W. Green Holdings Ltd. v. Minister of National Revenue, [1990] 2 CTC 2068, [1990] DTC 1605

Taylor, T.C.J.:—This is an appeal heard in Edmonton, Alberta, on May 14, 1990, against an income tax assessment for the year 1984 in which the Minister of National Revenue disallowed a deduction of $100,000 claimed as a "business expense" but did allow deduction of that amount as a “business investment loss". The notice of appeal indicated the general circumstances and assertion of the appellant:

— The Appellant was at all times material hereto controlled by Mr. William Green.

— Mr. William Green was at all times material hereto an employee of the Appellant.

— On November 17, 1983 the Appellant entered into an agreement in writing (the "Agreement") with, inter alia, Har-Way Industrial Enterprises Ltd. (“Har-Way”), Axon Holdings Ltd. (“Axon”) and Edward L. Shipka ("Shipka"), which provided, inter alia, as follows:;

— the Appellant agreed to lend up to $300,000 to Har-Way with interest payable at Royal Bank of Canada prime plus 1 /4%;

— Har-Way granted the Appellant the option to purchase 125 treasury shares of Har-Way at a price of $1.00 in the aggregate;

— the Appellant designated Mr. William Green to act on its behalf and Mr. Green was appointed as a director and the General Manager and Chief Executive Officer of Har-Way; and

— Axon and Shipka were given the right to purchase any shares acquired by the Appellant for the fair market value of such shares.

— Pursuant to the terms of the Agreement, the Appellant advanced $100,000 to Har-Way, which advance was funded by bank borrowings of the Appellant.

— The Appellant believed that Har-Way was a viable business which was temporarily in financial difficulty due primarily to poor management and that proper management would result in Har-Way becoming profitable.

— Pursuant to the Agreement, neither Mr. Green nor the Appellant received any salary, remuneration or fees for the efforts of Mr. Green as a director and the General Manager and Chief Executive Officer of Har- Way.

— Through its employee, Mr. William Green, the Appellant immediately became actively involved in the daily operations of Har-Way, providing management and controllership services.

— The financial institution which provided financing to Har-Way unexpectedly appointed a receiver (the "Receiver") on November 30, 1983. Through its employee, Mr, William Green, the Appellant continued to provide services to Har-Way in conjunction with the Receiver.

— Efforts to revive the business of Har-Way failed and Har-Way ceased operations and was dissolved during its October 31, 1984 taxation year.

— The Appellant was not repaid any of the $100,000 advance made to Har- Way.

— The Appellant advanced the funds to Har-Way as part of an effort to revive the business of Har-Way.

— The Appellant intended to realize a profit on the sale of the shares of Har-Way to Axon and Shipka once the business of Har-Way was revived.

— The primary purpose of advancing funds to Har-Way was not to earn interest income.

— A profit was not realized due to the unforeseen appointment of the Receiver almost immediately after the advance of the funds by the Appellant.

For the respondent the situation was:

— The Respondent relies, inter alia, upon Sections 3, 18(1)(b), 38, 39 and 40 of the Income Tax Act, R.S,C, 1952, c. 148, as amended by S.C.I 1970-71-72, 63, s. 1, applicable to the 1984 taxation year of the Appellant.

— The Respondent respectfully submits that the loss of $100,000 advanced to Har-Way claimed as a deduction from income was an outlay or payment on account of capital within the meaning of Section 18(1)(b) and has properly been allowed as a business investment loss in accordance with the provisions of Section 38(c) and Section 39(1)(c).

The "agreement" was submitted as Exhibit A-1 and both Mr. William Green and Mr. Edward Shipka gave testimony. The agreement generally followed the outline provided in the notice of appeal (above) and it was noted by Mr. William Green that he had set up financing—to the limit of $300,000 with the Royal Bank of Canada at prime plus 1 A per cent to accommodate the obligation to Har-Way. It was his evidence, confirmed by Mr. Shipka, that at the date of the agreement, the shares in Har-Way were worthless but that if Green had been issued the 125 option shares the company then would have owned 50 per cent of the outstanding common shares of Har-Way. It was Mr. Green's contention, again agreed to by Mr. Shipka, that the expectations at the start of the agreement (when the $100,000 at issue was put into Har-Way) that he (Mr. Green) would be able to turn the company around in three to six months, take advantage of the option for the 125 shares—then re-sell the shares back to Shipka and Axon at a profit—he anticipated a substantial profit. Mr. Green earlier had outlined his business experience, upon which he based his view that he could accomplish his "three to six months goal" for Har-Way. Mr. Shipka expressed a high regard for Mr. Green's background and experience, and indicated confidence in his plan. Mr. Shipka also stated he would have been prepared to purchase the 125 shares from Mr. Green when the goal of viability and profitability had been accomplished.

Argument

It was the simple argument of counsel for the appellant that the entire agreement constituted an "adventure in the nature of trade"—by which Green loaned up to $300,000 to provide working capital; provided Mr. Green at no salary to manage the operation; and in return received from Har-Way the option to purchase for $1 the 125 shares, which then could be resold at a profit. Clearly there was no opportunity for “profit” in the loan by itself—the interest incurred by Green would merely be offset by the interest earned by Green; there was certainly no profit to Green in providing the services of Mr, Green at no salary or fee; but there was the real prospect of profit from the purchase and sale of the company shares to the appellant. Counsel provided the Court with the following case law:

— The position of counsel for the respondent was that the “loan” should be looked at separately from the management services and the option for shares, and that under the circumstances it could only be viewed as an advance of capital by Green to Har-Way. The option arrangement for the shares was simply too vague, and speculative to have any relationship to the loan at issue.

Analysis

Obviously the entire agreement at the base of this appeal is unusual to say the least. The proposition that the appellant would loan to Har-Way up to $300,000, which amount it needed to borrow itself for that purpose, and receive in return only a promissory note, a debenture and a postponement of other clauses (see agreement above) while providing its main shareholder at no cost to manage Har-Way, with only the prospect of gain on the possible increase in value of the common shares of Har-Way from zero to something else, does strain the imagination. However that must be taken in the light of the only viva voce evidence the Court has that both Mr. Green and Mr. Shipka believed the strained financial circumstances were temporary and could be corrected quickly. One must wonder how an experienced businessman like Mr. Green got involved in this situation with his friend, Mr. Shipka, only to have Har-Way's bank "unexpectedly" appoint a receiver within days of Green advancing $100,000. But that is not our problem. There are only two possible conclusions which can be reached. The first is that Mr. Green was thoroughly convinced that Green stood a very good chance of owning 50 per cent of the shares of a very profitable company in about three to six months, which shares could be sold at a distinct profit to warrant the whole risk and deal; or second that there was no such prospect of profit just over the horizon and that the $100,000 loan had no basic relationship to the other aspects of the agreement. The uncontested testimony of the two witnesses, Mr. Green and Mr. Shipka was to the effect that the issue of the 125 shares to Green, and the subsequent sale back to Shipka and Axon was the intention. There is no evidence to support the respondent's assertion that the loan was unconnected to the prospect of profit by Green from the sale of the shares. I am well aware that there was no compunction in the agreement that Green sell the shares to Shipka and Axon or to anyone else. I am, however, equally aware of the detail (Clause 13 of the agreement above) into which the parties went to set up a basis for valuing the shares for that prospective sale. That aspect of it tends to support the testimony of Mr. Green and Mr. Shipka. I am also aware that after the issue of the shares to Green (if it had occurred) the appellant corporation could have simply held the shares and participated in the profits of Har-Way—a result which would have done great damage to the contention of counsel for the appellant that the purpose of this entire venture was to make a profit on the sale of the shares. There is no way anyone can be certain of what "might have happened" under circumstances which did not even arise, and it may be of little comfort to the taxing authorities that such a prospect existed. The fact is that the evidence available to this Court leads one the other way. I accept the proposition of counsel for the appellant that the entire agreement must be taken into account to determine that the loss represented a business loss— simply a loan from Green to Har-Way based on the security of a promissory note, a debenture and an option to purchase shares for resale at a profit. To accept this proposition of counsel for the appellant, the entire arrangement must be viewed as an effort by Green with a clear determination and intention to acquire shares in Har-Way, for which "right" or “option” Green provided working capital and management. As noted earlier, that perspective does require a substantial leap of faith—but it is consistent with the evidence available,

I have reviewed the jurisprudence submitted by counsel for the appellant, and while I recognize that some aspects of that case law may have relevance here, I also point out that there are many distinguishing features which could tend to put into question too much reliance on it. Nevertheless, it has been of assistance.

The appeal is allowed and the matter referred back to the respondent for reconsideration and reassessment. The appellant is entitled to party and party costs.

Appeal allowed.