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Citation: 2004TCC517
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Date: 20040730
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Docket: 2001-2796(IT)G
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BETWEEN:
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OTTERBROOK PERCHERONS LIMITED
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Appellant,
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and
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HER MAJESTY THE QUEEN,
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Respondent.
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REASONS FOR JUDGMENT
Paris, J.
[1] Kenneth Creelman and Ross Creelman
are father and son, and are equal shareholders through personal
holding companies in several companies that produce wood products
in New Brunswick and Nova Scotia. The Creelman family has been
involved in this business since the 1920's when Kenneth's
father, Horace Creelman, started out logging and milling lumber.
Three generations have built up the business to the point where
the Creelman group of companies now employs close to 400 workers,
and has annual sales of approximately $80 million. The companies'
products include treated wood, utility poles, deck accessories,
wood siding and wood pellets.
[2] Kenneth and Ross are also equal
shareholders in the Appellant, whose only activity (the
"Activity") is exhibiting Percheron horses at shows and
parades in Canada and the United States. Percheron horses are a
breed of work horses although they now appear to be used mostly
as show animals. The Appellant exhibits the horses as a form of
advertising for Cape Cod Finished Wood Siding, one of the
Creelman's wood products, manufactured originally by Marwood
Inc. and, after September 1, 1995, by Atlantic Pressure Treating
Ltd. ("APT").[1]
[3] In 1995, 1996 and 1997, the
Appellant incurred large losses from its operations, and reported
those losses as losses from a business in its returns of income.
The Minister of National Revenue, by Notices of Determination of
Losses, has denied those losses on the basis that there was no
source of income, and the Appellant appeals that decision.
Issues
[4] The issues in this appeal are:
(i) Whether the question of
whether the Appellant carried on the Activity for profit or with
a reasonable expectation of profit is res judicata;
(ii) Whether the Appellant
carried on the Activity for profit or with a reasonable
expectation of profit such that it constituted a source of income
under the Income Tax Act[2] (the "Act.");
(iii) Whether the expenses incurred in
the Activity were laid out to earn income from business; and
(iv) In the alternative, whether the
Appellant was acting as the agent of Marwood or APT for the
purpose of carrying on the Activity.
Is the question before the Court res
judicata?
[5] The Appellant's counsel takes
the position that the issue of whether or not the Appellant was
carrying on the Activity for profit or with a reasonable
expectation of profit has already been determined in the
Appellant's favour by this Court in an earlier appeal filed
by the Appellant from a reassessment of GST. In his submission,
the rule of res judicata prevents the Respondent from
challenging that determination again in these proceedings.
[6] The evidence shows that the
Appellant was reassessed under the Excise Tax Act[3],
("E.T.A.") on March 6, 1998 to disallow its
claim for all input tax credits it claimed for the periods
between March 1, 1994 and October 31, 1997. The input tax credits
were disallowed on the basis that the Appellant's sole
Activity of raising and exhibiting Percheron horses was not
carried on for profit, or with a reasonable expectation of
profit.
[7] The Appellant appealed that
reassessment to this Court by Notice of Appeal dated March 17,
2000. The Appellant and the Respondent subsequently entered into
a Consent to Judgment in the matter which read as follows:
The Appellant and the Respondent consent to judgment allowing
the appeal with respect to an assessment under Part IX of the
Excise Tax Act for the period March 1, 1994 to October 31,
1997, by Notice of Assessment No. 01CB0303163 dated March 6,
1998, and referring the matter back to the Minster of National
Revenue for reconsideration and reassessment on the basis that
the Appellant is entitled to the input tax credits claimed in the
period under appeal totalling $83,370.53.
[8] Judgment was issued by this Court
accordingly.
[9] In order for issue estoppel to
apply the following conditions, as set out in the House of Lords
decision in Carl Zeiss Stiftung v. Rayner & Keeler Ltd.
(No. 2)[4]
must be met:
1. The same question must
have been decided by a Court in earlier proceedings;
2. The judicial decision
which is said to create the estoppel must be final; and,
3. The parties to the
judicial decision or their privies must be the same persons as
the parties to the proceedings in which the estoppel is raised or
their privies.
[10] It is not disputed that the second and
third conditions set out above have been met in this case.
[11] With respect to the first condition, it
must be shown that the question sought to be estopped has been
clearly and unequivocally decided by a Court in another
proceeding. "It is not necessary to show that the issue is
specifically decided so long as it can be shown that it was a
necessary logical consequence of the point actually decided. It
is pure logic, not probability, likelihood or speculation"[5].
[12] It has been held that issue estoppel
may arise, therefore, with respect to an unstated premise
underlying a Consent to Judgment[6] where that premise is pre-requisite to the
conclusion reached by the parties in the consent document.
[13] The Consent to Judgment form in this
case sets out only that the Appellant is entitled to the input
tax credits that it had claimed. It does not set out any
additional facts or the reasoning by which the parties arrived at
that conclusion.
[14] Given that the Consent to Judgment does
not specifically address the question of profit motive or
reasonable expectation of profit in carrying on the Activity, the
Appellant's counsel asks me to infer that an admission that
the Appellant had a profit motive and a reasonable expectation of
profit in carrying on the Activity was made because it was a
pre-requisite of the Appellant's entitlement to the input tax
credits under the E.T.A. I am not satisfied that this is
correct.
[15] I am unable to conclude that the
Consent to Judgment was based on an admission that the
Appellant's Activity was carried on for profit or with a
reasonable expectation of profit because the Appellant's
entitlement to input tax credits was not dependent on it
fulfilling either of these conditions. A corporation may claim
input tax credits regardless of whether it carries on its
activities for profit or with a reasonable expectation of profit.
This flows from the definition of "business" and
"commercial activity" found in Paragraph 123(1) of the
E.T.A.
"business" includes a profession, calling,
trade, manufacture or undertaking of any kind whatever, whether
the activity or undertaking is engaged in for profit, and any
activity engaged in on a regular or continuous basis that
involves the supply of property by way of lease, licence or
similar arrangement, but does not include an office or
employment;
"commercial activity" of a person means
(a) a business
carried on by the person (other than a business carried on
without a reasonable expectation of profit by an individual, a
personal trust or a partnership, all of the members of which are
individuals), except to the extent to which the business involves
the making of exempt supplies by the person.
(b) an adventure or
concern of the person in the nature of trade (other than an
adventure or concern engaged in without a reasonable expectation
of profit by an individual, a personal trust or a partnership,
all of the members of which are individuals), except to the
extent to which the adventure or concern involves the making of
exempt supplies by the person, and
(c) the making of a
supply (other than an exempt supply) by the person of real
property of the person, including anything done by the person in
the course of or in connection with the making of the supply;
[16] Consequently, the assumptions to which
I have referred relating to profit motive and reasonable
expectation of profit that were made by the Minister in assessing
the Appellant to disallow the input tax credits did not provide a
basis in law for the assessment nor would they provide a basis in
law for the Consent to Judgment. I can draw no inference from the
Consent to Judgment that the Consent was based on the admission
alleged by the Appellant. Therefore, I find that the Appellant
has not shown that the same issue before the Court in this case
has previously been decided between the parties, and no issue
estoppel has been made out.
Did the Appellant's Activity constitute a
source of income?
Factual Background
[17] Ross Creelman, his brother Doug, and
Mike Kimball, an accountant for the Creelman group testified for
the Appellant.
[18] Ross Creelman joined the family
business in the mid-1970's and has worked in an executive
capacity with the family companies since then. Doug Creelman
first joined the family business in around 1988 and was later
responsible for setting up a wood siding operation near
Halifax.
[19] The wood siding operation was a new
venture for the Creelman family. Marwood had acquired a defunct
woodworking plant in Hammond Plain, Nova Scotia in about 1992,
and Doug conceived a plan to manufacture painted pine wood siding
there. This coincided with Ross's desire to expand the family
business to include more value-added wood products. Production of
the siding began in 1993 under the name of Cape Cod Wood Siding.
Sales increased dramatically each year and reached over $11
million in its latest fiscal year.
[20] As the name would suggest, Cape Cod
Wood Siding is used to give a traditional appearance to
buildings, and the target market for the siding was upscale
residential and small commercial buildings. In order to develop
the Cape Cod brand in these markets, Ross and his father decided
to purchase a team of Percheron horses and to exhibit the horses
at shows in Canada and the United States. Their investigations
had shown that the high-income potential customers often attended
horse shows.
[21] The Creelmans chose Percherons as the
symbol for Cape Cod Wood Siding because of their beauty, strength
and durability, the same image they wished to project for the
siding. Percherons had also been used in the early days of
logging in the Maritimes, to haul logs to the mill and lumber to
port, and the use of the horse in advertising highlighted this
heritage.
[22] At the horse shows, the Percherons were
exhibited in a hitch of eight horses, with a wagon bearing the
name of Cape Cod Wood Siding and the corporate logo. Booths were
also set up at the shows to distribute literature and talk with
potential customers. Ross claimed that significant sales of
siding have been made in geographic areas where horse shows have
been attended and gave examples of contacts made at the shows
which have led to large orders and product placement in building
supply stores. The Percherons have been exhibited at shows in
many states such as Florida, Michigan, Kentucky, South Carolina,
Illinois, Massachusetts, New York and Pennsylvania and several
provinces.
[23] Ross Creelman noted that horses such as
Percherons and Clydesdales are used by large corporations such as
Heinz, Budweiser, Petsmart, and Lowes Building Supplies in the
United States for advertising purposes and have been very
successful in promoting those brands.
Relevant Law
[24] The Supreme Court of Canada has held in
Stewart v. Her Majesty the Queen[7] that the following two
stage approach is employed in order to determine whether a
taxpayer's endeavour constitutes a business or property source of
income under the Act:
(i) Is the Activity of the
taxpayer undertaken in pursuit of profit, or is it a personal
endeavour;
(ii) If it is not a personal
endeavour, is the source of the income a business or
property.
The Court went on to say that equating "source of
income" with an Activity undertaken "in pursuit of
profit" accords with the traditional common law definition
of "business" ie., "anything which occupies the
time and attention and labour of a man for the purpose of
profit".
[25] Where there is a personal element to
the Activity or endeavour, a taxpayer must be able to show that
his predominant intention was to make a profit from the Activity
and that the Activity was carried out in a sufficiently
commercial fashion.
Was there a personal element to the Activity?
[26] According to the Reply to Notice of
Appeal in this case, the Minister assumed that the Appellant was
not carrying on the Activity for profit. He also assumed that
there was a personal element to the Activity in that it provided
a recreation or pastime for Kenneth Creelman, and that the
Appellant had no reasonable expectation of profit.
[27] However, at the hearing, the auditor
who prepared the loss determinations gave evidence that he did
not conclude that the Appellant's operations contained any
personal element or provided any personal benefit to Kenneth
Creelman or any other person. He denied that he formed the view
in the course of his audit that "Kenneth Creelman had a
personal hobby interest in the Activity and derived a personal
benefit and enjoyment from the Activity" as set out in
paragraph 18(j) of the Reply to Notice of Appeal. In his words,
any such personal element was "insignificant".
[28] Given that this assumption was not made
in the course of determining the Appellant's losses, the onus to
prove it lies on the Respondent. I am not satisfied that the
Respondent has met this onus. Kenneth Creelman did not testify
due to ill health, but Ross, and his brother, Doug, both denied
that the Appellant's activities were conducted as a hobby for
their father. In fact, the only evidence before me that the
Activity contained a personal element was a statement in a
newspaper article that stated the Percherons were a hobby for Ken
Creelman as well as a promotional vehicle for Cape Cod Finished
Wood Siding. The author of the article was not called to testify
to determine the source of his statement, and as such it
constitutes hearsay and is inadmissible. On the question of the
existence of a personal element, I accept the evidence of Ross
and Doug Creelman and find that no such element was present in
the Appellant's Activity.
Was the Appellant conducting Activities for profit?
[29] Ross Creelman testified that the
Appellant was set up as a separate corporation primarily to limit
the liability of the operating companies for any damage or injury
that the Percheron horses might cause at the exhibitions in
Canada and the United States. The Appellant's operations were
funded by a related company, Ashmore Ltd., through inter-company
loans. The Appellant was to receive payment from Marwood and from
APT after September 1995 for its services advertising Cape Cod
Finished Wood Siding. This contract was not put in writing but
the parties had agreed on the fact that the Appellant would be
paid and, in its first year, Marwood paid the Appellant $270,000
for its services.
[30] However, the Appellant did not invoice
Marwood in 1995 nor APT in 1996 or 1997 for the advertising work.
According to the company's accountant, Mike Kimball, the
Creelman group suffered a loss as a whole for the first time in
its history, due to adverse economic circumstances, and when he
was preparing the financial statements for the companies in the
group he recommended that the Appellant defer charging
advertising fees until the companies returned to profitability.
This suggestion was accepted and the deferral continued through
the three years under appeal. Mr. Kimball emphasized that the
deferral of the advertising fees was only temporary, and that
Marwood and APT intended to pay the fees as soon as it was
able. The intention that the Appellant was to charge fees for the
use of the horses to advertise the Cape Cod Wood Siding was
confirmed by Ross Creelman, as was the arrangement to defer
charging for the advertising until Marwood and APT were back in
the black. Neither of these witnesses were challenged on this
evidence in cross-examination.
[31] Although it is not entirely clear, it
appears that the fees were not subsequently paid, but rather that
the Appellant was amalgamated with APT. This would have resulted
in the debt owed by APT to the Appellant disappearing as a result
of the merger of the debtor with the creditor.
[32] It is interesting to note that the
auditor for Revenue Canada who made the loss determinations
stated in his testimony that, had Marwood and APT been invoiced
for the advertising that the Appellant did for it, he would have
allowed them to deduct those expenses. He said that he considered
that the way in which a company chose to advertise was a business
decision and that he would have seen no reason to disallow it. It
was clear that Marwood was allowed a deduction for the $270,000
payment it made to the Appellant in 1994.
[33] The evidence satisfies me that there
was a contract between Marwood and the Appellant in 1995 and
between APT and the Appellant in 1996 and 1997 to pay fees for
advertising sufficient to cover the Appellant's costs. Along with
prize money from exhibitions and receipts from the sale of horses
that were no longer needed in the operation, the fees would have
been sufficient to make the Appellant profitable. This confirms
that the Appellant was carrying on business with a view to a
profit, and therefore had a business source of income within the
meaning of section 3 of the Act.
Were the expenses of the Appellant's Activity incurred for
the purpose of gaining or producing income from a business?
[34] The Respondent also pleaded in the
Reply to Notice of Appeal that the disallowed amounts were not
incurred for the purpose of gaining or producing income from a
business or property and that their deduction was prohibited by
paragraph 18(1)(a) of the Act. This argument was
raised for the first time in the Reply to Notice of Appeal. In
the loss determinations in issue the auditor did not disallow the
deduction of any particular expense or expenses; he denied the
losses claimed by the Appellant on the basis that it did not
carry on its Activity for profit or with a reasonable expectation
of profit and therefore that there was no source of income from
which the losses could be said to have arisen.
[35] Since the question of deductibility of
expenses issue was not part of the original basis for the loss
determinations, the onus to prove that the expenses were not laid
out to earn income is on the Respondent. In this case, there was
no evidence of any non-business purpose to the expenditures made
by the Appellant, and no evidence that they were not, in the
words of Wilson J. in Mattabi MinesLtd. v. Ontario
(Min. of Revenue)[8]"legitimate expense[s] made in the ordinary
course of business with the intention that the company could
generate a taxable income some time in the future" and
therefore there is no basis for disallowing them pursuant to
paragraph 18(1)(a) of the Act. The Respondent has
not made out its case on this issue.
Was the Appellant acting as agent for ATP?
[36] The Appellant's counsel also argued in
the alternative that the Appellant carried on the Activity as
agent for Marwood and ATP. He also said that the separate
corporate existence of the Appellant could be ignored because of
the common ownership structure of the Creelman group of companies
and the fact that the companies had common directors and
management.
[37] However, even if I were to find that
the Appellant was acting as the agent for Marwood and ATP, this
would not allow me to give the Appellant the relief it is seeking
in this appeal. As pointed out by counsel for the Respondent, if
the Appellant incurred the expenses of its horse operation on
behalf of another party, the expenses would be the expenses of
that other party and not those of the Appellant. In law, the
actions of an agent are treated as the actions of the principal,
and the tax consequences of the agent's activities are
attributed to the principal. In this case, if the Appellant were
to succeed on this point, it would mean that Marwood and APT
should have claimed the expenses of the Activity in the
calculation of their income in the relevant taxation years and
that the Appellant would not be able to deduct the expenses
itself, and would not have any losses in those years.
[38] Counsel for the Appellant suggested
that a finding that the Appellant was acting as agent for Marwood
and APT would oblige the Minister to reassess the latter
companies for the relevant taxation years to allow them to deduct
the losses claimed by the Appellant. The short answer to this
submission is that the assessments of those taxpayers are not
before me and I would have no jurisdiction to require the
Minister to make any changes to those assessments.
[39] In any case the evidence does not show
that the Appellant was acting as agent for any other party in
carrying on the horse operation. Agency is a contractual
relationship and in this case there is no evidence of an
agreement, written or otherwise, making the Appellant the agent
of Marwood or APT. The fact that the Appellant was set up as a
separate company to provide the operating company with protection
from any liability that might arise as a result of exhibiting the
horses tends to contradict this suggestion. If the Appellant were
agent for Marwood or APT, the principals Marwood or APT would
still be liable in tort for the Appellant's actions despite
the Appellant being a separate corporation, thus defeating the
main purpose for which it was set up. It was not shown that the
Appellant or Marwood or APT ever represented to any other party
that the alleged agency arrangement existed. In the absence of
any convincing evidence of such an arrangement, I find that the
Appellant was at all time acting on its own behalf, and there is
no basis for disregarding its separate legal existence from
Marwood and APT. In this regard I would repeat what was said by
Cattanach, J. in Denison Mines Ltd. v. the Minster of National
Revenue[9] :
...it is important to bear in mind that limited companies
that carry on businesses are separate taxable persons and the
profits of their respective businesses are separate taxable
profits whether or not one be the subsidiary of the other. Any
attempt to erode this principle must be based upon clear and
unequivocable facts leading to the irrebutable conclusion that
one legal entity is acting as the agent of another and that legal
entity is really doing the business of the other and not its own
at all.
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