The Queen v. Manley, 85 DTC 5150, [1985] 1 CTC 186 (FCA)

Mahoney, J:—This is an appeal from a judgment of the Trial Division which vacated the reassessment of the respondent’s 1974 personal income tax return. The Minister of National Revenue had added $327,190.42 to the respondent’s income, being $293,700 damages for breach of warranty of authority awarded to and received by him and $33,490.42 interest thereon.

The respondent had sued certain former shareholders of Levy Industries Limited for a finder’s fee of $600,000 and, alternatively, sued Benjamin Levy for $600,000 damages. The action arose out of Benjamin Levy’s agreement, on their behalf, to pay the respondent a two per cent finder’s fee if he found a purchaser for the controlling shares of the company owned by him and other members of the Levy family. The trial judge dismissed the respondent’s action against all the other defendants and awarded him $125,000 damages against Benjamin Levy for breach of contract and deceit. The Ontario Court of Appeal held:

It follows from the learned Judge’s findings that the plaintiff is entitled to recover damages against Benjamin Levy for breach of warranty of authority, and counsel for the said appellant does not contest the claim of the plaintiff that the measure of damages to be awarded for said breach is equivalent to the amount of the finder’s fee determined in accordance with the agreement between the plaintiff and the defendant Benjamin Levy.

Accordingly, the damages recoverable were fixed at $587,400. That decision was affirmed by the Supreme Court of Canada. As a result of other proceedings taken in the Ontario courts, the respondent was obliged to pay half of the $587,400 to a third party. The remaining half, $293,700, is subject of the reassessment in issue.

The learned trial judge, in his reported decision, [1984] CTC 8; 83 DTC 5440, quoted extensively from the trial judgment in the Supreme Court of Ontario. He found that “the facts come essentially from the reasons for judgment in [the Ontario courts and the Supreme Court of Canada]”. They establish the respondent’s activities which led to his recovery of damages. He not only made an agreement with Benjamin Levy; he carried out his part of that agreement.

As far as the agreement is concerned, the finding was that Benjamin Levy had agreed that the family members would pay the respondent a two per cent fee if he found a purchaser for their shares in Levy Industries for a total price of $25 to $30 million. As to what the respondent did in carrying out his part of the bargain, Mr Justic Donohue found:

Manley states that he had been dealing with one Perry Sherman about a possible sale of Manley’s tax loss company, Aitrim Lumber, to Seaway. Present in his mind was the possibility that he might through Sherman interest Seaway in the purchase of the Levy family shares. To this end he called Sherman and a meeting took place between Manley and Sherman on the 17th of October, 1968. As a result of this meeting, Norton Cooper, the president of Seaway, got in touch with Ben Levy and, as mentioned above, in an astonishingly short time a contract was made for the purchase of the Levy family shares by Seaway at a price of approximately thirty million dollars.

In a preceding passage, referred to in the foregoing, Mr Justice Donohue, had said:

It is certain that conversion did take place between the plaintiff and the defendant, Benjamin Levy, relative to finding a buyer for the Levy family shares and, wonderful to relate, within a matter of days of that conversation, Seaway Corporation contracted to buy the Levy shares for almost thirty million dollars and there is no doubt that the plaintiff had something to do with bringing the Levys and Seaway together.

In its statement of defence in the action subject of this appeal, the appellant pleaded:

. . . that the damages received of $293,700.00 and interest thereon of $33,490.42 were received in respect of business, or an adventure in the nature of trade, carried on by the Plaintiff; that the Plaintiff became entitled to such amounts in the taxation year 1974; and that as a consequence the Minister of National Revenue correctly included such amounts, totalling $327,190.42, in computing the Plaintiffs income for the 1974 taxation year by virtue of Sections 3 and 9 and Subsection 248(1) of the Income Tax Act.

The notice of reassessment characterized the amounts as “Finder’s Fee” and “Interest on Finder’s Fee” received, respectively. The learned trial judge appears to have considered that characterization significant. At p 12 [5443], he said:

Counsel for the plaintiff submitted the Minister of National Revenue’s re-assessment is factually incorrect. I agree. The Minister characterized the amount in issue as “find er’s fee received”. What was received was not a finder’s fee, but damages for breach of warranty of authority.

What is significant in proceedings in this Court are the pleadings. The issue here is whether the damages for breach of warranty of authority were required, by sections 3, 9 and 248(1) of the Income Tax Act, to be included in the computation of the respondent’s income for 1974. The material provisions of those sections are:

3. The income of a taxpayer for a taxation year for the purposes of this Part is his income for the year determined by the following rules:

(a) determine the aggregate of amounts each of which is the taxpayer’s income for the year (other than a taxable capital gain from the disposition of a property) from a source inside or outside Canada, including, without restricting the generality of the foregoing, his income for the year from each office, employment, business and property;

9. (1) Subject to this Part, a taxpayer’s income for a taxation year from a business or property is his profit therefrom for the year.

248. (1) In this Act,

“business” includes a profession, calling, trade, manufacture or undertaking of any kind whatever and includes an adventure or concern in the nature of trade but does not include an office or employment.

It seems to me that, in the circumstances, the amount in issue is to be included in the respondent’s income only if it was profit from an adventure in the nature of trade. Was what the respondent did an adventure in the nature of trade and, if so, were the damages recovered profit from that adventure?

The learned trial judge held that the respondent had not engaged in an adventure in the nature of trade. He held, at p 13 [5444], that:

The characterization of the arrangement between Ben Levy and the plaintiff as an adventure in the nature of trade is based on what the transaction might have been if Manley had, in fact, held the authority from all the Levy shareholders, to be paid a fee if he found a purchaser of the shares. But that hypothesis involves speculation. It does not follow that the other Levy shareholders would have agreed to the plaintiffs fee stipulation. They might have said no, or insisted Manley should look to a potential purchaser for a fee, or part of any fee.

There never was, in fact, a contract between all the Levy shareholders and Manley. If there had been, and depending on the particular facts, that hypothetical transaction might, or might not, have been classed as an adventure in the nature of trade.

With respect, I do not agree. If Benjamin Levy had, in fact, had the authority, his commitment would have bound the other Levy shareholders. Their separate agreement would not have been required. That transaction is certainly hypothetical but, as to whether it would have been classed as an adventure in the nature of trade, we do have all the facts. In any event, it is what actually happened that is in issue. What the respondent did was neither more nor less an adventure in the nature of trade only because Benjamin Levy lacked authority to make the agreement on behalf of the other shareholders.

The learned trial judge found that the arrangement between the respondent and Benjamin Levy did not meet the criteria of an adventure in the nature of trade established by MNR v Taylor, [1956] CTC 189; 56 DTC 1125, in which Thorson, P, traced the term “adventure in the nature of trade” through Scottish and English decisions and concluded, at 210 [1136] ff, that it substantially enlarges the ambit of the kind of transactions whose profits are subject to income tax but that it

is not possible to determine the limits of the ambit of the term or lay down any single criterion for deciding whether a particular transaction was an adventure in the nature of trade for the answer in each case must depend on the facts and surrounding circumstances of the case. But while that is so it is possible to state with certainty some propositions of a negative nature.

The negative propositions are summed up in the following:

Consequently, the respondent in the present case cannot escape liability merely by showing that his transaction was a single or isolated one, that it was not necessary to set up any organization or perform any operation on its subject matter to carry it into effect, that it was different from and unconnected with his ordinary activities and he had never entered into such a transaction before or since and that he purchased the lead without any intention of making a profit on its sale to the Company.

He then went on to state some positive propositions:

There is, in the first place, the general rule that the question whether a particular transaction is an adventure in the nature of trade depends on its character and surrounding circumstances and no single criterion can be formulated.

secondly:

. . . if the transaction is of the same kind and carried on in the same way as a transaction of an ordinary trader or dealer in property of the same kind as the subject matter of the transaction it may fairly be called an adventure in the nature of trade.

and finally:

. . . the nature and quantity of the subject matter of the transaction may be such as to exclude the possibility that its sale was the realisation of an investment or otherwise of a capital nature or that it couild have been disposed of otherwise than as a trade transaction.

The learned President was, there, dealing with a transaction involving a physical commodity: 1500 tons of lead. That some of his propositions are cast in terms compatible with that fact is not, in my view, to be taken as excluding their application, mutatis mutandis, to a transaction involving a service. His decision was referred to with approval by the Supreme Court of Canada in Irrigation Industries Ltd v MNR, [1962] CTC 215; 62 DTC 1131.

With respect, I think the learned trial judge erred in holding that the transaction, which I take to embrace both his arrangement with Benjamin Levy and action taken by the respondent to find a purchaser, was not in the nature of commercial enterprise, evidently because the respondent neither risked nor used money or property and neither bought nor sold anything. As to the negative propositions, it is not even suggested that the respondent made the arrangement with Benjamin Levy other than with the intention of profit. As to the second positive proposition, he may have done less than most finders have to but he did what was necessary and there is no suggestion he did it differently. As to the third positive proposition, given the nature of the subject matter of the arrangement, a service to be provided by the respondent for a fee, the possibility of it being a capital transaction was excluded.

The respondent did engage in an adventure in the nature of trade. It was a business within the extended definition of that term in the Income Tax Act. The more difficult question is whether the damages for breach of warranty of authority were “profit” from that business.

The respondent relies on this Court’s decision in The Queen v Atkins, [1976] CTC 497; 76 DTC 6258, while recognizing that the payment in issue there related to wrongful dismissal. Some doubt may have been cast on the validity of that decision by the adverse dicta of the Supreme Court of Canada in Jack Cewe Ltd v Jorgenson (1980), 111 DLR (2d) 577, a case dealing with damages for wrongful dismissal as insurable earnings for purposes of the Unemployment Insurance Act, rather than, as had Atkins, the settlement of a claim for such damages as taxable income under the Income Tax Act. This Court has, however, very recently, in The Queen v Pollock, [1984] CTC 353; 84 DTC 6370, found itself unconvinced that Atkins was wrongly decided.

That said, Atkins is to be understood in light of its facts. This Court, dismissing an appeal from the Trial Division, did so “for the reasons given by the learned trial Judge”. It is necessary to look to the trial judgment, [1975] CTC 377, 75 DTC 5263, where, at 390 [5271], the trial judge made clear that the Minister’s position was “that the payment in question represents salary (and nothing else) lost by the premature termination of the [employment] contract”. That, perhaps, accounts for the anomaly, noted by the Supreme Court at 579 of the Cewe decision, that in Atkins

. . . consideration appears to have been given only to the question whether the damages for wrongful dismissal were income “from an office or employment” within the meaning of ss 5 and 25 of the Income Tax Act. No consideration appears to have been given to the broader question whether they might not be income from an unspecified source under the general provision of s 3.

In Pollock, the trial judgment makes clear that the parties agreed that “the facts in this case are substantially similar, for income tax purposes, to the facts in the Atkins case”, [1981] CTC 389; 81 DTC 5293.

I take Atkins as authority, which I must respect, for the proposition that an amount paid in settlement of a claim for damages for wrongful dismissal is not salary, taxable as income from an office or employment under subsection 5(1) of the Income Tax Act. That is nothing more than an application of the well known principle that a taxpayer is entitled to the benefit of any doubt as to legislative intention to tax. It is an application in a case where the fisc evidently elected to plead legislative intention on a single, and as it turned out, erroneous basis. Income tax appeals in this Court are, of course, ordinary actions in which the issues are defined by the pleadings. The Court makes no decision on what might have been pleaded but was not. Atkins is not, and does not purport to be, authority for the proposition that damages, or an amount paid to settle a claim for damages, cannot be income for tax purposes.

The measure of damages for breach of warranty of authority is the amount that will put the party, to whom the representation of authority was made, in the position he would have been had the authority existed. The principle was stated by Brett, MR in Re National Coffee Palace Company (1883), 24 Ch D 367 at 371 ff. After reviewing a number of decisions, he concluded:

. in all these cases the Court laid down that the measure of damages was what the plaintiff actually lost by losing the particular contract which was to have been made by the alleged principal if the defendant had had the authority he professed to have; in other words, what the plaintiff would have gained by the contract which the defendant warranted should be made.

That is the measure of damages in fact awarded by the Ontario Court of Appeal here.

The respondent received, in damages, precisely what he would have realized, in profit, from his adventure in the nature of trade. As to whether the award of damages is properly to be regarded as profit from business for purposes of sections 3 and 9(1) of the Income Tax Act, I am of the view that the rule stated by Diplock, LJ, as he then was, in London & Thames Haven Oil Wharves, Ltd v Attwooll, [1967] 2 All ER 124 at 134 ff, is to be applied. I take it that I am, in this respect, ad idem with the learned trial judge, who appears to have agreed that this rule would have applied had he concluded that the respondent had engaged in an adventure in the nature of trade.

In that case, the taxpayer had received, in settlement of a claim in negligence, £21,404 for loss of use of an income earning asset during its period of repair. The issue before the Court was the assessment of that sum to tax. While the rule itself is stated in the second sentence of the second paragraph below, it is desirable to quote Diplock, LJ, at some length as its context is, in my opinion, compelling argument for its validity.

. . . The question whether a sum of money received by a trader ought to be taken into account in computing the profits or gain arising in any year from his trade is one which ought to be susceptible of solution by applying rational criteria; and so, I think, it is, I see nothing in experience as embalmed in the authorities to convince me that this question of law, even though it is fiscal law, cannot be solved by logic, and that, with some temerity, is what I propose to try to do.

I start by formulating what I believe to be the relevant rule. Where, pursuant to a legal right, a trader receives from another person compensation for the trader’s failure to receive a sum of money which, if it had been received, would have been credited to the amount of profits (if any) arising in any year from the trade carried on by him at the time when the compensation is so received, the compensation is to be treated for income tax purposes in the same way as that sum of money would have been treated if it had been received instead of the compensation. The rule is applicable whatever the source of the legal right of the trader to recover the compensation. It may arise from a primary obligation under a contract, such as a contract of insurance; from a secondary obligation arising out of non-performance of a contract, such as a right to damages, either liquidated, as under the demurrage clause in a charterparty, or unliquidated; from an obligation to pay damages for tort, as in the present case; from a statutory obligation; or in any other way in which legal obligations arise.

The source of a legal right is relevant, however, to the first problem involved in the application of the rule to the particular case, viz, to identify for what the compensation was paid. If the solution to the first problem is that the compensation was paid for the failure of the trader to receive a sum of money, the second problem involved is to decide whether, if that sum of money has been received by the trader, it would have been credited to the amount of profits (if any) arising in any year from the trade carried on by him at the date of receipt, ie, would have been what I shall call for brevity an income receipt of that trade. The source of the legal right to the compensation is irrelevant to the second problem. The method by which the compensation has been assessed in the particular case does not identify for what it was paid; it is no more than a factor which may assist in the solution of the problem of identification.

In the present case, the respondent was a trader; he had engaged in an adventure in the nature of trade. The damages for breach of warranty of authority, which he received from Benjamin Levy pursuant to a legal right, were compensation for his failure to receive the finder’s fee from the Levy family shareholders. Had the respondent received that finder’s fee it would have been profit from a business required by the Income Tax Act, to be included in his income in the year of its receipt. The damages for breach of warranty are to be treated the same way for income tax purposes.

I would allow the appeal with costs here and in the Trial Division and restore the reassessment.

There is one matter which may remain outstanding. The trial judge did not find it necessary to deal with it and it was not raised on appeal. As an alternative plea, the respondent sought to deduct from the damages, if they were found to be income, the legal expenses incurred in the proceedings which resulted in his paying half the award to the third party. To permit this to be disposed of, if necessary, I would, pursuant to Rule 337(2)(b), direct the appellant to prepare a draft of an appropriate judgment and to move for judgment accordingly pursuant to Rule 324.