Citation: 2006TCC519
Date: 20060926
Docket: 2004-3569(IT)G
BETWEEN:
HOWARD SPILLMAN,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
REASONS FOR JUDGMENT
Beaubier, J.
[1] This appeal pursuant to the General Procedure was heard in Toronto, Ontario, on September 11, 2006. The Appellant testified and called his daughter, Denise Lipson.
[2] The particulars in dispute are set out in paragraphs 5 to 13A of the Amended Reply to the Notice of Appeal. They read:
5. The Appellant in computing and reporting his income for the 2002 taxation year claimed a business investment loss of $379,607 the allowable portion thereof being $189,804.
6. In assessing the Appellant for the 2002 taxation year, notice of which was dated December 8, 2003, the Minister disallowed the Appellant's claim for the allowable business investment loss of $189,804.
7. The Appellant objected to the Notice of Assessment, dated December 8, 2003, in respect of his 2002 taxation year by letter dated February 10, 2004.
8. The Minister, by Notice of Confirmation dated June 7, 2004, confirmed the assessment for the 2002 taxation year referred to in paragraph 7 above.
9. The Appellant has failed to establish that he made shareholder loans to Fitkid York of $379,607 which became a bad debt in the 2002 taxation year.
10. In so confirming the Appellant's tax liability for the 2002 taxation year, the Minister made the following assumptions of fact:
(a) the facts hereinbefore admitted or stated;
(b) the Appellant was not a shareholder of Fitkid York;
(c) Johaden Investments Ltd. ("Johaden") owned 100% of the outstanding shares of Fitkid York;
(d) Johaden was owned as to 100% by the Spillman Family Trust;
(e) any loans made by the Appellant to Fitkid York were non-interest bearing;
(f) Fitkid York has repaid a portion of the loans referred to in subparagraph (e) above;
(g) Fitkid York ceased operation on April 15, 2000 when the landlord closed it premises;
(h) the debt owed to the Appellant was not a bad debt in the 2002 taxation year;
(i) there was no debt owing to the Appellant by a Canadian-controlled private corporation in his 2002 taxation year which debt was acquired for the purpose of gaining or producing income from a business or property; and
(j) the Appellant did not suffer a business investment loss in the 2002 taxation year.
10A. The Respondent will rely on the following facts at the hearing of the appeal:
(a) the Appellant did not advance a total of $379,607 to Fitkid York; and
(b) Fitkid York did not owe $379,607 to the Appellant in 2002.
B. ISSUES TO BE DECIDED
11. The issue is whether the Appellant is entitled to claim a business investment loss of $379,607 the allowable portion thereof being $189,804 in the 2002 taxation year.
C. STATUTORY PROVISIONS, GROUNDS RELIED ON, AND RELIEF SOUGHT
12. He relies, inter alia, on sections 3, 111, 230, subsections 248(1), 50(1), paragraphs 18(1)(a), 20(1)(c), 38(c), 39(1)(b), 39(1)(c) and 40(2)(g) of the Income Tax Act (the "Act").
13. He submits that the Appellant was not a shareholder of Fitkid York, and that the Appellant did not receive any consideration for the loans and guarantee that he made to Fitkid York. The loans made by the Appellant were not made for the purpose of gaining or producing income from a business or property and therefore, in accordance with subparagraph 40(2)(g)(ii) of the Act, the Appellant's loss, if any, is nil.
13A. In addition, Fitkid York did not owe a debt of $379,607 to the Appellant in 2002. Accordingly, the Appellant did not incur a business investment loss of $379,607 in the 2002 taxation year pursuant to paragraph 39(1)(c) of the Act.
[3] Respecting paragraphs 9 and 10, everything was disputed and these will be dealt with in the following paragraph. However, the evidence is clear that Fitkid (York) Inc. ("Fitkid York") was a Canadian controlled private corporation which began carrying on an active business in metropolitan Torontoand continued to do so until April 15, 2000. It employed in excess of 10 people and, including part time employees, at times in excess of 60 people conducting swimming, gymnastic and other physical fitness activities for about 2,000 - 2,800 children at its peak of activities between the late 1980's and 2000. The Appellant, a dentist who obtained his DDS at the University of Torontoin 1962, practised and still practises dentistry in metropolitan Torontoand has been active in various other business enterprises throughout his career. In September 1986, he became a shareholder in Fitkid York, with 25 shares equalling 25% of Fitkid York which were held in trust for him by Johaden Investments Ltd. ("Johaden") effective July 25, 1986. (Exhibit A-1, Tabs 4 and 2). He also became a director of Fitkid York at that time.
[4] Fitkid York's financial statement dated June 30, 1987 establishes that at that date, the Appellant's shareholder loans to Fitkid York amounted to $199,000. Note 2 states that this will be converted to capital at a later date upon finalization of the shareholders' agreements. (Exhibit A-1, Tab1). Fitkid York's January 31, 1988 financial statement establishes that the Appellant's shareholder loan was then $258,450, bearing interest at prime + 1½% with no fixed terms of repayment (Exhibit A-1, Tab 1); therefore the Court finds there to be interest due on any of Fitkid York's shareholder loans until January 31, 1993, when Note 6 to the financial statements describes these loans as non-interest bearing and due on demand, after which they have remained so. The December 8, 1989 financial statement of Fitkid York shows the Appellant's shareholder's loan to be $304,230. (Exhibit A-1, Tab 1).
[5] On December 8, 1989, the Appellant took control of Fitkid York when it was in serious financial difficulties. Its payroll was due and the other shareholders were not prepared to advance more money to meet it. The Appellant agreed to assume $120,000 of a CIBC loan guaranteed in full by 25% shareholders Iseman (title in 704176 Ontario Limited, Certificate #3) and Foster (title in Faward Holdings Ltd., Certificate #2), (Exhibit A-1, Tab 3) and they assumed the rest of that loan to Fitkid York of $202,000 (Exhibit A-1, Tab 1); in return, the Appellant testified that he was transferred their shares and their shareholder's loans of:
Iseman (704176) $140,504
Foster (Faward) $163,326
Total $303,830
In addition, and for the aforesaid consideration, the Appellant testified that he also acquired 10 shares from Rubinoff (title in 698104 Ontario Inc., Certificate #4), (Exhibit A-1, Tab 3). The actual transfers of the shares are dated January 8, 1990, and title to the 60 shares in Fitkid York was issued in Johaden's name on that date in share certificate #5.
[6] In December, 1989, Dr. Spillman's daughter, Denise Lipson, became the operating officer of Fitkid York. Commencing then, Dr. Spillman loaned Fitkid York occasional lump sums of $10,000 or more, and on one occasion $25,000 to meet its liabilities. Denise reduced payroll, tightened administration and within less than 5 years, Fitkid York was not receiving any loans from Dr. Spillman and began to repay him. These loans were made by cheques and bank transfers, none of the records of which are now available except by way of Fitkid York's annual financial statements. The Court accepts those financial statements as evidence of these loans and repayments.
[7] Based upon Fitkid York's financial statements and Dr. Spillman's testimony, the Court finds the annual record of shareholder loans by Dr. Spillman to Fitkid York and its repayments to him to be as follows:
|
Year
|
Shareholder Loan Balance
|
Loaned
|
Repaid
|
|
December 8, 1989
|
$ 303,830
+ $ 304,230
$ 608,060
|
|
|
|
January 31, 1990
(Ex A-7)
|
$ 771,060
|
$ 163,000
|
|
|
January 31, 1991
(Ex A-9)
|
|
$ 198,365
|
|
|
January 31, 1992
(Ex A-9)
|
|
|
$ 48,198
|
|
January 31, 1993
(Ex A-9)
|
|
|
$ 170,594
|
|
January 31, 1994
(Ex A-9)
|
|
|
$ 121,667.64
|
|
January 31, 1995
|
|
|
$ 149,673.68
|
|
January 31, 1996
|
|
|
$ 111,491.22
|
Sometime in calendar year 1996, Dr. Spillman bought out Rubinoff and his shareholder's loan which had totalled $101,129 on December 8, 1989. Rubinoff's remaining 15 shares were transferred to Johaden. Rubinoff was paid over time. As a result, on the January 31, 1997 statement, all of the shareholder loans owed by Fitkid York were owed to Dr. Spillman.
|
Year
|
Shareholder Loan Balance
|
Loaned
|
Repaid
|
|
January 31, 1997
|
$ 398,965
|
|
$ 65,810
|
|
January 31, 1998
|
$ 348,348
|
|
$ 50,617
|
|
January 31, 1999
|
$ 294,830
|
|
$ 53,518
|
|
January 31, 2000
|
$ 248,525
|
|
$ 46,305
|
On April 14, 2000, Fitkid York was locked out of its swimming pool and gymnasium premises and began a lawsuit against its erstwhile landlord and the landlord's agent which it eventually won, but the damages awarded were not recoverable. As a result Fitkid York's business collapsed; while it replaced the gymnasium activities, it was unable to replace the swimming pool. Dr. Spillman advanced the money to Fitkid York to finance the suit against the landlord and the landlord's agent. As a result his shareholder's loans again began to increase.
|
Year
|
Shareholder Loan Balance
|
Loaned
|
Repaid
|
|
January 31, 2002
|
$ 325,703
|
$ 77,178
|
|
|
January 31, 2003
|
$ 379,607
|
$ 53,904
|
|
(All of the foregoing columns of amounts are verified by Fitkid York's financial statements. None of the actual numbers were challenged in cross-examination.)
The landlord defaulted. When the lawsuit was successful and recovery against the agent proved impossible in 2002, Fitkid York's remaining non-swimming business had collapsed and nothing was left. The Appellant treated the $379,607 as a bad debt.
[8] In essence, the Respondent raised two fundamental arguments:
1. Dr. Spillman did not pay anything for the shareholder loans that he acquired from the other shareholders.
2. Dr. Spillman did not pay Fitkid York or anyone else the money he now says is a bad debt owed to him by Fitkid York.
The Income Tax Act merely requires that Dr. Spillman "acquire" a "debt for the purpose of gaining or producing income from a business" (paragraph 40(2)(g)). In the Court's view, Dr. Spillman did pay consideration when he assumed the $120,000 guarantee of Fitkid York's liability to CIBC from Iseman and Foster and either directly or impliedly undertook to make shareholder loans to Fitkid York to keep it operating on December 8, 1989, which he did. Similarly, Dr. Spillman's payout of Rubinoff in 1996 was the payment of consideration for the transfer of Rubinoff's debt from Fitkid York, which Dr. Spillman acquired then.
[9] The parties to these debt acquisitions were businessmen. There is no evidence that they were related in any way. Dr. Spillman paid the vendors the fair market value of the debts at that time based upon Fitkid York's prospects and the prospects that those debts would be paid.
[10] Exhibit A-1, Tab 2, the trust agreement executed by Johaden is only for the Appellant's original 25 shares. For this reason, the Court finds that the Appellant had 25 shares in Fitkid York, but that all of the other shares transferred to Johaden (which finally totally 75 shares) were, in fact and in law, Johaden's. The only documents evidencing the shareholder loans, which are the subject of this litigation, are Fitkid York's financial statements. In one phrase or another, these financial statements specifically describe them as "Advances from shareholders". Dr. Spillman testified that these were, or became, his by transfer or assignment as the other shareholders sold their interests to him personally; or that he actually lent the money. After 1996 Dr. Spillman and Johaden were the only shareholders. The evidence, which is accepted, is that the only person lending money to Fitkid York or paying out the other shareholders or assuming gurantees at the bank was Dr. Spillman. He was always the owner of his first 25 shares. Therefore, the Court finds that the financial statements verify Dr. Spillman's testimony that the shareholder loans were his personally, whether he lent the money or was assigned the loans from the other shareholders when he executed guarantees or paid other consideration to the other shareholders.
[11] Fitkid York and its sole shareholder and operating director, Dr. Spillman, have the right to elect when a debt is bad. The facts described and logic support them in their decision that the landlord's agent's debt to Fitkid York was bad in 2002 and, in turn, Fitkid York's debt to Dr. Spillman was bad in 2002.
[12] The Court finds that Fitkid York owed $379,607 to the Appellant in 2002 and that the Appellant incurred a business investment loss of $379,607 in the 2002 tax year pursuant to paragraph 39(1)(c) of the Income Tax Act in 2002.
[13] For these reasons, the appeal is allowed and this matter is referred to the Minister of National Revenue for reconsideration and reassessment accordingly. The Appellant is awarded his party and party costs.
Signed at Saskatoon, Saskatchewan, this 26th day of September 2006.
"D.W. Beaubier"
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