Geoffrey Fulton v. Her Majesty the Queen, [1994] 1 CTC 2876, 94 DTC 1939

O'Connor, J.T.C.C.:—This appeal was heard in Calgary, Alberta on March 15 and 16, 1994 pursuant to the General Procedure of this Court.

Facts

The facts are relatively simple and are set out in the notice of appeal as follows:

1. The appellant is an individual resident in the Province of Alberta.

2. On January 11, 1985, the appellant entered into a loan agreement with Homestead Research Investment Ltd. ("Homestead") pursuant to which Homestead lent the appellant $1,000,000 for a period of one year at an interest rate of eight per cent per annum. The appellant delivered a demand promissory note to Homestead as security for the loan.

3. The appellant used the proceeds of the loan to subscribe for 1,200 Class "A" common shares (the “319270 shares") of 319270 Alberta Inc. ("319270"), a company registered as a small business equity corporation pursuant to the provisions of the Alberta Small Business Equity Corporations Act.

4. 319270 used the $1,000,000 received on the issuance of the 319270 shares to make eligible investments within the meaning of the Small Business Equity Corporations Act.

5. The appellant, as registered and -beneficial owner of the 319270 shares, made application to the Alberta government pursuant to the Small Business Equity Corporations Act for a grant equal to 30 per cent of the amount paid to acquire the 319270 shares.

6. The appellant’s application was accepted by the Alberta government and a grant in the amount of $300,000 was approved and paid in two instalments, being $285,720 on May 29,1985 and $14,280 on August 30, 1985.

7. On July 15, 1985 the appellant transferred the 319270 shares to Homestead in settlement of the $1,000,000 loan.

8. On March 17, 1989 the respondent reassessed the appellant to include in the appellant’s income for 1985 the amount of $300,000 as a benefit conferred on the appellant by Homestead pursuant to paragraph 245(2)(a) (as it then read) of the Income Tax Act (Canada) (the "Act").

The respondent maintains that the appellant, as a director and controlling (85 per cent) shareholder (through a holding company) of Homestead Research Investment Ltd. ("Homestead") caused Homestead to enter into the $1,000,000 loan and further later caused Homestead to accept the shares of 319270 Alberta Inc. (a small business equity corporation hereinafter referred to as "SBEC") in full satisfaction of the $1,000,000 loan. The respondent asserts that the appellant was either a trustee or an agent at all material times of Homestead, that the $300,000 grant really belonged to Homestead and that Homestead, in allowing the appellant to receive the grant, was conferring a benefit on the appellant in the amount of $300,000 and that that amount should be included in the income of the appellant for the 1985 year pursuant to paragraph 245(2)(a) of the Income Tax Act, R.S.C. 1952, c. 148 (am. S.C. 1970-71-72, c. 63) (the "Act"). This paragraph reads as follows:

245(2) Where the result of one or more sales, exchanges, declarations of trust, or other transactions of any kind whatever is that a person confers a benefit on a taxpayer, that person shall be deemed to have made a payment to the taxpayer equal to the amount of the benefit conferred notwithstanding the form or legal effect of the transactions or that one or more other persons were also parties thereto; and, whether or not there was an intention to avoid or evade taxes under this Act, the payment shall, depending upon the circumstances, be

(a) included in computing the taxpayer's income for the purpose of Part I. . . .

The appellant's counsel called four witnesses, namely William Glenn Hamilton who held indirectly through a holding company a 15 per cent interest in Homestead, Gerald Pulak, a former legal partner of the appellant who acted in the setting up of SBEC and in the application for the $300,000 grant, the appellant himself and Kevin George Ryan, the auditor for the Minister of National Revenue ("Minister") in this particular case. (A fifth witness, Don R. Beardall, a solicitor with the Justice Department was also called by appellant’s counsel, but this witness simply confirmed that he was present in the courtroom out of curiosity.)

Counsel for the respondent called no witnesses but attempted to prove his case as to the application of paragraph 245(2)(a) of the Act by an extensive and vigourous cross-examination of all of the witnesses except Messrs. Ryan and Beardall. A substantial number of the questions posed on cross-examination were strongly objected to by counsel for the appellant on the principal ground that the questions were irrelevant. The Court permitted most of the questions reserving the right to consider the relevancy and weight to be given to the answers to said questions.

The Minister's principal submission is that Geoffrey Fulton was acting as a trustee or agent for Homestead. In this regard great weight is attributed to a resolution of the directors of Homestead adopted January 11, 1985 which reads as follows:

THAT Homestead Research Investments Ltd. lend to Geoffrey Fulton for the purposes of establishing an investment company on the understanding that the shares for the investment company shall upon the completion of the investment be transferred back to Homestead Research Investments Ltd. in liquidation of the loan to the extent of the price of the investment shares acquired by Geoffrey Fulton.

The submission was that since the loan "shall" be satisfied by the transfer “back” of the shares of SBEC, Mr. Fulton was merely trustee or agent of Homestead. Mr. Fulton testified that the reason for the proviso in the resolution, as to the method of repayment was to assuage the concerns of Glenn Hamilton, who indirectly owned 15 per cent of the shares of Homestead. Both Fulton and Hamilton testified that it was their understanding of the documentation that if the value of SBEC was less than $1,000,000 at the time its shares were turned over to Homestead, then Fulton would have to make up the shortfall. It is evident from the demand promissory note dated January 11, 1985 and the loan agreement of the same date that Fulton was clearly indebted to Homestead in the amount of $1,000,000 and no mention is made in those documents as to the method of repayment. The resolution, the note and the loan agreement are at tabs 6, 7 and 8 of Exhibit A-1.

The Court is satisfied that this sloppily worded resolution should not override the clear terms of the promissory note and the loan agreement and further, that the resolution itself does not establish that Fulton acted as trustee or agent.

Counsel for the Minister also argued that pursuant to corporate law generally and section 117 of the Alberta Business Corporation Act (S.A. 1981, c. B-15) specifically, Fulton as a director and officer of Homestead owed a fiduciary duty to Homestead. This is certainly true but does not necessarily lead to the conclusion that in making the investment in SBEC and receiving the $300,000 grant, Fulton was acting as trustee for Homestead. The evidence reveals that Fulton’s former legal partner Gerald Pulak made Fulton aware of the SBEC program and of the attractiveness of an individual receiving a tax-free grant. The opportunity did not arise by virtue of Fulton’s position at Homestead. I do not think that it can be successfully argued that the corporate opportunity doctrine applies in this case. Fulton did not breach his fiduciary duty. All he did was enter into a bona fide loan with Homestead and with the borrowed funds made a personal investment.

The respondent also argued that several research contractors, when entering into contracts to provide research services to National Research Corporation ("NRC"), a wholly owned subsidiary of Homestead, were persuaded to acquire Class "C" shares of Homestead and pay for same. The Class "C" shares of Homestead were quite restricted in their features. Counsel argued that it was the monies that came from these investors that provided the $1,000,000 which Homestead then loaned to Fulton. This was denied by Fulton and by Hamilton who stated that the source of the $1,000,000 arose as follows. NRC raised capital through designations under Part VIII of the Act which designations required NRC to pay the Part VIII tax. This was accomplished by monies being escrowed by NRC and these monies would be released to NRC as qualified research expenditures were made. Through this process large amounts were released at one time as a result of expenditures made on a building and this provided the $1,000,000 or a large portion thereof. In the Court's opinion whether the moneys arose from the acquisition of the Class "C" shares by the research contractors or from the release of the moneys held in escrow, which is more likely, is not determinative of whether the appellant was a trustee or agent for Homestead.

Counsel for the respondent also submitted numerous documents and on cross- examination elicited answers to a myriad of questions. Attempting to trace the entire story from the day NRC was incorporated (July 26, 1984) until January 15, 1986 when, after the failure of Richard Motors (1983) Ltd., an automotive dealer in which SBEC invested, Homestead acquired the major asset of Richard Motors (1985) Ltd. on a foreclosure of a mortgage which had been purchased by Homestead from The Toronto-Dominion Bank. The apparent purpose of following this very complex trail counsel for the respondent argues, is that from inception there was some master plan in the mind of the appellant to get the $300,000 grant from the Government of Alberta under the SBEC legislation, acquire the said asset and have certain loans repaid. The Court is asked to conclude that even if there was no agency or trust, one must look at the substance rather than the form of the transactions and conclude that paragraph 245(2)(a) of the Act is applicable and that Homestead conferred a benefit of $300,000 on Fulton.

It must be remembered that the $300,000 grant, if made to an individual, was not subject to income tax nor did it have the effect of reducing the adjusted cost base ("ACB") of the shares of the SBEC. Paragraph 12(1 )(x) which taxes, inter alia, government grants had not yet been enacted. Also in virtue of paragraph 53(2)(k) and Regulation 6700 (amended to include the Alberta Business Equity Corporations Act by P.C. 1985- 71 S.O.R. 85-92 dated January 18, 1985 applicable to 1983 and subsequent years operated to effect the non-reduction of the ACB).

The respondent is attempting to use paragraph 245(2)(a) of the Act to, in effect, convert a non-taxable receipt into a taxable one. Although in some cases, if all of the conditions of this paragraph are met, that might be the result, the Court has concluded, on the basis of all of the evidence submitted, that notwithstanding the end result of all the transactions, the substance of the principal transactions was that there was a bona fide loan from Homestead to Fulton of $1,000,000 and that Fulton subsequently in his own name acquired personally the shares of SBEC. This triggered the payment by the Alberta government of the $300,000 non-taxable grant. Paragraph 245(2)(a) only is applicable "depending upon the circumstances" and the Court in this case has concluded that the circumstances do not justify an assessment under said paragraph.

Mr. Justice Marceau of the Federal Court of Appeal, in Outerbridge Estate v. Canada, [1991] 1 C.T.C. 113, 90 D.T.C. 6681 commented generally upon antiavoidance provisions at page 117 (D.T.C. 6684) as follows:

Indeed, as I see it, a tax-avoidance provision is subsidiary in nature; it exists to prevent the avoidance of a tax payable on a particular transaction, not simply to double the tax normally due nor to give the taxing authorities an administrative discretion to choose between two possible taxpayers.

In conclusion, for the above reasons, the appeal is allowed with costs and the matter is referred back to the Minister for reconsideration and reassessment.

Appeal allowed.