Burmatt Products Limited v. Minister of National Revenue, [1974] CTC 2157

The Chairman (orally: December 10, 1973):—This is a difficult case because it is not the usual blatant case that one finds under section 138A. The fact that it is unusual and difficult does not relieve me of the responsibility of coming to a decision.

This is an appeal by Burmatt Products Limited against reassessments by the Minister of National Revenue for the years 1966 to 1969 inclusive.

The Minister, in exercising his discretion under subsection 138A(2), has deemed the appellant company to be associated for income tax purposes with Matmark Imports Limited and Myer-Bald Limited. Matmark Imports Limited and Myer-Bald Limited, it is agreed, are associated with each other within the meaning of subsection 39(4) of the old Income Tax Act, and there is no dispute with respect to those two companies. Neither does Matmark Imports Limited per se enter into the issue to be decided in this case, except that the appellant company would be associated with Matmark if it is held to be in fact associated with Myer-Bald Limited.

The whole set of facts adduced revolves around the alleged association of the appellant company and Myer-Bald Limited. The facts, briefly, are that Karl Bald (the only witness called in this case), together with his brother-in-law, sister and father, controlled Myer-Bald Limited. One of the major items distributed by Myer-Bald Limited was a line of products produced by Richards of Sheffield, a cutleryproducing firm. Myer-Bald Limited had held the Canadian distributing rights for this line for many years, dating back to before the Second World War. After the war, in 1947, Mr Karl Bald graduated from uni- versity and returned to work on a full-time basis for his father’s company. He continued to do so until the date of this hearing, but certain intervening facts have brought this issue before the Board.

It seems that some time between 1947 and 1951, probably in 1951, Richards were beginning to pull together a business that, by inference, had been severely curtailed during and as a result of World War ll. Richards sent, if not its owner, then one of its leading officers, around the world to try and “beef up” the distributorships that were handling its products. According to the evidence of Mr Bald, Richards felt that what was needed in most areas of the world were young aggressive representatives to push their products. In 1951 Mr Karl Bald went to England and succeeded in convincing the Richards people that he and his brother-in-law Henry Liss, who was married to Bald’s sister Bertha, were the people that should represent them in Canada.

There is evidence that these three then sought the advice of Mr Abraham Singer, of what is now the firm of Singer, Keyfetz, although I am not sure that that was the name of the firm at the relevant time. In any event, Mr Singer, who was a friend of long standing of Karl’s father, Myer Bald, was the man who handled the legal work of the appellant and Myer-Bald Limited. He was on a retainer, and whenever Myer-Bald Limited felt it necessary, it was the practice, if anything unusual came up, to contact him by telephone and use his services. (I think the evidence indicates that, after the appellant company became active in 1951, the same course of conduct was followed by it.)

In any event, Mr Karl Bald went to see Mr Singer about incorporating a new company to handle the Richards products. The evidence indicates that in 1942 Mr Singer had incorporated a company which, by 1951, had been inactive for some time. Apparently—although the evidence does not say so, the notice of appeal indicates it—an undistributed surplus in the company as it existed under Singer’s ownership was disposed of, and the said company (the appellant herein) came under the control of Karl Bald, Bertha and Henry Liss, Myer Bald (the father of Karl and Bertha) and Abraham Singer, the latter having one qualifying share.

From now on, when I refer to the activities of Bald and Liss, I am referring to the younger Mr Bald and to his brother-in-law Henry Liss who, although he held only a qualifying share in the appellant company, represented and acted for his wife Bertha Liss throughout. The result of the new distribution of shares to handle the Richards line was that Karl Bald and Bertha Liss each had 20% and Myer Bald, Karl’s father, 60%.

A question immediately arises in one’s mind when it is learned that Myer-Bald had the Richards franchise. It was thus merely a matter of taking the Richards franchise from the father, who in 1951 and 1952 controlled at least 78.6% of the shares of Myer-Bald Limited, and putting it into this newly acquired company. The father apparently acquiesced in this procedure, because he contributed funds which neither Karl nor Liss had. Hence his 60% interest in the appellant company.

The evidence also indicates that Karl and Bertha had tried to obtain a greater interest in Myer-Bald Limited, but Myer Bald, being “of the old school”, as Karl put it, had taken the position that “the only security that the son needed was the father, and what was the father’s would eventually become the son’s”. At that time, Karl and Liss each had 1.4% of the issued shares of Myer-Bald Limited and were some 26 or 27 years of age, whereas Karl’s father Myer was about 53. In any event, from 1951 until the years in question, the dealership operated under the name of the appellant company and, as Exhibit A-2 indicates, operated with considerable success.

There is no question whatsoever that, through 1951 and 1952 and up until 1960, the appellant company was associated with Myer-Bald Limited within the meaning of section 39. In 1961, the Income Tax Act was amended so that 50% control would relieve a company from the application of the associated companies provision. At this time, voting preference shares were issued to Mr Singer, which thereby brought the voting shareholdings in 1961 and 1962 down to: Karl Bald, 11.5%; Bertha Liss, 11.5%; Meyer Bald, 27%; and Abraham Singer, 50%. This they did as a result of professional advice, according to Karl’s recollection, and I repeat what I said during the course of argument, namely, that they were quite within their rights in taking this approach.

I think that at this time I should point out that, as a result of some suggestion—and I think a reasonable inference is that it was prompted by professional advice—Myer Bald had started a series of transactions concerned with estate planning which, by 1960, had increased the percentage of votes held by Karl and his sister Bertha to 24.7% each. Up until the year 1960, the appellant company had filed its returns as being associated with the other two companies that I have mentioned, but from 1961 on, since it now complied with the new provisions of the Income Tax Act, it no longer filed as an associated company, and assumed the right to the low rate of tax on the first $35,000 of its taxable income. There is no evidence before me as to what the income of Myer-Bald Limited was during the period covered by the evidence, but Exhibit A-2 of the appellant company shows that from 1961 to 1971, and particularly between 1961 and 1969, there were only three years in which the 21% or the low rate of corporate tax, was applicable to all the taxable income of the appellant company.

In the years 1966, 1967, 1968 and 1969 under appeal, and I! round off the figures, the appellant paid tax on income of $41,000; $30,300; $67,700; and $65,400, respectively, which means that in 1966, $6,000 was subject to the 50% tax applicable to amounts in excess of the $35,000 limit. In 1967, all of it was taxed at 21%, there being no excess to be taxed at 50%. In 1968, 50% was payable on $32,000 and, in 1969, on $30,000. I think it can reasonably be inferred, for reasons I will give in a moment, that Myer-Bald Limited was also earning a reasonably high income, and that, had the appellant’s income been added to that of Myer-Bald Limited, a substantial increase in the total tax payable would have resulted.

The situation in this case, which is most unusual (but perhaps nothing is unusual in tax cases), is that there is no doubt whatsoever that in 1951 the new company, that is, the appellant company, was in existence for one reason and one reason only, and that was to ensure to Karl and Bertha (ie Henry Liss) a greater percentage of the profits to be made from the Richards line than would have been the case if the Canadian rights were left in Myer-Bald Limited. That is to say, they would each have a 20% interest in the appellant as against only a 1.4% interest in Myer-Bald Limited, and certainly no one could suggest that any more legitimate business reason for splitting off could exist in so far as Karl Bald and the Lisses were concerned.

The problem to be resolved arises as a result of the provisions of subsection 138A(2) (and in particular of paragraph (a) thereof), which state that:

138A. (2) Where, in the case of two or more corporations, the Minister is satisfied

(a) that the separate existence of those corporations in a taxation year is not solely for the purpose of carrying out the business of those corporations in the most effective manner, and

(b) that one of the main reasons for such separate existence in the year is to reduce the amount of taxes that would otherwise be payable under the Act

the two or more corporations shall, if the Minister so directs, be deemed to be associated with each other in the year.

Mr Karl Bald gave his evidence in a very straightforward manner. I believe him to be a credible witness and I believe him to be telling me the truth as he believes it today as well as what he probably believes to have been the truth way back in 1951, but it is very difficult to tell, even with a most honest witness such as Karl Bald, how much is true recollection and how much is unconscious reconstruction, when one is dealing with the happenings of so many years ago.

He swears that the main reason for the separate existence of the two companies was that, having obtained the Richards franchise or distributorship on the basis of the youth, vigour and obvious business ability of himself and Henry Liss, he did not wish to take the chance of bringing the Richards distributorship back into Myer-Bald Limited. And he says that that was the sole reason—and a sound business reason, in his view—for maintaining the separate existence of the two companies until the present day. I believe that he is sincere when he says that, but I must look at all the evidence to see if I can find some corroboration, some justification, for the belief that I am sure he held at the material time.

The two companies had to have right answers to the standard questions about separate telephone listings, separate letterheads and separate cable nomenclatures. They used the same premises, a fact which, in itself is not in my view fatal because, as I have said, it would be absurd to expect a businessman to go to the expense and inconvenience of maintaining separate premises in circumstances such as these merely to avoid inviting a reassessment under section 138A that might never come. That is not really the part of the case that bothers me.

There was really no change whatsoever in the operation of the distributorship of the Richards products from 1951 to the end of the taxation period under review. The only change was that the orders placed with Richards were made out on the appellant’s letterhead instead of on that of Myer-Bald Limited. Appellant’s letterhead was apparently never used for corresponding with the general public. For all intents and purposes, the sole purchaser of. Richards products from the appellant company was Myer-Bald Limited. At least 90% of the income of the appellant company came from the Richards distributorship. The goods were stored in the same warehouse as those of Myer-Bald Limited, the management of the two companies was identical, and I think Mr Bald said that ‘‘we all do about the same range of duties in administration and so on”.

Prior to 1951, and prior to the existence of the appellant company with its present shareholders, Myer-Bald Limited distributed its products across the country through sales agencies. It had no employees of its own stationed in any of the cities across the country. At the present day, the business has increased to the extent where I believe it does have a couple of personal employees in Toronto—and when I say employees, I mean salesmen—and in Montreal and somewhere in the West. Basically, sales are still made through Myer-Bald Limited sales agents. There may have been some selling on the part of Mr Bald in 1951 to allow this separate organization to take over the Richards distributorship, but if anyone from Richards had cared to inquire or had come and looked—and perhaps they did come and look—they would have found no change whatsoever in the years 1966 to 1969 inclusive. They would have found someone answering the telephone in the name of Burmatt Products Limited. They would have found a couple of employees occupying desks. They would have seen thelr products stored in the warehouse of Myer-Bald Limited and/or the appellant—and it was actually Myer-Bald’s warehouse, because we have evidence that the rent was being paid by that company. The only difference that they would have found was that the orders placed with them in England were made out on the appellant’s letterhead instead of that of Myer-Bald Limited.

At the same time, that is, from 1963 on and during the years In question, Karl Bald and Bertha Liss held 49:7% of the equity shares in Myer-Bald Limited. Their voting shares in the appellant company were down to 11.5% each because of the issuance of the preference shares to Singer. I cannot conceive of any business advantage: that could have accrued to the appellant company that would not have accrued, if I look through the corporate veil, to the shareholders of that company had there been but one company operated by them in the years 1966 to 1969 inclusive. I cannot overlook the fact that, as Mr Karl Bald said, they had professional people on retainer. I can only infer from that that they acted on good sound professional advice in acquiring the appellant company in 1951 and in reorganizing it In 1961 and I have no reason to infer that their advice was any less expert in the subsequent years.

I note that in 1968 and 1969 no salary was paid to Karl Bald by the appellant company although, of the four taxation years in question, in 1968 and 1969 the company showed its greatest profit.

Learned counsel on behalf of the appellant has put to me the proposition set forth in the case of Doris Trucking Company Limited v MNR, [1968] CTC 303; 68 DTC 5204, a decision of Dumoulin, J of what was then the Exchequer Court of Canada, where he says, at page 307 [5207]:

. . . If . . . all corporations were subject to tax at a flat rate of 50%, . . . would . . . these particular operations . . . have been carried on by separate corporations.

To me, the answer in this case is clearly “No”. There was no advantage, save and except, by 1966, a tax advantage, to be gained by the shareholders of the appellant company, and one must consider the situation of the shareholders of a company when dealing with such cases.

Karl Bald says, and I paraphrase his evidence, that he would answer the Doris Trucking case question in the affirmative. I am satisfied that he believes that but, as I have outlined, I cannot conceive that Richards could have cared how the dealership was operated, because, if it had been operating for some 20-odd years in the same manner and to their satisfaction, I cannot believe that the mere dropping of the Burmatt name in favour of Myer-Bald Limited, when the people to whom they had entrusted their distributorship had, by the taxation years in question, a substantial number of equity shares in Myer-Bald Limited, would have made any difference, and I don’t know why Richards would even have considered changing the situation that existed or appointing a new distributor.

The authority of this Board is limited, as is that of the Federal Court of Canada, by the provisions of subsection 138A(3) of the Income Tax Act in that the Board must be able to say that none of the main reasons for the separate existence of two or more corporations is to reduce the amount of tax that would otherwise be payable under this Act.

I cannot, in consideration of all the evidence that has been placed before me today, make the negative finding that it would be incumbent upon me to make under subsection 138A(3) in order to vacate the Minister’s direction.

The appeal must therefore be dismissed.

Appeal dismissed.