Subparagraph 20(1)(p)(i)

As a result of CRA’s seizure of half of his dental equipment and his business computers, the taxpayer’s administrative assistant (Mrs. Hokhold) had difficulties processing dental insurance claims in a timely and accurate fashion, and difficulty following up on unpaid balances. Some services could not be collected because the insurance forms were not submitted within the 12-month time limit. These problems resulted in the taxpayer not receiving the revenues that he reported in his returns for 2005 to 2008. At the end of May 2008, following continued financial difficulties, the taxpayer’s practice was closed, following which records were hastily stored and since misplaced.

For the taxpayer’s 2008 taxation year, he claimed $126,214.19 as the difference between the revenue reported on his tax returns for his 2005 to 2008 taxation years for work that he performed and billed to patients or their insurers, and the amount thereof that he was able to collect. The issue in this appeal was whether the taxpayer was entitled to a deduction for bad debts for his 2008 taxation year pursuant to paragraph 20(1)(p).

Before denying the taxpayer’s claim under s. 20(1)(p)(i) for bad debts, Paris stated (at para 43):

In order to succeed in a claim under subparagraph 20(1)(p)(i), a taxpayer is required to show the existence of a debt. … The taxpayer must show that the debt in issue was included in his income for the year the deduction is claimed or for a preceding taxation year. The taxpayer must also show that the debt became a bad debt in the taxation year in which it is claimed (Clackett v. The Queen, 2007 TCC 499).

He then stated (at paras 52, 53, 54, 57):

The calculations made by Mrs. Hokhold … do not identify any particular debts owing. She has simply aggregated what she believes to have been the total receipts of the practice annually over a four year period and deducted that amount from the total revenue reported by the Appellant in order to compute the bad debt claim. … The word “debt” … has been judicially defined … as “a sum payable in respect of a liquidated money demand, recoverable by action”: Diewold v. Diewold, [1941] S.C.R. 35. To my mind, in order to have a liquidated money demand, recoverable by action, it would be necessary to know who the debtor was and the amount of the debt.

Furthermore, while the question of when a debt has become uncollectible is for the taxpayer to determine, I cannot see how the Appellant in this case could have made such a determination without knowing who his debtors were or what amount they owed him.

…[T]here is simply no way of assessing the accuracy of the amount claimed in the absence of the business records from the Appellant’s practice. …

Even if the Appellant had proved the existence of the debts, I would have been unable to conclude what part, if any, of those debts went bad in 2008. … Paragraph 20(1)(p) … only allows for a deduction in the year during which the debt goes bad. …

The taxpayer made a loan, bearing interest at 25%, to a corporation ("SA") owned by his brother-in-law, which in turn lent the funds, at the same rate of interest, to an arm's length Canadian-resident corporation ("EMB"), which received those funds as part of a Ponzi scheme. The principal of EMB committed suicide on 17 March 2010, related media accounts suggested a Ponzi scheme, and on 6 April 2010, SA filed an insolvency notice.

The T5 for 2009 issued to the taxpayer by SA showed all the interest for 2009. He did not include it in his return (apparently filed in April 2010), and attached an explanatory letter stating that the interest was "never earned, payable nor collectible" and the 25 March 2010 report of the EMB receiver.

The Minister assessed inter alia on the basis that, as the 2009 interest had not been included in the taxpayer's return, no deduction could be claimed under s. 20(1)(l) or (p) and that, in any event, the debt for the interest was not doubtful as of 31 December 2009.

Owen J found that the taxpayer was entitled to rely on either para. (l) or (p) to deduct the entire amount. Contrary to the Minister's focus on available information as of 31 December 2009, "instead, the taxpayer may rely on information that comes into existence after the end of the year, but before the filing-due date, to fulfill his … obligation to report…" (para. 69). After noting (at para. 81) that "the decision in Flexi-Coil indicates that a debt is a bad debt when the taxpayer determines that the debt is uncollectible and, in making this determination, has acted reasonably and in a pragmatic, business-like manner, applying the proper factors," Owen J stated (at para. 85) that "the information available to the Appellant as at April 30, 2010 indicated that as of December 31, 2009 SA had no resources to pay its debts other than what it might collect from EMB under the receivership … [and] it would have been perfectly reasonable for the Appellant to conclude that only a portion of the principal owed was likely to be recovered and that the Interest was illusory and would not be recovered."

Respecting the Minister's claim that "the Appellant should have recorded the Interest as income and then claimed the deduction" (para. 89), Owen J noted (at para. 89) that the Minister "was not able to identify exactly how the deduction … is claimed on the return," that "although the letter did not make specific reference to paragraph 20(1)(l) or 20(1)(p), it did state that the Interest was not … collectible … [representing] the essential characteristic of a bad debt" (para. 90) and "in any event … it is well established that it is open to a taxpayer to amend his return through the appeal process [citing Imperial Oil, 2003 FCA 289, at para. 10]" (para. 91).

See summary under s. 20(1)(l).

A review of a law firm's accounts in 2005 revealed that accounts had been rendered in 2002, 2003 and 2004 which were uncollectible and which had not been written off. The appellant partners filed revised tax returns for the 2002 to 2004 taxation years in 2007, in which they claimed related bad debt deductions for those years, with the Minister apparently disallowing those deductions in resulting 2007 reassessments and in further varied reassessments made in 2012.

After quoting a statement in Clackett v. The Queen, 2007 TCC 499, at para. 6, that "the onus is on the taxpayer to establish…that it became bad in the taxation year," Bocock J found that as the bad debt deductions were not identified until after the years in which they arose, they were not deductible, stating (at para. 33):

This mis-match of the creation of the accounts receivable and the much delayed application of the decision regarding their related uncollectible status ... would represent retroactive tax planning.

The firm also made disbursements relating to client matters (e.g. title searches, filing clerks, sheriff's office), but had inadvertently failed to bill some clients for those amounts. After finding (at para. 40) that the amounts were never recorded in the accounts as receivables and in concluding that they were currently deductible, Bocock J stated (at para. 45):

[N]o timely determination of uncollectible status is required since such expenses never existed as accounts receivable. ... [S]uch outlays were incurred for the purpose of gaining professional income... .

The taxpayer, which sold substantial quantities of its products to a U.K. corporation with which it was not dealing at arm's length on favourable credit terms, was able to take a deduction for the substantial receivables owing to it by the U.K. company when the U.K. company's business failed and it was wound up. Hershfield J. found that it was contrary to normal interpretative principles to recharacterize the trade receivables owing to the taxpayer by the U.K. company as advances of capital and noted (at p. 1445) that various "cases established that a trade receivable remains such until specific actions are taken to change its nature".

The value of services provided by employees of the taxpayer to assist a sister company represented revenues notwithstanding that the amounts (which ultimately proved uncollectible) were inappropriately deducted from the taxpayer's wage expense for the year rather than recorded as revenue.

The taxpayer withdrew as partner from a professional firm at the end of its 1992 fiscal year. In preferring (subject to an adjustment made by the Court) the taxpayer's method of computing a bad debt deduction from the income of the partnership for that period to that made by the two remaining partners, Rip T.C.J. noted that the two remaining partners did not give much thought or consideration to whether a debt was good, doubtful or bad and did not consider a debt to be bad if the client was still a client of the firm and was not yet bankrupt; whereas the taxpayer made a very conscious and deliberate attempt to determine which of the partnership's debts were good, doubtful or bad.

In its return for its 1982 taxation year, the taxpayer had taken a deduction under s. 20(1)(p) for a debt owing to it and in 1988 its accountants advised Revenue Canada that it had erred, and wished to deduct the loss in its 1983 taxation year. Lamarre TCJ. referred (at p. 218) to the decision in Picadilly Hotels Ltd. v. The Queen, 78 DTC 6445 as establishing the proposition that "the question of when a debt is to be considered uncollectible is a matter of the taxpayer's own judgment as a prudent businessman" and went on to find (at p. 219) that the taxpayer "did not discharge its burden of proving that the debt was not uncollectible in the year 1982 on the balance of probabilities".

Before going on to find that a loss realized by a shareholder of a corporation on a disposition part-way through the year to another shareholder of accounts receivable owing to it by the corporation was deductible by it under section 9, Kempo J. stated (p. 2026):

"... there is no logic driving paragraph 20(1)(p) to mean that a loss on a bad debt is deductible as a business loss only if it is held to the creditor's year-end but is not deductible as a business loss if it was sold during the year in an arm's length transaction for some consideration ... . Accordingly, paragraph 20(1)(p) does not preclude the deduction sought for the loss."

The consideration received by the taxpayer on the sale of a theatre, which gave rise to recapture of depreciation to it, included the assignment to it of a debt owing by the purchaser. Because this debt became uncollectible in the year, it was deductible under s. 6(f) of the pre-1972 Act.

Mr. Fisher accepted the determination made by the taxpayer of a bad debt allowance in connection with the transfer of his retail fur business to a corporation controlled by him. After noting that the factors which may be taken into consideration by a taxpayer in claiming a bad debts deduction are the aging and history of the account, the financial position of the client, the past experience of the taxpayer with the writing-off of his bad debts, general business conditions, and increases or decreases in total sales and accounts receivable at the end of the year, Mr. Fisher stated (p. 193):

"For the purposes of the Income Tax Act, therefore, a bad debt may be designated as the whole or a portion of a debt which the creditor, after having personally considered the relevant factors mentioned above insofar as they are applicable to each particular debt, honestly and reasonably determines to be uncollectible at the end of the fiscal year when the determination is required to be made, notwithstanding that subsequent events may transpire under which the debt, or any portion of it, may in fact be collected."