Vincelli v. R., [1998] 1 CTC 2904, 98 DTC 1235

Archambault T.C.J.:

Mr. Vincelli is appealing an income tax assessment issued by the Minister of National Revenue (Minister) for the 1989 taxation year. The Minister disallowed the deduction of an “allowable business investment loss” of $250,000 claimed by Mr. Vincelli. This represents two thirds of a “business investment loss” of $375,000.

During the hearing, the Minister agreed that Mr. Vincelli had incurred in 1989 business investment losses aggregating $163,296 [$136,756 + $26,540] in respect of two loans made to Pre-Fur Canada Inc. (Fur) and guaranteed by Mr. Vincelli.

The first amount represents part of a loan (Rousseau loan) made by Mr. Rousseau and Mrs. Sourroubille (Rousseau Group); the second amount represents a loan made by Caisse Populaire Côte-des-Neiges (Caisse Populaire). Therefore, the amount of the business investment losses at issue here is $211,704 [375,000 - 163,296]. The Minister claims that this amount does not qualify as such a loss because Mr. Vincelli’s liability in respect of them was not incurred for the purpose of earning income, as required by subparagraph 40(2)(g)(ii) of the Income Tax Act (Act).

The issue raised by this appeal concerns three groups of loans. The first one is the Rousseau loan, the second is a loan (Taillage loan) made by a company called Taillage P.R. Ltée (Taillage), and the third one is a loan (Caisse Populaire loan) made by Caisse Populaire to Messrs. Vincelli and Mercille. I shall deal with each of them in turn to determine whether Mr. Vincelli can claim a business investment loss in respect of any of them.

The Rousseau loan

On April 15, 1987, Fur purchased from 2332-6267 Quebec Inc. (6267) a piece of land (Mont Alouette) for the sum of $300,000 payable in instalments. The balance of the purchase price was guaranteed by a first mortgage and was subject to a “dation en paiement” clause. The last instalment of $100,000, payable on October 15, 1988, was not paid and, on January 26, 1989, 6267 instituted legal proceedings pursuant to the “dation en paiement” clause for the rescission of the sale and the reconveyance of Mont Alouette. As Fur had obtained the Rousseau loan of $170,000 in October 1988 to finance part of the purchase price and had given to the Rousseau group as security for that loan a second mortgage on Mont Alouette, this group had to intervene in the “dation en paiement” suit to protect its own claim and, on January 26, 1989, it paid 6267 the amount then due to it: $110,757, and obtained therefore by subrogation 6267’s rights in relation to the “dation en paiement” suit.

Fur also defaulted on the Rousseau loan and as Mr. Vincelli had guaranteed this second mortgage loan, the Rousseau Group obtained a judgment on September 28, 1989 ordering Mr. Vincelli to pay $130,893 plus interest. On November 21, 1989, the Rousseau Group obtained a seizure after judgment with regard to Mr. Vincelli’s assets. On December 5, 1989, Mr. Vincelli paid a sum of $272,500 allegedly representing all his debts to the Rousseau Group, including the amount paid by the Rousseau Group to 6267 on the first mortgage and therefore acquired by subrogation the Rousseau Group’s rights in relation to the “dation en paiement” suit. Indeed, a formal judgement was issued in March 1991 by the Quebec Superior Court transferring Mont Alouette to Mr. Vincelli retroactive to April 22, 1987.

On January 30, 1990, Mr. Vincelli filed a claim in the Quebec Superior Court against Fur for at least $136,756.16 as a result of the payment made by him on December 5, 1989. This is the amount that the Minister consented to recognize as a business investment loss for the 1989 taxation year. I think this is a fair conclusion given the evidence before me, including the statement by Mr. Vincelli that Fur was “a dead company” by December 1989.

Indeed, Fur had embarked upon a disastrous bar venture and found out that it was difficult to develop Mont Alouette. In addition, Fur was not in a position to pay its creditors and had defaulted on the payment of the balance of the purchase price to 6267 and on the Rousseau loan. The “dation en paiement” suit was in progress at that time and ultimately Fur lost Mont Alouette retroactive to April 1987.

Based on the evidence before me, I consider that out of the $272,500 paid by Mr. Vincelli, $110,757 related to the first mortgage and $161,743 to the second mortgage loan owing to the Rousseau Group that Mr. Vincelli had guaranteed. The latter amount represents a claim by Mr. Vincelli against Fur, which claim had become a bad debt at the end of 1989, and I conclude that the amount of $136,756 already accepted by the Minister should be increased to $161,743.

I come to this conclusion even though Mr. Vincelli’s claim against Fur referred only to $136,756. First the claim stated that the amount owing was “at least” $136,756, which clearly indicates to me that it was not a definitive number. Second, as previously stated, I am satisfied that the amount of $161,743 was paid by Mr. Vincelli pursuant to his guaranty and that he was liable for this amount.

Pursuant to section 79(f) and (g) of the Act, the cost of Mont Alouette is deemed to be equal to the cost of Mr. Vincelli’s claim, that is $110,757, and the cost of his claim in respect of the first mortgage pursuant to which he acquired Mont Alouette is deemed to be nil. Therefore no business investment loss can be claimed with respect to $110,757.

The Taillage loan

Fur was formed in February 1986 and its two equal shareholders were Mr. Vincelli and Mr. Daniel Mercilie. The latter convinced the former to form this company to carry on a fun-fur business. The money to finance its activities would come from Mr. Mercille who knew a widow, a Mrs. Langis, whom he had dated and whose company, Taillage, would lend $220,000 to Fur. Apparently, this was part of a scheme that would help her hide her assets from the estate of her late ex-husband whose will might be contested by his half-brother. This brother had not recognized the will because Mrs. Langis had divorced her late husband shortly prior to his death. Pursuant to two notarial deeds, Taillage lent the $220,000 to Mr. Mercille in February 1986 but the funds were apparently advanced to Fur directly.

For accounting purposes, this loan was shown on the financial statements of Fur as advances from shareholders. Fur’s accountant testified that the loan was shown as having been made by Mr. Mercille. Mr. Vincelli did not intervene to guarantee these loans. In March 1988, Mrs. Langis and Taillage began legal proceedings against Fur, Mr. Mercille and Mr. Vincelli alleging fraudulent misrepresentations with respect to this loan and with respect to the acquisition of certain assets from Mrs. Langis’.s ex-husband’s estate.

Mr. Vincelli hired a lawyer, a Mr. Ronald Stein, who filed a defense basically denying these claims by asserting inter alia that there was no “lien de droit” between Taillage and Mr. Vincelli with respect to the loan. However, on December 5, 1989, Mr. Vincelli agreed to pay to Mrs. Langis and Taillage the sum of $175,000 as a consequence of which he became entitled by subrogation to claim $175,000 from Mr. Mercille and Fur pursuant to the $220,000 loan made to Mercille and which Taillage claimed had been taken on behalf of Fur. In support of this position is the fact that Taillage paid this sum of $220,000 directly to Fur.

In my view, Mr. Vincelli had to convince me that the claim he acquired in December 1989 was so acquired for the purpose of earning income as required by subparagrah 40(2)(g)(ii) of the Act. I am not satisfied that this is the case here. There is no evidence that, at the time he was subrogated in the rights of Taillage respecting part of the $220,000 loan, Mr. Vincelli could have expected to receive payment of the capital and interest from Mr. Mercille. Mr. Vincelli stated that Mr. Mercille was without any resources whatever and this is confirmed by the fact that he did not even pursue his action for reimbursement by Mr. Mercille of Mr. Mercille’s share of the Rousseau loan. Like Mr. Vincelli, Mr. Mercilie had guaranteed this loan. I do not believe Mr. Vincelli took any legal action against Mr. Mercilie on the Taillage loan either. The same applies to the claim against Fur. Because of the legal claim pursued by 6267 and continued by Mr. Vincelli himself, Fur was on the verge of losing its only asset, Mont Alouette, which was not even worth what Fur had paid for it. In the end, Mr. Vincelli had to forfeit it to the municipality for unpaid taxes in 1995. So there was no expectation of payment from Fur either.

Furthermore, I do not agree with the position of Mr. Vincelli’s counsel that we can draw an inference that Mr. Vincelli had guaranteed the Taillage loan. A guaranty has its source either in a contract or in law. There is no evidence of the existence of either source in this case. On the contrary, in his defense, Mr. Vincelli stated that no “lien de droit” existed between Taillage and Mr. Vincelli. Furthermore, although Mr. Stein testified, nobody asked him to explain why Mr. Vincelli accepted to pay a large portion of the Taillage loan which, to repeat myself, had been made either to Mr. Mercilie or to Fur. Given that Taillage’s claim alleged fraud by Mr. Vincelli, it is not impossible that this might have played a role in convincing him to reimburse the Taillage loan. However, this is only speculation given that Mr. Stein was not examined on this question.

As to Mr. Vincelli’s answer that he felt compelled to pay because the loan had been used in the business of Fur, I find it rather startling that a shareholder who in law is not responsible for the debt of his company would agree to pay, especially under the circumstances of this case. It is not impossible that he might have done so pursuant to a “moral” obligation. However, given that no “legal” obligation has been established to have existed prior to December 5, 1989, it would have to be determined whether this claim was acquired at that time for the purpose of earning income. As stated above, the answer is that no expectation of profit existed at that time. Therefore, the loss is deemed to be nil pursuant to paragraph 40(2)(g) of the Act.

The Caisse Populaire loan

Here the evidence has disclosed that Caisse Populaire made a loan of $20,467 in December 1987 to both Mr. Mercille and to Mr. Vincelli. I am not satisfied that this loan was used for the purpose of earning income. The only evidence is the oral testimony of Mr. Vincelli who stated that he lent the money to Fur. However, the amount does not appear in the advances from a shareholder in the balance sheet of Fur for the 1987 to 1989 fiscal periods.

Furthermore, Fur was able to produce the Caisse Populaire statement establishing that the $220,000 loan from Taillage was deposited in the account of Fur in 1986. No explanation was furnished concerning the lack of such statement for the 1987 calendar year with respect to the Caisse Populaire loan. I do not believe that Mr. Vincelli was lying, however I think he was mistaken.

For these reasons the appeal is allowed, without costs, and the assessment for the 1989 taxation year is referred back to the Minister of National Revenue for reconsideration and reassessment on the basis that the amount of business investment loss that the Appellant is entitled to take into account in computing his allowable business investment loss is $188,283.

Appeal allowed in part.