sums borrowed shall never exceed four times the aggregate amount of the subscribed shares and reserve fund.’’ The word ‘‘shares’’ is not qualified and consequently may be applied to ordinary shares as to preferred shares.

Section 20 says, ‘‘ A shareholder-producer shall have only one vote, whatever may be the number of his shares . . .’’ The word “shares” here applies to ordinary shares since preferred shareholders are not entitled to vote.

Section 24 says, with the amendment, ‘‘Such statement must be approved by the auditor and contain

1. The list of members at the close of the fiscal year, the number of shares subscribed, and the amount paid by each shareholder ;

2. A concise statement of the assets and liabilities of the association ;

3. A statement of the year’s operations, showing the profit and loss;

4. All other information required for such purpose, by the by-laws of the association. R.S.Q. 1925, c. 57, s. 24.”

The word ‘‘shares’’ is not qualified and consequently may apply to ordinary shares as well as to preferred shares. However, as under Section 22 a statement of the affairs is sent to the Minister of Agriculture, it is a list of shareholders, the number of ordinary and preferred shares subscribed and the amount paid for each ordinary or preferred share that he is interested in, in order to get a picture of the financial position of the association.

In examining the Co-operative Agricultural Associations Act, it is readily noted that the Act has two parts. The first part concerns the composition of the association from the point of view of its capital while the second part concerns the administration of the association. The part concerning the composition of the association from the point of view of its capital formation or its financial structure is covered by Sections 1 to 6 inclusive. As a matter of fact, in these sections the legislator has defined the composition of the association, the subscriptions for preferred shares, the amount of ordinary shares, how the shares are subscribed, the default of those who have subscribed, the right to subscribe for and acquire shares in la Société Coopérative Fédérée des Agriculteurs de la province de Québec and determined that the capital of the association is to be variable, that the shares are to be in the name of the holder and transferable under certain conditions. The second part concerning the administration of the association covers Sections 7 to 32 and includes the form of memorandum of the founders, Section 7 ; the composition of the association from the administrative point of view, Section 8 ; the general powers of the association, Section 9 ; contracts binding, Section 10 ; board of directors, Section 11 ; by-laws of the association, Section 12; powers of the board, Section 13; breach of contract, Section 14; sale of animals, Section 15 ; premiums, Section 16 ; election of president of board of directors, Section 17; hiring of a manager, Section 18 ; composition of general meeting, Section 19; rights to vote, Section 20 ; decisions of the general meeting, Section 21 ; keeping of accounts, Section 22 ; penalty in certain cases, Section 23 ; statement to be made to Minister, Section 24; allotment of profits, Section 25; examination of minutes by Minister, Section 26; signature of contracts, Section 27 ; responsibility of secretarytreasurer, Section 28 ; access to books, Section 29 ; exemption from taxes, Section 30 ; co-operative formed before 1930, Section 31; “co-operative”, Section 32.

In addition the Act uses various terms to designate the members of the co-operative association. It uses the word ‘‘founders’’ (fondateurs) in Sections 1 and 7, ‘‘shareholders’’ (sociétaires) in Sections 5-2, 5-3, 12, 13-e, 19, 24, and ‘‘members’’ (membres) in Sections 3, 14, 17, 18, 19, 25 amended. How is the meaning of these terms to be defined? I am of opinion that these specific terms must be defined in the sections in which they are found; in the financial part, the words ‘‘founder’’, ‘‘shareholder’’, ‘‘member’’ apply to all those who subscribed for the capital of the association, either as ordinary shareholder or as preferred shareholder. This interpretation is justified by Section 22 of the Act which says: ‘‘a statement of the affairs of the association shall be prepared and attested by the secretary-treasurer and a copy of such statement must be sent to the Minister of Agriculture” and by Section 24 which says: ‘‘such statement must be approved by the auditor and contain the list of members on the 31st December, the number of shares subscribed, and the amount paid by each shareholder.” How can the Minister of Agriculture get a picture of the financial position of the association if he does not have before him the list of shares subscribed both by ordinary shareholders and by preferred shareholders showing the capital of the association and its financial position.

I am therefore of opinion that the word ‘‘shareholder’’ used in Section 24 is applicable to subscribers for ordinary shares and to subscribers for preferred shares. It is my opinion that the subscribers for preferred shares from the financial point of view of the association are on the same footing as the subscribers for ordinary shares. Both have subscribed for the capital of the association in the hope of receiving a profit from this capital outlay. This profit, in the case of an ordinary share, is to be represented by the ‘‘refund’’ of Section 25 and, in the case of the preferred share, by the interest mentioned in the resolution authorizing the prescription but this interest is to be taken out of the profits.

Up to 1947, the date on which Section 25 was amended, this section read as follows: ‘‘The general meeting shall decide in accordance with such statement, the amount of the profits to be allotted. After paying the dividend on the preferred shares and the amount to be paid into the reserve fund, the association may distribute the surplus to shareholder-producers . . .’’ Therefore there is no doubt that the subscriber for a preferred share in 1944 was to receive a dividend from the amount of profits. Did the amendment of this Section 25 in 1947 change the position? The amendment today reads as follows: “The general meeting shall decide, in accordance with such statement, the amount of the surplus operations to be allotted. It shall assign such amount to the constitution of reserves as well as to the allocation of refunds to members’’. What statement is concerned? It is the statement of Section 24 which shows: 1. the list of members, 2. a concise statement of the assest and liabilities, 3. a statement of the year’s operations, 4. all other information. Why is it no longer a question of dividends for the preferred shares? Because these dividends are included in the statement under the heading of assets and liabilities and as they are fixed by resolution and there is no need, as for refunds, to fix them by the general meeting.

Section 4 says, ‘‘The responsibility of its members or shareholders being limited to the amount of their respective holdings.’’ Is this section applicable to ordinary shareholders as well as to preferred shareholders ? I am of opinion that this section applies to ordinary shareholders as to preferred shareholders since it is the holding which determines the responsibility and this holding is subscribed by the ordinary shareholders as well as by the preferred shareholders.

Counsel for the respondent contended that the preferred shareholder is not a shareholder( sociétaire) or member of the association because under Section 14, if a shareholder-producer neglects to fulfill his contract, he ceases to be a member of the co-operative and becomes a preferred shareholder.

I have already replied to this objection by admitting that the shareholder-producer ceases to be a member of the co-operative from the point of view of the administration of the association but continues to be a member from the financial point of view.

It must be borne in mind that it is the agricultural class which is affected and the Act did not intend the producer to lose his capital. That is why the Act puts him in the class of preferred shareholders which permits him to recover his capital and to receive interest while awaiting this recovery.

Counsel for the respondent submitted that the preferred share subscribed does not include any privilege. Let us see if this statement is accurate.

In the co-operative agricultural association the capital which may be invested by a shareholder-producer is limited, Sections 5, 6 and 7, while, in the case of a preferred shareholder, there is no limit to his holding, Section 5-1. The denomination of the shares of the ordinary shareholder is limited while the denomination of the preferred shares is left to the discretion of the board of directors which may fix the denomination at $50.00, $500.00 or $1,000.

The ordinary shareholder will receive on his holding what is determined by Section 25 as amended, while the preferred shareholder will receive the interest fixed by the board of directors provided this interest does not exceed 7% and provided the association’s profits permit it. The ordinary shareholder has no right to demand repayment while the preferred shareholder may see his shares repaid by the association under conditions fixed by resolution and indicated in the issue certificate.

The ordinary shareholder is entitled to be present and vote at meetings of the association while the preferred shareholder does not have this right.

The result, therefore, is that the preferred shareholder has the privileges I have just mentioned.

Counsel for the respondent contended that the preferred shareholder is a lender because he is to receive his capital at a set date. He is certainly not a lender under the Act, for the Act nowhere considers him as lender but considers him as an ordinary shareholder with the difference, that he may be repaid at a fixed date. Furthermore, this preferred shareholder has no guarantee on the assets of the association as against the holder of debentures who always has a guarantee on the assets of the association.

Can the interest paid the preferred shareholders be compared with an expense of the association of the same nature as the taxes or the interest paid the holders of notes or debentures? Yes, if these preferred shareholders were lenders in the same sense as the holders of debentures or notes, and no, if they are not. Now, as I am of opinion that the preferred shareholders are not lenders like the holders of debentures or the holders of notes, but are subscribers for the capital of the association with the expectation of receiving interest based on the profits the association may realize, just as the ordinary shareholders are subscribers for the capital of the association with the expectation of receiving the refund mentioned in Section 25, I am therefore of opinion that the interest paid to the preferred shareholders is not an expense of the association of the same nature as the taxes and interest paid the holders of notes or debentures.

Under Section 9 of this Act, the association has the power to acquire and hold immovables and under Section 13(b) the association has the power to hypothecate the immovables in order to secure the payment of any debt or loan or the execution of any other obligation. Under the same paragraph (b) the association has the right to borrow money and transfer as security any of the securities or property of the association and even give, in guarantee of such loan, a pledge of the farm products and animals received on consignment, but in this case the board of directors must have been authorized by a vote of at least 24 of the members present at the annual meeting or at a special meeting. Furthermore, the total amount of the loan under paragraph 2 of the same section shall never exceed four times the aggregate amount of the subscribed shares and reserve fund.

It follows from the foregoing, therefore, that the loan made by the association is subject to a special procedure which clearly shows the difference between the issue of preferred shares and a loan, for preferred shares like ordinary shares are used to determine the amount of the loan in order not to exceed the amount of subscribed shares, either ordinary or preferred shares. Therefore, on the basis of the Act, I am of opinion that the preferred shareholder, like the ordinary shareholder, is the owner of capital in the association up to the extent of his holding. In the case of Dupuis Frères Lid. v. Minister of Customs & Excise, [1927] Ex. C.R. 208, particularly at page 210, [[1917- 27] C.T.C. 326 at 329], Mr. Justice Audette said

“The mere existence of some features which might in such respect make it resemble a bond or debenture is not sufficient to make the preferred share which is an actual part of the authorized capital of the company, a bond or debenture or anything like it, and thereby transform it into ‘borrowed capital ’ for the purpose of assessment. Such dividends are paid only out of profits, a bond is quite different, it is primarily a liability.”

In this Act the preferred shares are included in that part of the Act, where it is a question of capital, Sections 1 to 6 in- elusive, and furthermore, the dividends or interest are paid out of the profits, Section 25 before and since amendment, and Sections 22 and 24 of the Act, and are not debentures or bonds in favour of subscribers but are shares. This would justify me in allowing the appeal since both parties have contended that this case was to be decided on the basis of the Co-operative Agricultural Associations Act, but let us see if in the issue of these preferred shares the association followed the Act.

On April 26, 1944, the association passed a resolution, filed as exhibit A2, which declared

“That all members of this association be requested and required to take one preferred share to the amount of one hundred dollars ($100.00), the rate of interest to be 4%.”

This resolution was in accordance with Section 5 of Chapter 120, R.S.Q. 1941, except that it did not indicate that the preferred share was repayable and it was to cover this point that on June 3, 1944, a new resolution, exhibit A2, was passed reading as follows:

That all members holding a preferred share to the amount of one hundred dollars shall not demand repayment thereof before five years. However, the association reserves the right to repay at any time the said shares after a ninety-day notice. ’ ’

Following these two resolutions, any person might subscribe for preferred shares in the capital stock of the association, and the association gave them a certificate in the form filed as exhibit A3. On the face of the certificate it was certified that this person was the holder of fully paid-up preferred shares in the capital of the said co-operative agricultural association of a par value of dollars, transferable in the books of the association and issued under this resolution and were subject to the conditions set forth on the back. The certificate was signed by the president and the secretary in accordance with Section 27 of the Act. On the back was written ‘‘The said preferred shares have privileges, rights and priorities and are subject to the restrictions and provisions which follow, to wit :

1. The holder of preferred shares will be entitled to receive from the profits of the association a preferred non- cumulative dividend at the rate of per annum.

This clause was in accordance with Section 25 of the Act before its amendment in 1947, so that the subscriber for a preferred share between 1944 and 1947 who is still in possession of such a certificate cannot complain that it is not in order. As for a person subscribing for preferred shares after 1947, I have already explained that this clause is in accordance with the Act.

2. The holder of preferred shares will be entitled in any liquidation, dissolution or other distribution of the assets of the association among the shareholders (other than through refund out of the surplus) to repayment of the amount capitalized on his shares, with all declared and unpaid dividends, if any.

This clause is not covered by the resolutions but it does not render the certificate void.

3. The rights of the holders of preferred shares are limited to those provided by paragraphs 1 and 2 above.

4. The association shall be entitled to repay, at any time when it has been so decided by resolution of its board of directors, the said preferred shares in whole or in part.

This clause is in accordance with Section 5 of the Act and the resolution of the association under date of June 3, 1944.

5. The holders of preferred shares for repayment shall present their certificates to the office of the association in the notice of repayment and surrender them on payment of the repayment price. These certificates will then be cancelled. The right to dividends on the preferred shares thus repaid will automatically cease on the date fixed for repayment and the holders of the said shares thus repaid will no longer have any right thereafter against or in the association, except that of receiving payment of the repayment price.

This clause determines the procedure for repayment and determines the consequences thereof. It is an administrative clause.

6. In accordance with the provisions of paragraph 2 of Section 5 of the Act respecting Co-operative Agricultural Associations, the preferred shares do not confer on their holders the right to be present and vote at general meetings.

This clause serves no purpose for everyone is supposed to be acquainted with the Act and in reality, this is merely a repetition of Section 5 of the Act.

I am therefore of opinion that the certificate is not illegal but is in accordance with resolutions passed by the association, except paragraph 20, and that the association had the power to pass such resolutions under Sections 5 and 25 of the Act. I am also of opinion that the payments made by the association in 1947 and in 1948 to the preferred shareholders of the association are interest on capital invested by the shareholders and result from the profits of the association.

Therefore, Section 5(1) (b) of the Income War Tax Act is not applicable since the payments are not made on a loan, but are made on invested capital and result from the profits of the association.

I allow the appeal from the decision of the Chairman of the Income Tax Appeal Board under date of June 22, 1951, and declare that the sums of $1,354.99 for the year 1947 and $1,467.61 for the year 1948 are subject to the tax levied on the income of the said association. All with costs.

Judgment accordingly.