Quinn v. R., [1998] 1 CTC 2919

Somers D.J.T.C.:

This appeal was heard in Toronto, Ontario, on October 10, 1997, pursuant to the Informal procedure of this Court.

In reassessing the Appellant for the 1991, 1992 and 1993 taxation years, the Minister of National Revenue (the “Minister”) disallowed the deduction of the rental losses. In the reassessment, the Minister decided that the Appellant did not have a reasonable expectation of profit from renting the property in the 1991, 1992 and 1993 taxation years, that the losses were personal or living expenses and that the Appellant was properly reassessed in accordance with paragraphs 18(1)(a) and 18(1)(h) of the Income Tax Act.

In so reassessing the Appellant, the Minister made the following assumptions of fact which were admitted or denied by the Appellant:

(a) in July 1990, the Appellant purchased 82 Waterford Crescent in Stoney Creek, Ontario (the “Property”) at a cost of $238,353.66; (admitted)

(b) the Property purchased was financed with a down payment of $38,353.66, a first mortgage on the Property in the amount of $88,000 and a first mortgage on the Appellant’s principal residence in Mississauga in the amount of $112,000; (admitted)

(c) in July 1991, the Appellant began renting out the Property; (admitted)

(d) in the 1991, 1992 and 1993 taxation years, the Appellant reported gross rental income, expenses and losses as per Schedules “A”, “B” and “C”, attached; (admitted)

(e) the receipts, invoices or other records provided by the Appellant to the Minister did not fully support the expenses claimed; (denied)

(f) the Appellant reported a rental loss from renting the Property in another year as follows: (denied)

Year	Losses
1990	$14,132.00

(g) the rent charged was not sufficient to offset the fixed operating expenses (mortgage interest and property taxes) of the Property; (denied)

(h) the Appellant did not have a reasonable expectation of profit from renting the Property during the 1991, 1992 and 1993 taxation years; (denied)

(i) the rental expenses were personal or living expenses of the Appellant. (denied)

The Appellant, operating his own business since 1978, decided as an investment venture to purchase a property for rental purposes in Stoney Creek, Ontario. The property is situated on the shore of Lake Ontario and was purchased in July 1990 for the price of $238,353.66. The property was financed with a down payment of $38,353.66, a first mortgage on the property in the amount of $88,000. and a first mortgage on the Appellant’s principal residence in Mississauga in the amount of $112,000.

The property is part of a community close to Toronto where exists a yacht club designed for the active outdoor lifestyle. The Appellant, as a result of inquiries, thought that he could get sufficient returns, eventually creating a profit.

He approached his retired parents-in-law, to rent the property in question. He obtained a verbal agreement that they would rent the property at $2,000 per month. Unfortunately, his mother-in-law became ill in Septem- ber 1990 and died in February 1991. His father-in-law died in May 1991. They were unwilling to rent the property as of September 1990.

The projected rental expectation was a monthly rent of $2,000 to $3,000. However, his projected revenue income was not based on the opinion of a real estate agent; he was influenced by the promotional aspect of the community project. With the help of his accountant of 15 years, they decided that it would be a good investment.

There was, however, a decline in the real estate market and the property was not leased out until July 1991 at a much lesser rate than anticipated. From September 1990 he listed the property for sale. He realized that he could not rent the property at the projected rate. He finally rented the property in July 1991 at $1,200 per month based on a written two-year lease.

When this two-year lease expired, the Appellant listed the property for sale. In the meantime he rented the house with a verbal monthly lease at a rate of $1,000 per month. The lessee’s post-dated cheques of $1,000 each were not honoured. The lessee did not leave the premises freely. The Appellant finally obtained a judgment of $3,000 and costs against the lessee.

Due to the decline in the real estate market, lower rental expectations and losses in 1994 and 1995, he sold the property in February 1996 at a selling price of $144,000. Between the time of the purchase and the sale, he reduced the mortgage in order to reduce the interest charges.

Before the purchase of the property, the Appellant and his chartered accountant reviewed the various factors and concluded that the purchase would be a worthwhile investment. The chartered accountant testified on the Appellant’s behalf and admitted he did not possess any expertise in the real estate market in 1990. However, he said the real estate was booming in 1990 but prices went down considerably in 1991.

The chartered accountant prepared projections of rental income for the years 1991 to 1998 as follows (Exhibit A-5):

Robert C. Quinn

Projected Rental Income

82 Waterford Crescent
	1991	1992		1993	1994	1995	1996	1997	1998
Reve-	$14,400	$15,120		$15,876	$16,670	$17,504 $18,379		$19,298	$20,263
nues
Ex-
penses

		1991	1992	1993	1994	1995	1996	1997	1998
Proper-		3,700	3,885	4,079	4,283	4,497	4,722	4,958	5,206
ty Tax
Interest		22,038	16,153	14,109	13,602	12,687	11,699	10,632	9,480
Insur-		450	473	497	522	548	575	604	634
ance
Repairs		500	525	551	579	608	638	670	704
&	oth
er
		26,688	21,036	19,236	18,986	18,340	17,634	16,864	16,024
Net in-		-	-$5,916	-$3,360	-$2,316	-$836	$745	$2,434	$ 4,239
come		$12,288
(loss)

Robert C. Quinn

Revised Rental Projections

82 Waterhouse Crescent

		1991	1992	1993	1994	1995	1996	1997	1998
Reve		$13,200	$13,200	$13,860	$14,553	$15,281	$16,045	$16,847	$17,689
nues
Ex
penses—
Proper		3,700	3,885	4,079	4,283	4,497	4,722	4,958	5,206
ty Tax
Interest		22,038	16,153	14,109	13,602	12,687	11,699	10,632	9,480
Insur		450	473	497	522	548	575	604	634
ance
Repairs		500	525	551	579	608	638	670	704
&	oth
er
		26,688	21,036	19,236	18,986	18,340	17,634	16,864	16,024
Net in			-$ 7,836	-$ 5,376	-$ 4,433	-$3,059	-$ 1,589	-$ 17	$ 1,665
come		$13,488
(loss)

In fact the rental income for the years 1991, 1992 and 1993 were respectively $6,600, $13,200 and $6,600. Besides the property taxes, maintenance, repairs and insurance costs, the interest alone on the mortgage was higher than the rental income. For the same years 1991, 1992 and 1993, the interest on the mortgage was respectively $22,039, $16,153.60 and $14,609.95. The rental losses claimed for those years are in the sums of $18,911, $7,704.43 and $13,284.73 respectively.

In the unreported case of Mohammad v. R. (July 28, 1997), Doc. A-652- 96 (Fed. C.A.), dated July 28, 1997, the Federal Court of Appeal stated the following:

In many cases, the interest component is so large that a rental loss arises even before other permissible rental expenses are factored into the profit and loss statement. The facts are such that one does not have to possess the experience of a real estate market analyst to grasp the reality that a profit cannot be realized until such time as the interest expense is reduced by paying down the principal amount of the indebtedness.

In the present case, the evidence has shown that the interest expense exceeds the indebtedness. With the figures presented to the Court, the Appellant had a burden of proving that there was a reasonable expectation of profit. No expert witness was called to enlighten the Court as to the real estate market value before and after the purchase of the property. While the location of a community project on the shore of Lake Ontario seems quite attractive for personal residential purposes with all its recreational activities, there is no evidence that it would be attractive for rental purposes, thereby generating income with a reasonable expectation of profit.

The Appellant did not demonstrate that he had a reasonable expectation of profit in the circumstances. The Appellant offered no evidence explaining why he expected rental income of $14,400 to $20,263 from 1991 to 1993. The projected rental income, as suggested in the chartered accountant’s schedule, was only an accounting calculation. Neither the Appellant nor the chartered accountant could present a reasonable explanation as to the accuracy of the projected rental income.

Bearing in mind all of the circumstances in this case, the Appellant did not have a reasonable expectation of profit from renting the property in the 1991, 1992 and 1993 taxation years.

The appeal is dismissed.

Appeal dismissed.