William Hall v. Minister of National Revenue, [1985] 2 CTC 2314, 85 DTC 624

Taylor, TCJ:—This is an appeal heard in Toronto, Ontario, on July 22, 1985, against an income tax assessment, for the year 1980 in which the Minister of National Revenue disallowed the deduction of the "restricted farm loss” claimed by the appellant against his other employment income. The notice of appeal read:

STATEMENT OF FACTS

1. The taxpayer had discussions with Michael Smith of Rossmore Farms regarding the profit potential involved in Harness Racing. Mr Smith (a licensed horse trainer) convinced Mr Hall as to the financial viability of harness horse racing and specifically advised Mr Hall to acquire the horse “Clacton Cannon” on a 50-50 basis with Mr Smith.

2. Mr Smith trained the horse and Mr Hall paid the expenses on his half interest.

3. The horse was purchased in March of 1980 for the sum of $12,500. Mr Hall’s share was $6,250.

4. The horse was raced at Mohawk and Orangeville Raceways on a regular basis from purchase until sale in March of 1981.

5. The horse was sold when it did not achieve the predicted level of success.

6. At no time was the horse maintained other than for its profit potential.

7. Mr Hall had no personal use of the horse.

REASONS

Mr Hall was involved in a business for profit and suffered a loss. Revenue Canada has disallowed the loss on the basis that the expenses were personal or living expenses within the meaning of paragraph 18(1)(h) and subsection 248(1) of the Act. Mr Hall contends that his loss was a loss connected with a business carried on for profit. Furthermore, the loss did not result from expenses of properties maintained for the use or benefit of the taxpayer other than for financial gain. Therefore, the losses are deductible in accordance with paragraph 18(1)(a) of the Income Tax Act.

For the Minister the situation was stated as:

— the Appellant had no experience or training in horse racing;

— the Appellant was capable of investing further capital in the operation in order to demonstrate his commitment but chose not to;

— the Appellant failed to identify the inherent risks in horse racing prior to the purchase of “Clacton Cannon”;

— the Appellant did not pursue a plan for management of the risks or minimization of the risks;

— there was no profit in the years 1980 and 1981;

— the Appellant was operating a hobby farm;

— the hobby farming activity was maintained by the Appellant for his own use and benefit and was not maintained in connection with a business carried on for profit or with a reasonable expectation of profit;

— the expenses incurred by the Appellant were personal or living expenses and

not outlays or expenses incurred to earn income from a business or property.

The respondent relies, inter alia, upon the provisions of paragraphs 18(1)(a) and 18(1)(h) and section 31 and subsection 248(1) of the Income Tax Act, RSC 1952, c 148 as amended (the “Act”).

There was some limited detail added by the appellant in his testimony, to that provided in the notice of appeal, and in argument his agent relied heavily upon the point that some of the horses which had raced against “Clacton Smith”, on the day it had been claimed by Mr Hall and Mr Smith, had gone on to win substantial purses in even higher class races. In essence Mr Elliott’s argument was that had Mr Hall been a bit luckier (perhaps claimed a different horse, or had “Clacton Cannon” not suffered from certain disabilities unknown at the time of claiming) he (Mr Hall) would have had a profitable horse. Mr Hall had been interested in “racing” as a personal sport for some time, and continued to attend racetracks to wager for his own pleasure, although not profit, even after disposing of his interest in “Clacton Cannon” for $1,500 to his partner Mr Smith in March 1981. He did not acquire any more investment interests in horses — stating that it was too expensive for his resources.

In the instant case, the Court is asked to rule that this taxpayer, who acquired half a racehorse, then left the training, racing etc. up to his partner, but paid half the maintenance costs for the horse, would thereby have engaged himself in the business of farming. While that may appear almost a minimum situation, the same criteria should be applied to those circumstances which supported the recent case of Gorjup v MNR, [1985] 2 CTC 2194 at 2200; 85 DTC 530 at 535 and I quote therefrom:

Therefore, I must conclude (from the Minister's determination above, and from the Courts' agreement) that none of the following inhibits the right of a taxpayer to claim the “restricted farm loss”:

(1) full-time employment

(2) farming in spare time

(3) consistent, continued and ever increasing farm losses in excess of $5,000.00 per year, over several years.

And, I must conclude that the demonstration of a devotion to farming, efforts to put that devotion into actual practice, and some physical (not necessarily financial) progress toward bringing that about, are supportive, indeed determinative of the question of entitlement to “restricted farm losses”.

Therefore, what do we have in the instant appeal? Mr Gorjup is not barred from the claim for “restricted farm loss” based on the conditions cited and accepted in Graham (supra) — (1) full time employment, (2) spare time on the farm,

(3) consistent losses. In addition Mr Gorjup meets the apparent fundamental requirements of dedication to the rural way of life recited in Graham (supra).

The agent for the appellant brought to the Court's attention that the definition of “farming”, under subsection 248(1) of the Income Tax Act — “includes . . . maintaining of horses for racing”. However that has not routinely determined whether the appellant was engaged in the “business of farming”. The recent case law particularly Graham (see below) may indicate that such a distinction between “farming” and the “business of farming” is open to question, and that the “hobby farming” category from Moldowan (supra) should have extremely narrow parameters, and be applied only with the utmost caution. In my appreciation of the facts of this case, and the case law cited below, Mr Hall is entitled to the "restricted farm loss” claimed. I would only add one word of caution. The Federal Court of Appeal—Trial Division case of Gerald Armstrong v The Queen, [1985] 2 CTC 179; 85 DTC 5396 brings into sharp relief the question of capital investment with regard to farming and I quote therefrom:

The issue is to determine whether the purchase of a yearling thoroughbred horse named “Stone Manor”, and the sale, some three years after purchase, was a capital disposition or “an adventure in the nature of trade”.

It then describes the purses won which amounted to $230,708.15, expenses incurred $131,830.90, showing a net from the operation of $98,872.25. This last amount was reported as income.

Upon evaluation of all of the evidence and circumstances I am not prepared to find that, at the moment of purchase of Stone Manor, the possibility of resale for profit was an operating motivation of the plaintiff’s acquisition. I am satisfied that there was no secondary intention in buying Stone Manor to sell him for a profit rather than keep him for racing. The evidence is to the contrary. He was carefully chosen as a good race horse, he was trained and in fact raced. A good income derived from the purses won. The sale was motivated by an unfortunate and unforeseeable leg injury which brought his racing career to an abrupt end.

In the case of a race horse, increased value at the time of sale can only come from its income producing capacity and potential or a record of winnings which makes it valuable for breeding. Thus, absence of expectation of income will also exclude expectation of a high resale value. This is perhaps different from cases of land purchase where the land may have almost no income-producing capacity but can still be expected to fetch a handsome price upon resale. Statements about the effects of a purchase being speculative in nature on the characterization of the gain from the eventual sale which are found in Regal Heights v MNR, [1960] CTC 384 at 389; 60 DTC 1270 at 1272-73 (SCC) appear to support the defendant. On the other hand the later decision of the Supreme Court in Irrigation Industries v MNR, [1962] CTC 215; 62 DTC 1131 suggests at 218-19 (DTC 1132-3) that a high level of risk does not mean that the disposition of a property can never be considered a Capital transaction.

Essentially in Armstrong (supra) the operation of "hore-racing” was treated in a manner consistent with farming as a business, but the horse itself "Stone Manor” was regarded as a capital asset. Some similar reference point regarding the allocation of costs between "revenue” and "capital”, may be seen in Gorjup (supra):

It might well be argued that in the circumstances of this case an appropriate way of looking at the “losses”, would be as a form of “capital expenditure”, in the sense that virtually all of the taxpayer’s effort and resources had been devoted to either holding or improving the capital asset elements of the operation (land, buildings, machinery, inventory, expertise, etc.), from which he hoped to make a profit eventually (See Warden v MNR, [1981] 2 CTC 2379; 81 DTC 322).

This appeal is allowed and the matter referred back to the respondent for reconsideration and reassessment according to these reasons for judgment.

The appellant is entitled to party and party costs.

Appeal allowed.