Arthur Randle v. Her Majesty the Queen (Informal Procedure), [1994] 1 CTC 2081

O’Connor, J.T.C.C.:—These appeals were heard in Toronto, Ontario on November 24, 1993. They are pursuant to the informal procedure of this Court and concern the appellant’s 1988 and 1989 taxation years. They relate to whether alleged business losses of $12,396.80 in 1988 and $14,577.55 in 1989 are allowable. The appellant agreed that the figure of $14,577.55 be reduced to $14,000 so that both appeals could proceed under the informal procedure. The Minister of National Revenue's assessments disallowed the losses claimed.

Facts

In the 1988 taxation year the appellant was employed full-time as a school principal by the Board of Education for the City of Scarborough and later in the year by the York Region Board of Education. In 1989 he was employed full-time as a vice-principal of the York Region Board of Education and also received some small remuneration from the Board of Education of the City of Scarborough.

In 1987, having previously discerned an apparently acute interest by children aged 7 to 15 in radio-controlled vehicles he started an operation named Randle Enterprise to sell such vehicles.

On August 17, 1987 he filed under the Ontario Partnerships Registration Act, R.S.O. 1980, c. 371, as a sole proprietorship. He obtained a Vendor Permit under the Retail Sales Tax Act, R.S.O. 1980, c. 454, on September 4, 1987. He later obtained an employer number from Revenue Canada for purposes of source deductions relative to the enterprise's employment of his daughters. He set aside a room in his home for purposes of the enterprise. He used his car for various activities of the enterprise. He formed a detailed business plan for the years 1987 through 1991—Exhibit A-5. The enterprise employed his daughter Krista, aged 18 in 1988, paying her a salary of $3,500 in that year and his daughter Katherine, aged 17 in 1989, paying her a salary of $5,200 in 1989.

He advertised. He took advice from four other persons in similar operations and relied heavily on their advice because of his own lack of experience in the operation. He obtained detailed price lists for the many different models of vehicles. He did not maintain an inventory but rather would, upon a sale occurring, acquire the desired vehicle from another dealer. He used a video to show the features of the various vehicles. He ceased the operation in 1990 allegedly because of a conflict in selling cars to students which would contravene the guidelines established in 1989 by The York Region Board of Education and because it appeared that his targeted purchasers were becoming more interested in other attractions such as Nintendo.

For the 1987 to 1990 taxation years the appellant reported the following gross sales, gross profit, expenses and net losses:

A considerable part of the expenses related to the salaries to the daughters and to the portion of house and car expenses allocated to the enterprise.

As mentioned the Minister of National Revenue disallowed the losses for 1988 and 1989 on the grounds there was no reasonable expectation of profit and the Court must determine whether such disallowance was correct.

Law

The most relevant provisions of the Income Tax Act, R.S.C. 1952, c. 148 (am. S.C. 1970-71-72, c. 63) (the"Act") are paragraphs 18(1)(a),18(1)(h) and subsection 248(1):

18 (1) In computing the income of a taxpayer from a business or property no deduction shall be made in respect of

(a) General limitation.—an outlay or expense except to the extent that it was made or incurred by the taxpayer for the purpose of gaining or producing income from the business or property;

(h) Personal and living expenses.—personal or living expenses of the taxpayer, other than travelling expenses incurred by the taxpayer while away from home in the course of carrying on his business . . . .

248 (1) "personal or living expenses” includes

(a) the expenses of properties maintained by any person for the use or benefit of the taxpayer or any person connected with the taxpayer by blood relationship, marriage or adoption, and not maintained in connection with a business carried on for profit or with a reasonable expectation of profit . . . .

Analysis

There is an extensive body of case law concerning what constitutes the operation of a business and whether or not a taxpayer had a reasonable expectation of profit. The leading case is Moldowan v. The Queen, [1977] 1 S.C.R. 480, [1977] C.T.C. 310, 77 D.T.C. 5213, particularly at pages 485^86 (C.T.C. 313-14; D.T.C. 5215):

Although Originally disputed, it is now accepted that in order to have a" source of income” the taxpayer must have a profit or a reasonable expectation of profit. Source of income, thus, is an equivalent term to business: Dorfman v. M.N.R., [1972] C.T.C. 151, 72 .D.T.C. 6131 (F.C.T.D.). See also paragraph 139(1)(ae) of the Income Tax Act which includes as "personal and living expenses" and therefore not deductible for tax purposes, the expenses of properties maintained by the taxpayer for his own use and benefit, and not maintained in connection with a business carried on for profit or with a reasonable expectation of profit. If the taxpayer in operating his farm is merely indulging in a hobby, with no reasonable expectation of profit, he is disentitled to claim any deduction at all in respect of expenses incurred.

There is a vast case literature on what reasonable expectation of profit means and it is by no means entirely consistent. In my view, whether a taxpayer has a reasonable expectation of profit is an objective determination to be made from all of the facts. The following criteria should be considered: the profit and loss experience in past years, the taxpayer's training, the taxpayer's intended course of action, the capability of the venture as capitalized to snow a profit after charging capital cost allowance. The list is not intended to be exhaustive. The factors win differ with the nature and extent of the undertaking: Matthews v. R., [1974] C.T.C. 230, 74 D.T.C. 6193 (F.C.T.D.).

Was there in the present case a reasonable expectation of profit? On the basis of all the evidence submitted I think not. The following are some of the more important aspects of the evidence leading to this conclusion.

1. The sales achieved in 1987, 1988 and 1989 are vastly disproportionate to the expenses alleged to relate to achieve sales.

2. The projections in the business plan—Exhibit A-5 vastly exceeded the sales achieved; 1987 projected units sold 130, actual 2; 1988 projected units sold 170, actual 3 to 4, 1989 projected units sold 210, actual 2 to 3.

3. The business plan itself, if achieved only would show a profit in the fifth year (1991) and only of $665.63, and this would happen only if 290 units were sold.

4. How can the appellant in 1988 and 1989 have a reasonable expectation of profit if, even according to the business plan he only expects a profit of $665.63 in the fifth year, while in the four preceding years he has accumulated losses of approximately $10,000.

5. How can the appellant justify salaries to his daughters in 1988 and 1989 of $3,500 and $5,200 respectively, when sales were so low.

6. The evidence does not support the claim of the appellant that the losses in question should be considered start-up costs.

The Court has examined all of the authorities submitted by the agent for the appellant, but notwithstanding that some of them compare in certain respects with the present case, none of them go anywhere close to convincing the Court that the appellant, based on all the evidence in this case had a reasonable expectation of profit.

Consequently the appeals are dismissed.

Appeals dismissed.