Essex House Limited v. Minister of National Revenue, [1961] CTC 270, 61 DTC 1135

THORSON, P.:—This is an appeal against the appellant’s income tax assessment for 1958.

In its income tax return for 1958 the appellant reported a taxable income of $19,514.29 made up of $12,250.60, being its net income from the operation of its apartment building, known as Essex House, and $7,263.69, being the amount of the recapture of capital cost allowances on its sale. The Minister, in assessing the appellant, added to the amount of taxable income certified by it the sum of $32,876.63 made up of $40,140.32, being its profit from the sale of Essex House, less $7,623.69, being the amount above referred to. The appellant objected to the assessment on the ground that its profit was not taxable income. The Minister confirmed it and the appellant then brought his appeal against it to this Court.

The issue in the appeal is a narrow one, namely, whether the profit made by the appellant in 1958 was income from a business, including therein, by virtue of Section 139(1) (e) of the Income Tax Act, R.S.C. 1952, c. 148, an adventure or concern in the nature of trade.

Evidence on behalf of the appellant was given by Mr. M. E. McDonald, who in 1958 was the vice-president of McDonald Dure Lumber Co. Ltd., hereinafter called the Lumber Company, and the president of the appellant, and by Mr. J. W. Abbott, the appellant’s auditor. No witnesses were called for the Minister.

The appellant was incorporated under the laws of Manitoba by Letters Patent, dated February 12, 1957, for the following specified purposes and objects:

“To own and operate apartment buildings.’’

The facts preceding its incorporation, as set out in the statement of facts in the notice of appeal herein, were verified by Mr. McDonald. Further facts were brought out in the course of his cross-examination. It is, in my opinion, important to set these facts out in their chronological order but before I do so I should refer to the composition of the Lumber Company. Fifty per cent of its shares were owned by the McDonald family, consisting of Mr. J. A. McDonald, its president, who died in December, 1960, his son Mr. M. E. McDonald, who succeeded him in the presidency, hereinafter referred to as McDonald, and his daughter, Mrs. Marge Mullin; thirty-three per cent by Mr. C. L. Dure and his wife Harriet Dure, who inherited them from the late Charles Dure, one of the original incorporators; and the remaining seventeen per cent by James

E. Ferguson, its secretary-treasurer, his son-in-law L. W. Lund, hereinafter called Lund, and his daughter, Helen Lund, Mr. and Mrs. Lund being sometimes referred to in the evidence as the Lunds.

The facts of the transactions referred to in the evidence are complicated and it is desirable to state them as precisely as possible. I start with the operations of Mr. George D. Harris, a building contractor who was a customer of the Lumber Com- pany. In 1955 he built an apartment block on land on the north side of Portage Avenue near Rita Street in the City of St. James. He obtained his lumber and building supplies for the block from the Lumber Company and in September of 1955 he owed it $32,095.22 which he paid on March 15, 1956.

In 1956 Harris bought certain lots at the corner of Portage Avenue and Rita Street adjoining the land on which he had built his apartment block in 1955. He intended to build another apartment block on these lots and to that end had applied to the National Housing authorities and arranged with Sun Life Assurance Company of Canada for a mortgage loan of $125,000, but before he started construction of the block he found that he could not finance it and informed Mr. M. E. McDonald accordingly, who passed the information on to Mr. J. B. Ferguson. At that time Mr. McDonald was the vice-president and Mr. Ferguson the secretary-treasurer of the Lumber Company.

It was at this stage that Mr. McDonald, Mr. Ferguson and Mr. and Mrs. Lund came into the picture. According to the statement of facts, it was decided by them that if the lots could be acquired by McDonald and the Lunds and the block completed with the assistance of the Lumber Company the income from the block would furnish security to McDonald and the Lunds in their old age. It was also decided to incorporate a company to be known as Essex House Limited to own and operate the block. In this proposed corporation it was intended that McDonald should own half the shares and Mr. Ferguson and the Lunds the other half.

McDonald and Lund then entered into an agreement with Harris which is set out in a letter from the Lumber Company, signed by Mr. Ferguson and dated April 18, 1956, to Messrs. Bowles and Pybus, who acted for Harris, and their reply to the Lumber Company, dated April 24, 1956. The essential features of the agreement were as follows: Harris was to be the general contractor for the construction of the building for a fee of 5% of its cost, not to exceed $8,500, and he was also to be reimbursed for certain expenditures made by him. McDonald and Lund were to pay the balance of the purchase price owing on the lots. Harris was to take title to the land and sign the Sun Life mortgage. He was then to transfer the: title to the lots to McDonald and Lund at their actual cost to him and to assign to them the proceeds of the mortgage less costs. McDonald and Lund were to pay all the accounts incurred in building the block.

The agreement thus made was carried out. McDonald and Lund maintained an account in the main office of the Bank of Nova Scotia in which they deposited fund. In April, 1956, they paid the City of St. James the sum of $8,578.88, being the balance owing on the purchase price of the lots. They also paid $2,000 for plans which had been prepared for Harris. Title to the lots issued to Harris and on May 30, 1956, he signed a mortgage to Sun Life Assurance Company of Canada for $125,050, which was duly registered on July 3, 1956. Harris carried out his duties as general contractor of the block and McDonald and Lund financed its construction. They did so with the proceeds of the Sun Life mortgage and $20,000, which they advanced in equal shares of $10,000 each, and with building materials supplied to them by the Lumber Company. These were charged to them at contractors’ prices and were carried by the Lumber Company on open account, without any provision for the payment of interest. According to the statement of facts, the construction of the apartment block was completed in or about October, 1956, but it appears from Mr. McDonald’s evidence that it was still in the finishing stages in the spring of 1957.

I now come to the evidence relating to the incorporation and organization of the appellant and its acquisition and operation of the apartment block. The evidence does not establish the precise time at which it was decided to incorporate it. I have already referred to the facts set out in the appellant’s statement of facts. Mr. McDonald was not sure of the date but said that it was after they had got the block started and at the organization meeting of the appellant held on February 18, 1957, he advised it that the appellant had been organized to acquire the block and to own and operate it. I have already stated that the appellant was incorporated on February 12, 1957. At that time, as already stated, the block was constructed except for some finishing stages. On February 18, 1957, the appellant’s organization meeting was held at which Mr. McDonald was elected president, Mr. Ferguson secretary, and Mr. Lund vice-president. They were all directors. Mr. McDonald, after advising the meeting that the company had been organized to acquire the apartment block, known as Essex House, and to own and operate it, informed it that the price at which the block would be taken over would be its cost to McDonald and Lund and it was resolved that the appellant should acquire the property at such cost and that when it was known the appellant should complete the purchase by its signing officers signing all necessary documents and all revenues and expenditures of Mc- Donald and Lund in the meantime should be revenues and expenditures of the appellant.

The appellant did not take title to the apartment block until some time after September 30, 1957. On that date, at a meeting of the directors, Mr. McDonald, the president of the appellant, announced that its auditors had advised that the total cost of the block was $214,000 and its signing officers were authorized and instructed to complete the purchase. At this meeting shares were allotted as follows, each share being of the par value of $1: 1,070 to Mr. McDonald, 700 to Mrs. Lund, 350 to Mr. Lund and 20 to Mr. Ferguson.

The appellant then took title to the Essex House property and took over the assets and assumed the liabilities of McDonald and Lund. It was agreed by the Lumber Company that it would carry the appellant’s account for the building materials as an open account without any arrangement for the payment of interest and receive payment of it from the net revenues from the block, it being estimated that this would take four or possibly five years. At the end of 1957 the amount of the account was $58,412.75. No arrangement was made for the payment of interest on the $20,000 advanced by McDonald and Lund.

There remains the evidence relating to the sale of the apartment block. This was given by Mr. McDonald and I set it out briefly. Mr. McDonald first spoke to a Mr. Bennett of C. E. Simonite Limited, who called on him either late in 1956 or early in 1957, while the block was still under construction, and enquired whether he would entertain the idea of Selling it, and told him that they had no intention of selling. Mr. Bennett called on Mr. McDonald many times at the office of the Lumber Company and was very insistent that he could sell the block for them. Mr. McDonald maintained that it was intended for a permanent investment for later years. At one time Mr. Bennett said that anything could be bought or sold at a price. Mr. Ferguson suggested that Mr. McDonald that he put a price on the block that was prohibitive and suggested $250,000 as the figure and Mr. McDonald then listed it verbally with C. E. Simonite Limited at that figure. This was early in 1957. The precise date of this listing was not given but the general tenor of Mr. McDonald’s evidence is that it was prior to the date of the appellant’s incorporation. It was certainly prior to the time that the appellant became the owner of the block. In May, 1958, the appellant gave C. E. Simonite Limited an exclusive listing of the block at $250,000 but nothing came of it. Later, in the fall of 1958, Mr. McDonald received an offer of $246,000 for the property. This came from a saleswoman in the employ of Frank Simonite Limited. She came to see Mr. McDonald saying that she had a customer. He explained to her that the appellant would not entertain any offer less than $250,000. Finally, the saleswoman came in with a written offer of $246,000, payable, according to the statement of facts, at approximately $120,000 by assuming the Sun Life mortgage and the balance in cash. The appellant had still a month’s rent to collect. The offer was so attractive that the appellant’s president and secretary could not turn it down. They accepted it on behalf of the appellant and on November 14, 1958, By-law No. 4 was enacted authorizing the transfer of the block to Sidney Katz on payment of the purchase price. Subsequently, on December 15, 1958, the appellant enacted By-law No. 5 authorizing the transfer to B and K Investments Limited on payment of the purchase price and it was transferred accordingly. After the property had been sold the Lumber Company’s account was paid.

Subsequently, at an extraordinary general meeting of the shareholders of the appellant, held on August 28, 1959, it was resolved that it be wound up voluntarily under Part 15 of The Manitoba Companies Act, R.S.M. 1954, c. 43, and that Mr. J. W. Abbott be appointed liquidator for the purpose of winding up its affairs and distributing its property.

Counsel for the appellant referred to the facts and urged that they indicated an intention on the part of the incorporators of the appellant to establish a long term investment designed to provide them with old age security. The incorporators were interested in the lumber business and were not speculators or dealers in real estate. The appellant was formed for the purpose of taking over the apartment block and operating it for the investment purposes referred to. It was not in the business of buying and selling real estate and when it accepted the offer of $246,000 it did so because of its attractiveness.

It was strongly urged by counsel for the Minister that the transactions did not support the submission that a long term investment was really intended. He submitted that the arrangement made with the Lumber Company, first with McDonald and Lund and then with the appellant, was very vague. There was no arrangement for interest and the estimate that the account would be paid in four or five years was unsound. There was no arrangement that an amount equal to the appellant’s net income of $12,250.60 would be paid to the Lumber Company in each year. Indeed, this amount did not take into account the amounts that the appellant would have to pay for income tax and'to meet the instalments of principal due under the Sun Life mortgage. If these were taken into account the only money that would be available for payment of the Lumber Company’s account, according to a cash availability statement submitted by counsel, would be $2,883.77 per year up to August 1, 1961, and thereafter $4,515.77 which meant, according to counsel’s submission, that it would take twenty years to pay up the account. Moreover, there were no arrangements for repayment to McDonald and Lund of the $20,000 advanced by them.

The question for the Court to answer is whether the profit of $40,140.32 realized by the appellant on the sale of its apartment block was income within the meaning of Sections 3 and 4 of the Income Tax Act. It was certainly not in the business of dealing in real estate in the ordinary meaning of the term “business”. Was it within the meaning of ‘business” as defined by Section 139(1) (e) in that it was engaged in ‘‘an adventure or concern in the nature of trade” and was its profit of $40,140.32 a profit from such an adventure?

I answer this question in the negative without any hesitation. The Court is not here concerned with whether the incorporators of the appellant were engaged in an adventure or concern in the nature of trade but whether the appellant was. There is no evidence to warrant a finding that it was. Its profits did not constitute ‘‘a gain made in an operation of business in carrying out a scheme for profit making’’ within the meaning of that expression as used by the Lord Justice Clerk in Californian Copper Syndicate (Limited and Reduced) v. Harris (1904), 5 T.C. 159. It did not carry out a scheme for profit making. When it took over the apartment block its construction had been financed and all that it was concerned with was its operation. It did not have to sell the block. It was not being pressed by the Lumber Company to pay its account. It may well be, as counsel for the Minister urged, that the arrangements for the payment of the Lumber Company’s account were vague and that it would take a much longer time than four or five years to pay it. That did not appear to worry the Lumber Company. It would not finance Harris but was willing to finance McDonald and Lund and was content to let the account ride. Moreover, the appellant did not make any effort to sell the property beyond listing it with C. E. Simonite Limited in May, 1958, which was the first listing made by it after it came into existence. And the sale which it made in the fall of 1958 to Sidney Katz was not the result of any effort on its part. All that happened was that it accepted an offer made to it that was so attractive that its president and secretary could not turn it down.