W. Dale Dunlop v. Minister of National Revenue, [1991] 2 CTC 2246, 91 DTC 948

Tremblay, T.CJ.:—This appeal was heard on June 5, 1990, in the City of Halifax, Nova Scotia, It was taken under advisement on reception of the last argument on July 30, 1990.

1. Point at Issue

Pursuant to the notice of appeal, the point at issue is to determine whether the appellant is correct in the computation, with regard to the 1981 taxation year, not to include the amount of $80,000.

In assessing the appellant, the respondent included the said amount in the appellant's income for the said year on the basis that it was a shareholder's loan advance by Canam Investment Consultants Ltd. (hereinafter Canam) and it was not reimbursed within the time limit provided in subsection 15(2) of the Income Tax Act, R.S.C. 1952, c. 148 (am. S.C. 1970-71-72, c. 63) (the "Act").

The appellant contends that the loan was made to enable him to purchase a home for his own occupation and the loan is therefore exempt from taxation under subparagraph 15(2)(a)(ii) of the Act.

2. Burden of Proof

2.01 The burden of proof is on the appellant to show that the respondent's reassessment is incorrect. This burden of proof results particularly from several judicial decisions, including the judgment delivered by the Supreme Court of Canada in Johnston v. M.N.R., [1948] S.C.R. 486; [1948] C.T.C. 195; 3 D.T.C. 1182.

2.02 In the same judgment, the Court decided that the assumed facts on which the respondent based his reassessment are also deemed to be correct. In the present case, the assumed facts are described in the reply to notice of appeal as follows:

5. In so reassessing the Appellant's income tax liability for his 1981 taxation year, the respondent made, inter alia, the following assumptions of fact:

(a) At all relevant times the Appellant was an employee, shareholder, and director of Canam Investment Consultants Ltd. ("Canam");

(b) On July 30, 1981, Walwyn, Stodgell, Cochran, Murray Ltd., a stock brokerage firm, loaned the sum of $80,000 to the Appellant, which sum was repaid prior to the end of 1981 by Canam, who sold its shares in a corporation known as Onaping Resources Ltd. to raise the required funds;

(c) The repayment of the loan by Canam was done at the direction of, or with the concurrence of, the Appellant;

(d) The $80,000 loaned from Walwyn, Stodgell, Cochran, Murray Ltd. was used by the Appellant to purchase a house in which the Appellant subsequently resided;

(e) At no time were arrangements of any kind made between the Appellant and Canam for repayment of the $80,000 to Canam;

(f) The $80,000 was not repaid, in whole or in part, within one year of the 1982 taxation year of Canam, which year was Canam's taxation year in which the advance was made.

3. Facts

3.01 The appellant is a solicitor and resides in Halifax, Nova Scotia in the house he purchased in 1981.

At all material times, the appellant was an employee, shareholder and director of Canam.

3.02 In or about the year of 1976 the appellant along with his father W. Bruce Dunlop, made application to obtain certain offshore oil leases on the Scotian shelf. In 1979, Canam was incorporated. The appellant was president and owned 42.5 per cent of the shares. There were two other shareholders, namely Mark George and Donald Peverill owning respectively 42.5 per cent and 15 per cent of the shares.

3.03 In February 1981, Canam obtained an interest in several offshore oil and gas licences that were issued to a publicly traded company from Toronto named Onaping Resources Ltd. (hereinafter Onaping). Subsequently, 100,000 shares of Onaping were issued to Canam in the first few months of 1981. As well, 25,000 shares of Onaping were issued to Grainville Resources Ltd. (hereinafter Grainville) a Nova Scotia company controlled by the appellant's father.

3.04 The appellant maintained that shortly after Canam received the Onaping shares, he indicated to his fellow shareholders and directors in Canam a desire to purchase a residential property in Halifax. He wanted to borrow from Canam the sum of $80,000 as a shareholder loan for the specific purpose of purchasing the residence.

3.05 On May 11, 1981, the appellant and Donald Peverill went to the offices of H.R. Doane and Company and met with K.R. Dean who was referred to them as a tax expert. They discussed among other things tax treatment of a housing loan from Canam.The loan in question has been treated as a shareholder loan pursuant to subparagraph 15(2)(a)(ii) of the Income Tax Act.

The relevant passages of the accountant's letter dated May 12, 1981 read as follows (exhibit A-1):

7. We discussed the possibility of a shareholder's loan for acquisition of a residence. By carefully following the provisions of Sec. 15(2)(a) of the Income Tax Act, problems can be avoided respecting such a loan.

If the loan is interest free, a taxable benefit under Sec. 80.4 will arise.

If the shareholder is also an employee of the company and the company borrows the money to lend the shareholder, the interest should be tax deductible to the company.

I trust the above adequately covers all of the points that we discussed. If you have any questions please call.

Yours very truly,

H.R. DOANE AND COMPANY

K.R. Dean, C.A.

Partner.

3.06 Subsequent to the meeting with Mr. Dean, a meeting of all directors and shareholders of Canam was held at the office of the appellant's law firm. Among the matters discussed was the appellant's desire to use the sum of $80,000 for a housing loan. This matter, according to the appellant, was approved and discussed by the Board. He maintained that it was understood at that time that in all likelihood it would be necessary to reduce the agreement to writing for entry in the minute book at the time the loan actually took place. It was agreed that the loan would be a reward for past services to Canam for which the appellant had not been paid and had not sought payment. It was also understood that as long as the appellant continued to render services to Canam, maintained his relationship with Canam and retained the house, neither the loan nor interest on the loan would be payable.

With his written submission, the appellant filed as exhibit A-3 a three-page handwritten document. It is supposed to have been written by Mr. Donald Peverill, who acted as secretary at this meeting.

This document is not dated and was not confirmed by Mr. Peverill. There was no possible cross-examination about it.

Moreover, I cannot find any word or sentence to the effect that the loan was a reward for past services and so on.

Finally, there is no evidence that this document was used to draft the minutes of the company. It cannot be accepted as evidence.

3.07 On May 18, 1981, the appellant executed an agreement of purchase and sale to acquire a house at 6344 Norwood Street in Halifax, Nova Scotia, the transaction to be closed on July 31, 1981 (exhibit A-2).

3.08 In the spring of 1981, when Canam received its shares in Onaping, they had a fair market value of at least $10 per share for a total value pursuant to the appellant in excess of $500,000.

3.09 In May 1981, the appellant contacted Robert Price of Walwyn, Stodgell to advise that Canam was lending him $80,000 which he would require by July 31, 1981. The money was to be raised by the sale of some of Canam's Onaping shares. Approximately $40,000 worth of Onaping shares were sold in, the month of May. The moneys remained in the Canam account, but were to be earmarked for the housing loan of July.

3.10 According to Mr. Price's advice (broker for both the appellant personally and Canam) the value of Onaping shares would rise in the next few months. Therefore, by waiting, Canam would have to sell fewer shares of Onaping than if they were sold while the price was lower.

3.11 At approximately the end of June, the price did not rise as Mr. Price had expected but remained stable.The appellant said he was then persuaded by Mr. Price to have Canam borrow the money from Walwyn, Stodgell instead of selling more Onaping shares before their value rose. The loan to Canam was to be secure on the strength of the Onaping shares that were lodged with the Canam account.

Consequently, the appellant arranged with Walwyn, Stodgell that on July 31, 1981, the latter would forward him a cheque in the amount of $80,000.

3.12 On or about July 31, 1981, when the appellant contacted Robert Price about the $80,000 cheque, he was told that it would not be issued because there were not sufficient Onaping shares in the Canam account to justify an advance of $80,000. Upon making inquiries with Mr. Price, it transpired that many or most of the Onaping shares had been removed from Walwyn, Stodgell by Mark George, the other principal shareholder (3.02).

It also appeared that Mr. George had run up a large personal debt with Walwyn Sto ell which was alleged to be guaranteed by Canam although the appellant and Mr. peverill dispute this fact. The result of these actions by Mr. George was that Canam had insufficient security and cash lodged with Walwyn Stodgell to secure the loan as contemplated.

Moreover, pursuant to the appellant, Mr. George could not be reached as he had left for Texas some time earlier.

3.13 As a result of the foregoing, the appellant maintained that Mr. Price suggested that the only way the advance of $80,000 could be made was if additional security was lodged with Walwyn.

Consequently, the appellant contacted his father who at his son's request lodged Grainville’s 25,000 Onaping shares with the Walwyn Stodgell office in Winnipeg.

Once the security was received, the Halifax office of Walwyn Stodgell advanced the appellant $80,000 on Canam's account on July 30, 1981. The following day, the housing transaction was completed.

4. Law- Cases at law-Analysis

4.01 Law

The provisions of the Income Tax Act involved are 15(2), 15(9), 56(2), 3 and 80.4 and paragraph 4300(6)(c) of the Income Tax Regulations, although the main subsection involved is subsection 15(2) of the Act which reads as follows:

15. (2) Loan to shareholder, etc. -Where a particular corporation, a corporation to which the particular corporation is related or a partnership of which either or both of the corporations is a member has in a taxation year made a loan to a person (other than a corporation resident in Canada) who is a shareholder of the particular corporation or who is connected with a shareholder of the particular corporation, the amount thereof shall be included in computing the income for the year of the person to whom the loan was made unless

(a) the loan was made

(iii) where the lender is a corporation, to an employee of the corporation to enable or assist the employee to acquire from the corporation fully paid shares of the capital stock of the corporation, or to acquire from a corporation related to the corporation fully paid shares of the capital stock of the related corporation, to be held by him for his own benefit, or

and bona fide arrangements were made at the time the loan was made for repayment thereof within a reasonable time; or

(b) the loan was repaid within one year from the end of the taxation year of the lender in which it was made and it is established, by subsequent events or otherwise, that the repayment was not made as a part of a series of loans and repayments.

Other paragraphs will be reproduced in the analysis if needed.

4.02 Cases at law

Counsel for the parties referred the Court to the following cases:

1. M.N.R. v. Bronfman, [1965] C.T.C. 378; 65 D.T.C. 5235.

2. First Fund Genesis Corp. v. Canada, [1990] 2 C.T.C. 24; 90 D.T.C. 6337 (F.C.T.D.).

3. Francis Louis Wright v. M.N.R., [1986] 1 C.T.C. 2581; 86 D.T.C. 1415 (T.C.C.).

4. Massey Ferguson v. The Queen, [1977] C.T.C. 6; 77 D.T.C. 5013 (F.C.A.).

5. John Altenhof v. M.N.R., [1973] C.T.C. 2303; 73 D.T.C. 239.

4.03 Analysis

4.03.1 The crux of the matter is:

(a) Whether "bona fide arrangements were made at the time the loan was made for repayment thereof within a reasonable time”, and

(b) What is the quantum of the housing loan received by the appellant from Canam.

4.03.2 The Court believes that the Wright case (1986) referred to by both seems to be substantially appropriate to resolve the first point at issue.

The facts in that case are quoted as follows from the headnote in the Dominion Tax Cases (page 1415).

The taxpayer was an employee and the major shareholder of a certain corporation. In 1979, the company made a loan to the taxpayer which he used to acquire a one- third interest in a parcel of land.The taxpayer intended to construct a residence for himself on his share of the property. He knew that the property could not be subdivided due to zoning restrictions but, prior to purchase, he had received from the local municipality approval in principle to registration of a bare land strata plan which would have accomplished the same thing. However, the municipality later changed its mind and the taxpayer was unable to construct his residence. In November 1980, the company passed a resolution authorizing the loan and the taxpayer signed a promissory note providing for repayment within ten years. No mention was made of interest. The Minister included various amounts in the taxpayer's income for his 1979 and 1980 taxation years as taxable shareholder loans and the taxpayer appealed to the Tax Court of Canada.

The taxpayer's appeal was allowed in part. The Court found that the loan was made to the taxpayer to enable him to acquire a dwelling for his habitation. The taxpayer acquired the parcel of land in good faith with the intention of constructing a residence thereon.

The subsequent decision of the municipality to reverse its earlier position was beyond the taxpayer's control. However, it could not be said that bona fide arrangements for repayment were made at the time the loan was made. In fact, no arrangements at all were made at that time. Formality was required since a corporation was involved and since the taxpayer was the main shareholder of that corporation. In any event, the Court doubted that repayment without interest could be regarded as a bona fide arrangement.In the result, the Court found that the loan was taxable but that the wrong amounts had been included in income in respect of the taxation years in issue.

4.03.3 The appellant referred to the Wright case because in that case, there is mention of special circumstances which were beyond the appellant's control as to why a resolution was not passed (4.03.2).

Therefore, he submits that in the present instance, such special circumstances existed.Those the appellant contends were the appropriation of a significant amount of the company's assets by Mark George and the physical absence of that shareholder from the jurisdiction at the time a resolution should have been passed (3.12). The appellant contends that he was a victim of circumstances beyond his control namely the actions of Mark George, which have prevented him from reducing the agreement to writing.

In the present case, however, the Court does not believe that such special circumstances exist.

The dishonesty of the other principal shareholder may be beyond the appellant's control. However, it was not beyond the appellant's control to have had the resolution passed and reduced into a formal agreement.

4.03.4 The appellant also referred two cases to the Court, John Altenhof v. M.N.R. (4.02(5)) and Massey Ferguson v. The Queen (4.02(4)) which both recognized the validity of verbal agreements.

Despite the fact that verbal agreements may be valid, this surely does not lighten the burden to prove the existence of a bona fide agreement. On the contrary, it might render heavier the appellant's burden of proving his allegations. As stated by Mr. Justice Cardin of the Altenhof case page 2305 (D.T.C. 240), “in the absence of a written document, the Board must rely on the facts and the credibility of the appellant”.

In other words, the lack of a written document transfers [to the appellant] entirely the validity of the proof on the facts and on the appellant's credibility regarding those facts.

Here, the facts do not seem conclusive enough to the Court to prove that bona fide agreements for repayment had been made.

4.03.5 Indeed, the evidence indicated that it was agreed between the appellant and the other directors that neither the loan nor interest would be repayable as long as he retained his house and continued to render services to Canam.

The respondent submits that, in the absence of evidence that Canam had imposed conditions on the loan, i.e., by enforceable agreement, it cannot be said that a bona fide agreement had been made within the meaning of subsections 15(2)(iii) of the Act.

[However], the appellant also submits that there were written documents (exhibit A-1 (3.05), A-2 (3.07), A-3 (3.06) that support his contention that the funds were advanced by way of a housing loan. This has not been questioned.

The evidence indicated that the $80,000 loan was effectively serving to purchase a house. However, this is not the only requirement of subsection 15(2) as to what is required to determine whether or not the loan was a bona fide arrangement between parties.

The Court agrees that these written documents did mention briefly the appellant's intention to get the housing loan. Moreover, the accountant's letter simply stated how the appellant should consider the loan income-wise, if he did borrow the money to purchase a house. The fact that the appellant may have been aware of the requirement of subsection 15(2) of the Act does not necessarily indicate that he did in fact respect it. The written documents referred to by the appellant do not suggest an agreement in the sense of the Act.

In fact, the only written evidence Presented by the appellant confirms that he planned to borrow the $80,000 housing loan.

4.03.6 In conclusion of the first point at issue, I would reaffirm what I said in the Wright case (4.02.(3)). It reads as follows:

In my opinion, Mr. Justice Heald in the Peter Neudorf case (par. 4.02(16)) touches the actual point when he stated at page 5215 in the Dominion Tax Cases and page 196 in the Canada Tax Cases:

It is my further view that since one of the parties to the arrangement was a corporation, there is more formality required (such as corporate resolutions, for example) than in the case of individuals and particularly where the details of a relationship are important as against third persons such as the Revenue.

The formality must be more strictly followed when the result is an advantage received by the main shareholder of the corporation because when the lack of a formality in the application is the mistake of the said shareholder, he has no excuse. Already, in June 1979, after the meeting with the accountant's Company, Mr. Winterbottom, the appellant was aware of the resolution the Company had to pass.

The fact that the appellant in the present case is not the main shareholder but one of the main shareholders does not have any impact on the conlusion.

A corporation is a legal entity, a different person from the shareholder. Thus, it is only through the passage of a resolution by the corporation that a third person could have knowledge of the corporation's specific agreement with the shareholder.

The appellant and the corporation may have had an informal agreement, but this is a risk which is the shareholder's responsibility.

In fact, as I stated in Wright, from the moment a third person such as the respondent becomes involved because of subsection 15(2) of the Act which is an exemption provision, the formality required in the Act must be applied.

If the appellant's informal agreement with the corporation makes his bona fide arrangement non-existent for the third person, this is his own fault and he has no excuse, besides special circumstances beyond the appellant's control, for the resolution not being passed. That the circumstances were beyond his control has not been satisfactorily proved in the present case (4.03.2).

4.03.7 The appellant's allegations have not convinced the Court that a bona fide arrangement ever existed between the appellant and the corporation.

4.03.8 The latter point at issue consists in determining the quantum of the housing loan received by the appellant from Canam.

The appellant submits that there has been oral evidence by both himself and another shareholder of the company which (if believed) establishes that a substantial portion of the funds did not come from Canam.

He maintains that if there was a loan from Canam, the amount of the funds advanced by them was only $40,000 and not $80,000 as alleged. The balance of the funds he says was advanced by and through Grainville Resources, the appellant's father company.

4.03.9 It seems that besides the $80,000 housing loan, there were apparently debts suffered by Canam due to the fact that Mark George had run up a large personal debt with Walwyn Stodgell. Moreover, the appellant stated that he had then tried to release the Crainville shares from the security loan so that his father could get them back. This tends to show that he and his father had not concluded any agreement regarding the $80,000 loan.

How could he have planned to borrow $80,000 from the Crainville shares (security loan) and at the same time be concerned about having them released from Walwyn Stodgell so that his father would not have to suffer the inconvenience of not getting them back?

From those facts, the Court feels that the credibility of the appellant leaves much to be desired.

It would be almost impossible to determine the specific Canam debt the Crainville shares paid for, unless there was a written document to prove the appellant's allegation. There was none. Once again, the appellant refers the Court to those special circumstances mentioned earlier (3.12). The Court has already decided on the relevance of that argument (4.03.2).

4.03.10 Regarding subsection 56(2), which reads as follows:

Indirect payments.-A payment or transfer of property made pursuant to the direction of, or with the concurrence of, a taxpayer to some other person for the benefit of the taxpayer or as a benefit that the taxpayer desired to have conferred on the other person shall be included in computing the taxpayer's income to the extent that it would be if the payment or transfer had been made to him.

the respondent submits that the $80,000 advanced to the appellant by Walwyn, Stodgell should be taxed in the appellant's hands as if advanced directly by Canam.

The court's decision on the first point at issue legitimates the application of subsection 56(2).

The moneys were in fact advanced by Walwyn Stodgell and were secured by the Crainville shares and repaid entirely by Canam. The evidence shows that the appellant never reimbursed the moneys to Canam.

Therefore, by virtue of subsection 56(2) and section 80.4 of the Income Tax Act, the $80,000 loan will be taxable with interest for the taxation year of 1986. The interest rate is determined by paragraph 4300(6)(c) of the Income Tax Regulations.

5. Conclusion

For the foregoing reasons, the appeal is dismissed.

Appeal dismissed.