Her Majesty the Queen v. Decker Contracting Limited, [1976] CTC 731, 76 DTC 6477

Bastin, DJ:—This is an appeal from the decision of the Tax Review Board delivered November 28, 1974 allowing the defendant’s appeal from the assessments for the taxation years 1969 and 1970 made on the basis that the defendant corporation was associated with Garyray Equipment Repairs Limited pursuant to the direction of the Minister of National Revenue under subsection 138A(2) of the former Income Tax Act, RSC 1952, c 148.

The defendant was incorporated on April 13, 1966 for the purpose of constructing sewer and water mains. As its contracts were with municipalities and governments, it required performance bonds and was obliged to enter into collective agreements with the employees. The bond companies demanded personal guarantees from the three equal shareholders and their wives. The defendant’s auditor, Mr C W Williams, testified that the advisability of operating the business with two companies was considered when the defendant was incorporated but as the defendant’s shareholders and their wives were liable to the bond companies, it was decided that this was not worth while.

But on November 28, 1968 a second corporation was incorporated: Garyray Equipment Repairs Limited, the shareholders of which were the wives of the defendant’s shareholders. The powers of the corporation were to buy and rent equipment, repair equipment and to acquire land and buildings. The capital was supplied partly by the three wives and partly by way of a loan from the husbands. Garyray bought land and on it erected a large building to serve as its repair garage and office and for the offices of the defendant. Its revenue has been received exclusively from the defendant and consisted of rent for office space and for storing equipment for the defendant, rent of construction equipment and charges for repairing the defendant’s equipment.

Paragraph 11 of the statement of defence is as follows:

11. The reasons for the incorporation of ownership of its shares by the wives rather than the shareholders of the Company are as follows:

(a) The Company was during the relevant period and still is a member of the Toronto Sewer and Watermain Contractors Association and through this Association union contracts with the Teamsters and the International Union of Operating Engineers are effected. It was proposed that Garyray be a non-union shop and if the shareholders had been the same in Garyray as in the Company, both companies would have been required to be unionized. Section 1(4) of The Labour Relations Act of Ontario provides:

“Where, in the opinion of the Board, associated or related activities or businesses are carried on by or through more than one corporation, individual, firm, syndicate or association, or any combination thereof, under common control or direction, the Board may treat the corporations, individuals, firms, syndicate or associations or any combination thereof as constituting one employer for the purposes of this Act.”

Because the different shareholders would not constitute common control or direction, it was felt that The Labour Relations Act could thereby be avoided, which has been the case because Garyray is still a non-union shop.

(b) the business carried on by the Company is a high risk business and difficulties with one contract could cause the bankruptcy of the Company. The shareholders of the Company has personally guaranteed its indebtedness. It was felt that if a separate corporation was incorporated, the shareholders of which were the wives, that this liability could be avoided and that the bonding companies would not require the wives’ guarantees. At the beginning, such was not the case. However, the personal guarantees of the wives were released by the bonding company in 1972.

(c) Also the separate existence of the corporations was desired to create a separate estate for the wives for the purpose of minimizing estate taxes and death duties payable in the event of the death of one or more of the husbands.

(d) The taxpayer Company states that none of the main reasons for the separate existence of Garyray and the Company was to reduce the amount of tax that would otherwise be payable under the provisions of the Income Tax Act.

I find it impossible to believe that Garyray was incorporated in order that the defendant’s equipment could be repaired in a non-union shop. Its continual existence as a non-union shop depended on the wishes of its mechanics and the decision of the Ontario Labour Relations Board so there was no assurance that it could continue as a non-union shop even for a day. An efficient organization would engage a staff of mechanics large enough to make repairs as they were needed. If the defendant’s union employees went on strike its construction operations would cease and so would the need for repairs to its equipment. It is very significant that Mr Williams, the auditor, on whose advice Garyray was incorporated, never mentioned the advantages of a non-union shop when giving the purpose of the incorporation. I am convinced that this alleged purpose was an afterthought.

The second purpose pleaded, the desirability of placing assets out of the reach of creditors, is plausible but does not bear a critical examination. When Gary ray was incorporated on November 28, 1968, the wives of the defendant’s shareholders were guarantors of the defendant’s liability to the bond companies and they continued to be guarantors for some years. No one could have known in 1968 that their guarantees would ever be released, so incorporating Garyray did not protect any assets from the defendant’s liabilities. The third purpose pleaded, the creation of separate estate for the wives is subject to the same objection. It follows that incorporating the second corporation in November 1968 would not have served to protect any assets from the bond company liability.

But there was a business reason for the incorporation, namely the provision of the Income Tax Act by which the rate of tax increased from 18% to 47% when a company’s taxable income exceeded $35,000. The taxable income of the two corporations was as follows.

The defendant had a taxable income as listed below:

Garyray had a taxable income as listed below:

Even in 1969 the tax saving would have been substantial. But since the taxable income of Garyray included the cost of repairing the defendant’s equipment which, if Garyray had not been incorporated, would have been paid to other repairers, the figures quoted cannot reveal the amount of tax saved in 1969 and 1970 by the separate existence of the two corporations. It is in evidence that part of Garyray’s income was rental paid by the defendant for construction equipment owned by Garyray. If in future years Garyray owned and rented all the construction equipment used by the defendant, this would transfer a large part of the defendant’s income to Garyray and result in a large tax saving.

The incidence of income tax is so important to the operation of a business that it is unconvincing for a businessman or a chartered accountant to assert that the subject was not fully explored when considering a business development. The evidence of the defendant’s president, Mr Kokorduz, and Mr Williams, the defendant’s auditor, has not convinced me that one of the main purposes of the incorporation of Garyray Equipment Repairs Limited and the continued separate existence of the two corporations in 1969 and 1970 was not to obtain the advantage of a reduction in the amount of tax that would otherwise be payable under the Income Tax Act. Since the onus of proof that none of the main reasons for the separate existence of the two cor- porations was to reduce the amount of tax that would otherwise be payable rests on the defendant and any doubt as to the adequacy of such proof must be resolved in favour of the Minister of National Revenue, it is merely necessary for me to find that the onus has not been discharged.

I allow the appeal with costs.