Citation: 2009 TCC 351
Date: 20090630
Docket: 2007-3417(IT)G
BETWEEN:
LES ENTREPRISES RÉJEAN GOYETTE INC.,
Appellant
and
HER MAJESTY THE QUEEN,
Respondent.
[OFFICIAL ENGLISH
TRANSLATION]
REASONS FOR JUDGMENT
Favreau J.
[1]
These are
appeals from reassessments dated July 21, 2005, by which the Minister
of National Revenue (the Minister) disallowed the appellant’s deduction of
management fees in the amount of $80,000 paid to 2744-2870 Québec Inc. for each
of the 2002 and 2003 taxation years.
[2]
During the
taxation years at issue, the appellant operated a residential housing construction
business. The appellant was a wholly owned subsidiary of 124660 Canada Ltd.,
the sole shareholder of which was Réjean Goyette.
[3]
2744-2870
Québec Inc. was also a wholly owned subsidiary of 124660 Canada Inc. It
was in the business of purchasing land suitable for urban development and of
preparing building lots for the appellant. The appellant acquired lots for
$415,000 and $436,000 from 2744-2870 Québec Inc. during the 2002 and 2003
fiscal years respectively.
[4]
Réjean Goyette
testified at the hearing, explaining that 2744-2870 Québec Inc. paid for the usual
development work on the lots, while the appellant paid for any out of the
ordinary development work, which could involve canalizing a stream in a flood‑prone
area, installing services on lots with unstable ground or constructing a
retaining wall to prevent soil erosion. Mr. Goyette also explained that the
performance of such out of the ordinary work first had to be approved by
2744-2870 Québec Inc. because it was generally carried out before title to the
lots passed to the appellant, which usually occurred
when the lots had been excavated for construction.
[5]
Réjean
Goyette personally supervised the development work on the lots. Having technical
training in civil engineering, he was entirely qualified to do so. Mr. Goyette stated that he devoted about 50% of his
time to 2744‑2870 Québec Inc.'s affairs. He also confirmed that he
received no salary from 2744-2870 Québec Inc. in 2002 or 2003, but that he did
receive an $87,500 salary from the appellant in both 2002 and 2003.
Analysis
[6]
The issues
are whether the $80,000 in management fees paid by the appellant during the 2002
and 2003 taxation years may be deducted in computing its income by virtue of
the fact that they were incurred for the purpose of gaining or producing income
from a business, and if so, whether these management fees are reasonable in the
circumstances. Counsel for the respondent relies, in particular, on paragraph
18(1)(a) and section 67 of the Income Tax Act, R.S.C. 1985, c. 1
(5th Supp.) as amended (the Act).
Those provisions read as follows:
Section 18: General limitations
(1) In computing the income of a taxpayer from a business or
property no deduction shall be made in respect of
(a) General limitation – an outlay or expense except to the extent that it was made or
incurred by the taxpayer for the purpose of gaining or producing income from
the business or property;
Section 67: General limitation re expenses
In computing income, no deduction shall be made
in respect of an outlay or expense in respect of which any amount is otherwise
deductible under this Act, except to the extent that the outlay or expense was
reasonable in the circumstances.
[7]
The
evidence discloses that the appellant paid 2744-2870 Québec Inc. $60,000 in
management fees in regard to the fiscal year ending on August 31, 2000, and
$80,000 in management fees in regard to the fiscal years ending on
August 31, 2001, August 31, 2002, and
August 31, 2003. That practice was discontinued as of
September 1, 2003. 2744‑2870
Québec Inc. used the management fees received from the appellant to offset its
non-capital losses incurred in the course of the previous taxation years. At
the start of the 2002 fiscal year, the appellant had a non-capital loss balance
of $462,181, while, by the end of the year, that loss balance had shrunk to
$208,612. By the end of the 2003 fiscal year, the appellant's non-capital loss
balance was zero. Given these facts, it seems
evident that the appellant paid the management fees in order to use some of its
income to offset the losses of 2744‑2870 Québec Inc. Such
planning is not objectionable in itself, as long as a true consideration has
been given by the company receiving the management fees, the amount of the fees
corresponds to the fair market value of the services obtained considering that
the two companies in question are related, and the documentation is adequate.
[8]
In regard
to the documentation concerning the appellant's payment of the management fees,
the evidence showed that no agreement providing for the provision of services
and the payment of management fees existed between the appellant and 2744-2870
Québec Inc. No corporate resolution authorizing the provision of services and
the payment of management fees was adduced in evidence at the hearing. The only
documentary evidence submitted that proves that services were provided and the management
fees were paid were two invoices of 2744-2870 Québec Inc. dated August 31,
2002, and August 31, 2003 respectively, that is, the last day of the fiscal
year of the companies in question. Those invoices have little probative value
because they do not provide any information on the nature of the services
provided, on the number of hours spent providing the services to the appellant
or on the persons who provided the services. The following is the description
of the invoice dated August 31, 2002:
[Translation]
Management fees for the 2002 fiscal year (from
01/09/01 to 31/08/02).
And the following is the description of
the invoice dated August 31, 2003:
[Translation]
Management fees for the 2003 fiscal year (from
01/09/2002 to 31/08/2003).
The amount of the management fees on each
invoice is $80,000 plus applicable taxes.
[9]
In response
to an undertaking given at Réjean Goyette’s examination for discovery, the
appellant produced invoices relating to the out of the ordinary work that was
performed under Mr. Goyette's supervision during the 2002 and 2003 fiscal years
and with respect to which the appellant was invoiced for management fees of
$80,000 per year. An analysis of those invoices showed that for 2002 there
were 71 invoices totalling $54,818.12 before tax, while for 2003 there were 48
invoices totalling $55,737.04 before tax. That analysis reveals that the fees
of $80,000 per year invoiced to the appellant greatly exceeded the cost of the out
of the ordinary work supervised by Mr. Goyette. On the appellant's financial statements, the cost of the out
of the ordinary work was first entered in the [Translation]
"inventory of houses" account. Once the houses were sold, it was entered
under either the [Translation]
"construction costs" or the [Translation]
"other direct expenses" item.
[10]
In his
testimony, Réjean Goyette stated that the amount of the management fees
invoiced to the appellant was based on the time that he spent supervising the out
of the ordinary work, that is, 50% of his time. That statement in Mr.
Goyette's testimony contradicts the representations made at the objection stage
by the appellant’s auditors. On February 2, 2007,
those auditors filed a schedule taken from the file of 2744-2870 Québec Inc. for
2002. The schedule showed that the amount of the management fees was determined
on the basis of the appellant's cost of construction of the houses for that
year, that is, it 2% of $4,077,129. It is
strange, to say the least, that the amount of the management fees was based on
different factors, namely, the cost of constructing the houses versus the time
Mr. Goyette spent supervising the out of the ordinary work.
[11]
Another
particularity of this case is that the person who provided the services was both
president and director of the two companies involved. At the hearing, no
evidence was submitted that could have clarified the mandate of Mr. Goyette and
the party he worked for when supervising the out of the ordinary work. Mr. Goyette
received wages only from the appellant. The out of the ordinary work was paid
for by the appellant, but carried out on lots belonging to 2744-2870 Québec
Inc. It seems to me that the costs of supervising the out of the ordinary work
should have been treated the same way as the cost of the out of the ordinary
work itself, that is, they should have been paid directly by the appellant. In reality, that
was likely the case, considering that Mr. Goyette received remuneration of
$87,500 annually from the appellant. This reasoning would lead to the
conclusion that the deduction of the management fees would be tantamount to a
double deduction of the same expense that was paid twice.
[12]
During the
years at issue, 2744-2870 Québec Inc. did not operate a business providing
management services. According to its financial statements, that company did
not incur operating expenses or current expenses associated with the
supervision of out of the ordinary work. During 2002 and 2003,
2744-2870 Québec Inc. had only three employees, namely, Réjean Goyette's spouse
and two daughters, and their wages totalled $20,000 per year.
[13]
As well, evidence
was submitted showing that the appellant did not pay management fees to the
group’s other companies that were also developing lots in the years 2000 to
2004, namely, 9094-6708 Québec Inc. and 88933 Canada Inc.
[14]
In light of
the foregoing, I conclude that the appellant did not demonstrate, on the
balance of probabilities, that it had incurred the management fee expense for
the purpose of earning income.
The payment of the management fees appears to me to
be, rather, a tax planning scheme designed to take advantage of the non-capital
losses incurred by 2744-2870 Québec Inc. before time ran out.
[15]
The
evidence adduced does not make it possible to find, with a sufficient degree of
certainty, that the appellant did receive a true consideration for the $80,000
paid annually as management fees. Considering that the supervision of the out
of the ordinary work was ancillary to that work, it would have been normal for
the appellant to pay the expenses associated with the supervision activities
just as it paid the cost of the out of the ordinary work.
[16]
The lack of
any written or verbal agreement stating the terms and conditions of the
services to be provided to the appellant, the cost of those services and the absence
of the formalities that are required in order to create real legal obligations
between the companies concerned lead me to believe that the management fees
were paid by the appellant without the appellant being legally bound to do so.
Consequently, those fees cannot be deducted in the computation of the
appellant's income. The fact that 2744-2870 Québec Inc. had to approve or authorize
the out of the ordinary work did not legally oblige it to pay for their
supervision.
[17]
For these
reasons, the appeals are dismissed with costs, and it is not necessary to
consider the reasonableness of the management fee expense incurred by the appellant.
Signed at Ottawa, Canada, this 30th
day of June 2009.
"Réal Favreau"
on this 30th day
of September 2009.
Erich Klein, Revisor
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