Citation: 2010TCC201
Date: 20100420
Docket: 2009-3522(IT)I
BETWEEN:
DHANWANTTIE CHARRAN,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
REASONS FOR JUDGMENT
Sheridan, J.
[1] The issue in
this Informal Procedure appeal is whether in the 2004 taxation year the Appellant
was entitled to an allowable business investment loss (ABIL) of $47,500.
[2] Pursuant to
paragraph 38(c) of the Income Tax Act, a taxpayer’s allowable
business investment loss for a taxation year from the disposition of any
property is ½ of the taxpayer’s business investment loss for the year from the
disposition of that property. Paragraph 39(1)(c) defines “business
investment loss” as:
…
39(1) For the
purposes of this Act,
…
(c) a
taxpayer’s business investment loss for a taxation year from the disposition of
any property is the amount, if any, by which the taxpayer’s capital loss for
the year from a disposition after 1977
(i) to
which subsection 50(1) applies, or
(ii) to a person with whom the taxpayer was dealing at arm’s
length of any property that is
…
(iv) a
debt owing to the taxpayer by a Canadian-controlled private corporation … that
is
(A)
a small business corporation,
(B)
a bankrupt (within the meaning assigned by subsection 128(3)) that
was a small business corporation at the time it last became a bankrupt, or
(C)
a corporation referred to in section 6 of the Winding-up Act that
was insolvent (within the meaning of that Act) and was a small business
corporation at the time a winding-up order under that Act was made in respect
of the corporation,
…
[3] The definition
of “small business corporation” appears in subsection 248(1):
“small
business corporation” - “small business corporation”, at any
particular time, means, subject to subsection 110.6(15), a particular
corporation that is a Canadian-controlled private corporation all or substantially
all of the fair market value of the assets of which at that time is
attributable to assets that are
(a)
used principally in an active business carried on primarily in Canada by the
particular corporation or by a corporation related to it,
(b)
shares of the capital stock or indebtedness of one or more small business
corporations that are at that time connected with the particular corporation
(within the meaning of subsection 186(4) on the assumption that the small
business corporation is at that time a "payer corporation" within the
meaning of that subsection), or
(c)
assets described in paragraphs (a) and (b), including, for the
purpose of paragraph 39(1)(c), a corporation that was at any time in the
12 months preceding that time a small business corporation, and, for the
purpose of this definition, the fair market value of a net income stabilization
account shall be deemed to be nil;
[4] Paragraph 50(1)(a)
provides:
50(1) For the
purposes of this subdivision, where
(a) a
debt owing to a taxpayer at the end of a taxation year (other than a debt owing
to the taxpayer in respect of the disposition of personal-use property) is
established by the taxpayer to have become a bad debt in the year, or
…
and the
taxpayer elects in the taxpayer’s return of income for the year to have this
subsection apply in respect of the debt or the share, as the case may be, the
taxpayer shall be deemed to have disposed of the debt or the share, as the case
may be, at the end of the year for proceeds equal to nil and to have reacquired
it immediately after the end of the year at a cost equal to nil.
[5] Subparagraph 40(2)(g)(ii) provides:
a taxpayer’s
loss, if any, from the disposition of a property, to the extent that it is
…
(ii) a loss from the disposition of a debt or other right to
receive an amount, unless the debt or right, as the case may be, was acquired
by the taxpayer for the purpose of gaining or producing income from a business
or property (other than exempt income) or as consideration for the disposition
of capital property to a person with whom the taxpayer was dealing at arm’s
length,
…
is nil;
[6] In Rich v.
Her Majesty the Queen[1], Rothstein, J.A. (as he then was) explained the
operation of the ABIL provisions:
The ABIL
Rules
4
In Fundamentals of Canadian Income Tax, 6th ed, (Toronto:
Carswell, 2000) at page 423, Professor Krishna explains that an ABIL is a
special type of capital loss that receives preferential treatment for income
tax purposes. An ABIL arises on the disposition of shares or a debt of a small
business corporation. A small business corporation is a Canadian-controlled
private corporation that uses all or substantially all of its assets in an
active business in Canada (see Income Tax Act, R.S.C. 1985 c. 1, (5th
Supp.) subsection 248(1)).
5
Unless a lender is in the money-lending business, a bad debt would
normally be treated as a capital loss. However, unlike ordinary capital losses,
which may be deducted only against capital gains, an ABIL may be deducted
against income from any source.
[7] It is common
ground that the Appellant was not a money lender and that the corporation in
question, Ontario Institute of Information Technology Inc. (“OIIT”) was a
“Canadian-controlled private corporation” in the business of teaching
information technology skills to students enrolled in its programs. Mr. Charran
was the president and sole shareholder of OIIT; at no time was the Appellant a
shareholder of OIIT.
[8] The Appellant
was represented at the hearing by her accountant, Frank Dimarco. Both she and
her husband, Dean Charran, testified at the hearing. There were no witnesses
for the Respondent.
[9] Sometime in
2001, OIIT began experiencing financial difficulties, probably because it had
over‑extended itself in acquiring computer equipment for use in its
business. Wishing to help her husband with his failing enterprise, between
August 2001 and March 2003, the Appellant made four withdrawals totalling
$95,000 from her solely held personal line of credit. Each of these amounts was
deposited into an account she held jointly with Mr. Charran. Once the funds
were in their joint chequing account, Mr. Charran wrote cheques to OIIT and
deposited them in the company’s account. Each of the withdrawals from the
Appellant’s line of credit was at some point described in a letter of acknowledgment[2] (referred to collectively as the “Letters of
Acknowledgment”). The amounts received by OIIT during this period were recorded
in its Financial Statements[3] under the heading “Shareholder Loan”.
[10] As it turned out,
by July 2003, OIIT’s financial difficulties had forced it to cease operations.
In June 2003, Mr. Charran notified the relevant provincial authority of OIIT’s
discontinuation of its activities in order to permit its students to be
transferred to another educational institution.
[11] In the end, the
Appellant never recovered the $95,000 withdrawn from her line of credit and had
to use her RRSP’s to repay it; in 2003 and 2004, she reported as income RRSP
withdrawals of $63,478 and $39,999, respectively. In her 2004 tax return, she claimed an
ABIL of $47,500 on the basis that in that year, she had incurred a loss in
respect of the $95,000 advanced to OIIT. It is from the disallowance of that loss
that she appeals.
[12] Looking again at Rich, the facts in the present
case are quite similar. In both cases, the taxpayers claimed an ABIL for an unrepaid
loan made to a company operated by a family member. Unlike the taxpayer in Rich,
the Appellant was not a shareholder. Paraphrasing the test applied in Rich,
to establish that she is entitled to an ABIL
of $47,500 the Appellant must satisfy all of the following criteria:
1. there
was a debt of $95,000 owed to the Appellant by OIIT;
2. the
debt was acquired for the purpose of gaining or producing income;
3. OIIT
was an eligible small business in 2004; and
4. the debt became bad
in 2004.
Was there a debt owed
to the Appellant by OIIT?
[13] The short answer is no. As in any tax appeal, the
Appellant had the onus of proving wrong the assumptions upon which the Minister
of National Revenue based his assessment. Because of various gaps and inconsistencies in the oral evidence
and the lack of reliable documentary evidence to support her
characterization of the transactions, I am not convinced that there was a debt
owed to the Appellant by OIIT. Rather, the evidence leads to the conclusion
that the advances from her line of credit were lent, more likely given, to her
husband for his use.
[14] Turning first to the
poor state of the company’s books and records, the Appellant had little to say
on this aspect of OIIT’s operations. Mr. Charran, however, blamed this
defect on the incompetence of the company’s former accountant and the general
chaos that ensued when the business began to fail. The only documents produced
in respect of the debt were the Letters of Acknowledgment pertaining to the
Appellant’s four advances. As is often the case in such circumstances, the
Appellant said that because of the personal nature of their relationship, she
and her husband did not think to prepare a formal written loan agreement
between her and OIIT.
[15] The lack of
supporting documentation is not necessarily fatal to a taxpayer’s contentions,
but it means there must be credible oral evidence to support the claims made.
In the present case, while the testimony of the Appellant and Mr. Charran
provided a plausible explanation for the absence of reliable records, it does
not suffice to overcome its effect. The Letters of Acknowledgment in themselves
are not particularly persuasive as they do not constitute a binding agreement
between OIIT and the Appellant. Notwithstanding the dates shown in them, it is
not clear to me when they were made or for what purpose. There is no reference in
them to a repayment schedule for the amounts allegedly advanced to the company,
hardly surprising since both the Appellant and Mr. Charran testified that this
matter had never been considered.
[16] There being no supporting documentation, what can be
gleaned from the oral evidence regarding the existence of a debt owed by OIIT
to the Appellant? The Appellant’s
representative, Mr. Dimarco, rejected the Minister’s position that because the
Appellant’s line of credit withdrawals were first deposited into a chequing account
she held jointly with her husband, no debt was owed to her by OIIT. The Appellant’s
explanation for having proceeded in this fashion was that, at the time, it was her
understanding that the terms of her line of credit precluded her from advancing
amounts directly into the company’s account.
[17] On its face, this
strikes me as an unlikely restriction; even if that had been the Appellant’s
belief, however, it should have been a simple matter to verify the conditions
attached to her line of credit account which, given the large sums involved and
the alleged purpose of the advances, would have been worth investigating.
[18] All in all, it
seems far more likely that the $95,000 withdrawn from the Appellant’s line of
credit between 2001-2003 was advanced not to OIIT but rather, to Mr. Charran.
Even though the Appellant made the funds available and, as a joint holder of
the chequing account, had authority to write cheques on that account, it was
Mr. Charran who wrote all four of the cheques to OIIT and deposited them in the
company’s account. Depositing the funds first into their joint bank made them
accessible to Mr. Charran who, as sole shareholder of the company, could write
cheques to track what was, at that time, most likely intended to be a shareholder
loan to OIIT. The company’s financial problems had made it impossible for Mr. Charran
to borrow additional funds from a third party lender. Only he was a shareholder
in OIIT and the company’s books refer only to a loan due to “the shareholder”.
(See Note 5 of Exhibit A-7.)
[19] Nor am I persuaded
by Mr. Charran’s explanation that this was merely a recording error of the
company’s former accountant. Later in his testimony, when trying to
substantiate the existence of an agreement for OIIT to pay the Appellant interest
of 8 per cent on the advances, Mr. Charran referred to his shareholder
loan. That, he said, was the rate he was being paid in respect of his
loan to the company. Notwithstanding this apparent contradiction, Mr. Charran
did not offer further clarification as to how the $95,000 allegedly advanced to
OIIT squared with that statement.
[20] In my view, the
evidence falls short of establishing the existence of a debt between OIIT and
the Appellant. While that is sufficient to dispose of the Appellant’s appeal,
in the event I am in error, I have considered the evidence in respect of the
other ABIL criteria as if there had been a debt owed to the Appellant by OIIT.
Was
the debt acquired for the purpose of producing income?
[21] Not being a
shareholder of OIIT, the Appellant’s only possibility for earning income on the
$95,000 lay in the company’s payment of interest on that amount. Even if the
Letters of Acknowledgment were to be accepted as a loan agreement, they made no
provision for the payment of interest to the Appellant. There was no other written
agreement for the payment of interest and I did not find at all convincing Mr. Charran’s testimony that there had been
an oral agreement between OIIT and the Appellant for the payment of interest at
a rate of 8 per cent. In support of his contention, he cited two reasons for having
decided upon a rate of 8 per cent: first, that was what it was costing the
Appellant to borrow the funds on her line of credit; and further, that was the
rate he was receiving under his shareholder loan agreement with OIIT.
[22] If the first
statement were true, the Appellant would have had no opportunity to earn income
on the $95,000 as with a return of 8 per cent, she could have done no more than
break even on her cost of borrowing. As to Mr. Charran’s second
justification, the weakness of his evidence in this regard has been discussed
above.
[23] In these
circumstances, there is no credible evidence that the Appellant acquired the
debt for the purpose of gaining or producing income.
Was OIIT an eligible small
business in 2004?
[24] No. As discussed further in the following paragraph, both
the Appellant and Mr. Charran testified that by mid-2003, OIIT was no longer in
“active” business as required under the definition in subsection 248(1). Mr.
Charran testified that no books and records were kept in 2004 because the
company had ceased its operations prior to that time.
Did the debt become
bad in 2004?
[25] To qualify for an ABIL in 2004, the debt owed to the
Appellant by OIIT must have become bad in that taxation year. The evidence,
however, leads to the conclusion that if there was a debt, it became bad in
2003. The evidence shows that OIIT stopped operating in 2003 when, according to
the testimony of both the Appellant and Mr. Charran, it became “insolvent”. By
that time, OIIT had lost the accreditation necessary to carry on as an
educational institution; from this it can be inferred that without students, it
had no means of generating income. Furthermore, its assets were already so encumbered
by 2001 that they were unavailable either as security for the Appellant’s
advances or to permit Mr. Charran to borrow any further amounts from third
party lenders. The Appellant was candid in her testimony that at least by July
2003, she believed she had no hope of recovering the $95,000 she had advanced
from her line of credit. Her words are supported by her actions; in 2003, the
Appellant withdrew some $63,000 from her RRSP account to retire a substantial
portion of her line of credit debt. Had there been any hope of repayment from
OIIT in 2003, it is unlikely that she would have taken such a drastic step; not
only did it reduce the balance in her RRSP account, it also triggered tax on
the amount withdrawn. In these circumstances, I am satisfied that the debt
became bad in 2003.
[26] While I have no
doubt that the Appellant incurred a significant loss in her efforts to help her
husband, I am unable to conclude on the evidence presented that that loss is
deductible under the ABIL criteria. Accordingly, the appeal from the reassessment
of the 2004 taxation year must be dismissed.
Signed at Ottawa, Canada, this 20th day of April, 2010.
“G. A. Sheridan”
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