Sonja Michels v. Her Majesty the Queen, [1996] 3 CTC 2669 (Informal Procedure)

McArthur J.T.C.C.: — This appeal was heard in Edmonton, Alberta under the Informal Procedures of this Court for the Appellant’s 1992 taxation year. The issue is whether the Appellant is entitled to deduct purported net rental losses in the amount of $10,756.00, disallowed by the Minister of National Revenue.

The facts not in dispute, and taken for the most part from the Respondent’s Reply to the Notice of Appeal, include: In the 1992 taxation year the Appellant recorded from her rental project gross income of $1400.00, total expenses of $12,155.95 and net rental loss of $10,755.95. The Appellant purchased a residential property at 25 Flagstone Crescent, St. Albert, Alberta in 1986.

Since the year 1987 she has reported rental losses from renting the basement of the property. The basement portion of the property is no more than 50 per cent of the total area of the property. In 1992 the Appellant’s mother-in-law lived with her and her spouse in the upper area of the residence and paid a total of $1400.00. The basement residence was under renovation throughout that year, was unrented and unrentable. The net losses escalated from a low in 1987 of $212.00 to $7,713.00 in 1991 and a high of $10,756.00 in 1992.

In the year 1992 renovations were being made to the basement property. The only tenant in 1992 was the Appellant’s mother-in- law, who resided on the main floor with the Appellant and her spouse. The Appellant’s mother-in-law did not pay rent at fair market value, but paid rent at less than fair market value in 1992.

Expenditures totalling $4,268.68 claimed by the Appellant as maintenance and repairs expense in 1992 were classified by the Respondent as capital expenditures because no vouchers were presented. Expenses claimed in respect of the property taxes in the amount of $1404.00, insurance in the amount of $146.52, and utilities in the amount of $1200.00 and janitorial services in the amount of $720.00 were taken by the Respondent as not having been incurred by the Appellant because they were not proven.

The position of the Respondent included the rental expenses sought to be deducted in the 1992 taxation year were personal or living expenses of the Appellant or were capital expenditures and were not incurred for the purposes of gaining or producing income from property, and that the Appellant did not have a reasonable expectation of profit from renting the basement property during the 1992 taxation year.

The Appellant testified that the upstairs kitchen sink leaked just prior to 1992 causing substantial damage to the upstairs and the lower apartment. The upstairs kitchen floor was replaced and renovations were commenced in 1992 on the then vacant basement apartment. These repairs were never completed because of lack of funds. The Appellant stated in her Notice of Appeal that “the renters complained about the smell from water damage and finally moved. The other complaint they had was that access to the washer and dryer area was through their living quarters. The washer and dryer was shared by both the tenants and ourselves. After the renters vacated we decided to repair the damage that had been done and improve the overall function for the tenants. This involved changing the location of the washer and dryer to another area of the basement and creating a new entry to this location. It also involved tearing down the damaged walls and dry walling areas of the basement. Looking towards low maintenance in the future for the upkeep of this suite we also removed the damaged rugs and replaced it with tile”.

This appeal deals essentially with two rental units. I will first consider the tenancy of the Appellant’s mother-in-law. The Appellant’s mother-in- law occupied a room in the upper level of the residential unit, about 15 to 20 per cent of the total upstairs space. She lived with her son and daughter- in-law occupying the total living area with them. The Appellant acknowledged that her mother-in-law did not pay rent at the fair market value. She paid approximately $100.00 per month, which may have been her share of food expenses. There was no allocation of expenses, no attempt to demonstrate who the tenancy could ever yield a profit. It was not a business. The Appellant kept her mother-in-law for personal reasons. For the upstairs rental unit I have no difficulty in concluding, or in agreeing with the Minister that these expenses, if any, were personal or living expenses.

Now dealing with the basement unit. I do not feel that it serves a useful purpose to review the past rental experience. The Appellant and her husband attempted in 1992 to renovate the basement area with the intent of completing a new and up-to-date residential apartment. They ran out of funds. The basement was never rented nor completed.

In Tonn v. R., [1996] 1 C.T.C. 205, 96 D.T.C. 6001 (F.C.A.), Justice Linden stated that, and reading from page 219 (D.T.C. 6009),

It seems to me that for most cases where the Department desires to challenge the reasonableness of a taxpayer’s transaction they need simply refer to section 67. This section provides that an expense be deducted only to the extent that it is reasonable in the circumstances.

In the present case the Appellant claims as maintenance and repairs expenses totalling $4,268.68, which the Respondent submits should be on capital account. There was little direct or specific evidence by the Appellant to demolish the Respondent’s position. The Appellant further claimed 50 per cent of the residence’s property taxes, mortgage interest, insurance and utilities. No vouchers were presented, although the Appellant testified to the accuracy of the amounts. The Appellant presented that the expenditures were incurred for the basement unit as start-up costs for what was planned to be a new unit with little resemblance to the original one.

I find that the Appellant is entitled to some start-up costs for the rental unit, but find what is claimed is difficult to discern, not being separated from the upstairs unit, etc. and at any rate unreasonable under the circumstances. Notwithstanding, the Appellant did suffer losses by way of start-up costs for the ill- fated basement rental venture and is entitled to some losses which I set at $3,000.00.

The appeal from the assessment for the 1992 taxation year is allowed without costs, and the assessment is referred back to the Minister for reconsideration and reassessment on the basis that the Appellant is entitled to deduct a total of $3,000.00 in computing start-up losses suffered in an attempt to rent the lower or basement unit of 25 Flagstone Crescent, St. Albert, Alberta. The Appellant is not entitled in 1992 to deduct any losses with respect to the rental of the upper space to her mother-in-law.

Appeal allowed.