T R Douglas v. Minister of National Revenue, [1979] CTC 2430, 79 DTC 375

Roland St-Onge:—The appeal of Mr T R Douglas came before me on December 14,1978 in Vancouver, British Columbia and the issue is whether the amounts the appellant received from his company in the 1970-1971 taxation years are taxable as benefits received as a shareholder. The facts of this appeal are well set forth in the statement of facts at paragraphs 2-5 inclusive of the reply which read as follows:

2. At all times material, the appellant was the controlling shareholder of Douglas Paint Company Limited (“Douglas Paint”) and HERO Manufacturing Co Ltd (“HERO”).

3. In 1970 and 1971 the appellant withdrew funds totalling $21,410 as loans from Douglas Paint to himself.

4. On December 31, 1971 the appellant transferred shares of HERO to Douglas Paint and received credit for $18,000.

5. The respondent re-assessed the appellant to include in his income for 1970 the amount of $13,662 and the amount of $7,748 in his income for 1971. In so doing, the respondent assumed, inter alia, that:

(a) On December 31, 1971 the appellant transferred 25 shares of HERO to Douglas Paint.

(b) On December 31, 1971 the share structure of HERO was

ABC

Voting		Non-Voting	Preferred
Terry Douglas	80		7,902
Anne Douglas	10	900	99
Maurice Sauve	10		999
	100	900	9,000

(c) The value of 25% of the shares of HERO on December 31, 1971 was $18,000.

At the hearing, counsel agreed that the shares of HERO Manufacturing Company Limited (hereinafter referred to as “HERO”) at December 31,1971 were worth $18,000 and counsel for the appellant admitted paragraphs 2, 3 4 and the first part of paragraph 5 of the reply. The only question to be determined by the Board is how many shares of HERO were held by the appellant on V-Day.

At the hearing, two witnesses were heard on behalf of the appellant: Mr Terry Douglas, the appellant, President and Director of both companies; Mr Sauve, Manager of Douglas Paint Company (hereinafter referred to as “Douglas Paint”); and one on behalf of the respondent, Mr John Martin Croft, solicitor and director of HERO from 1969 and 1972.

Mr Douglas testified as follows: On December 31, 1971, he transferred 25% of his interest in HERO to Douglas Paint and received credit for 21,250 shares. At that time there were 10 shares in HERO which had to be increased to 100 shares and there were no A, B, C shares issued. Upon cross- examination, counsel for the respondent showed the witness some financial statements which were filed in 1970,1971 and 1972 with the income tax returns and indicate the share structure of HERO as having authorized 100 voting Class A shares, 900 non-voting Class B shares and 9000 preferred Class C shares issued and fully paid 10,000 shares for $10,000.

He testified that he was the owner of HERO to the extent of 80%, transferred 25% of his interest in Douglas Paint and that he always dealt with respect to those shares as being $1000 for one share.

Mr Sauve testified that when HERO was incorporated in 1969, he paid $1000 for one share, Mr Douglas $8000 for eight shares and his wife $1000 for one share; that Mr Douglas transferred 25% of his interest to Douglas Paint at the price of $21,250 which was considered to be reasonable at that time and that he had an interest of 10% in HERO.

Mr John Martin Croft explained that a resolution dated December 31, 1971 was passed by HERO so that the 10 shares would become 100 at $1 each and distributed as follows:

80 Class A shares to T R Douglas

10 Class A shares to Morris Sauve and

10 Class A shares to Ann Douglas.

Then another resolution which was dated for reference July 2, 1969 was passed and shows a different situation by adding Class B and C shares at $1 each.

On January 20, 1972, a resolution was passed by the Directors of HERO to the effect that 25 Class A shares held by Mr Douglas would be transferred to Douglas Paint for $21,250; that certificate number 88 held by Mr Douglas would be invalidated and that share certificate would be issued as follows:

9-A, T R Douglas, 47 Class A shares;

10- A Douglas Paint, 25 Class A shares.

On January 31, 1972 as date of reference, another resolution was passed by HERO which reads as follows: “Resolved that the Resolutions of the Directors of the Company dated December 31, 1971, being in error, be rescinded, the error having been rectified by Directors Resolutions dated for reference July 2,1969.” As a result of that last resolution, 10,000 shares were allotted and issued for the sum of $1 each instead of 100 shares at $1.

Mr Croft explained that there were two sets of documents, the accounting documents treated 10,000 shares at $10,000 whereas the legal record had only 10 shares upon the incorporation of the company for four years. According to him the accountant’s statements were more accurate than the legal documents and the resolution was passed retroactive so that the capital structure of the company was changed to have just one class of shares as follows:

According to this documentary evidence, the 10,000 A, B and C shares to be allotted by resolution, dated for reference July 2, 1969, were all issued and recorded in the Shareholders’ Register Book but the witness explained that it was not executed in 1969. He also explained that, with respect to resolution dated for reference January 31, 1972, the instructions were to transfer 25% of the shares to the other company.

On June 11, 1973, he signed a statutory declaration to the effect that in 1970,1971 and 1972 annual reports filed for HERO were incorrect, that they indicated for 1970 and 1971, 10 Class A shares and 100 in 1972 had been issued while all shares had in fact been issued.

Counsel for the appellant argued that, according to the three directors of HERO, there were only 100 shares issued on December 31, 1971, and the Class A, B and C shares were not issued until June 1973, that the company could not pass resolutions issuing shares retroactively; that if there were 10,000 shares issued at the time the appellant sold 25% of them, that resolution dated January 22 was corrected by resolution dated June 13, 1973; that the appellant and Mr Sauve testified that one quarter of the shares was worth $21,000 and that the appellant was not interested in transferring 25 shares out of 10,000.

He terminated his argument by saying that the acountants recorded 10,000 shares when all three directors testified that these shares were not issued until 1973.

Counsel for the respondent argued as follows: The appellant sought to bring himself within the exemption section but his loans were not repaid because the shares were not transferred within the year. In 1971 there were 10,000 shares issued and at all stages, only 25 shares were transferred and not 25% of his equity in the company; that the 1973 resolution could have a retroactive effect; that the financial statements which were filed with the income tax returns were relevant and could be ignored; that those records have been signed by the appellant for three consecutive years and he never questioned the 10,000 issued shares except in 1973.

In his reply to notice of appeal, the respondent alleged that on December 31, 1971, the appellant transferred shares of HERO to Douglas Paint and received credit for $21,250. At the hearing, counsel agreed that the HERO shares transferred by the appellant on December 31, 1971 were worth $18,000. According to this, the Board assumes that the transfer of the shares was effectuated in due time because there is no evidence to show that the reimbursement by the transfer of shares was not done beyond the time limit. Consequently, the only issue left is to determine what the appellant really transferred on December 31, 1971. But there was an admission that what he transferred was worth $18,000.

As may be seen, the evidence adduced is very confusing and is difficult to understand. The written evidence is in contradiction and does not help very much.

When HERO was incorporated, the appellant invested $8000, his wife $1000 and Mr Sauve $1000. This evidence was not contradicted either by witnesses or the documentary evidence and, consequently, the Board must conclude that the appellant had eight shares out of ten or 80 shares out of 100. What occurred thereafter is difficult to discover. In law a resolution cannot have a retroactive effect and the various resolutions mentioned in the evidence just add more confusion. It is more logical for the Board to put all this written evidence aside, to resort to common sense and to conclude that what the appellant transferred was one quarter of his interest in the HERO shares that the held.

Mr Croft, who testified on behalf of the respondent, stated that his instructions were to transfer 25% of the shares to another company and not 25 shares. Perhaps the January 20, 1972 resolution which mentioned 25 Class A shares instead of 25% of the appellant’s shares may have confused the assessor but one has to remember that the Class A shares, being the voting ones, are the most valuable and that no evidence exists to show that Class B and C shares had any value. It appears therefore that the value of HERO rests in its Class A shares and not in the others. This is probably why the last resolution did change the capital structure of the company to have only common shares. These resolutions, in a certain way, confirm that the appellant was transferring one quarter of his interest in the company. Indeed, it is inconceivable that the appellant would transfer only 25 shares out of 10,000. As admitted by the party, the value of the shares that the appellant transferred to his company was $18,000.

After a long and careful examination of the evidence adduced, the Board concludes that the appeal must be allowed to the extent of $18,000.

Appeal allowed in part.