Humberto Brum v. Minister of National Revenue, [1980] CTC 2651, [1980] DTC 1607

M J Bonner:—The appellant appeals from assessments of income tax for the 1973 to 1976 taxation years. For 1975 the respondent decreased reported income from the appellant’s office as president of a company called A & B Rail Contractors Ltd (hereinafter called “A & B” or “the Company”). For the other three years the respondent increased it. The appellant’s position is that he is not required to include the increases in income. The respondent’s position is in essence that the income, being income from office or employment, must be taxed in the year of receipt. Unquestionably this is so by virtue of subsection 5(1) of the Act. The basic question is however, when was income received.?

At all relevant times the appellant was president and holder of 51 % of the issued shares of A & B. The appellant’s wife held the remainder of the shares. The practice followed in paying the appellant for his services was highly informal and flowed without doubt from the close relationship between the appellant and the Company and, quite possibly, also from a desire on the part of the appellant’s accountant to defer the imposition of tax to the extent possible under the law.

The appellant withdrew funds from the Company on a regular basis every two weeks to pay his personal expenses. He also withdrew at irregular intervals in order to pay extraordinary personal expenses. Each amount so withdrawn was entered in the shareholder’s loan account of the Company as an indebtedness of the appellant. It appears that no promissory note was ever delivered nor were interest or conditions of repayment ever agreed on.

The bookkeeping was explained by Donald Stuart Fraser, the accountant for the appellant and A & B. He said that ‘‘we always took the position’’ that after the income of the Company was determined we would “set up a bonus’’ and credit it to “accrued salary payable”. He explained that the Company was in the business of repairing or building railway lines under contract. As a result of the nature of its business, the Company’s income fluctuated. When the Company had enough cash the bonus amount was, he Said, credited to the shareholder’s loan account.

The words “bonus” and “salary” were used interchangeably. The entire compensation paid to the appellant as president of A & B was paid by the “bonus” and subsequent credit to the shareholder’s loan account method. It appears that there was no agreement for payment to the appellant of any predetermined or basic salary.

An examination of Exhibit R-1, the accrued wages account, and Exhibit A-2. the shareholder’s loan account, indicates that the Company must always have found enough cash exactly one year after the making of each accrued salary payable entry. The amounts credited to accrued salary payable each June 30 were debited one year later and transferred to the shareholder’s loan account.

The appellant reported the amount so credited as income for the calendar year in which the credit was entered in the shareholder’s loan account.

The use of the word “payable” in the expression “accrued salary payable” seems unusual. Mr Fraser maintained despite cross-examination that the amounts entered in the accrued salary payable account would only be paid if the Company had cash available. It would therefore appear that an entry in that account was nothing more than an expression of a corporate expectation to pay the amount entered if or when cash became available. I need not consider whether the amounts so entered were deductible by the Company in the year in which the entries were made.

The respondent’s assessment was said by William Bullen, the assessor, to have been made on the basis that the amounts in fact withdrawn by the appellant through the shareholder’s loan account in a calendar year were income for that year to the extent that, at the time of withdrawal, there were accrued wages “payable” by the Company to the appellant. Neither in assessing nor in argument was reliance placed by the respondent on section 15 of the Income Tax Act.

The appellant’s primary submission was that the withdrawals were loans or, as the appellant’s counsel put it, “the appellant’s method should be accepted”.

The respondent’s counsel contended that none of the indicia of a loan was present. There were no corporate minutes authorizing a loan or loans, there were no arrangements for repayment, there were no promissory notes, and finally no interest was charged. He referred inter alia to Roy Ernest Park v MNR, 1 Tax ABC 391 at 408; 50 DTC 162 at 167, where Mr Monet said:

The appellant maintains that the amounts he thus received were nothing but loans made him by the company, and that he drew no salary from the company in the course of 1946. However, the sum of evidence, plus the fact that the appellant signed no note or acknowledgement of debt in favour of the company; that no mention was made regarding the rate of interest to be paid by him on these amounts; that no term was set for the refund; all indicate clearly, in my opinion, that the relationship of borrower and lender never existed between the appellant and the company.

I do not regard that case as setting down a rule of law that some or all of the list of indicia of a debtor-creditor relationship is or are necessary to establish the existence of that relationship. It is a question of fact to be decided on the evidence.

Generally speaking bookkeeping entries do not create reality. They are useful only to the extent that they record or reflect reality. In this case, despite the use of the word “payable” in the phrase “accrued salary payable”, I cannot find that the making of entries in that account reflected the creation of any enforceable obligation of the Company to pay to the appellant the amounts entered. The entries reflected only the creation of a contingent reserve. The approach taken by the respondent on assessment in effect anticipated, for the purpose of imposition of tax in each year, what did in fact regularly happen in the following year, that is to say, the finding of sufficient cash and the consequent crediting to the loan account of the accrued salary expense previously set up in the books of A & B. The crediting was an event which need not necessarily have occurred as anticipated.

An examination of Exhibit A-2 indicates that, save during a period between June of 1975 and the end of that year, the shareholder’s loan account was in debit balance. The Company did not owe the appellant anything in respect of entries made at the previous fiscal year-end in the accrued salary payable account. Thus, save during the period mentioned, the withdrawals could only have been advances and not payments of salary. It was not suggested that withdrawals during the period were different in nature from those made before that period.

The respondent did not cite any authority for the proposition that an advance against salary expected to be earned was a receipt of salary for purposes of section 5 of the Income Tax Act. What was received here was borrowed money, not salary.

In the result the appeals for 1973, 1974 and 1976 are allowed and the assessments are referred back to the respondent for reconsideration and reassessment in accordance with these reasons. The assessment for 1975 has not been shown to be too high. I have no jurisdiction to allow the appeal and refer the 1975 assessment back to assess more tax. Such an action would not be allowance of an appeal. The appeal for 1975 is therefore dismissed.

Appeal allowed in part.