Kaye v. R., [1998] 3 CTC 2248, 98 DTC 1659

Bowman T.C.J.:

This appeal is from an assessment for the 1994 taxation year. Mr. Kaye is an air attack officer. This is a dangerous, difficult and extremely important profession of flying water bombers to fight forest fires. His work is seasonal and lasts from about April to October. He lives in Hudson Bay, a town of approximately 2,400 persons about a three hour drive north of Saskatoon.

He has also been interested in collecting antiques since at least 1984. The issue is the deductibility of losses sustained in what he claims is a business of buying and selling antiques and collectibles, “Kaye Kollectibles”.

The Department of National Revenue has denied the deduction on the basis that he had, to use the phrase that is familiar to everyone who has a passing acquaintance with tax, “no reasonable expectation of profit”. It was also alleged that the amounts claimed as expenses were not proved, were not laid out for the purpose of gaining or producing income, were personal or living expenses and were unreasonable. Ultimately the counsel agreed that the major question was whether there was a reasonable expectation of profit in 1994.

I do not find the ritual repetition of the phrase particularly helpful in cases of this type, and I prefer to put the matter on the basis “Is there or is there not truly a business?” This is a broader but, I believe, a more meaningful question and one that, for me at least, leads to a more fruitful line of enquiry. No doubt it subsumes the question of the objective reasonableness of the taxpayer’s expectation of profit, but there is more to it than that. How can it be said that a driller of wildcat oil wells has a reasonable expectation of profit and is therefore conducting a business given the extremely low success rate? Yet no one questions that such companies are carrying on a business. It is the inherent commerciality of the enterprise, revealed in its organization, that makes it a business. Subjective intention to make money, while a factor, is not determinative, although its absence may militate against the assertion that an activity is a business.

One cannot view the reasonableness of the expectation of profit in isolation. One must ask “Would a reasonable person, looking at a particular activity and applying ordinary standards of commercial common sense, say ‘yes, this is a business’?” In answering this question the hypothetical reasonable person would look at such things as capitalization, knowledge of the participant and time spent. He or she would also consider whether the person claiming to be in business has gone about it in an orderly, businesslike way and in the way that a business person would normally be expected to do.

This leads to a further consideration — that of reasonableness. The reasonableness of expenditures is dealt with specifically in section 67 of the Income Tax Act, but it does not exist in a watertight compartment. Section 67 operates within the context of a business and assumes the existence of a business. It is also a component in the question whether a particular activity is a business. For example, it cannot be said, in the absence of compelling reasons, that a person would spend $1,000,000 if all that could reasonably be expected to be earned was $1,000.

Ultimately, it boils down to a common sense appreciation of all of the factors, in which each is assigned its appropriate weight in the overall context. One must of course not discount entrepreneurial vision and imagination, but they are hard to evaluate at the outset. Simply put, if you want to be treated as carrying on a business, you should act like a businessman.

I turn now to Mr. Kaye’s activity. Essentially what he has attempted to do in 1994 is to change direction from a hobby as a collector to a business as a seller of collectibles and antiques. He struck me as an honest and credible witness, telling the truth as he saw it. Many of the decisions with respect to the claims that he made appear to have been those of his wife, who was an accountant. She did not testify.

In 1994 he claimed in his return of income $11,810 as a business loss. His other income included $13,832 as employment income and $9,449 as unemployment insurance benefits. At the assessment level his loss was revised to $5,523, that is to say, $6,287 was disallowed. Although the 1995 taxation year is not before me, in that year he claimed $21,776 as a loss and this loss was revised on audit to $10,999. $10,777 was disallowed. The disallowance was based not on an assumption that there was no reasonable expectation of profit (although this point was thought of, but not pursued) but simply on the basis that insufficient documentation had been provided.

In each of those years the gross income was $150. It appears that in 1994 two hockey cards were sold. It is not clear what was sold in 1995. In 1996 a loss of $1,535 was claimed but this was revised in a T-1 adjustment request to $16,147. It is unclear whether there were any Sales.

Following the objections for 1994 and 1995 the appeals auditor concluded that the entire claim should be disallowed on the basis that there was no reasonable expectation of profit and reassessments ensued.

After most of the evidence had been adduced counsel agreed to abandon the claim for the additional $6,287 and limited it to a claim for $5,523. This was probably on the basis that it was clear that many of the expenses could not be substantiated. For example, some $3,000 was claimed as an opening inventory although the appellant was unable to state just what was in the opening inventory, some of which he agreed was purchased from his father- in-law’s wife. I should have thought that if there was $3,000 worth of opening inventory and only $150 worth was sold the balance together with purchases in the year, valued at the lower of lost or market or on some other basis as may be appropriate, would have appeared in the closing inventory. The statement of business activities shows, in computing as cost of goods sold an opening inventory of $3,000, purchases of $4,300 for a total of $7,300, less a closing inventory of $5,500 for a cost of goods sold of $1,800. This means that the goods sold of $150 (two hockey cards) had a notional cost attributed to them of $1,800.

I cite this as one example of the somewhat unrealistic way in which the computation of the income or loss was approached. Many of the other expenses appear to have been ballpark guesstimates. The other expenses claimed are round figures - such as salaries ($2,450) travel ($1,500) motor vehicle expenses ($3,250) and so forth. There was no separate business bank account and it was impossible to tell from the bank statement that was put in evidence just what the money withdrawn from the account was spent on.

Quite apart from the rather fundamental question of what the loss, if any was, this somewhat haphazard method of record keeping is quite inconsistent with the assertion that a real business was being carried on.

I do not question Mr. Kaye’s good faith, nor do I suggest that he did not at some point formulate the idea of making a business out of what had previously been a hobby. However, I do not think a business existed in 1994, the year under appeal. If one wishes to make a business out of acquiring and selling collectibles such as old Coca-Cola bottles, and claim substantial losses from it, there have to be more indicia of commerciality than are evident here.

I make no finding on the later years. Mr. Kaye stated that in 1997 he sold more - perhaps $3,200 worth - by using the Internet. Those years will have to be considered on their own.

The appeal for 1994 is dismissed.

Appeal dismissed.