Norton Penturn v. Minister of National Revenue*, [1990] 2 CTC 2170, 90 DTC 1716

Rip, T.CJ.:—Norton Penturn, the appellant, filed appeals to this Court from income tax assessments for 1977 to 1982 inclusive. [1] The appellant describes himself as a financial intermediary or merchant banker who carries on the business of arranging various types of financing transactions, including secured loans and equity investments. He claims that in carrying on business in 1977 he guaranteed loans he recommended to at least two clients. In 1978 and 1979 he made payments with respect to the guarantees on investments that went bad and was assigned the investments. In computing his income from a business for 1978 and 1979 the appellant deducted the amounts of $455,960 and $384,251.20 respectively on the basis they constituted expenses permitted to be deducted in computing income from the business pursuant to subsection 9(1) and paragraphs 18(1)(a) and 20(1)(p) of the Income Tax Act ("Act"); properties assigned to him on making the payments had no value. The Minister of National Revenue, the respondent, disallowed the deductions of the purported payments of the guarantees. On subsequently disposing of the rights assigned to him on paying the guarantees, Norton Penturn included the proceeds in computing income for 1981 and 1982. The notices of reassessment for 1981 and 1982 were for nil tax; further the appellant has not filed any notice of objection for 1981. Accordingly the appeals for 1981 and 1982 are not properly before this Court.

The three investments which gave rise to the appeals are:

(a) Bonneville Shopping Centre (“Bonneville”), a strip shopping plaza, owned by the Interbond Corporation and located in the Municipality of Caguas in the Commonwealth of Puerto Rico. Interbond required a loan and Harold Linden, its president, asked the appellant for his assistance in return for a second mortgage on the Bonneville lands.

(b) La Esperanza, a project originally to be constructed as social housing by a corporation owned and controlled by Harold Linden and Angel Olivencia to be built on approximately 57 acres in Vega Alta, Puerto Rico. Vega Alta is 18 miles from San Juan. A social housing project was described by Erasmo Don Zabala, lawyer for the owners, to be a United States federal and territorial subsidized program for the construction of adequate housing for lower income people. Mortgages were available to qualified purchasers at an interest rate of two per cent or three per cent, the principal amounts and interest are guaranteed by the appropriate government agency. La Esperanza was to be built in two phases, each phase consisting of 200 units; profits were projected at between $2,000 and $2,500 per unit. Work on the project did commence and was partially completed although not as social housing.

Bonneville and La Esperanza are sometimes referred to as the "Puerto Rico Transactions” or "Puerto Rico assets".

(c) Turkish Lira Deposit, a Turkish Lira Deposit account in the Turkiye Garanti Bankasi A.S. in the name of Lloyds Bank International Ltd. as trustee for Weston Banking Corporation convertible at the option of the holder to one million Swiss francs (equal to U.S. $400,000) with value date August 30, 1976, bearing interest at five per cent per annum, payable 25,277.77 Swiss francs due February 23, 1977, 25,416.66 Swiss francs due August 30, 1977 and 17,777.77 Swiss francs due November 30, 1977. Capital was due for repayment on November 30, 1977. The deposit was made under Turkish Finance Ministry decree guaranteeing the automatic reconversion of the Turkish lira into foreign currency through the Turkish Central Bank without any exchange risk for the lender. The deposits were sold at a discount. Weston Banking Corporation assigned their claims in the Turkish Lira Deposit to Altano Investment Corporation, a client of the appellant, for U.S. $400,000.

During evidence reference was made to various individuals and corporations. For ease of reference they are:

Altano Investment Corporation ("Altano"), a corporation incorporated in the Republic of Panama and having an office in Zurich, Switzerland and described by the appellant as an investment vehicle for Dr. Martin Forster;

Amalgamated Investment & Property Co. Ltd. ("Amalgamated"), a corporation incorporated in the United Kingdom having property interests in Toronto;

Banco Economias, a bank in Puerto Rico the shares of which appear to have been owned directly or indirectly by Harold Linden and Angel Olivencia;

Bank Julius Baer & Co. A.G ("Baer"), a Swiss bank in which Altano maintained funds;

Bienes Rades Fortuna S.A ("Fortuna"), a Panamanian corporation with an office in Switzerland, represented by Michael Citroen;

Michael A. Citroen ("Citroen"), a chartered accountant in London, England described by Penturn as a "very successful" accountant who introduced factoring to the United Kingdom. According to Penturn, Citroen is considered as "one of the leading lights of individuals in business in England". Penturn stated Citroen received a “terrific offer" for his business and sold it. By 1980 he was in the "financial business". The appellant was introduced to Citroen by Harrison in the early 1960s and at trial the appellant considered their relationship a “friendship more important (than) business” relationship;

Erasmo Don Zabala ("Don Zabala"), an attorney in Puerto Rico who had a direct or indirect interest in La Esperanza and since 1975 was employed as vice president and legal counsellor by the Interbond Corporation and related companies;

Malcolm C. Fontayn ("Fontayn"), a solicitor in London, England. Citroen and Fortuna were his clients;

Dr. Martin Forster ("Forster"), a lawyer practising in Zurich with whom the appellant has had social and business relationships since the 19505. Forster from time to time had visited Toronto seeking investments for his clients;

Raphael R.W. Gerstel ("Gerstel"): see Weston and Weston Finance;

Grampian Investments Ltd ("Grampian"), a corporation incorporated in the Cayman Islands in 1977 by Erasmo Don Zabala and George Sampas for Interbond and which acquired the option to purchase the La Esperanza land. According to Don Zabala, interest rates were increasing and it was hoped a Cayman Islands corporation would appeal to investors outside Puerto Rico, in particular Europeans;

Gabriel Harrison (“Harrison”), chairman of Amalgamated;

The Interbond Corporation ("Interbond"), a Puerto Rico corporation, the shares of which were owned by Linden and Angel L. Olivencia;

Jarmac Film Holdings Ltd ("Jarmac"), a Canadian corporation in which the appellant was invited to invest;

Harold D. Linden ("Linden"), a former Canadian lawyer with whom the appellant was acquainted. Linden resided in Florida but since 1961 carried on business activities in Puerto Rico together with Angel L. Olivencia. Linden was president of the Interbond Corporation;

Marken Investment Company N.V. ("Marken"), a Swiss corporation having its head office in Geneva and which was owned or controlled by Citroen and Mario Benbasset who, according to Penturn, owned Banque du Rhone et de la Tamise S.A. in Geneva;

McLeod, Young, Weir International Ltd. (“McLeod”), a wholly owned subsidiary of McLeod, Young, Weir & Company Ltd., Stockbrokers. The appellant maintained an account in McLeod's London, England office;

Angel L. Olivencia ("Olivencia"), a senator of the Commonwealth of Puerto Rico and business associate of Linden;

John Penturn and Son Ltd. ("Penturn Ltd."), an Ontario corporation controlled by the appellant. It has carried on the business of real estate broker and manager of real estate in Toronto since its incorporation by the appellant in 1953; the business has been carried on for 84 years, first by the appellant's father, then by the appellant, and latterly by the corporation;

Norton Penturn ("Penturn"), the appellant;

George Sampas ("Sampas"), an attorney in Miami Beach, Florida, who acted for Forster, U.S.C. and Altano as well as the appellant. He was introduced to Forster by Walker;

Turkiye Garanti Bankasi A.S. ("Turkish Bank”), a bank in Istanbul, Turkey holding the Turkish Lira Deposit;

United Services Corporation Inc. ("U.S.C."), a corporation incorporated in the Republic of Panama and having an office in Zurich, Switzerland and described by the appellant as an investment vehicle for Forster;

Vega Alta Construction Corporation ("Vega"), a corporation incorporated in Puerto Rico to construct La Esperanza. The shares were owned as follows:

George Sampas, trustee for U.S.C. and Penturn 40 per cent;

Jack A. Walker ("Walker"), a solicitor in Toronto who acted for all of the appellant, Forster, Altano and U.S.C. at the same or different times;

Weston Banking Corporation ("Weston Bank”), a corporation having an office in the Republic of Panama. The appellant is of the view Weston is controlled by Gerstel;

Weston Compagnie de Finance et d'investissement S.A. ("Weston Finance") a corporation carrying on business in Switzerland and, according to the appellant, is controlled by Gerstel;

Weston Finance and Weston Bank are sometimes individually or collectively referred to as "Weston Group".

Penturn is now a gentleman in his seventies. He first started working with his father in the real estate business in 1936 or 1937 and is now president of Penturn Ltd. The appellant says that since the 1950s he has personally carried on a business “in deals of finance and deals where I guaranteed loans of clients for a fee and for participation". He has also invested in real estate properties. During the past 20 years, he states, he has carried on what he has considered "the most exciting part of my work over the years and that is really doing what I consider merchant banking: putting deals together, advancing moneys towards them, receiving shares or perks for it and representing people all over the world”. No financial records have been maintained with respect to this purported business nor have any financial statements for this activity ever been prepared. Any expenses, such as airfare and hotels, were paid by Penturn and in some circumstances, he said, he shared expenses with clients or the clients paid all the expenses; at other times he "simply netted the gain".

Penturn's definition of merchant banker is "one who puts deals together, either financing them, guarantees part of them, brings interested parties (together), helps arrange the financing and makes successful deals", although some deals may be unsuccessful. The merchant banker, in his view, makes money “by getting a piece of the action”. The merchant banker also "makes money on the money that he raises and he makes money on consultations and he makes money as well, possibly, on fees that might arise to him or his other associates or associations in which he has an interest".

Penturn described a transaction which was an example of his merchant banking activity. In 1966 he approached the president of Amalgamated, a “leading” construction company in the United Kingdom and Nassau, to purchase two office buildings in Toronto which were then owned by a United States client in financial difficulty. The shares of the operating company which owned the buildings were sold to Amalgamated. Penturn arranged the financing. In return Penturn Ltd. received a commission and Penturn received ten per cent of the equity. When a third building, next to the other two, was for sale in 1970 Penturn recommended its purchase to Amalgamated. The building was purchased by the same entity owning the two other buildings and in effect Penturn became owner of ten per cent of the equity in the third building. In arranging the financing for the third building Penturn gave his personal guarantee for the loans; he also guaranteed a loan of $1,000,000 to be used to modernize the buildings since, because of currency restrictions in the United Kingdom at the time, he said, Amalgamated was not permitted to advance the funds.

This transaction was typical, according to Penturn, because he knew the people and "thought up the deal”. Typically, he said, he would Bo to people of substance he knew, would say he needs a certain amount of money and in return "would get them a 'piece' of the investment". He insisted he would obtain a fee for his personal guarantee to the effect that if the investment did not "work out" in the manner the investor had hoped he would return to the investor the capital and interest. Penturn said he could perform this service because "I have funds available. .. I know business”. He recalled he has returned money to investors even when the investment turned bad due to circumstances beyond his control. However "over the 52 years the scale has been in my favour". It is because of his willingness to personally guarantee investments, he believes, that he can readily obtain funds.

Penturn's sources of funds are people he has met over the years. In the beginning, he recalled, he attended conferences to meet people, joined organizations. "You meet people—influential people. . .”. While he met Harrison in 1955 it was not until 1966 that he made the first "deal" with Amalgamated. "Some things are on the shelf for two, five or ten years or more", he testified.

It was in this scheme of things that he entered into the transactions subject to these appeals.

Puerto Rico Transactions

It had been 15 years since Penturn had last seen Linden, when the latter, who had been his lawyer, left Toronto for Puerto Rico in 1961. They got together in Florida when Penturn's wife contacted him there. Over the years Linden had built a good business, according to Penturn, and he offered Penturn an "opportunity". Penturn said Linden wanted U.S. $125,000 to refinance Bonneville and also wanted Penturn and his clients as future participants in the proposed housing project, La Esperanza. Penturn was impressed with Linden's success in Puerto Rico and offered the loan to Forster. On June 10,1976, Altano advanced the U.S. $125,000 at the interest rate of fourteen and one-quarter per cent per annum for a period of one year, payable in advance, security included a second mortgage on the Bonneville lands and personal guarantees of Linden and Olivencia and their wives.

Altano advanced the money on the understanding Linden and Walker would "control the situation”. Penturn charged Interbond no commission for obtaining the loan although early in his testimony Penturn said he received a $2,000 fee. Walker acted for Altano, although he was Penturn's lawyer as well. Penturn executed a copy of a letter from Altano to Penturn Ltd., dated June 3, 1976, agreeing that “if default occurs, at our (Altano's) option, you will take up our position and repay to us the principal plus interest.”

In his evidence Don Zabala explained that at the time Interbond was unable to raise funds in the local banking community because a housing project it was involved in was behind in sales. In addition money could not be raised on Bonneville because in 1975 it had been refinanced; on an appraisal value of Bonneville of U.S. $570,000, Interbond received a loan from a savings and loan institution in the amount of approximately U.S. $430,000. The funds were applied to pay off an existing first mortgage of U.S. $260,000 and the balance was used for various other purposes. Conventional lenders in Puerto Rico saw the difference between the then existing first mortgage of U.S. $424,000 and the value at the time as "too tight" and had refused to lend funds. In Don Zabala's view Bonneville, built some twelve years earlier, required renovations, had vacancies and its value had decreased since the 1975 appraisal. Attempts to sell the property were not successful.

Penturn testified that the motivation to obtain financing for Bonneville was his desire to invest in La Esperanza. As far as Bonneville was concerned “it was something I didn't know whether or not it would stand on its own two feet".

In early 1977, Linden got in touch with Penturn to invest in La Esperanza. Interbond required a loan of U.S. $250,000 which would bear annual interest of fifteen per cent and be secured by a second mortgage on the La Esperanza lands which were to be acquired by Grampian; in addition Linden offered Penturn and his investor a 20 per cent equity interest in the project. Eventually the equity interest to Penturn and the investor was negotiated to 40 per cent, which Penturn allocated 20 per cent to himself and 20 per cent to the investor. According to Don Zabala Interbond was not in a position to repay the U.S. $125,000 loan with respect to Bonneville and Penturn was attempting to collect; it was in order to obtain an extension to the loan that the 20 per cent equity interest originally offered to Penturn was increased to 40 per cent, although negotiations for Penturn's participation in La Esperanza began before negotiations for the extension of the loan.

Penturn recommended the loan to Forster, advising him he would personally guarantee the loan. Forster agreed to advance the U.S. $250,000 to Grampian through U.S.C. [2] Penturn received no fee or commission for his personal guarantee. He considered the 20 per cent equity interest as his fee for “setting up the deal”. Grampian purchased the La Esperanza lands in May 1977 from Deserrollos Multiples Insulares Inc., a wholly owned subsidy of Puerto Cement Company, described by Don Zabala as a corporation with substantial business interests in Puerto Rico. The sale had a substantial mortgage back to the vendor. A second mortgage in favour of U.S.C. was then placed on the land.

In 1978 it became clear La Esperanza would not be built as a social housing project. Notwithstanding attempts, Linden could not obtain approval as a social housing project and without the approval no financing was forthcoming. The government agency financing social housing projects had committed itself to projects in 1977 in excess of the total amount of budget and could make no further commitments; in fact, according to Penturn, commitments were being cancelled. Grampian, once confident of approval of La Esperanza as a social housing project, could not obtain financing from a Puerto Rico bank without such approval. Interbond was unable to repay the Bonneville mortgage nor pay interest to U.S.C. or to the vendor of the La Esperanza lands on the first mortgage back to it. For various reasons, in particular the economic climate at the time which experienced declining land prices and Olivencia's relations with Puerto Rico Cement Company, according to Don Zabala, the vendor did not enforce its rights under the mortgage.

The share structure of Grampian was altered in June, 1977 to permit Don Zabala to hold three shares and to permit Sampas to be the registered owner in trust of four shares; apparently the four shares registered in the name of Sampas represented 40 per cent of all of the issued shares in Grampian and, according to Penturn, Sampas was holding the shares for U.S.C. and Penturn, each as to 20 per cent. Penturn testified his 20 per cent of the shares were held by Sampas as collateral for the personal guarantee he gave to U.S.C. and to grant Sampas greater clout in dealing with Linden. Penturn said he wanted the investors to be in charge of the situation and for Linden to realize this. Further, he did not want Linden to know he owned 20 per cent. Penturn felt that if Linden knew he still held an interest in La Esperanza, Linden would continue to pressure him for funds.

To make a very long story less lengthy, things at La Esperanza did not go well and by letter dated June 9, 1978, Forster asked Penturn "to take us out of the investment as soon as possible". Penturn replied that he would meet with Forster in Zurich on July 16th to discuss the matter. Penturn testified that at the meeting he brought Forster up to date on the various problems, advised him he would honour his guarantee “without question” and asked Forster when he wanted the money. On September 13, 1978, Sampas wrote Olivencia on Penturn's instructions giving formal notice of default on the loan.

In the meantime Don Zabala was attempting to save the situation. He proposed a new financing package to a local bank, prepared to form a new investment group to replace U.S.C. and Penturn and considered selling the property, although he testified a lot of cheap land was available at the time in Puerto Rico. He doubted that a foreclosure sale would yield enough money to repay U.S.C. Don Zabala set out these alternatives to Sampas by letter dated October 5, 1978 after discussing them with Sampas, Walker and Penturn in Miami. (All previous documents had been sent to Walker in Toronto and he was fully cognizant with the situation.) Penturn testified Don Zabala was “reasonably sure" something advantageous would be negotiated but Walker and Sampas told him any agreement would have to include the Bonneville loan, notwithstanding Don Zabala was not part of that investment. Other matters discussed at the meeting included equal control over La Esperanza between U.S.C. and Penturn and the Interbond group.

By letter dated October 24, 1978, Forster wrote Penturn, as president of Penturn Ltd., that since the Bonneville loan was in default and no satisfaction has been obtained, "we are formally requesting that you assume our position in the situation as per our Agreement". By late October, 1978 Forster had called on Penturn to make good on his personal guarantees with respect to Bonneville and La Esperanza. By cable of November 9, 1978, Penturn advised Samuel Mortgagu & Co. Ltd., his English bankers, to pay U.S. $400,000 to Baer for deposit in Altano's account. Penturn stated U.S. $400,000 was paid to Altano at Forster's instructions, notwithstanding U.S.C.'s loan was U.S. $250,000 and Altano's was U.S. $125,000. The difference of U.S. $25,000 represented interest not paid, requested by Forster, Penturn stated. Penturn said that all rights to the investments were assigned to him but at his request Forster agreed to permit the investments in Bonneville and La Esperanza to remain registered in the names of Altano, U.S.C. and Sampas in trust. Penturn believed Don Zabala and Linden would be better motivated to resolve the problems if they thought Altano and U.S.C. still held the investments.

When he acquired Bonneville and La Esperanza interests from Altano and U.S.C. respectively, Penturn considered the mortgages and shares in Grampian to have no value and did not foresee any possibility of a return on the investments. He did not foreclose on the properties because he was 4,000 miles away and was in no position to manage them. Penturn was of the view in any event any sale would be at a confiscatory price. The La Esperanza land, for example, was purchased for approximately U.S. $8,500 per acre, according to Don Zabala, and if it could not be used for housing it would revert to agricultural use and its value would be reduced to approximately U.S. $5,500 to U.S. $6,000 per acre. Costs of liquidation were estimated at 15 per cent. Thus, as agricultural land, the property had a gross value of approximately U.S. $328,000. If one takes account of its liquidation cost, the net value of the land was approximately U.S. $277,000; from this amount would have been deducted the aggregate of U.S. $264,000 due on the first mortgage and unpaid interest. The amount available to Penturn would be negligible, concluded Don Zabala.

At the end of 1978 the loans secured by the Bonneville and La Esperanza lands were not performing; the only interest paid had been the interest paid in advance on the Bonneville lands. Also, no interest had been paid on the vendor's first mortgage on La Esperanza. Bonneville was rapidly deteriorating: there were vacancies and the main tenant, Grand Union, was closed for several months. The revenue from the shopping centre was insufficient to pay the debt on mortgages on the property. In October 1978 the United States government issued a lien on the property for taxes owing by Interbond in the amount of U.S. $6,707. Efforts to sell Bonneville were also without success.

The La Esperanza situation was not better. The personal guarantees of Mr. and Mrs. Linden and Mr. and Mrs. Olivencia were worthless. Investigations by Sampas revealed that Linden was living beyond his means and his personal residence in Miami, protected by homestead legislation, which Walker explained, prevented it from being seized, was mortgaged to the hilt. Olivencia had invested heavily in Banco Economias and lost over U.S. $1,000,000 when that bank failed. According to Penturn, Olivencia was not worth much. Penturn described Don Zabala as "not a man of substance” and concluded there was little point going after him; he was working trying to get things in order. Penturn was of the view there was nobody to sue for recovery of any funds.

The title to the La Esperanza land was transferred from Grampian to Vega, Don Zabala explained, so that the registered owner of the property would be a Puerto Rico corporation, which would facilitate obtaining local financing. (The date of the transfer is not in evidence.) According to Don Zabala, beneficial ownership of the land stayed with the shareholders in the proportion of their shareholdings in Vega. Because of the conditions imposed by Walker for an extension on the Bonneville mortgage a year earlier the shareholders of Vega confirmed on Septembers, 1979 the corporation would assume the indebtedness with respect to the Bonneville mortgage as well as U.S. $250,000 with respect to the La Esperanza mortgage. The La Esperanza mortgage would be satisfied in part from a construction mortgage loan being negotiated by Don Zabala and the payment of U.S. $1,500 for each unit sold, payable on the closing of each sale.

By April, 1980 Don Zabala arranged with an agency of the territorial government for a construction loan for La Esperanza and by late spring construction commenced on the first stage of two hundred units. Sale of the units began to close in late spring or early summer of 1981 and money began to be paid to Sampas as trustee.

In the meantime, during the summer of 1980, Penturn loaned Interbond or Vega—the evidence is not clear—an additional $40,000 on the security of a third mortgage on the La Esperanza land in order for interest to be paid on the vendor's mortgage.

Walker testified that he did not consider Bonneville a good investment since "the rents did not cover the mortgage". He was convinced Penturn had another reason to invest in Bonneville and that was La Esperanza and “maybe others". Walker had poor experience in investing in the Caribbean and may have told Forster "he's crazy to go into the Caribbean”. Walker stated he became involved in the Puerto Rico transactions once Penturn took them over and, with Sampas, "tried to clean things up".

Also in late 1980 Penturn contacted Citroen to negotiate the sale of his interests in the Puerto Rico transactions. This did not include the 20 per cent interest in La Esperanza acquired by Penturn for his own benefit. He testified his “main concern was to get my people out even if personal sacrifice". He believed Citroen would judge the situation well and take the risk. Penturn thought Citroen could make money out of the situation sometime in the future and he would continue to hold 20 per cent of the shares of Vega. In 1981, Citroen agreed to cause Fortuna to purchase the Puerto Rico assets assigned to Penturn, including his loan of U.S. $40,000, for the consideration of U.S. $200,000. The parties agreed that Altano, U.S.C. and Sampas would continue to be the registered owners of the Puerto Rico assets. Penturn included the U.S. $200,000 less his cost of U.S. $40,000 in computing his income for 1981, [3] but the respondent deleted the inclusion of these amounts in reassessing Penturn.

Turkish Lira Deposit

On various trips abroad—Penturn testified he made ten overseas trips a year—Penturn heard of Weston Group which was involved in unusual financial transactions which were of interest to him. He arranged for his bank, the Canadian Imperial Bank of Commerce ("C.I.B.C.") to inquire into the background of Weston Group and its principals. Penturn revealed he got back "a brilliant report" on the man in the company, Gerstel, and arranged with the C.I.B.C. to meet him in Zurich. He was introduced to Gerstel at C.I.B.C.'s agency in Zurich in 1976. Several days later they met at Gerstel's office. The meeting went well; various types of investments were discussed and Gerstel mentioned he had taken “a tract of a financial deal for development bonds for Turkey" which paid a high interest. Penturn was told the funds were used to finance construction of factories in Turkey. A year and a half remained on the term of the bonds and "with extras", Gerstel explained, "you could get more than ten per cent". Interest rates at the time were about seven or eight per cent. Gerstel said Weston had taken up U.S. $5,000,000 of the two billion dollars (U.S.) issued. Penturn told Gerstel he would see what he could do.

Penturn spoke to Forster in Zurich and suggested that if he had a client it might be well to invest with Weston Group in some small amount, say U.S. $400,000 (equal to 1,000,000 Swiss francs). Penturn testified he told Forster that he would personally guarantee payment of the U.S. $400,000 if there was a default in repayment. In fact, said Penturn, the guarantee would be structured so that he would guarantee U.S. $300,000 of the deposit, Edith Penturn, Penturn's wife, U.S. $25,000 and a family corporation U.S. $75,000. Forster wanted the guarantee in U.S. dollars. All he wanted out of the transaction, Penturn declared, was that he obtain the benefit of any fluctuation in currency rates between the United States dollar and the Swiss francs. For example if the U.S. dollar dropped in value, the increase in Swiss francs above 1,000,000 Swiss francs would belong to him. Penturn would also receive U.S. $2,000 for the guarantee. Correspondence from Forster confirmed that Altano would acquire 00,000 of Turkish bonds from Weston Bank and that Penturn would "guarantee to the extent of U.S. $400,000—which you introduced to us we agree to pay you a fee of U.S. $2,000—when our investment is returned to us".

The purpose of the transaction as far as he was concerned, Penturn explained, was not the fee on the guarantee. That is the reason he was not concerned that it would not be paid in advance. What was important was that "I was dealing with 'top drawer' people" and was looking toward future opportunities”.

The Turkish bank accepted 1,000,000 Swiss francs for deposit at Lloyds Bank Interbond Ltd. ("Lloyds Bank”) in Frankfurt on August 31, 1976. On September 21, 1976, Altano purchased the deposit from Weston Bank and instructed Baer to make the necessary transfer and Lloyds agreed to pay capital and interest to Baer from Altano's account. Forster dealt directly with the Weston Group; Penturn did not handle any funds.

Shortly before November 30, 1977, Penturn testified, the government of Turkey through its central bank placed a freeze on repayment of all money owing on loans similar to the Turkish Lira Deposit, including the loan acquired by Altano. Penturn testified that the creditors may have rescheduled the debt by extending payment of the loan to May 29, 1978. Demands for payment by Lloyds Bank to the Turkish bank were not satisfied. On June 15, 1978 Lloyds Bank advised Altano that the Turkish bank had informed it that it had transmitted a telex to the central bank of Turkey asking for payment but gave no indication as to when payment would be made. Forster agreed for a period of a year not to call upon Penturn or the other guarantors for reimbursement. According to Penturn, it was thought the situation would cure itself in the not distant future; such a freeze had never happened before and, Penturn said, it was thought to be temporary. Finally, on May 30, 1979, Forster insisted on payment.

On or about April 20, 1979 U.S. $400,000 was received by McLeod from Mr. and Mrs. Penturn and in June 1979 was deposited to a new account for Altano. By letter dated July 30, 1979 Penturn instructed McLeod to transfer another U.S. $20,000 to Altano's account; Penturn stated the U.S. $20,000 represented interest lost to Altano which was included in the guarantee.

All rights to the Turkish Lira Deposit were assigned by Altano to Penturn. According to Penturn at the end of 1979 the potential for repayment was "zero". Gerstel advised him there was no market for the note and various banks were contemplating legal action. Penturn considered the deposit worthless. Mr. and Mrs. Penturn deducted U.S. $327,000 and U.S. $25,000 respectively in computing their incomes for 1979 on the basis that they incurred a business loss. [4] The respondent disallowed the deductions.

During the summer of 1981 Penturn raised with Citroen the possibility of one of his clients purchasing the Turkish Lira Deposit. He had Walker making inquiries and Gerstel had informed Walker the situation was not good. Citroen agreed to purchase the deposit security. On August 15th Penturn wrote Citroen confirming their understanding that Fortuna would acquire the Turkish Lira Deposit for $200,000 (Cdn.). Here, too, Penturn recommended leaving the investment registered in Altano's name. The assignments of their interests were executed by Mr. and Mrs. Penturn and the family corporation in favour of Citroen's solicitors, Fontayn & Co. on September 16, 1981. Although the balance of payment was due a year later, the money was received in March, 1982. The sum of $150,000 being 75 per cent of the amount received, was included in computing Penturn's income for 1982 and $12,500 being six and a half per cent of the amount received, was included in computing Mrs. Penturn's income for 1982; the respondent did not permit Mr. and Mrs. Penturn to add these amounts to their incomes.

Mrs. Penturn appealed her assessments for 1979 with respect to the Turkish Lira Deposit. The appeals of Mr. and Mrs. Penturn were heard on common evidence.

Other Activities

Penturn described some other financial activities, including those with Amalgamated, he was involved with over the years to support his position that in computing his income for 1978 and 1979 he was entitled to deduct the amounts paid to Altano and U.S.C.

In 1979 he was invited to invest in Jarmac by its president who he did not know at the time. He was advised a group of "important corporations" were involved in Jarmac. These included the Royal Bank of Canada, C.I.B.C., Baton Broadcasting Ltd., Torstar Corp, and companies of “similar stature", according to Penturn. He was invited to participate in Jarmac, he learned, because these participants "wanted a person for deals”. Penturn’s inducement to participate in Jarmac would be that he would be a director and his investment would be $600,000 as opposed to each other shareholder being required to invest $1,600,000. The $600,000 was payable in three payments of $200,000 each. Jarmac was to finance the production of two motion picture films. Penturn got in touch with a client in Geneva and Citroen, offering them a position in Jarmac. Marken agreed to invest $600,000 on Penturn's guarantee that if it wished to withdraw at any time Penturn would reimburse it. Penturn said he was to receive $5,000 for the guarantee if he had to make good. Penturn was elected to the Board of Directors of Jarmac as Marken's nominee. He said he "hoped to learn a great deal” and thought he could profit through the association with the other members of the Board.

Marken invested $200,000 in Jarmac but was not prepared to make the second advance of $200,000. This advance was to be satisfied by letters of credit. Penturn arranged with the C.I.B.C. for a letter of credit to Marken of $200,000 to be drawn on as required, which he guaranteed.

The two films were not as successful as anticipated and Jarmac made other investments, one of which was in First Choice Pay Television Channel ("First Choice") which it promoted. As a promoter of First Choice, Penturn was eligible to "promoter's shares" at one cent per share for each regular share purchased at $10 each.

A third call for $200,000 was never made by Jarmac and the balance of amounts under the letters of credit of the shareholders was distributed to all shareholders. Marken received $9,759.75. Penturn reimbursed Marken the $200,000 it originally invested, less his fee of $5,000.

Penturn testified that since 1953 he may have given similar guarantees on about 50 occasions.

Various entries in Penturn's income tax returns for 1972 and subsequent years were reviewed. In only one year's return, 1979, is there reported a fee for a guarantee. Penturn had numerous sources of interest and dividend income. He considered much of this income to be from his merchant banking business notwithstanding the schedules in the returns reflect the income as interest from mortgages and other loans and dividend income. Penturn explained that in many cases he would, in his words, "put a deal together" and to help put the deal together he would advance funds. Often these funds were secured I by a mortgage. In such a situation he did not receive payment for performing merchant banking activities other than the interest from the loan. As he said, if he was "successful on a deal as a merchant banker, [I] would get into a deal". He was not aware if the value he received as a result of getting into a deal was reported as business income. That decision, he insisted, was for his accountants or legal advisors to make. A short example follows: Penturn says he acted on the sale of shares of a corporation, Thornecliffe Park Ltd., at the time it was developing the first enclosed shopping mall in Canada. The purchasers elected him director of Thornecliffe Park Ltd. and he was delegated to secure the tenancy of a junior department store for the centre. He secured a junior department store, Sayvette, as a tenant and for his efforts was given stock in Thornecliffe Park Ltd. When he sold shares of Thornecliffe Park Ltd. from time to time, they were declared as capital dispositions; he did not know the reason he considered these dispositions on capital account.

In other instances he invested with others in residential projects owing an undivided interest, and in other real estate he assisted in obtaining financing.

In each of the years 1972 to 1974 Penturn included in his tax return a statement of income from self employment and included fees of $60,000 from Penturn Ltd. In 1972 he reported fees of $26,793 from Hampshire Realty Company, and in 1973 fees of $51,000 from Great Lakes Nickel Ltd. He also included fees of $98, $82.05 and $179 received from Seel Enterprises Ltd. in 1972,1973 and 1974 respectively. All tax returns included a statement of operations and capital cost allowance schedules of real estate owned by Penturn.

Penturn reported profit from silver transactions as income in 1974. He also reported the proceeds of a mortgage from 262595 Ontario Ltd. on income account. A review of Penturn's tax returns from 1972 to 1982 inclusive indicates that, except for silver transactions and a mortgage from 262595 Ontario Ltd., proceeds of all other dispositions of properties were reported on capital account.

Penturn explained that on several occasions, in his merchant banking activity, he would not be paid a fee but would be invited to participate in the investment itself, be it as mortgagee or shareholder or both. He was not interested in a fee. “I was interested much more in a long-term thing—partial ownership, long-term management. . . by Penturn Ltd."

Counsel for Penturn submitted that the “evidence is clear" Penturn was in business during the years in appeal and that the Puerto Rico transactions and the Turkish Lira Deposit were transacted by him in the course of that business. Accordingly, the losses he incurred were in the course of that business and are deductible in computing income on the application of generally accepted accounting principles and the provisions of section 9 and paragraph 20(1)(p) of the Act; the deductions of the losses are not prohibited, he added, by paragraphs 18(1)(a) and (b).

Counsel acknowledged that the Court must first find a business existed because if Penturn did not carry on a business, or if the transactions were capital transactions and not in the course of the business, his client is not entitled to deduct the amount of the losses in computing income. If the Court finds a business did exist and the transactions were in the course of the business, the question of the losses must be determined. The appellant's position is that the full amounts paid pursuant to the guarantees were losses because the security received and the debt taken over were worthless.

His counsel described Penturn as an entrepreneur who has "wheeled and dealed" and made “substantial profits" over a 52 year period. His ultimate object over the years, counsel declared, was to turn something into a profit; he had resources and skills of his own and employed international and domestic contacts in order to find a variety of deals and put people who have confidence in him into the deals. In return he frequently was given a participation in the investment. It was this "wide variety of opportunities", described by Mr. Appleby as an "eclectic approach to business”, and not as an investor in the classic sense seeking out investments that motivated his activity. Penturn's counsel stated Penturn performed this “eclectic thing using his financial clout, his business knowledge, his credibility with financial institutions, his longevity in the business community and numerous contacts and his creditworthiness and his ability to stand behind his guarantees in order to make a profit. . . by taking a piece of the action”. If I understand Mr. Appleby correctly, he is asking me to find that all income received by Penturn from his participation in projects he arranged is income from what, during trial, was referred to as his merchant banking business; interest from mortgages and other loans, dividends from shares, proceeds from the disposition of shares or other assets are all income from this business, notwithstanding these types of income were reported in his income tax returns as investment income, and when the asset was disposed of, as a capital transaction.

I cannot agree with Penturn's counsel.

In my view Penturn put in a great deal of time, effort and money to ingratiate himself with people he thought could assist him by inviting his participation in what he hoped would be a profitable investment for himself and possible management fees for Penturn Ltd. Penturn promoted himself with these people so when an interesting investment project became available, he would be contacted. The following questions put to Penturn by me and his replies confirm that Penturn was seeking investments for himself and business for Penturn Ltd.:

Q. .. .When you put deals together, when you travelled and you had these clients in Europe, Hong Kong, India and you did the financing, interim financing, seed money, all these things which you considered part of your merchant banking activity, you were doing this not for a fee—if I understand you correctly—but to get in on the ground floor of a particular investment?

A. Yes. And if it were a form of some kind that would take management, property—or if it wasn't even property—management that could be arranged for which I would be doing services, et cetera and so forth, and that I had other people under me or in my organization who we have to pay to do that —

Q. When you say management of a project, who did the management? You, personally, or John Penturn & Son?

A. John Penturn & Son. I might do some what we call supervisory management but I’m not for doing actual management.

Q. So you, personally, are not an active manager?

A. No.

Penturn was not carrying on any business with respect to the Puerto Rico transactions or the Turkish Lira Deposit. In seeking out people to lend money on Bonneville and La Esperanza and to acquire the Turkish Lira Deposit and making the guarantees, Penturn was simply looking to make an investment or be favourably considered for future investments. The guarantees were not undertaken in the course of any business. The guarantee fee paid on the Turkish Lira Deposit guarantee was payable only if he had to make good on the guarantees and was not the consideration for making the guarantee.

On making the guarantees Penturn was subrogated in the rights of the payees and acquired the rights of the payees with respect to the debts as well as shares in Vega. The debts and shares acquired by Penturn were capital properties and were not acquired for the purpose of gaining or producing income from a business.

Counsel for Penturn argued that on the facts Penturn carried on a business and the amount paid on the guarantees constituted expenses that were incurred by him for the purpose of gaining or producing income from his business. Counsel relied on the provisions of section 9 and paragraphs 18(1)(a) and (b) of the Act. (He commented that paragraph 20(1)(p) was not crucial to his case.) Since I have found the appellant was not carrying on a business with respect to the Puerto Rico transactions and the Turkish Lira Deposit, there is no reason to consider counsel's submissions of law that the payments of the guarantees constituted expenses incurred by the appellant for the purpose of gaining or producing income from a business.

Penturn's counsel also submitted that if Penturn was not carrying on a business, La Esperanza and the Turkish Lira Deposit transaction were adventures in the nature of trade and the losses incurred are therefore deductible in computing income.

La Esperanza was an adventure in the nature of trade, counsel says, because the sole purpose of Vega was to build and sell homes at a profit. However, the U.S. $250,000 was loaned not by Penturn but by U.S.C. to Vega (or Interbond) as an investment with a superior rate of interest. The investor also received shares in Vega. No evidence was led that any amount was paid by Penturn or U.S.C. for 40 per cent of the shares of Vega. Penturn's guarantee was for the U.S. $250,000. When he honoured the guarantee he was subrogated as creditor in the U.S. $250,000 and the 20 per cent of Vega beneficially owned by U.S.C. was assigned to him. The loan of U.S. $250,000 was never contemplated as anything other than an investment; it was a capital property in a capital transaction. Penturn's guarantee did not have a trade related motive, to put it succinctly, and was not part of an adventure in the nature of trade. No doubt Penturn received 40 per cent of the shares in Vega for himself and U.S.C. because of the loan and the financial clout he had at the time but this does not change the nature of the loan from U.S.C. to an adventure in the nature of trade by Penturn.

Counsel submitted that the Turkish Lira Deposit was also an adventure in the nature of trade since Mrs. Penturn and the family-owned corporation agreed to guarantee the Turkish Lira Deposit to derive a benefit on the anticipated increase in the value of the United States dollar against the Swiss franc. He inferred Mr. and Mrs. Penturn and the family corporation entered into the transaction for a profit. Penturn testified that only he, his wife and family corporation would derive the benefit or loss from the currency value fluctuation. No document tendered in evidence at trial contains any mention that such a bargain was struck by Penturn and Forster. Forster's correspondence with respect to the Turkish Lira Deposit guarantee is consistent in its silence.

As Penturn's testimony progressed I became doubtful that his evidence was complete. At times it appeared he was trying more to impress the Court with the people with whom he dealt rather than providing specific information. He was unnecessarily voluble with respect to matters essentially irrelevant (e.g., Jarmac) but was vague in regard to matters which must have been of importance to him. For example, he stated he did not know or care who were the actual investors behind Altano and U.S.C. since he relied on Forster. I doubt that the statement is true. My impression of Penturn is that he possesses a very forceful and inquisitive personality and would have wanted to know with whom he was dealing. He knew Citroen sold his business at a "terrific" price, for example. While Penturn called Don Zabala as a witness and said he was unable to have Gerstel testify because of illness, he made no effort to call as a witness either Forster or Citroen. Don Zabala related the history of Bonneville and La Esperanza and their financial situations over the years; Gerstel's evidence, I assume, would have provided a similar history of the Turkish Lira Deposit. However, both Forster and Citroen, together with Penturn, were the principal actors in the acquisitions and dispositions of the Puerto Rico assets and the Turkish Lira Deposits. Their evidence might have corroborated Penturn's evidence and not only were they not called to testify but no effort was made to obtain their testimony. I therefore can conclude that their evidence would have been contrary to Penturn's interests. It is for this reason that I am reluctant to accept Penturn's interpretation of the structure of the guarantee on the acquisition of the loan to the Turkish bank by the Weston Group. In conclusion, I cannot find any evidence to support Penturn's view that the losses he incurred with respect to the Puerto Rico transaction and the Turkish Lira Deposit were deductible in computing income from a business.

In his notice of appeal the appellant pleaded that in the event the respondent correctly denied the deductions by the appellant of the guarantees on the Puerto Rico transactions, the appellant should be allowed a capital loss in 1981 in respect of his loss of his interests in the Puerto Rico assets including the twenty per cent shareholding interest in Vega assigned to him. (The respondent allowed Mr. and Mrs. Penturn a capital loss in 1982 in respect of the disposition of the Turkish Lira Deposit.) The respondent denied the payment of the guarantees for the Puerto Rico assets was a cost to acquire property which had a reasonable expectation of producing profit to the appellant; he did agree, however, that if there was a capital disposition, the loss was sustained only when the Puerto Rico assets were disposed of in 1981.

Appellant's counsel did not pursue this issue at trial. The acting registrar of the Court wrote to the parties requesting whether they wished to make representations with respect to whether Penturn incurred a capital loss in 1981. Both counsel have advised the Court that the assessments in issue for 1981 and 1982 were nil assessments. Counsel for the respondent added that the appellant never filed a notice of objection in respect of the 1981 taxation year. Therefore the appeals for 1981 and 1982 are not properly before the Court and are dismissed. Accordingly, I need not address at this time the issue of whether or not Penturn suffered a capital loss in 1981.

In the reply to notice of appeal the respondent stated he is prepared to permit the appellant to recalculate his claims for capital cost allowance as a result of increases to his income for 1977, 1978 and 1979 and there is no reason I should interfere with this. The appeals for 1977, 1978 and 1979 are therefore allowed without costs and referred back to the respondent only for reconsideration and reassessment on the basis the appellant's capital cost allowance schedule be adjusted accordingly.

Appeals dismissed.