Date: 19980918
Docket: 95-1750-IT-G
BETWEEN:
BURKHARD NOWAK,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
Reasons for Judgment
Sarchuk J.T.C.C.
[1]These are appeals by Burkhard Michael Nowak (the Appellant)
from assessments of tax with respect to his 1987 and 1988
taxation years.
[2] A number of different but overlapping issues have been
raised by the Appellant. To minimize repetition to the extent
possible, I propose to set out those facts which I perceive to be
undisputed, in more or less chronological order and then deal
with each issue separately. The Appellant was the only witness to
testify.
[3]The Appellant has a farming background. His father, a
horticulturist, operated greenhouses and kept cattle. At age 16,
the Appellant acquired his first horse and was taught
horsemanship by a former cavalry officer. He obtained a Bachelor
of Science in Zoology from Western University, and then earned a
Masters Degree in Science and Veterinarian medicine at Guelph.
During those years, he worked for Scottsdale Farms, a breeder of
horses and pure-bred cattle. On May 24, 1983, the Appellant
purchased a 47-acre property for $159,000 (the Nowak farm), and
commenced farming activities. He owned an Arabian stallion and in
1984 purchased a brood mare of the Hanoverian breed. In 1983, he
planted winter wheat and in subsequent years, soy beans, oats and
10 acres of pumpkins. He kept some cattle and also attempted to
raise pedigreed Suffolk sheep, apparently with little success.[1] During this same
period, the Appellant was employed by the Hermanns, owners of one
of the largest Hanoverian breeding operations in North America
located at Barcrest, a 200-acre property adjoining the Nowak
farm. The Appellant was primarily involved in the breeding aspect
of that operation and in addition, represented Barcrest at
international and local shows, produced catalogues, and attended
to other promotional requirements.
[4]In or about 1985, the Hermanns found themselves in
financial difficulty and amounts due to the Appellant remained
unpaid. He sued, obtained judgment and in 1986 a writ of
execution was issued. In May 1986, the Hermanns defaulted on
their mortgage with the Bank of Montreal (the Bank) and, it would
appear, were petitioned into bankruptcy at or about the same
time. Efforts were made to sell Barcrest as a going concern until
the spring of 1987 when, according to the Appellant, the Receiver
divided the assets into three separate parcels, real property,
equipment and livestock, for sale at auction. The Appellant, on
the advice of Counsel, bypassed the Receiver and on March 9, 1987
made an offer to purchase the real property for $900,100 directly
to the Bank.[2] On
March 10th, the Bank, acting under power of sale, agreed to sell
the property and the closing date was April 15, 1987.[3] On or about March 11,
1987, the Appellant presented separate offers to purchase the
livestock and equipment to the Receiver.[4] Neither offer was accepted and the
assets were subsequently sold at public auction on March 27,
1987.
[5]At some point of time in March, Ray Dodge, an agent
representing a group of purchasers interested in developing a
golf course (the Gasparetto group), approached the Appellant and
communicated their interest in Barcrest to him. Discussions
between the Gasparetto group and the Appellant’s
solicitor[5]
culminated on March 30, 1987 with an offer to purchase Barcrest
for $1,100,000. Concurrently, the Gasparetto group offered to
acquire an option to purchase the Nowak farm at a price of
$264,000.[6] On
April 4, 1987, the Appellant made a counteroffer in the amount of
$1,320,000 if the sale of Barcrest was completed on
April 15, 1987, or for $1,620,000 if the sale was not
completed until June 1, 1987.[7] The counteroffer was rejected but
negotiations with the Gasparetto group continued until the end of
May 1987.
[6]On April 15, 1987, the sale of Barcrest to the Appellant
was completed.[8]
To finance the purchase, he borrowed $950,000 by way of two
short-term mortgages, with interest only payable in the
amount of $12,000 per month.[9] The first mortgage was for $825,000 at 16%, due
October 15, 1987, while the second was for $125,000 at 9.6%, due
July 15, 1987. The latter was extended to October 15, 1987
at the rate of 16% and further extensions were given the
Appellant with respect to both to March 15, 1988, to June 15,
1988, and to October 18, 1988, the date on which both properties
were ultimately sold. During this period, only one instalment of
interest was paid by Nowak in the amount of $12,000 on or about
June 25, 1987.
[7]In the fall of 1987, the Appellant contacted M. Gasparetto
with a view to reopening the negotiations and on December 14,
1987, agreements were reached whereby the Gasparetto group agreed
to purchase a 90% interest in Barcrest and to acquire an option
to purchase a similar interest in the Nowak farm for $1,600,000
and $400,000, respectively.[10] These transactions were completed on October
19, 1988. The Appellant used part of the proceeds from the sale
to pay off the short-term mortgages and all of the unpaid
accrued interest. As well, on December 14, 1987, the Appellant
entered into a partnership agreement with other members of the
Gasparetto group, acquiring a 10% interest therein.[11]
[8] Although the Appellant sold the Barcrest and Nowak farms
in October 1988, he continued to use both the land and buildings
(free of charge) without objection from the Gasparetto group
until the commencement of the construction of the golf course.
The Appellant was quite vague as to when this occurred, but to
the best of his recollection, development permits were sought in
1988, authorization to proceed was received in 1989 and shortly
thereafter they commenced laying out the course and the
bulldozers first came in. Seeding on some holes began in
1990.
[9] In computing income for the 1987 taxation year, the
Appellant claimed a farming loss in the amount of $119,540. In
computing his income for the 1988 taxation year, the Appellant:
(i) claimed a farming loss in the amount of $212,222; (ii)
reported a taxable capital gain on the sale of properties (Nowak
and Barcrest combined) in the amount of $112,533; and (iii)
claimed a capital gains deduction for qualified farm property in
the same amount. Furthermore, in his computation of the taxable
capital gain of the two properties the Appellant deducted a
principal residence allowance, claiming the residence and 100% of
the balance of the Nowak farm property as well as the Barcrest
residence and three acres of contiguous land.
[10]The Minister of National Revenue (the Minister) reassessed
the Appellant’s 1987 taxation year to disallow farming
losses in the amount of $119,540 and assessed “nil”
tax payable. The Minister also reassessed the Appellant’s
1988 taxation year: (i) to disallow farming losses in the amount
of $212,222; (ii) to include in income the amount of $428,650
from the sale of 90% of the Appellant’s interest in
Barcrest; (iii) to reduce the taxable capital gain as reported
from $112,533 to $111,267 as being the taxable capital gain from
the sale of 90% of the Appellant’s interest in the Nowak
farm; and (iv) to reduce the capital gains deduction from
$112,533 to $66,667.
[11]The two main issues in this appeal are:
(a) Was the Appellant’s profit from the sale of 90% of
his interest in Barcrest on capital or income account?
(b) Was the Appellant carrying on the business of farming in
the 1987 and 1988 taxation years?
Before proceeding further, I propose to summarize the evidence
adduced on behalf of the Appellant with respect to the
acquisition and sale of Barcrest.
[12]The Appellant testified that as a result of his employment
at Barcrest, he was reasonably familiar with the facilities,
stock and equipment. Subsequently, in the course of attempting to
collect on his Judgment, he dealt with the Sheriff’s
officers and later the Receivers[12] and at one stage assisted in
identifying and assessing the approximately 80 horses which still
remained at Barcrest. As a result, towards the end of 1986 or
early in 1987, he concluded:
that you could buy the land, you could buy the horses and you
could buy that equipment and that this was the chance to actually
have a complete ready made operation where all you really needed
to do is recondition and retrain these horses. And having some
experience in that, I thought that it would be quite readily
possible to do that. We would then resell the surplus stock and
keep the good stock and operate the farm this way.
He believed these horses could be purchased for approximately
$100,000 and that the stock surplus to his needs could be sold at
a profit which would be used to pay down the amounts borrowed to
acquire Barcrest.
[13]At the beginning of 1987, negotiations with Ingle began
with respect to “a bulk sale of the horses and
machinery”. He alleges that subsequent discussions with
Ingle and with Jeff Marsh[13] led to an agreement setting the price at which
he could purchase the Barcrest stock. He further asserts that
since a firm arrangement with Ingle and Eurosport existed the
offer to the Bank for Barcrest was made, and that following
acceptance thereof, offers in writing to Eurosport for the
purchase of the horses for $130,000 and the fixtures and
equipment for $70,000, dated March 11, 1987, were delivered by
the Appellant to Ingle’s office in Toronto.[14] There was no
response from Ingle.
[14]The Appellant maintains he felt obliged to proceed to
closing the Barcrest purchase and that he did so with no
knowledge of the interest in the property by the Gasparetto
group. He says it was not until he spoke to Ray Dodge that he
became aware of their plans.[15] The Gasparetto group was represented by Keyser
Mason Ball & Lewis. This firm was contacted in March 1987 to
discuss the preparation of agreements of purchase and sale for
the acquisition of Barcrest and the Nowak farm. A series of
telephone discussions with the solicitors for the Appellant led
to the preparation of an agreement of purchase and sale which was
forwarded to the Appellant’s solicitors on or about March
30, 1987.[16]
[15]According to the Appellant, the decision to buy Barcrest
was solely for the purpose of carrying on a horse-breeding
operation and was predicated on his ability to acquire the horses
and equipment in addition to the land. When that fell through,
the acquisition of Barcrest would not have been feasible had it
not been for the Gasparetto group’s offer. He felt their
plan to build a golf course coincided with his interest in an
equestrian operation and “thought we might be in a position
where I could continue on the farming aspect and the remaining
access lands could be developed by that group into a golf
course”. Negotiations continued culminating in the
agreements to sell reached on December 14, 1987. In the interim,
he says he proceeded with his plans to operate the Barcrest
farm.
Barcrest - sale on capital or income account
[16]The issue is whether the Appellant at the time of the
acquisition of Barcrest had either a primary or secondary
intention to resell. Generally speaking, such intent may be
ascertained from the entire course of conduct of a taxpayer and
the relevant circumstances and inferences flowing therefrom. In
Racine, et al v. M.N.R.,[17]Noël J. observed:
To give to a transaction which involves the acquisition of
capital the double character of also being at the same time an
adventure in the nature of trade, the purchaser must have in his
mind, at the moment of the purchase, the possibility of
reselling as an operating motivation for the acquisition; that is
to say that he must have had in mind that upon a certain type of
circumstances arising he had hopes of being able to resell it at
a profit instead of using the thing purchased for purposes of
capital. Generally speaking, a decision that such a
motivation exists will have to be based on inferences flowing
from circumstances surrounding the transaction rather than on
direct evidence of what the purchaser had in mind....
Emphasis added
[17]The Appellant maintains that the gain realized on the sale
of Barcrest was on account of capital. That assertion having been
made, the Appellant must adduce evidence which, on a balance of
probabilities, establishes that the purchase of Barcrest was to
hold it as a capital investment for the purpose of earning or
producing income. It is the Appellant’s position that an
exceptional series of circumstances culminating in the placing of
Barcrest in receivership gave him the opportunity to purchase
Barcrest and that the only reason he did so was to carry on a
“horse-breeding farming operation”. He further says
that no secondary intention to sell the property existed at that
time and it was only the unanticipated offer to purchase by the
Gasparetto group, which he viewed as a means to continue with his
plans for an equestrian centre, that led to the sale.
[18] The Appellant bears the onus of establishing that his
intention at the time of acquisition of Barcrest was investment.
That onus has not been met. The evidence as a whole leaves me far
from satisfied that there is a balance of probability that
Barcrest was acquired for the purpose of farming to the exclusion
of any purpose to dispose of it at a profit as an
alternative.
[19] The direct evidence of a person who has an interest in
the outcome of an appeal regarding the intention behind a
transaction is not determinative of the existence of the stated
intention. That is particularly so in this case since the
credibility of the Appellant is substantially in issue. The
sine qua non of his position is that Barcrest would not
have been purchased had he not been absolutely certain of an
agreement with Ingle to acquire the Barcrest stock. On an
examination of the evidence as a whole, the often repeated
assertions that “I had a deal with Ingle for the
horses” do not withstand close scrutiny. He said that at or
about the end of February 1987:
... we arrived -- I think originally the figure was much
higher, was about $250,000, I believe, for the horses. It came
down to 130 with mutual agreement of what the value at the
present time under those conditions was for what’s
there.
This “mutual agreement” was reached at a meeting
which the Appellant believes took place at a restaurant and was
attended by Ingle, Marsh, Marsh’s assistant, the Appellant
and his solicitor, Richard Furlong. The Appellant was vague as to
when it took place but said that as a result, the offers to
purchase both the horses and the equipment were prepared, signed
and presented to Ingle. According to the Appellant, they were not
accepted because Ingle, for reasons of his own, “had
decided not to go ahead with this, at least, he just totally
ignored it and proceeded to have his own auction at the end of
March”.
[20]I have grave doubts with respect to the Appellant’s
testimony regarding the existence of an agreement with Ingle and
Eurosport. For example, the Appellant testified that the value of
the horses for resale purposes was $1,500,000 and that the Bank
valuation was close to $2,000,000. He also observed that
“there was a lot of value to those horses” even if
some of the “high-priced ones” had been moved to the
USA. There is evidence as well that at auction, the horses in
issue were sold for $725,500.[18] Nonetheless, the Appellant claims that he had
an “agreement” with Ingle and with Eurosport to
acquire them for $130,000. Both of these parties had a
responsibility to obtain the best prices possible and indeed, the
offer itself was conditional upon approval of the Supreme Court
of Ontario. To suggest that either Eurosport or Ingle or both had
agreed to sell horses for less than one-fifth of their actual
value is most difficult to accept.
[21]As the matter stands, the only testimony with respect to
this alleged agreement is that of the Appellant. While it is not
necessary for his evidence to be corroborated, where so many
statements appear to be unreasonable, if not improbable and where
improper conduct on the part of others is implied, the failure to
call witnesses who, according to the Appellant, were privy to the
“agreement” must be taken into account. In
particular, the failure to call his solicitor, Furlong, is
inexplicable and can only lead to a negative inference.
[22]Even if, for the sake of argument, one were to accept that
the Appellant believed that he “had a deal” to
purchase the horses, by March 12th it was absolutely apparent to
him that there was no agreement to that effect. Nonetheless, he
proceeded to closing with the full knowledge that a key element
of his plan could no longer be carried out. He says no attempt to
abandon his purchase of Barcrest was made for fear that he would
be sued and took no steps to try to reach some accommodation with
the Bank.[19]
This is so, notwithstanding his knowledge that the Bank had an
offer in it hands for $900,000 as recently as March 9th, which,
at the very least, suggested the existence of an interested
purchaser.[20]
[23]The Appellant’s actions to this point of time and
subsequently are difficult to reconcile with his statement that
“the roof caved in because we were in a disastrous state
here” since his unconditional offer to the Bank had been
accepted and he no longer had access to the horses. He also said
that were it not for the Gasparetto offer, the acquisition of
Barcrest “was not feasible”. Added to this is the
fact that the Appellant still owed some $70,000 on the Nowak farm
mortgage and was facing very substantial interest payments on the
monies borrowed to finance the Barcrest purchase. Notwithstanding
his plight, he rejected the Gasparetto offer and counteroffered
raising the price to $1,320,000 for an April 15th closing or
$1,620,000 for a June 15th closing.[21]
[24]This conduct must also be considered in light of the fact
that the Appellant was, in my view, at all times aware of the
potential resale value of Barcrest. He knew that “in the
period of time before we came up with a price, the farm had been
advertised even up to $2,000,000”. The possibility of
profitable resale can also be inferred from his comment that
since it was a “distress sale”, it could be purchased
for much less, perhaps $600,000, being the amount he believed
still owing on the mortgage. Arrangements were made for financing
the purchase in the latter part of February and he had a firm
commitment for $950,000 at that time. An appraisal was obtained
on the Appellant’s behalf as he said, to confirm the value
for the lender. This appraisal report indicated that the property
was worth $1,100,000 and that the time required for a sale could
extend to a year or a year and a half.
[25]One other fact strongly suggests that the Appellant had a
purpose other than farming in mind, being the sale of Barcrest at
a profit if his “preferred intention” was not
possible. Specifically, I refer to the almost complete absence of
any form of analysis of the viability of an operation such as
that proposed by him either as a stand-alone farm operation or as
a equestrian centre in conjunction with a golf course.[22]
[26]One final comment with respect to the Appellant’s
credibility. In the course of his testimony, he was in my view,
deliberately vague and imprecise with respect to such matters as
the time at which certain events occurred. Since often such
evidence was most germane in terms of establishing the bona
fides of his intentions with respect to Barcrest, his
failure to call other readily available evidence also justifies
an inference that the testimony of such party would have been
unfavourable to him.
[27]Despite some assertions by the Appellant of an intention
to develop an equestrian farm operation, I am far from satisfied
on the evidence that Barcrest was acquired for that purpose to
the exclusion of any purpose to dispose of it at a profit as an
alternative. For the foregoing reasons, his appeal with respect
to this issue cannot succeed.
1987 and 1988 farm losses - Barcrest
[28]The issue is whether the Appellant was carrying on the
business of farming in the 1987 and 1988 taxation years. In these
appeals, we are only concerned with the farming operation as
conducted by the Appellant from April 15, 1987, the closing date
of his purchase of Barcrest from the Bank, to December 31, 1988.
It is the Appellant’s position that he was carrying on the
business of farming in those taxation years and that it was his
chief source of income. In particular, Counsel for the Appellant
observed that the Appellant had no other source of income other
than approximately $1,800 in rental income in 1987 and $5,100 in
rental and interest income in 1988.
[29]The Respondent’s position is that the Appellant was
not carrying on the business of farming in those taxation years
as the farming operation was not being carried on with a
reasonable expectation of profit.
[30]To succeed an Appellant must establish that his farming
operation gave rise to a “reasonable expectation of
profit” and if successful in that regard, to further
establish that it was his chief source of income within the
meaning of subsection 31(1) of the Act. The
principles governing the application of subsection 31(1) of
the Act were discussed by the Supreme Court of Canada in
Moldowan v. The Queen.[23]Dickson J. (as he then was)
observed that:
Although originally disputed, it is now accepted that in order
to have a “source of income” the taxpayer must have a
profit or a reasonable expectation of profit. ...
There is a vast case literature on what reasonable expectation
of profit means and it is by no means entirely consistent. In my
view, whether a taxpayer has a reasonable expectation of profit
is an objective determination to be made from all of the facts.
The following criteria should be considered: the profit and loss
experience in past years, the taxpayer’s training, the
taxpayer’s intended course of action, the capability of the
venture as capitalized to show a profit after charging capital
cost allowance. The list is not intended to be exhaustive.
...
The proof necessary to establish the existence of a reasonable
expectation of profit from an undertaking goes well beyond the
declared intentions of a taxpayer, even given under oath. Such
statements cannot be ignored, but all of the facts surrounding
the acquisition and operation of the property, its earning
potential, the carrying charges, the previous earning history and
so forth, must be such as to satisfy an objective observer that a
profit can reasonably be expected to flow from the venture. It is
understood that in each case, the factors will differ depending
on the nature and extent of the undertaking.
[31]Turning to the factors referred to by Dickson J. in
Moldowan[24]it is evident that the Appellant had a
substantial commitment to farming and that it was the centre of
his work routine. That, however, is of little solace to the
Appellant since on the evidence profitability was improbable
notwithstanding all the time the Appellant was prepared to devote
to farming.
[32]I turn next to the Appellant’s course of action. I
have already observed that his acquisition of Barcrest was
motivated by an intention to resell the property at a profit.
Even absent that conclusion, it is a fact that within days of the
Bank’s acceptance of his offer, all of the
Appellant’s actions with respect to his farming venture
were undertaken with the full knowledge that the property would
have to be sold since its acquisition was no longer financially
possible. As well, by the time he moved to Barcrest on April 15,
1987 to commence “farming”, he had already received a
firm offer from the Gasparetto group and had made a
counter-offer. Thus, the only thing that can be said with any
certainty was that the farming venture would be continued until
construction of the golf course began. Although the Appellant
believed that an equestrian centre associated with a golf club
could be successful, there was no evidence that the concept was
viewed with much favour by the other partners. In fact,
consideration of such a centre was remarkably short-lived since
construction of the golf course commenced in 1989 and all of the
farm facilities and stables (but one) were bulldozed.
[33]Nonetheless, the Appellant maintains that during this
interregnum he was carrying on the business of farming conceding
only that it was “in a drastically reduced level because we
did not have access to all the horses”. He described his
potential sources of income as consisting of an Arabian stallion,
a foundation stallion of the Hanoverian breed and several brood
mares purchased at the Barcrest auction. These horses were to be
the basis of a stud service and breeding program. He also had
and/or acquired 25 head of Aberdeen Angus “in calf and calf
on the side”. The existing Nowak farm continued to be
“cash-cropped” and hay was grown at Barcrest. Fifty
additional acres were rented from Hydro for an alfalfa crop to
provide fodder for his horses with the excess, if any, to be
sold. He spoke of stall facilities and four arenas which were
available for renting out and for shows. Income was also to be
generated from a section of Barcrest which was accredited as a
quarantine facility for livestock by the Ministry of Agriculture
and from a government subsidized training program for horse
trainers and grooms. He also made reference to several organized
shows which were conducted at Barcrest including the Champion
Trillion Show and the fact that the Olympic Training Team was
“hosted” there prior to the Royal Winter Fair.
According to the Appellant’s income tax returns in 1987 and
1988, these activities generated gross farm incomes of $56,200
and $67,665 and incurred total farm expenses of $186,031 and
$293,773, respectively.
[34]Almost no evidence was adduced as to the capability of the
venture as capitalized to show a profit. The Appellant personally
committed only $25,000 to the purchase price, borrowing $950,000
to complete the acquisition and to enable him to purchase horses.
At that point of time, he was still in debt with respect to the
Nowak farm. One might expect that prior to embarking on a highly
financed acquisition such as this, the Appellant would have
performed some form of analysis of the income-earning potential
of his proposed venture. It is not enough to claim that he might
have earned a profit. By way of example, it would not be
inappropriate to assume that in order to attract buyers, the
Appellant’s horses would have to be shown at various
venues, but there is no evidence to indicate what expenses might
be incurred thereby to which would have to be added such costs as
those relating to staff required to assist in the breeding and in
the showing of the horses. The failure to make any projections is
of particular import in this case since what he appears to have
had in mind was a combined “golf and equestrian club
concept”. There is no evidence before me to indicate that
any feasibility studies with respect to such a concept were
performed or whether all of this was simply based on wishful
thinking by the Appellant. In fact, there is no evidence as to
how he proposed to convert Barcrest into a profitable venture
other than his expressed belief that he could make a success of
such an operation.
[35]In response to a question regarding the failure by the
Appellant to provide any evidence regarding financial
projections, Counsel for the Appellant said:
I never knew a farmer that ever made a projection in my life
about whether or not he was going to be a successful farmer. He
went out and did it because he liked it. ... My submission is
simply, it’s all in his hand. Just simply the experience he
had in hand all his life in dealing with that type of thing. Lots
of people go into a business where somebody else fails and think
they can make it. I have seen it a hundred times with people
going in the restaurant business. Everybody wants to go in the
restaurant business, they think it would be fun. About one in ten
makes it.
I think farmers do much better than that by and large, but
because somebody fails, there is no particular reason why the
next person is going to fail as well.
Mr. Nowak didn’t give us any statistics or any figures
on how much money he could make doing this, but what he is
telling us is that he wanted to do it, because he knew he could.
This was the thing he wanted to do, it is the thing he knew he
could do. He certainly wouldn’t have gone into it with the
view of losing money and not making money. That doesn’t
mean to say that he couldn’t lose money, but it happens
everyday with people.
... He didn’t have a plan that we have seen, nonetheless
he had the courage to go ahead with it for better or for worse.
...
No comment is required.
[36]The Minister’s disallowance of the farm loss
expenses is based on the assumption that there was no source of
income from farming and that Barcrest, when it was sold, was an
inventory item and therefore, any gain was treated on income
account. The interest which accumulated on the mortgages was
added to the adjusted cost base as was the property tax and were
included as part of the computation of the gain. No error in the
Minister’s assessment has been demonstrated.
The Nowak farm - principal residence issue
[37]The Appellant resided on the Nowak farm from its
acquisition in 1983 until April 15, 1987 when he moved to
Barcrest. It was sold on October 15, 1988 and in computing his
income for that taxation year, the Appellant claimed that the
whole of the Nowak farm fell within the definition of
“principal residence” under subsection 54(g)
of the Income Tax Act (the Act). The relevant
portions of paragraphs 54(g)(i) and (v) define “principal
residence” as follows:
54(g) “principal residence” of a taxpayer
for a taxation year means a housing unit, ... that was,
(i) ordinarily inhabited in the year by the taxpayer ...
...
and
(v) for the purposes of this paragraph the principal residence
of a taxpayer for a taxation year shall be deemed to include, ...
the land subjacent to the housing unit and such portion of any
immediately contiguous land as may reasonably be regarded as
contributing to the taxpayer’s use and enjoyment of the
housing unit as a residence, except that where the total area of
the subjacent land and of that portion exceeds ½ hectare,
the excess shall be deemed not to have contributed to the
individual’s use and enjoyment of the housing unit as a
residence unless the taxpayer establishes that it was necessary
to such use and enjoyment, ...
[38]The Appellant described the property as rectangular in
shape with the narrower eastern end fronting Highway 25.
Proceeding west from the highway, the topography is quite varied,
with the first hundred or so feet being relatively flat. The
house and barn are situated on this portion of the property.
Moving further west, the land slopes downward to a flood plain
and a creek which transects the property from northeast to
southwest. The largest part of the farm, some 35 acres, lies
west of the creek and is part of the Niagara Valley Escarpment.
The Appellant testified that the construction of a residence or
any other buildings in that area was proscribed, although
agricultural activities are permitted.
[39]In the course of argument, the Appellant’s Counsel
conceded that a claim for the whole of the Nowak farm was not
tenable and submitted that given the topography of the land,
10 acres[25]
could appropriately be considered as constituting the
Appellant’s principal residence. These 10 acres are located
east of the creek and adjacent to the highway but do not include
the portion on which the barn was sited. Counsel described this
portion as “the land where the house is, where it runs
steeply down to the creek on that side. It can’t be used
for anything else. The only thing it can be used for is the
simple use and enjoyment of the property for the house as a
residence”.[26]
[40]The onus is on the Appellant to prove that any area in
excess of one-half hectare (one acre) is necessary to his use and
enjoyment of the housing unit as a residence. The nature of this
onus was succinctly set out in Rode, et al v. Minister of
National Revenue,[27] where Christie A.C.J T.C.C. stated:
... In these circumstances the law provides that the excess
shall be deemed not to have contributed to the appellant’s
use and enjoyment of the housing unit as a residence unless he
establishes that it was necessary to such use and enjoyment. The
underlined words are key. The word “deemed” in
paragraph 54(g) has this consequence. Even if an appellant
establishes beyond controversy that what exceeds 1 acre did in
fact make an important contribution to his use and enjoyment of
the housing unit as a residence, this does not assist him because
the fact has been nullified by the legislation unless he proves
necessity. Therefore what an appellant must do in order to
establish that his principal residence exceeds 1 acre is to prove
that the excess was “necessary” to the use and
enjoyment of the housing unit as a residence. I believe that in
its context this requirement dictates that a stringent test shall
be applied in determining the acreage of a principal residence.
...
He went on to say:
Parliament has placed two things together contraposed. First,
provision for the determination of variable dimensions of land
which may constitute the principal residence of taxpayers in
respect of which they can succeed in what they contend is the
correct dimension by meeting the application of a flexible test.
This applies to an area which has fixed lines of demarcation
which must not exceed 1 acre. Second, provision for the
determination of variable dimensions of land which may constitute
the principal residence of taxpayers which are in excess of 1
acre and which have no fixed outer limits. I believe that in this
regard it was the intention of Parliament that crossing the
demarcation lines of 1 acre and the process of expansion beyond
them shall be a formidable task. This is the effect of the
injection of the word “necessary” in determining
dimensions in excess of 1 acre. Among the interpretations
assigned to the word “necessary” in the Oxford
English Dictionary is: “Indispensable, requisite,
essential, needful; that cannot be done without”. From this
selection I believe that the phrase “that cannot be done
without” best epitomizes what a taxpayer must meet in order
to establish that his principal residence can properly be
regarded as greater than 1 acre. ...
[41]The Appellant’s testimony was woefully inadequate.
It is not disputed that he utilized a substantial portion of the
property for raising sheep, horses, and that at various times, as
much as 35 acres had been planted to various crops. A barn on the
property had been reconstructed to permit the stabling of his
horses and livestock, a road was rebuilt and a bridge constructed
to provide access to the arable portions of the property. These
steps were taken to enable the Appellant to commence a farm
operation. Property dedicated to such use cannot be said to be
necessary to the use and enjoyment of the housing unit as a
residence.
[42]As for Counsel’s estimate of 10 acres and his
statement that it was an “excess area that cannot be done
without” for the purposes of subsection 54(g) of the
Act, there is simply no evidence worth considering. Thus
there is no basis upon which to find that the Minister erred in
assessing to limit the principal residence exemption to one-half
hectare (one acre).
Principal Residence - Barcrest
[43]In computing his income for the 1988 taxation year, the
Appellant also claimed a principal residence exemption pursuant
to the provisions of subsection 54(g) of the Act
with respect to the residence at Barcrest and three acres of land
subjacent to the housing unit. The Appellant’s position was
that two additional acres of land were required to provide an
access road to the residence from the highway.
[44]The Respondent’s position is that the Appellant must
establish that the property in issue was a capital property
before the principal residence exemption can be utilized. Counsel
referred to Burnet v. The Queen,[28] where Bowman J.
observed:
... That fact of course does not determine the matter. The
exclusion from a taxpayer’s income of the gain or loss on
the disposition of a principal residence occurs only if the
property, in addition to being a principal residence, is also
capital property. A gain or loss realized or sustained on the
disposition of a property in which the taxpayer ordinarily
resides (i.e. a “principal residence” or a
“personal use property” within the ordinary sense of
those words and not because of the definitions in section 54 of
the Income Tax Act) falls entirely outside the ambit of
subdivision c of Division B of the Act if that property is
not a capital property in the taxpayer’s hands.
[45]I agree with the comments of Bowman, J. with respect to
the application of section 54. Since the Appellant’s
profit from the sale of his interest in Barcrest was on income
account, it follows that he is not entitled to the principal
residence exemption with respect to the disposition of
Barcrest.
[46]I have one further reservation regarding this claim. The
relevant provisions make it clear that in order to qualify as a
principal residence for a particular taxation year, a housing
unit must be designated as such by the taxpayer in prescribed
form. Such a designation is generally made in the return filed
for the year of disposition and only one property may be
designated as a taxpayer’s principal residence for a
particular taxation year.[29] Having made a claim with respect to the
residence on the Nowak farm in taxation year 1988, the Appellant
was clearly precluded from making a similar claim with respect to
Barcrest.
Is the Appellant entitled to the capital gains deduction
with respect to the disposition of qualified farm property in the
1988 taxation year?
[47]In computing his taxable income for the 1988 taxation
year, the Appellant claimed a capital gains deduction in respect
of qualified farm property pursuant to subsection 110.6(2) of the
Act treating both the Barcrest property and the Nowak farm
as one unit. The Minister, in his assessment, disallowed the
capital gains deduction on the basis that neither property came
within the definition of qualified farm property. The Minister,
however, dealt with each property separately because with respect
to the Nowak farm, in assessing the Minister allowed a capital
gain for ‘other property’ pursuant to subsection
110.6(3) of the Act.
[48]The relevant portions of the definition of qualified farm
property provide:
110.6(1) “qualified farm property” of an
individual means a property owned by him or his spouse that
was
(a) real property used by
(i) the individual, ...
in the course of carrying on the business of farming in Canada
...
Since the Appellant was not carrying on the business of
farming on either the Barcrest property or the Nowak farm in
1988, the Minister’s assessment on this issue was
correct.
[49] Did the Appellant make capital improvements to the
Nowak and Barcrest farms that were not taken into account by the
Minister in determining the adjusted cost base (ACB) of each
property?
[50]It is not disputed that with respect to the disposition of
Barcrest and the Nowak farm, the Appellant in his return for the
1988 taxation year treated the proceeds therefrom as relating to
a disposition of 100% of the properties.[30] For the purposes of assessment the
Revenue Canada auditor calculated the gain on the basis that
there was a sale of a 90% interest in each case. No exception to
these adjustments has been taken on behalf of the Appellant.
[51]ACB - Nowak farm: The Appellant also included in the
calculation of the adjusted cost base an amount of $100,000 as
“improvements” made to the property. The
Respondent’s position is that there has been no
substantiation of this amount and it was excluded from the
adjusted cost base in calculating the capital gain. Although some
evidence was elicited from the Appellant with respect to
improvements to the farm buildings, he was unable to provide any
information regarding the actual costs incurred. Reference to the
accountant’s working papers[31] discloses an entry under the
heading Nowak farm “$100,000” and a barely legible
notation beside the entry reading “Improvements - Barn/Shed
- Legals”. What the number $100,000 is specifically made up
of is known only to the accountant.
[52]ACB - Barcrest: In calculating the ACB with respect to the
disposition of Barcrest, the Appellant included the cost of
improvements in the amount of $161,719. Once again, no
documentary evidence was provided in support of these adjustments
other than the accountant’s working papers.[32] The following items
are identified in this document as making up this total: Lockers
- $8,373 and $6,053; Stables - $87,293; ... (illegible) Stable -
$60,000. The accountant’s working papers provide no
evidence as to when or by whom the improvements were made.
[53]The Appellant “believes” that the amount
expended for “stables” represented the reconstruction
of 47 stalls while the $60,000 expenditure was for the cost of
new show ring seating arrangements. He said that any documents
and receipts which he may have had were lost when a portion of
the Barcrest offices was destroyed by fire in 1990. He did
testify that some duplicates were obtained and that other
documents were reconstructed but, unfortunately, none related to
these specific items.
[54]The position advanced on behalf of the Appellant by his
Counsel is that although the records had been lost, “the
accountant must have had them in making up his returns” and
that the Appellant can only rely on whatever documents were
submitted by the accountant to Revenue Canada at the time of the
filing of the returns. There is of course no evidence that any
supporting documents were ever submitted to Revenue Canada. If
the Minister had no more information before him at the time of
the assessments than I have before me, and it appears that was
the case, he was perfectly justified in disallowing the
deduction. The assessments of tax are not meant to be a guessing
game nor are the auditors required to speculate as to the quantum
of any expenses which may have been incurred by a taxpayer.
[55]In addition to the foregoing, in the calculation of the
adjusted cost base, a number of other items were claimed by the
Appellant. All were disallowed by the Minister. These are best
dealt with individually:
(a) Legal - Helson - $25,000.00: In cross-examination, the
Appellant said “I believe this would have been the
arrangements for the documents, the mortgages, and the expenses
thereto”. No invoice or receipt was produced but the
Appellant did make reference to a reporting letter from his
solicitor.[33]
The last attachment to that letter is the “statement of
disbursements of monies received on sale”. Following the
itemization of the disbursements paid, a separate portion of the
statement notes the following:
Fees on sale, discharge of mortgage,
partnership agreements, corporate
documents, etc. - $26,150.00
Disbursements - 164.50
$26,314.50
Assuming that this amount was paid to or retained by the
Appellant’s solicitors and assuming that it accurately
reflects the nature of the services provided, I can only conclude
that the fees include work done on matters not related to the
purchase and sale of Barcrest. For example, the reference to
partnership may reflect the Appellant’s involvement with
the Gasparetto group. If so, any legal fees which may have been
incurred with respect to the negotiations in that regard, or the
drafting or review of partnership agreements, cannot, on the
evidence before me, be considered as appropriate for inclusion in
the calculation of the ACB of Barcrest. The same comment applies
to “corporate documents, etc.” since there is no
evidence before me to indicate that there is any relationship
between the purchase and sale of Barcrest and whatever was done
in the context of “corporate documents”. It must also
be noted that based on his returns for the relevant taxation
years, the Appellant treated Barcrest as his personal property
and claimed a personal residence deduction on its disposition. Of
all of the expense items in issue, the fees specifically relating
to the acquisition/disposition of Barcrest should have been the
most simple to establish. I find it most difficult to comprehend
why this Appellant was given so little assistance in this
context.
(b) Legal - Furlong est. - $5,000.00: The Appellant testified
that this represented fees “for the arrangements of the
documents and additional advice on different matters during that
time in these difficult transactions with the equipment,
identifying, drawing up these contracts”. He also said that
a second amount referred to in the working papers as “Legal
- Another est. - $800.00” was a further account from
Furlong “for something that he did on these
transactions”.[34] According to the accountant’s working paper
these amounts are estimates and no invoices or other proof of
demand or payment were produced.[35]
(c) Sheriff - $25,000.00: It is clear from the documents
adduced and the Appellant’s testimony that this amount
refers to actions taken by the Sheriff in 1985 and 1986 on behalf
of the Appellant to collect on his judgment against the
Hermanns.
(d) McCarthy - est. - $70,000.00: This amount is the
Appellant’s estimate of certain legal costs and is made up
of the following items:[36]
(i) The amount of $45,245.98 represents legal fees paid to
McCarthy, Tetrault. In support, the Appellant referred to an
account dated January 27, 1989 in the amount of $45,000.00 for
“professional services rendered during the period
October 1, 1985 to December 31, 1988”. He says these
“legal costs” were incurred in respect of several
suits involving him and Ingle, including criminal charges
preferred against the Appellant at the instigation of Ingle, as
well as services rendered by Brown with respect to suits and
counter-suits involving the Hermanns. Given the fact that the
account covered an extended period of time, the Appellant was
specifically asked whether he could provide any information as to
what portion of that amount, if any, related to the acquisition
of Barcrest and was unable to do so.
(ii) “May 16, 1986 - Barcrest copyright - $123.00”
relates to another action by the Hermanns against the Appellant
while “Barcrest stallion - $235.00” reflects costs
incurred by the Appellant for the recovery of a horse from the
Hermanns in 1986. He concedes that neither expense relates to the
purchase or disposition of Barcrest.
(iii) The next two items listed are: “re: Hermanns
$5,000.00” and “re: Hermanns $10,000.00”.
According to the Appellant, the Hermanns paid him $10,000,00
“for the catering of the show sale of the horses”. In
the Appellant’s words:
... And subsequently there were action taken personally by the
Hermanns and there was a defence I believe --
His Honour: Action taken by the Hermanns?
Witness: Well, what happened is -- I guess it even went then
into actually with a final conviction of the Hermanns. One of
them was criminally convicted for that action, but that was what
set off a lot of bad activities on the side of the Hermanns
personally, rather than Barcrest farms. And the defence relating
to that was corresponded by John Brown.
Q. So?
A. It’s ---
Q. You paid it out to John Brown or the Hermanns paid you the
$5,000.00? I’m unclear of what you’ve just said.
A. I believe this was part of the money paid to John Brown in
regard to the defence.
The Appellant has failed to establish any connection between
these expenses and the Barcrest sale.
(iv) Insurance - $1,093.60 - This was another expense incurred
in the period of time when Barcrest was in receivership. The
Receiver apparently filed a suit against the Appellant with
respect to an allegation of trespassing by the Appellant’s
stock on the Barcrest property. Brown represented the Appellant.
This action clearly predates his acquisition of Barcrest and was
properly excluded by the Minister.
(v) Re: North Canadian Insco - $4,289.00 - The
Appellant’s response to Counsel’s questions with
respect to this item was as follows:
This would have related -- 1987 to 1988. So this would have
related to a defence action that I mentioned earlier such as
Ingle suing me.
The Appellant has conceded this occurred after he had acquired
Barcrest.
[56]It is not possible from the evidence before the Court to
determine what portion of this account, if any, related to work
performed by McCarthy, Tetrault with respect to the acquisition
of Barcrest. Furthermore, as I understood the Appellant,
Brown’s involvement was restricted to negotiations with the
Bank while the offer, as well as the arrangements for the
financing and so forth were attended to by Helson. All that was
elicited from the Appellant by his Counsel with respect to the
McCarthy’s account is found in the following exchange:
Question: Now, under McCarthy’s accounts there is the
item for $45,000.00 and some odd cents. And if we look to the
third page, we see McCarthy’s account by replacement
account. It says:
“Professional services rendered during the period
October 1st, 1985 to December 31st, 1988.”
Now, your testimony is that during this time, you negotiated
for the purchase of the property and your solicitors, negotiated,
were McCarthy’s John Brown. Would any part of that account
relate to negotiations for the purchase of the farm?
Answer: Yes.
This answer was, to put it bluntly, woefully inadequate, as
were the Appellant’s efforts to justify some of the
expenses that had been incurred in the course of his difficulties
with the Hermanns on the basis, as I understood him, that they
were all an inseparable part of a whole, i.e. the acquisition of
Barcrest. Although the Appellant sees this as part of the overall
process to acquire Barcrest, I am satisfied that this amount was
properly excluded by the Minister from the calculation of the
ACB.
[57]I have dealt with the expenses claimed by the Appellant in
his calculation of the adjusted cost base in somewhat more detail
than the specific items warranted, but I do so for a particular
reason. Although Counsel for the Appellant attempted to attribute
some of the Appellant’s claims to “aggressive
accounting”, in my view the inclusion of these amounts is
the responsibility of the Appellant. He is a well-educated
individual, has experience in the business world and bears the
responsibility for certifying that the information contained in
his return is true, correct and complete in every respect. His
attempt to justify the patently inappropriate deductions are
simply a further example of his lack of credibility. Given the
quality of the Appellant’s testimony on this and other
issues, I would be extremely loath to accept the accuracy of
these amounts both with respect to the nature of the work
performed and the alleged expenses incurred.
[58]I am not aware of any requirement in the Income Tax
Act mandating that expenses be supported by documentation
such as invoices, receipts or cancelled cheques. Given the onus
on the Appellant to demonstrate that the Minister’s
assessments were wrong, some acceptable and admissible evidence
must be presented to the Court. In this case, the lack of
credible evidence coupled with the absence of persuasive
documentation (even if for reasons beyond the Appellant’s
control) makes it impossible for this Court to conclude that the
Minister’s assessments were unwarranted.
[59]The appeals are dismissed, with costs.
Signed at Ottawa, Canada, this 18th day of September,
1998.
"A.A. Sarchuk"
J.T.C.C.
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