28 September 2004 External T.I. 2004-0083851E5 - Business Losses - Pursuit of Profit

Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the CRA.
Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle de l'ARC.

Principal Issues: To determine if the losses from the taxpayer's business can be claimed.

Position: Question of Fact.

Reasons: Determination to be based on the pursuit of profit test outlined in Stewart 2002 DTC 6969.

2004-008385
XXXXXXXXXX Luisa A. Majerus, CA
(613) 957-2138
September 28, 2004

Dear XXXXXXXXXX:

Re: Business Losses - Pursuit of Profit

We are writing in reply to your letter of May 12, 2004 to the XXXXXXXXXX Taxation Centre regarding the utilization of non-capital losses incurred in a dog breeding operation. Specifically, you have asked us whether the business losses incurred in 2003 and any losses that may be incurred by this business in the future will be deductible for tax purposes.

We understand that your client has operated a dog breeding business since 1995. The XXXXXXXXXX Tax Services Office has denied the losses incurred in 1995, 1996 and 1997. In order to satisfy the provisions of paragraphs 18(1)(a) and 18(1)(h) of the Act the taxpayer had to establish that there was a reasonable expectation of profit from the dog breeding operation and she did not do so. The taxpayer has accepted this reassessment by the Minister. The taxpayer omitted reporting, in her personal tax return, the losses from the dog breeding operation in 1998, 1999 and 2000. It is assumed that the loss from 2001 was omitted from the tax return as well. However, the accountant included the dog breeding operations in the tax return for the 2002 taxation year which showed a net income of $XXXXXXXXXX before the use of home office claim.

Our Comments

Written confirmation of the tax implications inherent in particular transactions is given by this Directorate only where the transactions are proposed and are the subject matter of an advance income tax ruling request submitted in the manner set out in Information Circular 70-6R5, Advance Income Tax Rulings, dated May 17, 2002. Where the particular transactions are completed, the inquiry should be addressed to the relevant Tax Services Office. However, we are prepared to offer the following general comments.

Prior to 2003, it was the Canada Revenue Agency's ("CRA") general position that in order for business losses to be deductible in computing a taxpayer's taxable income for a year, the business must have had a reasonable expectation of profit. The CRA recognized that a reasonable start-up period involving extra costs may be incurred, but taxpayers did not assume that two or three years of start-up costs would automatically be accepted.

In 2002, the Supreme Court of Canada decided, in Stewart v The Queen (2002 DTC 6969), that this reasonable expectation of profit test could no longer stand alone in determining whether the losses from a business could be utilized. The court proposed that a new approach should be used which first determines if the taxpayer's activity is undertaken in pursuit of profit that results in a source of income under the Income Tax Act (the "Act"). Where the activity is not undertaken in pursuit of profit then it is likely a personal endeavour, there will be no source of income under the Act and the losses will be denied.

As noted in Income Tax Technical News #25 (ITTN #25), it is the CRA's current position that the new approach as outlined in the Stewart case will be used to determine if a business loss is deductible. Please note that ITTN #25 can be found on our website at http://www.cra-arc.gc.ca/formspubs/menu-e.html.

Whether or not a business is operated in pursuit of profit is a question of fact. As noted above, where the particular transactions are completed, the relevant Tax Services Office will make the determination. A copy of this reply will be forwarded to XXXXXXXXXX, the Assistant Director, Verification & Enforcement, XXXXXXXXXX Tax Services Office.

We trust these comments are helpful.

Yours truly,

John Oulton, CA
For Director
Business and Partnerships Division
Income Tax Rulings Directorate
Policy and Planning Branch

c.c. Mr. Tim Gahagan

Assistant Director
Verification & Collections
Penticton Tax Services Office