Frank Pavlakovich v. Her Majesty the Queen, [1989] 2 CTC 260

Muldoon, J.: —The plaintiff appeals from reassessments of his income tax in regard to the taxation years 1977, 1978, 1979 and 1980. Although this appeal, which was heard in Saskatoon, Saskatchewan, proceeds by way of a trial de novo, both counsel agreed that no viva voce testimony was to be heard. Instead, they agreed to tender the record of the Tax Court of Canada as Exhibit 1, and the transcript of testimony heard before that Court as Exhibit 2. Upon tendering Exhibits 3 through 6, counsel proceeded to oral argument.

The point in contention is whether the plaintiff's chief source of income was farming or a combination of farming and some other source of income as described in subsection 31(1) of the Income Tax Act then in force. The Court finds that such was his chief source of income, and the following text expresses the reasons for so finding.

The facts are to be gleaned from Exhibit 2, as agreed by the parties. Indeed, there is little if any dispute in regard to the facts.

The plaintiff was born in 1939 and raised on a farm in Yugoslavia, where he lived until 1958 when he came to Canada. As of the time of the hearings in the Tax Court, and in this Court, he characterized his occupation as those of a farmer and a miner. Although he had not farmed in Canada until 1977, he had always yearned to be a farmer. The woman whom he married, Shirley Ann Pavlakovich, was raised on a farm north of Rosetown, in Saskatchewan and, because she had no brothers she described herself as her father's “hired man" prior to her marriage in 1962. Like the plaintiff, she also had a profound yearning to farm, and considered it to be a better life for the children, too.

During all material times the plaintiff worked as a miner at a Cominco mine which was situated some 14.5 km from his former home in Delisle and some 50.8 km from the farm which the plaintiff purchased in 1977. He worked eight hours per day as a miner and, in the off-seasons from October to April when his spare time was not dedicated to necessary farm work, the plaintiff earned extra revenue by performing some minor custom welding patching air-vent tubes and straightening turnbuckles among other jobs for Cominco: "the things where nobody else wants to do it in the city, so I fix it up. . . . When there was no farming to be done then I was doing that.” And in common, one might add, with a great many other prairie farmers. He took as much of that work home as he possibly could and performed it on his own premises. The plaintiff's intention was to get out of the mine and devote his prodigious energies to farming, instead of being both a full-time miner and a full-time farmer, as without any doubt, he was.

The farm was acquired in two half-section parcels, one in 1977 and the other in 1979. They were only a half-mile apart. For present purposes only they can be designated Parcel A and Parcel B in the order in which they were acquired.

Parcel A, R.R. 3, Pike Lake, the first acquired half-section included a house, operable but much used, old agricultural machinery, a machinery shed, granaries, and a hog barn. Everything needed to carry on farming was there. The previous owner, the vendor, had not taken care of the land for some time since he formed the intention of selling the farm. The plaintiff bought this half-section farm in the autumn of 1977, after the vendor had taken off the crop, for the sum of $69,000 all borrowed from a "tradesman in Moosomin”, at 12 per cent interest. In 1977, farming operations carried out by the plaintiff consisted of trying to cope with the serious infestation of weeds on the land and the acquisition of five pigs. Also, the plaintiff and his family worked on renovating the house to render it more suitable for their accommodation. The Pavlakovichs had three children, a girl and two boys. Considering the poor state of the land, machinery and buildings, the plaintiff and his family could be characterized virtually as homesteaders or pioneers, except for the fact that they had been accorded no grant of land or seed and no start-up subsidy. The plaintiff's wages from the Cominco potash mine were needed to meet the expenses of developing that family farm.

Since 1977 the plaintiff has bought over the years two combines, two trucks, a tractor, a rod weeder, two storage bins, two gas tanks and other farm equipment, all for cash. A tractor, a truck and a combine at least were bought by the plaintiff in 1980. He testified: "There is nothing against them because we don't buy unless we can afford it.” According to Mrs. Pavlakovich, who not only contributed her labour to the farming operations but also acted as the "comptroller", the mortgages are usually paid in advance as soon as the funds are saved up.

In 1978, two unforeseeable disasters struck. In the spring of 1978, when the number of pigs had been increased to about 25 or 26, a disease, a viral or bacterial aura in the barn, killed 23 of them. The veterinarians could not identify it, so the plaintiff just abandoned that project. In the autumn of 1978, a fire burned the Pavlakovichs' house to the ground. They moved into a trailer and built a new house with help from their neighbours and their insurers. Asked on cross-examination if "farming is a pretty tough life”, the plaintiff responded:

No, I love it. That's why I’m down there. When that house burned down we stayed on the farm. We could have stayed, moved back to Delisle and drive nine miles to work, to the mine, but we choose to stay on the farm. I'm sure it's easier, it’s cheaper to live in a town than on a farm, it isn't all that rosy, but we choose to farm and that's why, Laurie [elder son], he bought a half, he's going to school, I didn't have no chance to go to farm school or anything.

The plaintiff's testimony and the other circumstances established in the evidence lead to this finding: that the plaintiff had assuredly made a change in his mode and habit of work, about which more will be noted hereinafter, and the centre of his work routine was the farm and farming. Despite the setbacks of 1978, the plaintiff had planted 310 acres in rye and wheat on Parcel A.

Parcel B, a half-mile distant from Parcel A, was another half-section, which the plaintiff bought in April 1979. That land was not in good condition. The plaintiff had to remove swathings from previous years, which had been left on the land. The plaintiff bought that land for the sum of $60,000 all borrowed from (perhaps the same) "tradesman in Moosomin" at the same rate of interest, which by then amounted to some $16,500 per year for the total mortgage indebtedness on both parcels of property. In answer to question 160 on discovery, the plaintiff testified that this second acquisition of farm land was in furtherance of his idea "to quit the mine”.

According to the plaintiff's solicitor’s undertaking given on examination for discovery (Q. 142), the outstanding principal on the loan, now referred to as a "bank loan taken out in 1979 (opening balance $131,000.00)” at December 31, 1979, was $128,506.76, and at December 31, 1980, it was $126,921.61. By April 21, 1987, it had been reduced progressively down to $109,702.66. The steady reduction of the loan was consistent with the plaintiff's unwavering intention, which the Court accepts as factual, to quit the mine and to be solely a farmer. Farming was the occupation and lifestyle to which the plaintiff and his wife had committed themselves and their three children — the whole family. The plaintiff's working away from the farm at the mine, including the extra custom or contract work which he undertook, was all to the end of keeping the family, and the family farm, going through the startup years until the transition from town to country, from mining labour income to farming income could be completed.

There can be no doubt that the plaintiff and his wife, and children, devoted their, especially his, prodigious energies to the unremitting accomplishment of that transition. The testimony of the plaintiff, of Mrs. Pavlakovich and their two near neighbours, Eugene Howard Purcell, whose farm is 16 quarter-sections, and Elwyn Lawrence Gay, whose farm is one section, made vivid the huge extent of the effort which the plaintiff invested in his family farm. The plaintiff testified that he worked at the mine from 8:00 a.m. to 4:00 p.m. Mondays to Fridays, with some occasional overtime work which gradually tapered off until there was no more available. (Exhibit 6, discovery transcript, QQ. & AA. 216 to 231, inclusive.) He quite credibly said that he accepted overtime work "So that I can pay the farm off quick.”

Every day, weather permitting from planting through harvest, according to the witnesses, the plaintiff worked on his farm right after work at the mine, until 10:00 p.m. or 11:00 p.m. or even to midnight to get the work done in busy times. The work included preparing the land in the spring, seeding, spraying and harvesting among other tasks. He worked until the same late hours on weekends but began his farming days then about 7:00 a.m. The family went to church sometime during Sunday mornings. The plaintiff took no vacations from the farm work when he had vacations from the mine. He divided his vacations from the mine so as to be able to work all day — one might say double days, each day — during seeding and harvesting. Mrs. Pavlakovich testified that they had no vacations on the family farm, and that there was no time even to go visiting except when it rained or during the winter months.

In the seminal judgment of the Supreme Court of Canada, Moldowan v. The Queen [1978] 1 S.C.R. 480 [1977] C.T.C. 310; 77 D.T.C. 5213; Mr. Justice Dickson, now Chief Justice of Canada, who spoke for the Court, is reported at page 314 (S.C.R. 486) thus:

Whether a source of income is a taxpayer's “chief source” of income is both a relative and objective test. It is decidedly not a pure quantum measurement.

[Emphasis added]

This Court does not doubt the correctness and inherent justice of that quoted statement of the law. Nevertheless the quantum measurement cannot be ignored, for in the same paragraph the Court states:

The distinguishing features of “chief source" are the taxpayer's reasonable expectation of income from his various revenue sources and his ordinary mode and habit of work.

That reasonable expectation of income exacts some consideration of the specific revenues and expenses of the enterprise — albeit a family farm — even although the test is decidedly not a pure quantum measurement.

Here then is the picture of the plaintiff's revenues and expenses, distilled from table "A" attached to the statement of defence and presented by agreement of counsel as trial Exhibit 5.

Clearly, there is a progression of farm revenue from zero in 1977 to $23,049 in 1980 the last of the taxation years in contention, to $46,897 in 1983. Correspondingly, income loss for the years in issue is shown to hover between $5,185 if one considers the partial year of 1977 or between $15,563 and $20,091. In 1982 and 1983 when no capital cost allowance was reported, the positive revenue is shown to be $1,944 and $5,737 respectively. The losses are somewhat reflective of reduced prices for rye in the material years, a condition which was not present when the farm was first bought and on that basis may be inferred to be temporary or cyclical, but not necessarily permanent. The plaintiff testified: "we were producing more wheat every year." The increasing progression of revenues and production gives good reason to find that there was indeed a reasonable expectation of income which, as the Supreme Court of Canada held in the Moldowan case, "is a question of fact in the circumstances". It is a fact which this Court finds to be so, upon the evidence presented here.

The provision (section 13(1)), construed by the Supreme Court of Canada in the Moldowan case, was emplaced in the Income Tax Act, R.S.C. 1952, c. 148, as amended. It was characterized by the Court as being "an awkwardly worded and intractable section and the source of much debate”. So it was, and the provision which replaced it, section 31, enacted by S.C. 1973-74, c. 14, is no better. It runs as follows:

31.(1) Where a taxpayer's chief source of income for a taxation year is neither farming nor a combination of farming and some other source of income, for the purposes of sections 3 and 111 his loss, if any, for the year from all farming businesses carried on by him shall be deemed to be the aggregate of

(a) the lesser of

(i) the amount by which the aggregate of his losses for the year, determined without reference to this section and before making any deduction under section 37 or 37.1, from all farming businesses carried on by him exceeds the aggregate of his incomes for the year, so determined from all such businesses,

and

(ii) $2,500 plus the lesser of

(A) /2 of the amount by which the amount determined under subparagraph (i) exceeds $2,500, and

(B) $2,500, and

(b) the amount, if any, by which

i) the amount that would be determined under subparagraph (a)(i) if it were read as though the words "and before making any deduction under section 37 or 37.1" were deleted,

exceeds

(ii) the amount determined under subparagraph (a)(i);

and for the purposes of this Act the amount, if any, by which the amount determined under subparagraph (a)(i) exceeds the amount determined under subparagraph (a)(ii) is the taxpayer's "restricted farm loss" for the year.

(2) For the purpose of this section, the Minister may determine that a taxpayer's chief source of income for a taxation year is neither farming nor a combination of farming and some other source of income.

The observations of the Supreme Court of Canada concerning "the taxpayer's chief source of income” stand as an authoritative construction of the present provision, despite the volume of statutory exegesis performed by judicial tribunals since the Moldowan judgment was published. In the present case, the defendant's counsel did not purport to rely on subsection 31(2) as foreclosing this enquiry, and rightly so, for such an interpretation would defy the rule of law by making the Minister's fiat the sole determinant of the issue. Nor does the defendant's counsel aver that the plaintiff was not farming. Indeed he concedes that the plaintiff was farming most energetically, doing all the farming which there was to do. It is apparent that this plaintiff, basing himself and his family, as he did, on that family farm, was no dabbling dilettante nor yet a mere hobby farmer. Here, too, the plaintiff did not acquire an asset about which he hopelessly, or at all, misjudged the market, for the market for his ever increasing production of grain is and was the same market for all western Canadian grain producers at the material times. The question in issue here is whether his chief source of income, including his reasonable expectation of income, was such as to relieve him of limitation on losses imposed by paragraphs 31(1)(a) and (b) of the Act.

Thus there is overwhelming logic to the passage in the Moldowan case at page 313 (S.C.R. 485) which runs:

The next thing to observe with respect to subsection 13(1) is that it comes into play only when the taxpayer has had a farming loss for the year. That being so, it may seem strange that the section should speak of farming as the taxpayer's chief source of income for the taxation year; if in a taxation year the taxpayer suffers a loss on his farming operations it is manifest that farming would not make any contribution to the taxpayer's income in that year. On a literal reading of the section, no taxpayer could ever claim more than the maximum $5,000 deduction which the section contemplates; the only way in which the section can have meaning is to place emphasis on the words “source of income.”

The defendant's counsel emphasized that the plaintiff's farm losses would have caused him to lose the farm were it not for his wages from the Cominco mine, and that the factor of borrowed capital to acquire the farm was, or ought to be “fatal” to the plaintiff's case. As clearly stated in the Moldowan judgment, those factors are “criteria (which) should be considered”, among others, for even the Supreme Court's list was stated not to be exhaustive. The Supreme Court of Canada mentioned, in that non-exhaustive list: "the profit and loss experience in past years, the taxpayer's training, the taxpayer's intended course of action, and the capability of the venture as capitalized to show a profit after charging capital cost allowance. . . . The factors will differ with the nature and extent of the undertaking." By example, it was also said: "One would not expect a farmer who purchased a productive going operation to suffer the same start-up losses as the man who begins a tree farm on raw land." However, the relative and objective test of chief source of income "is decidedly not a pure quantum measurement", it must be emphasized.

The plaintiff in this case is situated in regard to his 1978, 1979 and 1980 taxation years, in class (1), as this Court finds, with special regard to the specifically emphasized expressions hereinafter distinguished in the following passages from the Moldowan judgment at page 315 (S.C.R. 487-88):

In my opinion, the Income Tax Act as a whole envisages three classes of farmers:

(1) A taxpayer for whom farming may reasonably be expected to provide the bulk of income or the centre of work routine. Such a taxpayer, who looks to farming for his livelihood, is free of the limitation of subsection 13(1) [now 31(1)] in those years in which he sustains a farming loss.

(2) The taxpayer who does not look to farming, or to farming and some subordinate source of income, for his livelihood but carries on farming as a sideline business. Such a taxpayer is entitled to the deductions spelled out in subsection 13(1) in respect of farming losses. [Such seems to be this plaintiff's status in the 1977 taxation year.]

(3) The taxpayer who does not look to farming, or to farming and some subordinate source of income, for his livelihood and who carries on some farming activities as a hobby. The losses sustained by such a taxpayer on his non-business farming are not deductible in any amount.

The reference in subsection 13(1) to a taxpayer whose source of income is a combination of farming and some other source of income is a reference to class (1). It contemplates a man whose major preoccupation is farming, but it recognizes that such a man may have other pecuniary interests as well, such as income from investments, or income from a sideline employment or business. The section provides that these subsidiary interests will not place the taxpayer in class (2) and thereby limit the deductibility of any loss which may be suffered to $5,000. While a quantum measurement of farming income is relevant, it is not alone decisive. The

test is again both relative and objective, and one may employ the criteria indicative of “chief source” to distinguish whether or not the interest is auxiliary. A man who has farmed all his life does not become disentitled to class (1) classification simply because he comes into an inheritance. On the other hand, a man who changes occupational direction and commits his energies and capital to farming as a main expectation of income is not disentitled to deduct the full impact of start-up costs.

[Emphasis added.]

In the Moldowan case, the taxpayer was a businessman and even the circumstances of that case, suggesting “only one business venture of several, with nothing distinguishing in the way of 'a chief source of income’ ", were held not to be determinative alone. Rather, there were concurrent findings in the previous adjudications of that case, that farming was not Moldowan's chief source of income, which the Supreme Court of Canada declined to disturb.

On all of the circumstances and factors presented in the case at bar, with due regard to each criterion expressed by the Supreme Court, and eschewing the notion that the test could in any sense be "a pure quantum measurement", the Court here finds, both "relatively and objectively” and "from all of the facts", that the plaintiff here during 1978, 1979 and 1980 was a farmer situated in class (1) whose chief source of income, as interpreted in the Moldowan case, was from farming, his main preoccupation, and some other source, the Cominco mine by which he was employed. This despite his loss experience in the years in issue, for subsection 31(1) "comes into play only when the taxpayer has had a farming loss for" each of those years.

As mentioned there is a considerable body of jurisprudence in which the words of the Moldowan judgment are finely parsed, but that subsequent case, in which the factual situation is most similar (although, of course, not perfectly identical) with the case at bar, is the majority decision of this Court's Appeal Division in The Queen v. Graham, [1985] 2 F.C. 107; [1985] 1 C.T.C. 380; 85 D.T.C. 5256. There, too, the plaintiff adduced independent testimony to demonstrate how hard and long he worked on his farm which was considerably smaller in geographic extent than Mr. Pavlakovich's farm. As did the latter's family, Graham's wife and son made an appreciable contribution of work. The judgment of the majority was written by Mr. Justice Urie, with whom Mr. Justice Mahoney concurred. Mr. Justice Marceau dissented.

The facts, as abridged by the editor of the Federal Court Reports starting on page 110, may usefully be recited here:

The respondent [Graham], a farmer's son, was a full-time employee of Ontario Hydro. He was a stationary engineer. Having a dream of farming, he obtained a transfer to a generating station in a rural area. He purchased a farm and in 1975 began a hog operation. The respondent's routine was to work 11 hours a day on his farm, 8 hours for the utility and to sleep for only 5 hours. Evidence was called at trial which demonstrated that the respondent was both a compulsive worker and a progressive farmer. The respondent had, in effect, two full-time occupations.

At the relevant time, the respondent was earning about $30,000 a year from Hydro. All of his money went into the farm. Over a five-year period, the respondent's annual losses from farming ranged from a low of $5,418 in 1975 to a high of $12,702 in 1979. The appellant took the position that the respondent's chief source of income was neither farming nor a combination of farming and some other source of income. The assumption was made that the respondent was farming in his spare time. As noted by Cattanach J., this "spare time" was more than double the time which the respondent spent at his place of employment.

Urie J. referred at length to the opinion of Dickson J. in Moldowan, stressing the point that whether "a source of income is a taxpayer's ‘chief source’ of income is both a relative and objective test". It was not merely a quantum measurement.

The Trial Judge found that the respondent has changed his occupational direction when he applied for a transfer to a rural area. He invested all his capital in the farm, worked hard and generated a substantial cash flow which was not, however, adequate to cover start-up expenses for machinery and land acquisition. The Trial Judge concluded that the respondent's main preoccupation was farming and the Hydro employment a mere sideline.

Urie J. held that the findings of fact made at trial were supported by the evidence and should not be disturbed.

At p. 112, Mr. Justice Urie is reported as noting that it was for the trial judge to employ tests of the kind set out by Mr. Justice Dickson (now Chief Justice of Canada) in the Moldowan case. Urie, J. is further reported, thus:

These, of course, involve a weighing of the facts objectively and relatively. It is abundantly clear from his reasons that Cattanach J. was well aware of the two-step process required for the determination of "chief source” and that it involved his objective assessment of the evidence and the relative importance of the sources of income. He did so with considerable care as is shown in the excerpts from his reasons for judgment at pages 5406 and following. He found that the cumulative effect of the rather unusual circumstances disclosed by the evidence in this case was to satisfy him that the main preoccupation of the respondent “is farming but he has income from a sideline employment". In so finding, he clearly applied principles enunciated by Dickson J. and, in so applying them to the evidence in this case, he neither proceeded on a wrong principle nor erred in his appreciation of the facts nor in his findings with respect thereto.

One must pause in reciting Mr. Justice Urie's passage to note that, in the case at bar as distinct from the Graham case, this Court has not heard the witnesses viva voce, by agreement of counsel. One would, however, expect that such a situation would not derogate from the application of good principle applicable in the marked similarity of the factual situations, where the respective taxpayers objectively evince such virtually identical main preoccupations, effected by changes of mode and habit of work, such that each “is farming but he has income from a sideline employment".

After finding that there was no “palpable and overriding error" in the trial judge's assessment of the facts and application of law in the Graham case, Mr. Justice Urie is reported on page 113 to have continued:

Accordingly, he correctly held that the respondent fell within category 1 of the three classes of farmer contemplated by subsection 31(1) of the Act and was thus entitled to deduct all of his farming losses in the computation of his taxable income in the taxation years in issue. I do not think that in the very unusual circumstances of this case his other source of income, namely, his employment at Ontario Hydro, precluded him from doing so.

It may be noted in the dissentient reasons of Mr. Justice Marceau (p. 115), that while Graham's land was much smaller in extent than is the plaintiff's in the case at bar, Graham needed for his hog raising certain equipment, no doubt, sophisticated and Marceau, J. sets out further similarities in stating that:

The house and barns on the property needed remodelling and he wanted to do the work himself; in addition some equipment had to be purchased, which he wanted to do only with the money he could save from his salary; so he had to delay his project but, in 1977, the operation was definitely on its feet.

The plaintiff in the present case acquired worn, old equipment with the farm and he therefore did not delay his project, but thereafter, replacement of the old equipment and machinery by Mr. Pavlakovich was effected with the money he could save from his wages.

The marked similarities of the Graham case with the case at bar dictate the same result upon application of the same legal principles. Except for the part year 1977 which extends only from autumn to the end of 1977, in which, despite some farm work, the plaintiff was situated in class (2) according to the Moldowan judgment, the losses incurred in 1978, 1979 and 1980 are found to be deductible. In each of those latter three years the plaintiff's chief source of income was farming or a combination of farming and some other source of income, as determined according to the principles of law enunciated in the Moldowan and Graham judgment decisions. For 1977, the Minister's limitation of losses pursuant to the Act is correct. For the 1978, 1979 and 1980 years, the plaintiff's appeal is allowed, and the reassessments are vacated. The matter is referred back to the Minister in order to effect reassessments in compliance with the provisions and findings expressed in these reasons.

Success has been divided because the plaintiff did not concede the correctness of the Minister's reassessment for the 1977 year. The plaintiff is entitled to recover from the defendant 80 per cent of his taxable costs, after taxation thereof, unless the parties agree not to engage in such a taxation but to make a pragmatic arrangement in order to yield to the plaintiff his 80 per cent.

A draft judgment to implement the Court's conclusions may be prepared by the plaintiff's solicitors as part of their taxable party-and-party services herein, upon and after consultation with the defendant's solicitors in order to invite their approval as to form if not also the content thereof, all in accordance with Rule 337(2)(a).

Appeal allowed in part.