Hugh Knox Limited v. Minister of National Revenue, [1973] CTC 2053, 73 DTC 50

The Assistant Chairman:—This is an appeal of Hugh Knox Limited from an assessment of the appellant’s 1968 taxation year which was heard at Ottawa on February 5, 1973.

In 1959 Mr Hugh Knox was a licensed insurance and real estate salesman in the firm of Bernie Kelly. In 1964 Mr Knox purchased the controlling shares of Bernie Kelly and incorporated his own company under the name of Hugh Knox Limited which was engaged in the insurance and real estate business.

In order to compensate for a slackening in the real estate business, Hugh Knox Limited concentrated its efforts on boosting the insurance business by means of widespread advertisements which included ts participation in the operations of Welcome Wagon and Real Care which services provided the appellant with the names of potential clients.

Another means of increasing the volume of the appellant company’s insurance business was the possible purchase of competitors’ Insurance Dailies. The Insurance Dailies were insurance agents’ reports of customers, also known as customers lists, which included the names of the clients, the amount of insurance sold, the premium paid and the expiry date of the insurance policy.

The value of such lists to an insurance business is obvious. The appellant, from evidence adduced at the hearing, had attempted to acquire lists from his competitors and had approached all but two of the firms dealing in insurance in the North Bay area.

Among the firms approached by the appellant was that of David J Morland Limited engaged in the insurance and real estate business. After an unsuccessful first attempt to buy the Insurance Dailies from David J Morland Limited in 1966, the appellant succeeded in 1968 in acquiring the said dailies. A contract between David J Morland Limited and Hugh Knox Limited to this effect, dated May 1, 1968, was signed by the parties (Exhibit A-1, page 2).

Subsequently the appellant company bought the Insurance Dailies of another competitor, Desjardins and Duke, which is to come into effect on March 1, 1973.

The purchase price of the transaction stipulated in the contract is $65,000, of which $21,660.60 was paid in 1968. The appellant considered the $21,660.60 as a deductible business expense having been laid out for the purpose of gaining or producing income from the appellant’s business. The Minister of National Revenue disallowed the deduction of the $21,660.60 on the grounds that it was part of the price of $65,000 to purchase the vendor’s agency in the general insurance business as a going concern and a non-deductible capital outlay.

The point in issue, of course, is whether or not the $21,660.60 paid by the appellant in 1968 is a capital outlay. Under the circumstances it is therefore important to determine exactly what was purchased by the appellant and sold by David J Morland Limited. The terms of the agreement between the appellant and David J Morland Limited clearly refer to the purchase of the vendor’s general insurance business as a going concern including goodwill (Exhibit A-1, page 2).

It became evident early in the hearing that the appellant contended that the agreement of May 1, 1968 (Exhibit A-1, page 2) did not accurately reflect the intentions of the parties. Counsel for the respondent objected to questions asked of the appellant by his counsel relative to the appellant’s intentions with regard to the transactions described in the agreement on the grounds that counsel for the appellant was seeking to contradict the terms of a written and signed agreement contrary to the Parole Evidence Rule.

It is necessary, I believe, to deal with this issue before going on to the substance of the appeal. In support of his argument, counsel for the respondent cited the case of Ralph Pickard Bell v MNR, [ 1962 j CTC 253: 62 DTC 1155, and that of John C Oram v MNR, 41 Tax ABC 33; 66 DTC 308.

In both these cases one of the parties to an agreement sought to contradict the clear and unambiguous terms of the agreement between the parties. In both cases it was decided that it was not permissible to adduce evidence which contradicted the terms of the agreement.

In the case at bar the oral evidence adduced at the hearing does contradict the substance of the agreement (Exhibit A-1, page 2). The agreement indicates clearly the purchase by the appellant of the general insurance business as a going concern including goodwill, whereas the evidence given tended to indicate that what was purchased by the appellant was merely one asset of the vendor’s company known as the Insurance Dailies. In my opinion there is here an important contradiction between the oral evidence and the agreement which goes directly to the heart of the matter to be decided.

Can such evidence be admissable in the present instance? In my opinion it can be admissable for two reasons. The first is that the authorities and case law on this subject tend to hold that the rule precluding evidence which contradicts an agreement only applies between parties to that contract but does not preclude such evidence from being given in proceedings against third parties.

secondly, although the Board does not lightly disregard the rules of evidence, it is not bound by any legal or technical rules of evidence.

From the testimony given at the hearing, the appellant, the purchaser, and David J Morland Limited, the vendor in the agreement, as well as Mr K Valon, the solicitor who was responsible for drafting the contract, all agreed that the terms of the contract did not accurately reflect the intentions of the parties. Mr Valon testified that he had dictated only one part of the agreement and that the rest of the agreement had been prepared by his secretary. The solicitor further stated that he did not see, nor did he review, the draft agreement before it was signed by both parties. As mentioned earlier, and for the reasons given, my decision is to accept the oral evidence given at the hearing even though it may contradict the terms of the agreement.

In order to determine exactly what the appellant purchased from David J Morland Limited, it is necessary to review all the facts of the case.

The appellant first approached Mr William C Morland, president of David J Morland Limited, with a view to purchasing the latter’s Insurance Dailies in 1966. Mr William C Morland, who was more interested in the real estate aspect of this business, was willing to sell the Insurance Dailies, but his brother, Russell L Morland, a shareholder in the company, objected and the sale of the dailies did not take place at that time.

David J Morland Limited apparently had some difficulty with managers. The insurance business was not growing. There was fear that the Provincial Government would take over car insurance. The manager was not satisfactory and was replaced by another—Mr Morland’s brother—but that appointment did not turn out satisfactorily. Both William and Russell Morland were disenchanted with the insurance aspect of their business. Russell Morland finally agreed to sell the Insurance Dailies and they approached Hugh Knox to see whether he was still interested in buying the dailies. In 1968 agreement was reached and Mr Valon, barrister, was asked to draft the agreement.

From Mr Valon’s testimony it would appear that he did not dictate the first three paragraphs of the agreement (Exhibit A-1, page 2) but that these paragraphs were prepared by Mr Valon’s secretary and did not reflect the intention of the parties to the contract. The first three paragraphs of the agreement read:

WHEREAS the Vendor has for many years carried on the business of General Insurance Agents and Real Estate Brokers in the City of North Bay in the District of Nipissing and is now desirous of selling its General Insurance Business;

AND WHEREAS the Purchaser has agreed to purchase the said General Insurance Business as a going concern including the goodwill and benefit of all existing contracts written by the Vendor;

Now this Agreement Witnesseth that the Vendor agrees to sell and the Purchaser agrees to purchase the said General Insurance Business and the goodwill and benefits thereof from the first day of May, 1968, together with the benefit of all existing contracts written by the Vendor and the Vendor’s Daily Report Records, the purchaser to be entitled to the benefit of commissions on all business written on and after the first day of May, 1968.

The solicitor, however, did dictate the remaining paragraphs and testified that they did reflect the parties’ intentions.

Among the clauses of the agreement, the last paragraph of page 3, Exhibit A-1, reads:

The Vendor and the Parties of the Third Part covenant that they will not, either directly or indirectly carry on or be engaged either directly or indirectly in the general insurance business within a radius of 50 miles of the City of North Bay for a period of ten years from the first day of May, 1968, except as a sub-agent of the Purchaser. And in case of a breach of this covenant the party or parties herein described shall be responsible severally for damages which shall not exceed Fifty Thousand ($50,000.00) Dollars as damages and not as a penalty.

An announcement was made by the appellant and concurred in by David J Morland Limited (Exhibit A-1, page 7) which reads:

DAVID J MORLAND LIMITED

North Bay, Ontario.

ANNOUNCEMENT

We are pleased to announce the amalgamation of our insurance business with HUGH KNOX LIMITED. In order to improve service for our clients, all premiums, policies and claims will be handled at one convenient location— HUGH KNOX LIMITED, 359 Fraser Street, North Bay. Your continued patronage will be appreciated.

Thank you.
NEW TELEPHONE No 472-2980	DAVID J MORLAND LIMITED.

In my opinion the above-mentioned clause of the agreement and the announcement made by the appellant, which do reflect the intentions of the parties to the contract, indicate that substantially more than the purchase of David J Morland’s Insurance Dailies was involved in the transaction.

David J Morland was precluded from carrying out the general insurance business for a period of ten years within a radius of 50 miles of the City of North Bay. The appellant acquired a sub-agency and evidence adduced indicates that clients brought to the appellant company by David J Morland Limited remained the clients of the appellant.

Notwithstanding the continued advertisement of David J Morland Limited as insurance and real estate agents or the fact that it had retained its insurance agent’s licence, it was no longer, in my opinion, operating the general insurance business in which it was formerly engaged.

The fact that the appellant was industrious, ambitious and was anxious to expand its insurance business does not help in determining the nature of the expenditures made in the transaction. Had the transaction dealt exclusively with the purchase of the Morland dailies, the expenditure might be considered as an expense to produce income in the ordinary course of business. But the effect of the transaction from a practical and business point of view is much more than the acquisition of Insurance Dailies. It precludes the vendor from carrying on a general insurance business for ten years and it provides the appellant with a sub-agency, both of which are stipulations of the agreement which reflect the intentions of the purchaser and the vendor in the agreement. The overall effect of the transaction from a practical and business point of view is the acquisition of a business as a going concern, plus the added advantage of having acquired a sub-agency. The nature of the insurance business is such that in the circumstances the appellant need not necessarily acquire other assets such as the name of the company, furniture and fixtures for the transaction to be considered as involving a capital outlay. The appellant, who was already in the insurance business, had all the elementary physical assets required to operate the business. Nevertheless the net effect of the transaction was the acquisition by the appellant of the general insurance business of David J Morland Limited as a going concern which was discontinued for a period of ten years, as well as the acquisition of David J Morland Limited as a sub-agency of the appellant company. These acquisitions, in my view, are in the nature of long-term or enduring benefits and the expenditures incurred to acquire these benefits consequently were in the nature of a capital outlay.

The appeal is therefore dismissed.

Appeal dismissed.