Date: 20010803
Docket: 2000-2480-IT-I, 2000-2481-IT-I
BETWEEN:
EDWARD J. PRICE, LORRAINE L. PRICE,
Appellants,
and
HER MAJESTY THE QUEEN,
Respondent.
Reasons for Judgment
Hershfield, J.T.C.C.
[1]
These appeals were heard together and are in respect of
reassessments of each Appellant's 1994, 1995, 1996 and 1997
taxation years.
[2]
The Appellants are husband and wife who have operated an Amway
distributorship or sales business under the name of J. & L.
Enterprises (J & L) in equal partnership with each other since
1991. From 1992 through 1997 each of the Appellants reported the
following incomes. The gross business incomes are at the
partnership level (i.e. J & L's gross income from Amway
activities). The net losses are those claimed by each of the
Appellants at the partner level.
Edward J. Price
Year
1992
1993
1994
1995
1996
1997
Employment
$
$33,781 $51,291
$14,254
Family
allowance
418
Employment
Insurance
14,311
Interest
797
476
538
718
245 72
RRSP
7,500
36,000 20,000
Rental Income
Gross
1,700 3,250
Net
-5,036 -4,936
Business Income
Gross
38,542 40,399
38,355 170,824
219,162 216,930
Net
-5,436
-5,036
-5,071
-8,974 -15,280
-11,427
Total Income
$10,090 $28,427
$41,822 $13,498
$20,965 $8,645
Lorraine L. Price
Year
1992
1993
1994
1995
1996
1997
Employment
$11,390
$ 5,274
Employment
Insurance
395
7,661
550
2,200
Interest
957
476
59
727
166 72
RRSP
16,211 25,000
20,000
Business Income
Gross
38,542 40,399
38,542 170,824
219,162 216,930
Net
-5,436
-5,036
-5,436
-8,974 -15,280
-11,427
Total Income
$ 7,306 $28,427[1] $ 812
$10,164 $
9,886 $8,645
[3]
Income statements in respect of the business are as follows:
J. & L. ENTERPRISES
INCOME STATEMENT
1994
1995
1996
1997
Revenue:
Product Sales
$30,800.48
$129,223.50
$166,800.86
$123,488.98
Tool
Sales
6,379.45
30,861.52
$
32,380.30
$ 49,774.57
Bonuses
1,175.99
10,739.26
19,981.35
43,667.85
Expenses:
Products
32,943.11
128,431.29
168,051.83
126,459.35
Supplies 388.19
518.61 428.66
667.01
Tools 7,401.32
35,195.41
42,437.57
55,378.35
Bonuses
277.32 5,569.75
13,601.67
34,981.99
Meals, Lodging, Travel
&
Seminars
2,750.73 3,783.81 5,675.39 4,834.12
Automobile Expenses-Sch.
1
2,059.90 9,589.70
12,309.93
11,183.98
Telephone
2,215.99 4,578.99 4,578.99 3,943.15
Office 292.31
883.86 838.62
717.46
Bank Charges
169.49 222.74
260.31 291.27
Shipping
535.23 632.02
Promotion
804.54 606.93
Fees &
Dues
202.05 90.01
Net Income (Loss):
Edward J. Price
($5,071.22)
($8,974.94)
($15,280.99)
($11,427.62)
Lorraine L. Price
($5,071.22)
($8,974.94)
($15,280.99)
($11,427.62)
[4]
The loss of each Appellant in each of the subject years has been
denied on the basis that the activity giving rise to them has no
reasonable expectation of profit. In the alternative, the
Respondent asserts that the losses claimed are personal expenses
of the Appellants.
[5]
Edward Price gave evidence on behalf of the partnership. His
evidence was enthusiastic as to the business opportunity afforded
by Amway product sales. Indeed he described it as
"phenomenal". Amway supplies products that are used in
every household. Households satisfying consumer needs through
Amway can spend $1,000.00 per month or more on Amway products[2]. Building a chain
of Amway product users had to have profit potential according to
Mr. Price, and the Appellants, not lacking in sophistication in
commercial matters, set about to mine this business opportunity.
The plan was, and remains to be, to promote and develop a network
of Amway promoters each using Amway products and, more
importantly, each promoting further down the line additional
product users. If "pyramid sales" is an apt phrase,
they wanted to build a pyramid below them. Retail sales were of
virtually no interest. Their business plan was to develop a
limited number of groups under them, each member trained and
motivated to build under them a limited number of groups, each
member trained and motivated to build yet another limited number
of groups under them and so on. If the chain grew and each member
of each group down the line bought household products for their
own use from Amway, the chain would eventually produce hundreds
of thousands of dollars of gross sales for Amway, even if no one
in the chain engaged in any retail sales activities[3]. J & L's
business plan was to sign on, sponsor or register a chain of
distributors under it where each person in the chain was an
independent business owner trained and motivated to create a
similar limited group of independent business owners under them.
Everyone up the ladder would work with and assist people down the
ladder to keep the business plan strong and growing. To keep
energy and commitment levels high within the group required
personal contact with people down the line; it required holding
and attending meetings, attending training sessions and,
generally, keeping in touch in person or by telephone with the
group below to help ensure maintenance of product use and growth
of the group. Keeping people in the chain motivated and committed
to Amway year after year would require a fair commitment on the
part of someone intending to stay at the top of a successful
pyramid.
[6]
J & L had up to six registrants or sponsored distributors
directly under it during the subject period. The registrants
under such direct sponsors in 1994 were between 50 and 60 people
that the Appellants called independent business owners; i.e.
persons whose "business" was promoting successful
groups under them. By 1997 the people under J & L had grown to
119 and today stands at over 200. Mr. Price admitted,
however, that only one group (one chain) below J & L had
reached sales levels capable of contributing to the bonus levels
that J & L sought to achieve[4].
[7]
Mr. Price testified that net bonuses were a better method of
reporting an independent business operator's earnings and
that since 1999 Amway has changed its financial reporting so as
to recognise only net bonuses. In fact changes have apparently
streamlined the ordering process as well in that down the line
distributors can order direct without upstream product purchases
and sales being reported by upstream distributors along the
chain. Net commissions are tracked and paid at each level. During
the assessment years net bonuses increased each year from under
$1,000.00 in 1994 to almost $9,000.00 in 1997. Although no
figures were tendered for 1998, net bonuses in 1999 were just
over $16,000.00. In 1999, J & L still showed a loss of
$1,770.00 although expenditures in categories of expenses that
might reflect personal expenses were actually down from those
incurred in the assessment years (automobile expenses were
$7,307.00; meals, lodging, travel and seminars were $3,738.00 and
telephone was $2,207.00).
[8]
Although, Mr. Price testified that he spent considerably more
than 15 hours a week building J & L's business, he had
filled out a questionnaire on the audit of the subject years
stating that he only spent about 15 hours per week on the
business. He acknowledged that both he and his wife were retired
and drawing from their RRSPs. He admitted he played about 100
rounds of golf a year and used his vehicle to and from the course
and for other daily personal matters but he claimed his vehicle
100% as business use. He testified that he travelled frequently
by car on business, including trips to see his daughter and a
childhood friend, both of whom he testified were involved in the
Amway distributorship business. The extent of such involvement
was not elaborated on and I am left with the impression that Mr.
Price seeks to deduct 100% of the cost of visits to family and
friends if he signs them up to use and promote Amway products. He
admitted, on cross-examination, that one expense claimed in
relation to his "at home meetings" with distributors,
involved a claim for recovering his pool table. His justification
for claiming the expense was that the pool table afforded
entertainment during meetings with Amway distributors. In general
Mr. Price's testimony indicated a fairly casual attitude in
distinguishing business versus personal expenses. That is, in
general, expense claims seemed to lack the discipline required to
distinguish with exactness business from personal expenditures.
He said for example that his wife sometimes used her car for the
business but he didn't claim her automobile expenses so
that "over" claiming his car was intended to work out
much the same as proper claims on each of their cars. Further,
little attempt seems to have been made at the time an expense was
incurred to ascertain its connection to business profits or its
reasonableness in relation to the business. Accordingly, I am not
satisfied that all of the expenses claimed were bone fide
business expenses; rather, a portion of them were personal. It
would have been helpful if the audit was more rigorous on this
issue. Denying, as personal, the portion of expenses claimed that
equal losses is not helpful in my view and my denying all
expenses as personal would be to invoke a judicial assessment
more onerous than the assessment.
[9]
There is no doubt that J & L operates a genuine business. Its
net bonuses are a taxable source of income from a commercial
enterprise operated as such and any personal element to its
operation is not of a nature or extent that would invoke a
reasonable expectation of profit test particularly in a case such
as this where the expectation of profit is quite rational[5]. Developing a network
of over 200 Amway consumers is not a hobby being worked on as a
personal pastime. The difficulty of the case lies in identifying
the "profit" (loss) properly attributable to the
business.
[10] The
Respondent's counsel argued that if the Appellants'
activity was not profitable after seven years, expressions of
optimism as to profitability were simply not reasonable or even
rational. On this point she referred to McClure et al v.
M.N.R.[6],
where Judge Taylor noted that in most cases there should be a
fairly immediate prospect of showing an excess of revenue over
expenditures. Expenditures incurred before this point of
immediate prospects Judge Taylor referred to as pre-start-up
costs, which are costs associated with establishing a capital and
asset base or with personal or living expenses. I would agree
that pre—start-up expenses are personal. I do not
agree that on the facts of this case that a bone fide business
had not commenced by 1994. That prospects of revenues exceeding
expenditures never materialized even after considerable time
cannot in itself cause ongoing expenses to thereby be
non-deductible "pre-start-up costs". Indeed, the
expenses claimed in the case at bar, giving rise to the losses,
are post start-up losses[7]. The Respondent's counsel also relied on Elke
v. Canada[8]
and the finding of this Court that persons involved in these
pyramid sales schemes were victims of the hype of potential
profits that could never be realized. The Appellants in this case
are not such victims in my view. If anything they are attempting
to recruit victims with a view to profit[9].
[11] The
Appellants assert that neither the reassessment nor audit denied
particular expenses as personal and that accordingly the
appeal should be allowed if it is found that the common law
reasonable expectation of profit test, which denies losses, does
not apply in this case. While it is true that an audit that
scrutinizes personal expenses affords this Court a better
opportunity to determine appropriate expense treatment, this
Court cannot ignore clear cases of abusive expense claims. On
listening to Mr. Price, I have no doubt that a good part of the
expenses claimed by J & L under the headings "Meals,
Lodging, Travel and Seminars", "Automobile
Expenses" and "Telephone" were personal. Further,
given Mr. Price's testimony it appears that personal use or
consumption of Amway products and materials during the subject
years, which I have found to be $9,000.00 per year, is included
in J & L's cost of goods expenses. Accordingly, I allow
the appeals in respect of the 1995, 1996 and 1997 years but deny
J & L the following expenses in each of those years:
Cost of goods
Acquired:
$9,000.00
Meals, Lodging, Travel and
Seminars:
50% of the amount claimed
Automobile
Expenses:
50% of the amount claimed
Telephone:
20% of the amount claimed.
Further, in respect of each such year, office expenses claimed
are disallowed pursuant to subsection 8(12) of the Income Tax
Act.
[12] The
appeals in respect of the 1994 year are dismissed as denying the
expenses in that year on the foregoing basis would increase the
assessment which is beyond the jurisdiction of this Court.
Signed at Ottawa, Canada, this 3rd day of August 2001.
"J.E. Hershfield"
J.T.C.C.
COURT FILE
NO.:
2000-2480(IT)I
STYLE OF
CAUSE:
Edward J. Price and
Her Majesty the Queen
PLACE OF
HEARING:
Kamloops, British Columbia
DATE OF
HEARING:
May 10, 2001
REASONS FOR JUDGMENT
BY:
The Honourable Judge J.E. Hershfield
DATE OF
JUDGMENT:
August 3, 2001
APPEARANCES:
For the
Appellant:
The Appellant himself
Counsel for the
Respondent:
Nadine Taylor
COUNSEL OF RECORD:
For the
Appellant:
Name:
Firm:
For the
Respondent:
Morris Rosenberg
Deputy Attorney General of Canada
Ottawa, CanadaCOURT FILE
NO.:
2000-2481(IT)I
STYLE OF
CAUSE:
Lorraine L. Price and
Her Majesty the Queen
PLACE OF
HEARING:
Kamloops, British Columbia
DATE OF
HEARING:
May 10, 2001
REASONS FOR JUDGMENT BY: The
Honourable Judge J.E. Hershfield
DATE OF
JUDGMENT:
August 3, 2001
APPEARANCES:
Agent for the
Appellant:
Edward J. Price
Counsel for the
Respondent:
Nadine Taylor
COUNSEL OF RECORD:
For the
Appellant:
Name:
Firm:
For the
Respondent:
Morris Rosenberg
Deputy Attorney General of Canada
Ottawa, Canada
2000-2480(IT)I
BETWEEN:
EDWARD J. PRICE,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
Appeals heard on common evidence with the
appeals of Lorraine L. Price
(2000-2481(IT)I) on May 10, 2001 at Kamloops,
British Columbia, by
the Honourable Judge J.E. Hershfield
Appearances
For the
Appellant:
The Appellant himself
Counsel for the Respondent: Nadine
Taylor
JUDGMENT
The appeal from the assessment made under the Income Tax
Act for the 1994 taxation year is dismissed.
The appeals from the assessments made under the Income Tax
Act for the 1995, 1996 and 1997 taxation years are allowed,
without costs, and the assessments are referred back to the
Minister of National Revenue for reconsideration and reassessment
in accordance with the attached Reasons for Judgement.
Signed at Ottawa, Canada, this 3rd day of August 2001.
J.T.C.C.
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