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Citation: 2004TCC158
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Date: 20040616
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Dockets: 2002-2649(IT)I
2002-2652(IT)I
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BETWEEN:
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ROLANDE MASLANKA,
JOHN MASLANKA,
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Appellants,
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and
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HER MAJESTY THE QUEEN,
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Respondent.
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[OFFICIAL ENGLISH TRANSLATION]
REASONS FOR JUDGMENT
(Given orally at the hearing on
January 13, 2004, at Montréal, Quebec,
and amended for clarity.)
Archambault J.
[1] The Appellants are challenging the
assessments by the Minister of National Revenue (Minister)
with respect to the 1990 and 1991 taxation years. With respect to
1990, the Minister disallowed investment tax credits (ITC)
related to scientific research and experimental development
expenditures (research expenses) incurred during the year
by an alleged general partnership, the Société de
recherche Incotel enr. (Incotel). With respect to 1991,
the Minister added a taxable capital gain to the Appellants'
income. However, the reasons invoked in the Notices of Appeal
dealt only with the rejection of the ITCs and the argument at the
hearing also dealt only with the ITCs.
[2] It is important to mention that
the Minister did not disallow the business losses deducted by the
Appellants in calculating their income from Incotel. Only the
ITCs attributable to the research expenses incurred by Incotel
were disallowed.
[3] In this case, the Appellants'
right to the ITCs depends on the determination of whether a
genuine general partnership was formed and whether it operated a
business during the relevant period.[1] If this is the case, their right
therefore depends upon the application of subsection 127(8)
of the Income Tax Act (Act). This subsection
essentially provides that a member of a general partnership can
deduct ITCs in an amount equal to the percentage appropriate to
his share of the research expenses incurred by the partnership.
However, members who are "specified members" within the
meaning of subsection 248(1) of the Act do not have a right
to ITCs related to these expenses.[2] The definition of "specified
member" is found in subsection 248(1) of the Act:
"specified member" of a partnership in a fiscal period or
taxation year of the partnership, as the case may be, means
(a) any member of the
partnership who is a limited partner (within the meaning
assigned by subsection 96(2.4)) of the partnership at any
time in the period or year, and
(b) any
member of the partnership, other than a member who
is
(i)
actively engaged in those activities of the partnership
business which are other than the financing of the
partnership business, or
(ii) carrying on
a similar business as that carried on by the partnership in
its taxation year, otherwise than as a member of a
partnership,
on a regular, continuous and substantial basis throughout
that part of the period or year during which the business
of the partnership is ordinarily carried on and during which
the member is a member of the partnership.
[My emphasis.]
[4] As indicated in my emphasis,
paragraphs (a) and (b) of this definition are what
pose the problem here. At the beginning of the hearing, I asked
the Appellants to admit or deny the truthfulness of the facts
assumed by the Minister when establishing the assessment for each
of the Appellants. Since these facts are essentially the same in
both appeals, I will only reproduce those appearing in
Ms. Rollande Maslanka's Reply to the Notice of
Appeal:
[TRANSLATION]
(a) The purported
general partnership "Société de recherche
Incotel enr."(hereinafter referred to as "the
Partnership") was created in 1990. There is a
partnership agreement dated September 7, 1990, on which
the names of Maurice Bougie (manager) and Jacques Doyon
(secretary) appear;
(b) The Partnership
collected $670,000 from 40 purported shareholders;
(c) The Partnership
used two bank accounts at the Caisse populaire des Sources and at
Laurentian Trust;
(d) The Caisse
populaire bank account was opened on December 28, 1990.
A withdrawal of $208,000 (equal to the balance) was made
from that account on January 9, 1991. This account
became inactive in January 1991 and was closed due to
inactivity on February 8, 1994;
(e) The
Partnership's financial statements, produced by the Appellant
with her 1990 tax return, indicate zero gross income and a net
loss of $663,373;
(f) A document
attached to the Appellant's tax return for 1990 indicates
that she acquired 16,000 units at $1 each for a total cost
of $15,841.76;
(g) On her tax
return for 1990, the Appellant claimed a business loss of $13,782
and an investment tax credit of $ 2,756.47;
(h) A contract was
granted by the Partnership to "Les Systèmes de
communication Incotel ltée." With this contract the
Partnership authorized the company to carry out a supposed
research project for between $420,000 and $1,000,000. This
contact was signed on February 15, 1990, by
Maurice Bougie for the Partnership and by Serge Doyon
for "Les systèmes de communication Incotel
ltée." The contract duration was from
February 15, 1990, to December 12, 1990;
(i) The
organizational chart appearing below shows the shareholders in
"Système de communication Incotel inc.";
[[diagram translation:
162454 Canada Inc.
37,5% = 37.5%
62,5% = 62.5%
128065 Canada Inc.
autres = others
Système de communication Incotel inc. = same]]
(j) A purchase
agreement dated May 24, 1991, indicated that
"Les systèmes de communication Incotel"
would pay $301,500 for the purchase of shares and technology by
issuing cheques submitted directly to each shareholder for this
purchase. This purchase agreement was signed by
Maurice Bougie for "Les systèmes de
communication Incotel ltée." and by
Jacques Doyon for the Partnership;
(k) The amount paid
for the purchase of the [limited partnership] interests is equal
to 45% of the amount that was supposed to have been invested by
the alleged members;
(l) The
cheques paid to the members for the purchase of their interest
were dated January 10, 1991;
(m) The funds were drawn
from a bank account belonging to "Les systèmes
de communication Incotel ltée" located at the Caisse
populaire des Sources;
(n) The project
presented by the Partnership was assessed by a Revenue Canada
scientific advisor, who believed that the project met the
criteria outlined in subsection 2900(1) of the Income Tax
Regulations;
(o) However, the
scientific advisor established that a portion of the expenses
claimed were ineligible because they were not directly related to
research.
[5] The Appellants indicated that they
could not admit or deny the truthfulness of these paragraphs
(except paragraphs (a) and (n), which they admitted),
because they were unaware of the facts outlined therein.
[6] The evidence presented during the
hearing indicates that, when the underwriting of the interest in
Incotel was promoted, the possibility of generous tax deductions
was dangled in front of potential investors, and these deductions
were connected to two important factors: the deduction of losses
related to research expenses, and deduction of ITCs related to
these expenses. In addition, investors were told that they could
benefit not only from these tax deductions, but also as a result
of the disposal of their Incotel interest for a return equal to
45% of their purchase cost. This disposal would occur several
weeks after their investment in Incotel. Taking all of this into
consideration, a benefit of approximately 10% could be
realized.
[7] All this evidence was provided by
one of the Incotel investors, a Mr. Davignon, who indicated
that he had realized a benefit of at least $910, which he
calculated as follows: since he had borrowed to fund the purchase
of his interest, at a cost of $10,000, the total disbursement of
capital and interest was $10,588.29. If his federal and
provincial income tax savings of $3,384 and $3,694 are
added to the $4,420 in proceeds from the sale of his interest,
which was offered as enticement, the total is $11,498. The
difference between $11,498 and $10,588 is $910. Yet
Mr. Davignon, upon sale of his interest, received $80 more
than the figure used in hiscalculations. In fact, according to
the cheque submitted as evidence, he received an amount of
$4,500, which corresponds to exactly 45% of his initial
$10,000 investment.
[8] Mr. Davignon confirmed that
even before investing $10,000 in Incotel, he knew that 45% of
this amount would be returned to him upon sale of his interest,
which was planned for several weeks later. In fact, he acquired
his interest on December 6, 1990, and, on
January 16, 1991, he deposited into his Caisse
populaireaccount the proceeds of the sale of this interest, which
he received in the form of a cheque dated January 10, 1991.
The same date appeared on each of the cheques payable to the
39 other members of Incotel. These 40 cheques totalling
$300,825 were drawn on an account which Systèmes de
communication Incotel inc. (Communication) held at
the Caisse populaire. This amount was composed of two deposits to
this account: the first, of $207,225 was made on
December 18, 1990, and the second, of $93,600, on
January 9, 1991. This represents 45% of the amounts
totalling $668,500 deposited on December 28 and
31, 1990.
[9] An agency agreement between
Incotel and Communication, dated February 15, 1990,
under which Communication would incur research expenses on behalf
of Incotel, was filed as evidence. This is quite disturbing,
since the Incotel partnership agreement was not signed until
September 7, 1990, which was seven months after the
date of the agency agreement. Moreover, the Incotel financial
statements as of December 31, 1990, that were provided
to its alleged members and were attached to the Appelants'
tax returns, indicate that Incotel is a general partnership that
was formed on September 7, 1990.
[10] During his testimony, Mr.
Davignon stated that he did not recall having participated in any
meetings whatsoever from the time of his investment on
December 6, 1990, to the time he disposed of his
interests on January 9, 1991. He confirmed that,
at that time, he had no intention of becoming part of a general
partnership, nor of operating a business. His goal was to realize
the previously described benefit, through the mechanism of tax
refunds and the reimbursement of 45% of his purchase price.
[11] In their testimonies, the Appellants
essentially corroborated the version of events presented by
Mr. Davignon. This version corresponds to the events they
themselves had experienced, except that the Appellants,
especially Ms. Maslanka, had participated in at least two of
three meetings. Ms. Maslanka remembered probably having
filled out a questionnaire during these meetings, but she was
unable to recognize the blank questionnaire which Counsel for the
Respondent showed her during her examination. She remembered
having visited the facilities as part of these meetings, but
could remember neither the address of the facilities nor the
Montréal neighbourhood in which they were located. She
believed that she might have been told about the progress of the
research. The Appellants acknowledged that they probably had been
encouraged to invest in Incotel by their financial planning
advisor.
[12] The cheques representing the proceeds
of the sale of the interest in Incotel were dated
January 10, 1991. The cheque of $7,200 payable to
Rolande Maslanka bears the number 11, and that of
$6,750 payable to John Maslanka bears the
number 10.
[13] There is no lack of disturbing facts in
these appeals, and yet one more must be added to the list.
Although it seems that all the members sold their alleged
interests in Incotel to Communication on or around
January 15, 1994,[3] there is a contract of sale dated
May 24, 1991, between Incotel (described as the Vendor)
and Communication (described as the Purchaser), under which
Communication acquired "member shares" from Incotel, as
well as "all the plans, documentation, codes, sources,
libraries, concepts, prototypes and software." How could
Incotel have sold shares that belonged to members? Furthermore,
since all the members had sold their interest in Incotel to
Communication on or around January 15, 1991, Incotel
could no longer have properly existed as a general partnership
after that date, since only one individual held all the interest
in Incotel.[4] It
would therefore be on or around January 15, 1991 (and
not on May 24, 1991) that Communication became the
owner of all assets allegedly belonging to Incotel, and
specifically all the rights Incotel may have had in the research
it had (perhaps) funded under the agency agreement of
February 15, 1990 (although Incotel did not yet
exist!).[5]
[14] Another no less astonishing fact (given
the curious facts already mentioned): found among the individual
agreements to purchase, dated May 24, 1991, for
Communication's purchase of interests in Incotel, was that of
the purchase of a $20,000 interest by a Mr. Émond,
whereas this amount in reality represents his initial purchase
cost. As Exhibit I-12 reveals, the amount he received
was in fact $9,000. The same observation must be made with
respect to the agreement to purchase related to the interest of
Mr. Pierre Huot. This agreement indicates a purchase
price of $10,000, whereas the cheque issued to him on or about
January 15, 1991, was in the amount of $4,500.
Therefore, not only does it seem that the purchase agreements do
not appropriately reflect the legal reality of the operations
taking place between the various actors in this saga, but it also
seems that the other documents to which I have already referred
do not do so either.
Analysis
Legal non-existence of Incotel
[15] As I mentioned above (see note 1), in
order for the Appellants to deduct ITCs, they must have incurred
research expenses "in connection with a business." Yet
the Appellants are only employees. A legitimate way for them to
have created such a business would have been to invest in a
genuine general partnership operating an actual business.[6] Inasmuch as the company
incurs research expenses "in connection with"
its business and inasmuch as its members are not specified
members, the members may deduct ITCs related to such expenses. As
a result, the first condition the Appellants must satisfy here is
that of being members of a company operating a business.
[16] All the facts presented as evidence
give rise to serious doubt as to the existence of Incotel as a
general partnership. First, according to the documentation
prepared by the proponents of this fiasco, this alleged
partnership did not even exist in February 1990, when it
supposedly gave Communication a mandate. It was not incorporated
until September 7, 1990. The expenses incurred prior to
this date might only have been incurred for Maurice Bougie,
who claimed to be acting for a general partnership that did not
exist.
[17] Furthermore, I do not even believe that
Incotel was validly set up seven months later, on
September 7, 1990. In my opinion, the conclusion
reached by Chief Justice Garon in McKeown v.
R., 2001 CarswellNat 811, 2001 DTC 511
(Fr.), [2001] 4 C.T.C. 2197 (Eng.),
2001 CarswellNat 1726 (Eng.) para. 393 also
applies here:
393 On the evidence, I conclude
that the investors in question were merely seeking substantial
tax benefits and never demonstrated any intention of working
together to undertake scientific research and experimental
development activities. In short, they had no intention of
forming a genuine partnership.
[18] The testimony of Mr. Davignon is
quite revealing: he never had any intention of investing in a
general partnership. He was only interested in deducting his
financial losses and his ITCs, in other words, his tax refunds.
All the evidence leads to a conclusion that the alleged
partnership agreement was only a mechanism by which to give
Communication the money necessary to fund its research
expenses.[7] From
the start, it was anticipated that the interest would be bought
from the members a few weeks after their investment to fund the
research project, and that is what happened. On or about
January 15, 1991, each member's interest was bought
and, from that time onward, Incotel had no further raison
d'être. Let us also add that, even if it had been a
partnership according to the Civil Code of Lower Canada,
Incotel did not operate a business within the meaning of the Act
for the same reasons as those I have just outlined.
[19] If this conclusion is correct, we must
conclude that the two Appellants were entitled neither to the
ITCs nor to the Incotel losses they deducted. Nonetheless, the
Minister granted the right to deduct them. Since
Communication's research expenses incurred in 1990 were not
related to any business of the Appellants (who did not operate a
business because they were employees) or of a general partnership
(since the alleged Incotel partnership did not operate a
business), they cannot be deducted under section 37 of the
Act. However this Court has no jurisdiction to increase the
Appellants' taxes, and, as a result, can only confirm the
Minister's assessment.
The Appellants are specified members.
[20] Even if, contrary to my belief, Incotel
did constitute a general partnership operating a business, the
Appellants would still have no right to ITCs because in 1990 they
were specified members within the meaning of
subsection 248(1) of the Act, not only because they were not
actively engaged on a regular, continuous and substantial basis
in the activities of Incotel, but also because they were each
"limited partners." The definition of this expression
can be found in subsection 96(2.4) of the Act, which
reads:
96(2.4) Limited partner. For the purposes of this
section and sections 111 and 127, a taxpayer who is a member
of a partnership at a particular time is a limited partner of
that partnership at that time if his partnership interest is not
an exempt interest at that time (within the meaning assigned by
subsection (2.5)) and if, at that time or within three years
after that time,
(a) by operation of
any law which governs the partnership arrangement, the liability
of the taxpayer in his capacity as a member of the partnership,
is limited;
(b) the
taxpayer or a person with whom the taxpayer does not deal at
arm's length is entitled to receive an amount or
obtain a benefit that would be described in paragraph
(2.2)(d) if it were read without reference to subparagraphs
(ii) and (vi) thereof;
(c) one of
the reasons for the existence of the taxpayer who owns the
interest
(i) may
reasonably be considered to be to limit the liability of any
other person with respect to that interest, and
(ii) may not
reasonably be considered to be to permit any person who has an
interest in the taxpayer to carry on his business (other than an
investment business) in the most effective manner; or
(d) there is
an agreement or other arrangement for the disposition of an
interest in the partnership and one of the main reasons for the
agreement or arrangement may reasonably be considered to be to
attempt to avoid the application of this subsection to the
taxpayer.
[My emphasis.]
[21] It is useful to refer once again to the
words of Chief Justice Garon in McKeown,which are
still relevant:
406 Here, in view of the facts of this
case, it seems to me that only the application of
paragraph 96(2.4)(b) need be considered. That
paragraph refers to paragraph 96(2.2)(d) but states
that it must be read without reference to subparagraphs (ii)
and (vi) thereof.
407 The relevant part of
paragraph 96(2.2)(d) of the Act reads as follows:
96(2.2) For the purposes of this
section . . . the at-risk amount of a
taxpayer, in respect of a partnership of which he is a limited
partner, at any particular time is the amount, if any, by which
the aggregate of
. . .
exceeds the aggregate of
. . .
(d) where the
taxpayer . . . is entitled, either
immediately or in the future and either absolutely or
contingently, to receive or obtain any amount or
benefit, whether by way of reimbursement, compensation,
revenue guarantee or proceeds of disposition or in any
other form or manner whatever, granted or to be granted for
the purpose of reducing the impact, in whole or in part, of
any loss that the taxpayer may sustain by reason of being a
member of the partnership or by reason of holding or disposing of
an interest in the partnership, the amount or benefit, as the
case may be, that the taxpayer . . . is or
will be so entitled to receive or obtain, except to the extent
that . . . the entitlement arises
. . .
(iv)
by virtue of an agreement under which the taxpayer may dispose
of the partnership interest for an amount not
exceeding its fair market value, determined without
reference to the agreement, at the time of the disposition.
It follows from paragraphs 96(2.4)(b) and
96(2.2)(d) (subject to the restriction I have just
referred to in the case of the latter) that a member is a
limited partner where, at the time in question or within three
years after that time, the member is entitled to receive or
obtain, in any form or manner whatever, any amount or
benefit referred to in paragraph 96(2.2)(d) if
that amount or benefit is granted or to be granted "for
the purpose of reducing the impact, in whole or in part, of any
loss that the taxpayer may sustain by reason of being a
member of the partnership or by reason of holding or disposing of
an interest in the partnership".
408 According to the respondent, the appellant had such an
entitlement because it [TRANSLATION] "was anticipated
and planned, at least tacitly, that the investors would dispose
of their shares for a fixed amount exceeding their fair market
value, which amount was determined in advance without
reference to the value at the time of the disposition."
[My emphasis.]
[22] To encourage people to invest in
Incotel, they were told that their interest would be bought for
an amount equal to 45% of their investment, and that is what
occurred. Furthermore, the letter dated January 14,
1991, mentions this explicitly: [TRANSLATION] "Following
up on your investment in [Incotel], as agreed at the
time of your purchase, please find a cheque enclosed, which
represents your right of first refusal, [8] which is equal
to 45% of the amount invested." [My emphasis.] They all
sold their interest at this price. None of the purchase
agreements produced at the hearing contained any price adjustment
clause that could have been applied if the fair market value of
the interest had been below 45% of the purchase price; if there
had been such a clause, the agreement would have qualified for
the exclusion found in subsection 96(2.2)(d)(iv) of
the Act. As a result, since each of the Appellants had the right
to benefits granted them [TRANSLATION] "in order to
eliminate or reduce the effects of a loss due to the fact that he
is a member of the company, that he has an interest in the
company, or that he has access thereto." They were limited
partners and specified members.
[23] In addition to being specified members
as a result of their status as limited partners, they were
specified members because they were not actively engaged on a
regular, continuous and substantial basis in the activities of
Incotel. Their only interest was to attend two meetings at which,
in a ridiculous attempt to establish that they took an active
part in the activities of Incotel, they were asked to fill out a
questionnaire that Ms. Maslanka was not even able to
recognize. I do not hesitate to conclude, as did Chief
Justice Garon in McKeown, at paragraph 424,
that the Appelants' participation in the alleged company
"was purely symbolic and artificial."
Furthermore, since the Appellants had practically no knowledge of
Incotel's activities, they were unable to admit almost all of
the facts related to this alleged company, which were assumed by
the Minister in his reply to the Notice of Appeal.
[24] For all these reasons, the appeals are
dismissed.
Signed at Ottawa, Ontario, this 16th day of
June 2004.
Archambault J.
Translation certified true
on this 11th day of November 2004.
Shulamit Day, Translator
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