Ilona Szakaly v. Her Majesty the Queen, [1995] 1 CTC 2700

Beaubier J.T.C.C.:-This appeal involves the appellant’s 1987, 1988 and 1989 taxation years.

Counsel for both parties advised, at the commencement of the hearing, that the matters in respect of 1988 and 1989 taxation years had been resolved.

By virtue of that resolution, of the total of $6,370.88, being made up of $6,228.59 interest and $142.29 advertising expense, the sum of $3,091.91 would be capitalized, and the sum of $3,278.87 would be deductible in the 1988 taxation year.

With respect to the 1989 taxation year, the only effect would be a change in capital cost allowance arising by virtue of the additional amount of $3,091.91 being capitalized.

The issue remaining is whether the gain from the sale of property municipally described as 47 Cornell Bay ("47 Cornell"), Brandon, Manitoba gave rise to a capital gain or ordinary income in the 1987 taxation year.

The appellant, in filing his 1987 income tax return, mistakenly reported the full gain of $13,576.22, being his share of the profit in respect of his 50 per cent interest in 47 Cornell. This was pointed out in the answer filed by the appellant, stating that the funds realized from the sale ought to be classified as a taxable capital gain in the amount of $6,788, with a capital gains deduction in like amount. The appeal proceeded on this basis.

The appeal of Ilona Szakaly, wife of the appellant, involving the other 50 per cent of the gain on the sale of 47 Cornell, was heard together with that of the appellant.

The first witness for the appellant, Mr. Ted Temple, a real estate agent, was retained by the appellant to find a lot for the construction of a residential complex for the purpose of gaining retirement income. Construction of a six-unit building was commenced on June 1, 1985 and completed on October 1, 1985. Mr. Temple testified that a group of investors was looking for income property and when he relayed this information to the appellant, the appellant expressed concern as to whether he could find another lot on which he could build rental units.

The appellant and his wife sold 42 Cornell Bay ("42 Cornell") on September 7, 1985 and purchased 59 Cornell Bay ("59 Cornell") on September 23, 1985 and purchased 47 Cornell on November 6, 1985. Although the gain on such sale was reported as a capital gain by the appellant, the Minister of National Revenue assessed the appellant on the basis that such gain was ordinary income.

The appellant appealed to this Court claiming the gain as capital and this Court found the profit to be includable in ordinary income.

Mr. Temple then stated that he was involved with the sale of 59 Cornell but not involved with the sale of 47 Cornell. Mr. Temple testified further that he had approached the appellant with respect to listing 59 Cornell for sale.

The appellant then gave evidence. He stated that he was born in 1927 in a small town in Hungary and that he left in 1956 for Germany and came to Canada on October 5, 1959 and has been a resident here ever since. He was married to Ilona Szakaly in Hungary in 1948. He worked in construction after school for his father until the communists took control of the Hungarian government. He worked on various construction matters in Canada and in 1973 incorporated a company to conduct a construction operation. No issues in respect of that company are involved in this appeal.

The appellant testified that a lot could be purchased for a multiple-unit construction for $25,000, the price paid for each of the three Cornell properties, whereas a single residential lot cost $22,000 or $23,000.

The appellant explained that the company was having great difficulty finding business and he, together with his wife, decided, because he had only limited savings and his Canada Pension Plan income, to build residential units for rental. He testified that he designed the buildings, managed the project and did all labour other than plumbing and electrical. He stated that he could not do heavy work much longer and that he would run out of time if he did not start building such properties when he did.

It was clear from the evidence that he intended to live in one of these suites, to manage the property and to obtain rental income. He stated that Cornell Bay was a new subdivision, that the developers plan to plant trees and that he and his wife jointly decided to purchase and build there.

The appellant stated that Mr. Temple came to him and asked if he wished to sell 42 Cornell Bay. He came back to the appellant two or three times and advised him that if he sold 42 Cornell he could obtain two more lots. The appellant then stated that on two lots he could build two four- plexes and not just a six-plex. This was two more units and would produce more income from lots in the same area.

He bought 50 Cornell on September 23, 1985, commenced construction on October 29, 1985 and completed a four-rental unit building on February 24, 1986.

He purchased 47 Cornell on November 6, 1985, commenced construction April 28, 1986, and completed construction of the four rental units on October 1, 1986.

Exhibit A-11 shows rents received in respect of 47 Cornell between September 1 and December 2, 1986 in the sum of $6,835. He stated that he and his wife acted as caretakers of the property and that the tenants were worried about safety because windows were broken, fences were broken, windshields were broken, beer bottles were thrown around, the street was painted and police had been called to the premises.

He stated further that he had advertised for tenants and that many prospective tenants had called and said that they would not live there. He then said that he had become dissatisfied with the area and had decided to move to a new area before Mr. Temple approached him. He stated clearly that this was the reason he sold 59 Cornell. He then stated that with respect to 47 Cornell he was approached by people who were looking for that property but believing it to have an owner other than the appellant. Because they were willing to purchase same and because he had decided to move from that area, he accepted an offer to purchase and sold same on February 9, 1987.

In May 1986, the appellant bought a property described municipally as 20 and 24 Parkdale and 330 and 340 Durham Drive. This was in a different area of the city and the appellant built the following units completed on the following dates, namely:

20 Parkdale, a six-plex (completed September 1987)

24 Parkdale, a six-plex (completed February 1988)

340 Durham Drive, 12 units (completed February 1989)

330 Durham Drive, 12 units (completed 1989)

The appellant testified that he was able to build the 12-unit buildings because the bank was prepared to advance more money because of the rental of the six-plexes. The appellant stated that he was happy with the Parkdale area, that it was entirely different from Cornell Bay, that he tells all tenants that it is a fine area and he has had no negative feedback from potential tenants such as he had before.

On cross-examination, the appellant stated that his company had built homes for other people, had built a senior citizens home and had built one house for sale. He stated that he had built a residence in 1976, that he moved to another home he had built in March 1983, that he rented the former home for one and a half years and sold it and used the money resulting therefrom to purchase property.

The appellant’s evidence with respect to the spartan manner in which he and his wife lived and the care they took to live on as little as possible so that they could save money was very convincing as to his conservative nature respecting financial matters.

He also stated that he had purchased all the materials for 47 Cornell and decided that he had to build it. He went into some detail as to how he purchased materials at the best time for the best prices, and was therefore committed to build.

On re-examination he gave evidence to the effect that the Cornell property was directly across from Crocus Plain Secondary School and that the students used to cut across his lots, break fences and cause other damage. This evidence was supplemented by Ilona Szakaly who also stated that no trouble of that nature existed in the new area.

Appellant’s counsel stated that the appellant was, through his company, in the building and selling business, that he was in his 60s, that his son no longer worked with him and he decided to buy a lot, to build and to occupy a unit and look after the building.

He referred to the judgment of this Court respecting 42 Cornell and stated that the appellant had decided to build two four-unit buildings, that Mr. Temple had introduced investors and that they had bought 42 Cornell, that the appellant then bought 59 Cornell and started construction and that after it was developed and occupied the aforesaid troubles commenced. He emphasized that by the time the problems arose the appellant was committed to construction with supplies having been purchased and that he started so to build.

Although Mr. Temple was involved with the sale of 59 Cornell he was not involved in the sale of 47 Cornell. The appellant completed four rental units on that property and rented same from early October 1986 until the sale of same in February 1987.

He reviewed the evidence of the appellant respecting their reasons for moving from the Cornell area and also the history of the development of the 36 units in the Parkdale and Durham area. He submitted that this illustrates that the appellant’s plan to retire from the construction business and to build for rental had been fulfilled and restated the appellant’s evidence that he could build no more since his duties as manager of the units were too consuming.

He submitted that the appellant did not build the units at 47 Cornell with the intention of selling same and, with respect to any argument about the appellant having an operating motivation at the time of purchase and construction so to sell, that the sale was effected by virtue of necessity in the assessment of the appellant, having regard to the problems that developed in the Cornell area.

Appellant’s counsel referred to the case of Pelletier Inc. v. M.N.R.,

[1992] 1 C.T.C. 2270, 92 D.T.C. 1279, and also to the case of Gratl v. The Queen, [1994] 2 C.T.C. 1 (T.C.C.), to support the propositions of sales resulting from unsolicited offers being capital and reinvestment for replacement purposes.

He reiterated that the appellant had shown when he bought 47 Cornell that he was looking for income property, that he had severed his relationship with the construction company and that he only left the Cornell area because of the deterioration of the neighbourhood.

Respondent’s counsel referred to the judgment of this Court respecting the sale proceeds of 42 Cornell being held to be ordinary income, this judgment having been given on December 28, 1989. He referred to the fact that 59 Cornell had only been held for one month after completion and that 47 Cornell had only produced rental income for four or five months.

He referred to the case of Willumsen v. M.N.R., [1967] C.T.C. 13, 67 D.T.C. 5022, in which the Exchequer Court of Canada found the gain on an apartment house, said to have been sold because of financial difficulties, as an income gain. In this case, the Court found that the financial predicament was not a sudden emergency.

Although these matters were not raised in the respondent’s pleadings, he also argued that there was no evidence whether tenants could be obtained, no evidence of whether the appellant could afford to build. He said he did not understand why the appellant commenced construction at 47 Cornell after the sale of 59 Cornell and testified that he did not intend to sell it after having had the problems described as leading to the sale of 59 Cornell.

Appellant’s counsel, in reply, pointed to the rentals that had been collected in that year, emphasized that the appellant had purchased materials and was committed to build and that, consistent with his stated intention of retaining 47 Cornell, he did not list it for sale. A purchaser approached him respecting that property under the mistaken impression that it was owned by someone else.

I have considered the evidence carefully. I accept the appellant’s statements that he acquired property for the sole purpose of building rental units for his own living accommodation and for investment purposes. The evidence, unchallenged, established that:

(a) 42 Cornell was sold in 1985 as a result of Mr. Temple approaching him with an unsolicited offer,

(b) 59 Cornell was sold in 1986 as a result of Mr. Temple approaching the appellant, and

(c) 47 Cornell was sold in 1987 as a result of unsolicited purchasers arriving at the appellant’s site.

Prior to, and around this time, the appellant sold a residence that he had occupied for some time.

I do not attach any weight to respondent’s counsel’s argument respecting lack of evidence on the part of the appellant with regard to potential rental revenues and details of financing available. This was not a fact or assumption of fact included in the respondent’s reply to the notice of appeal.

It was impossible for this Court to have viewed the gain on the sale of 42 Cornell in the light of and in the context of which I can now view same, having regard to the events transpiring in the five years since the hearing of that appeal.

Without my forming any conclusion as to whether the result would have been the same today, it is my finding that the appellant simply did that which he set out to do, namely, develop a holding of rental units as a source of continuing income and to provide himself with living accommodation.

The sale of three properties in the manner described, each having been constructed, as I find, for rental purposes on the way to acquiring 36 units does not, as I survey the entire circumstances here, compromise the stated intent and the realization of same.

I have concluded that the sale of 47 Cornell Bay was simply one step towards achieving the goal sought by the appellant.

Accordingly, the appeal is allowed with costs. Respecting Ilona Szakaly, the same result would pertain.

Appeal allowed with costs.