Date: 20000919
Docket: 98-9299-IT-I,
98-9303-IT-I
BETWEEN:
DONALD DUMAS,
RICHARD GENDRON,
Appellants,
and
HER MAJESTY THE QUEEN,
Respondent.
Reasons for Judgment
Lamarre Proulx, J.T.C.C.
[1] These appeals were heard on common
evidence under the informal procedure. They concern the 1994
taxation year.
[2] The issue is whether the
appellants had a reasonable expectation of profit from the rental
of a property purchased in 1989.
[3] The facts on which the Minister of
National Revenue (the "Minister") relied in making the
reassessments are set out in paragraph 3 of each Reply to the
Notice of Appeal. Since the replies are similar, I shall
reproduce that in the appeal of Mr. Gendron.
[TRANSLATION]
(a) in 1989, the
appellant purchased as co-owner with Donald Dumas the property
located at 16 rue Des Morillon, in Orford, Quebec
(hereinafter, the "property");
(b) the property is
located in a tourism region (MAGOG-ORFORD);
(c) the appellant
and Donald Dumas paid $24,075 in cash and took out a
$82,925 mortgage on the property;
(d) in respect of
the 1989 to 1994 taxation years, the appellant reported the
following rental losses for the property:
Appellant's
Gross
Net
Share of
Year
Profit
Expenses
Losses
Losses
1989
$128
$3,524
($3,396)
($1,698)
1990
$8,066
$15,146
($7,080)
($3,540)
1991
$7,134
$14,813
($7,679)
($3,840)
1992
$5,400
$12,624
($7,224)
($3,612)
1993
$5,700
$11,516
($5,816)
($2,908)
1994
$5,800
$11,374
($5,574)
($2,787)
(e) as itemized
below, the fixed costs exceeded the rental income for the
property in the period from 1991 to 1994:
Interest
Year
Gross
Income
Fixed
Costs
Expenses
1991
$7,134
$12,925
$10,444
1992
$5,400
$10,296
$7,450
1993
$5,700
$9,323
$6,197
1994
$5,800
$8,177
$5,094
(f) the
appellant had no plan of action to develop a profitable
operation;
(g) beginning in
1989, the property was rented by the week or month;
(h) the property was
rented for four months in 1992, four months in 1993 and eight
months 1994;
(i) after
1994, the property was not rented;
(j) during the
period in issue, supply exceeded demand in the rental market in
the region;
(k) during the
period under audit, the property was listed for sale at $95,000,
but there were no prospective buyers;
(l) the
appellant did not show that the $2,787 claimed in respect of the
property for the taxation year in issue was incurred by him with
a view to making a profit or with a reasonable expectation of
profit;
(m) the Minister therefore
disallowed the $2,787 rental loss claimed by the appellant in
respect of the property.
[4] The appellants both testified. I
shall set out their evidence jointly.
[5] Mr. Gendron is currently retired.
For fifteen years he owned a newspaper in the region. He and the
other appellant, Mr. Dumas, are old friends. It was Mr. Dumas who
talked to him about purchasing the villa. This villa was part of
a Sheraton hotel complex serving the Mount Orford ski resort. The
developer of the complex was Mr. Dumas's brother-in-law.
[6] At the time, Mr. Dumas owned a
convenience store located near the hotel complex. He was also a
real estate agent.
[7] Each of the appellants invested
$15,000. Of the $30,000 total, $24,075 was paid in cash to
purchase the villa. The remainder went for real estate
transaction expenses, including transfer fees and notaries'
fees.
[8] At that time, the Mount Orford ski
resort seemed to be undergoing vigorous growth and was very
popular. Large amounts—$10 million was mentioned—had
just been invested in the ski resort. In summer, there was a golf
course nearby.
[9] The Sheraton Hotel took care of
renting and maintaining the villa, which was available for rent
by the year. The villa's tenants had access to the hotel
swimming pool. The appellants anticipated an annual rental income
of $10,000, based on the cost of renting a hotel room.
[10] Around 1992, the hotel complex went
bankrupt. It was taken over by the Malenfant Group, which in turn
went bankrupt in 1993.
[11] It was from that point that the
appellants began to handle the property rental themselves.
[12] Mr. Gendron published 70 to 100
advertisements for the villa in his newspaper. A copy of the
advertising was filed as Exhibit A-1. There were two types
of advertisements. One type concerned rental of the villa.
According to Mr. Gendron, there were over 40 advertisements of
that type. There were also advertisements for the sale of the
villa. Over 30 of these were apparently published in the years
from 1995 to 1997. Each advertisement referred potential clients
to the other appellant, Donald Dumas in his capacity as a
real estate agent with Re-Max Magog.
[13] As a real estate agent, Mr. Dumas could
advertise through the real estate agency. He also advertised in
his convenience store.
[14] Each appellant lives in Orford and has
never personally used the villa. They had no intention of living
in it. They saw the investment as an easy source of rental income
that would supplement their pension income.
[15] The appellants wanted to take part in
the economic boom that was then occurring in Orford. They were
convinced that the villa would be rented and would be as
profitable as the hotel. However, there was a glut of rental
properties. Rental prices declined.
[16] The appellants tried to sell the villa
in 1995. It was extremely difficult to find a buyer. It was not
until 1998 that the villa was sold, and at a reduced price at
that.
The parties' positions
[17] The appellants' agent said that,
for the appellants, purchasing the property was just a business
decision that was made at a time when the Mount Orford ski resort
and the entire region were experiencing a boom. There was also
the family tie that existed between Mr. Dumas and the owner of
the hotel complex. The two appellants were serious businessmen.
One owned a newspaper; the other was the owner of a convenience
store who also worked as a real estate agent. The purchase was
made with a view to earning rental income. The appellants did not
acquire the property out of personal interest; they did so for
purely business reasons. They paid a significant portion of the
purchase price in cash.
[18] The appellants' agent also said
that many real estate developments went sour in that region,
including Cheribourg, Estrimont and the Mount Orford ski resort
itself. The appellants were the victims of poor market
conditions.
[19] Counsel for the respondent argued that
the appellants failed to make adjustments when their rental
income turned out to be lower than they had anticipated. They
should have adapted to market conditions, lowering their interest
costs by increasing payments against principal. He also argued
that the Minister allowed the appellants almost five years to
make these adjustments.
Conclusion
[20] In the case at bar, it must first be
noted that what is involved is not a rental property whose
acquisition cost is financed 100 percent. The appellants paid
$30,000. Nor is this a case where the mortgage payments were made
using a line of credit the interest on which was added to the
interest on the mortgage loan. It is true that the appellants did
not reduce the amount of the principal borrowed, but there was no
evidence to show whether or not they had the means to do so.
[21] The evidence clearly showed, however,
that the purchase was made during a major boom at the Mount
Orford ski resort, at a time when that resort was very popular.
The villa was part of a Sheraton hotel complex serving the
resort. The owner of the complex was the brother-in-law of one of
the appellants. It is thus quite plausible that they would have
been convinced of the profitability of renting the property they
had purchased. The appellants were so convinced that they each
invested $15,000. Others also believed in the profitability of
the hotel complex. So it was that the Malenfant Group took it
over in 1992. Beginning in 1993, the appellants took many steps
with a view to renting out the villa. Then, in 1995, noting the
villa's lack of profitability as a rental property, they put
it up for sale. However, even the real estate sales market was
bad. They finally sold the property in 1998.
[22] It might be thought that the appellants
did not put the property up for sale in the third year because
they, like the other economic stakeholders in the region,
believed that conditions would improve. It was perhaps in the
same belief that they did not pay down the mortgage loan, if they
had the ability to do so, which is not certain. However, they
did, in 1995, take the only remedial action open to them, that
is, putting their property up for sale.
[23] It is my opinion that, according to the
evidence, the decision to purchase was taken for business reasons
and not for personal reasons. In those circumstances, the Court
must be careful not to substitute its business judgment for that
of the purchasers. The decision to buy may have been made with an
increase in the property's value in mind, but it was also
based on rental profits that, in the circumstances in which the
property was purchased, appeared reasonably plausible. In
addition, the appellants did what they could to minimize their
losses in a difficult market. I must therefore find, on a balance
of evidence, that the rental activity was an undertaking of a
business nature. The appeals are accordingly allowed, with
costs.
Signed at Ottawa, Canada, this 19th day of September 2000.
J.T.C.C.
[OFFICIAL ENGLISH TRANSLATION]
98-9299(IT)I
BETWEEN:
DONALD DUMAS,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
Appeal heard on common evidence with the appeal
of Richard Gendron (98-9303(IT)I) on August 28,
2000, and reasons for judgment delivered on August 29, 2000,
at Sherbrooke, Quebec, by
the Honourable Judge Louise Lamarre Proulx
Appearances
Agent for the
Appellant:
Alain Francoeur
Counsel for the
Respondent:
Simon-Nicolas Crépin
JUDGMENT
The
appeal from the assessment made under the Income Tax Act
for the 1994 taxation year is allowed.
Signed at Ottawa, Canada, this 7th day of September 2000.
J.T.C.C.
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