Jomas Management LTD v. Minister of National Revenue, [1972] CTC 2130, 72 DTC 1125

A J Frost:—This is an appeal from an income tax reassessment dated April 8, 1969 for the appellant’s taxation year 1967 wherein an additional tax was levied with respect to gains realized from the sales of shares in 12th Avenue Building Limited and Allied Development Corporation Limited. Upon Notice of Objection duly signed and filed, the Minister of National Revenue confirmed the assessment on May 14, 1970 as being in accordance with the provisions of sections 3 and 4, and subparagraph 85B(1)(d)(i) of the Income Tax Act. The appeal was heard at Calgary, Alberta, on October 1, 1971 by the Tax Appeal Board as it was then constituted.

At the hearing it was agreed by counsel to the parties that the appeal of Branlyn Management Ltd be heard at the same time on the same evidence.

The appellant company is fully owned by Mr and Mrs Maurice Sunderland. Mr Sunderland is a partner in the architectural firm of Abugov and Sunderland. In 1962, the appellant acquired at the time of incorporation a 25% interest in 12th Avenue Building Limited (hereinafter referred to as “12th Avenue”) and, in 1964, a 3% interest in Allied Development Corporation Limited (hereinafter referred to as “Allied”), a corporation formed to build the office building known as “Canadian National Tower’’. In 1967 all the issued shares of both companies were sold at a substantial profit to the Maxwell Cummings group of Montreal.

The audited balance sheet of the appellant as at July 31, 1967 showed the following items:

Investments at cost

12th Avenue Building Ltd	Shares	$	6.00
	Advances	27,872.00
Allied Development Corp Ltd	Shares		60.00
	Advances	24,047.04

The audited Statement of Net Gain on Sale of Shares for the year ended July 31, 1967 contains the following information:

The statements indicate that for an “investment” of $69, the appellant made a net gain of $106,850 on the sale of its shareholdings in 12th Avenue and Allied.

The majority shareholders in both 12th Avenue and Allied negotiated for the sale of all the outstanding shares of both companies without the knowledge or acquiescence of the appellant. According to the evidence the appellant did not want to sell either holding, especially the 12th Avenue property, as the firm of Abugov and Sunderland occupied part of the building as tenants and wanted to continue to occupy the premises as part owner. The offer was a package deal, which was eventually accepted by the minority shareholders so as not to prejudice the whole transaction and in order to maintain a good relationship.

Abugov and Sunderland were the architects for the CN Tower building and had collectively acquired through their companies a 6% interest in the equity shares of Allied. The firm received $200,000 for its services with no reduction in fee for collateral considerations. The cost of the 3% equity interest acquired by the appellant company is shown on its balance sheet as $60. This holding was sold before the building was completed at a net profit of $75,549.

Both the appellant company and Branlyn Management Ltd made advances to the 12th Avenue and Allied projects to assist in their development as part of an overall plan of finance and development. Hashman Management Company Ltd was a substantial shareholder of Allied and held a 25% interest in 12th Avenue.

In reassessing the appellant, the Minister proceeded on the following assumptions of fact:

(a) that the Appellant is owned by Mr and Mrs Maurice Sunderland;

(b) that Maurice Sunderland is partner of Jack Abugov;

(c) that Branlyn Management Ltd is owned by Mr and Mrs Jack Abugov;

(d) that both the Appellant and Branlyn Management Ltd hold 25% interest each in Twelfth Avenue Building Ltd;

(e) that Mr Sam Hashman, a well-known real estate promoter owns an additional 25% in the said Twelfth Avenue Building Ltd;

(f) that the remaining 25% of the said Twelfth Avenue Building is owned by Cal-Mor Management Ltd;

(g) that the Appellant acquired its shares in Twelfth Avenue Building Ltd when that company was incorporated on November 29th, 1962 and it acquired its shares in Allied Development Corporation in 1964;

(h) that the Appellant and Branlyn Management Ltd sold their shares in the said Twelfth Avenue Building Ltd to the Maxwell Cummings group of Montreal;

(i) that the said Branlyn Management Ltd and the Appellant also had a 3% interest each in the Allied Development Corporation Ltd which owns the Canadian National Tower in Edmonton;

(j) that the shares of Allied Development Corporation Ltd were sold to the Maxwell Cummings group as part of the same transaction in which the Twelfth Avenue Building Ltd shares were sold;

(k) that Mr Sam Hashman and Mr Maurice Kowall, real estate promoters and traders, were the majority shareholders of Allied Development Corporation;

(l) that the officers and directors of the Appellant and the Appellant’s coshareholders of Twelfth Avenue Building Ltd and Allied Development Corporation Ltd were experienced in the field of real estate transactions;

(m) that at and subsequent to the acquisition of the shares the Appellant and its associates intended to turn them to account either immediately or in such other manner as might be advisable as a part of an adventure in the nature of trade or a profit making undertaking or concern;

(n) Sam Hashman is a person whose transactions in real estate either directly or indirectly by means of intermediaries are on income account and any gains therefrom are to be included in income;

(o) that the Appellant sold the shares in question in 1967 when it became profitable to do so.

Counsel for the appellant contended that references to Sam Hashman and Maurice Kowall being real estate promoters and traders were improper and moved that they be deleted from the Minister’s amended reply. He submitted that Mr Sam Hashman was not a shareholder or partner of the taxpayer and the assumptions were irregular and should be amended with respect to the issue before the Board. Counsel for the respondent claimed that the controlling shareholders of the appellant company and Branlyn Management Ltd “tied themselves to the coat tail of Sam Hashman who is an experienced real estate trader”, and, because they were acting in association, the sale of shares amounted to a trading transaction.

The Board dealt with the motion by ruling that the assumptions made by the Minister must be considered correct in so far as they are peculiarly within the knowledge of the taxpayer and that in order to decide whether the facts assumed are peculiarly within the knowledge of the taxpayer, it is necessary to hear him under oath. It was further ruled that if the taxpayer has no knowledge of the assumptions the onus shifts and the Minister must prove his assumptions.

Counsel for the respondent took the position that, since Mr Hashman had been in the construction business for 14 years and as he had worked with the architectural firm of Abugov and Sunderland on a number of projects, the Minister’s presumptions could not be rebutted by the appellant simply denying that he had any knowledge of them. He argued that the appellant company was “guilty by association” in that Sam Hashman, one of the shareholders in 12th Avenue and Allied, was a well-known real estate promoter and trader, and suggested that the Board, if it were not prepared to accept the Minister’s assumptions, should withhold its decision until such time as a decision had been reached regarding Mr Hashman’s activities in another matter which was pending. Put another way, he was in fact saying: “If you don’t believe the assumptions, wait and see for yourself.” The Board was somewhat surprised at the Crown’s suggestion.

The following words were spoken by counsel for the respondent:

Now, there is one thing — I don’t know whether it is in order or not — but if you are in some doubt as to the taxability of the transaction involving the shares of Allied and Twelfth Avenue Building, there is nothing improper about holding your judgment open till the matter is finally settled since that appears to be one of the main issues. Unfortunately this case had to come on before that matter was determined. Perhaps in that way the horse could be put back in front of the cart.

By counsel for the appellant:

Mr Chairman, I find myself shocked and appalled by my friend’s very last statement. It is a scandalous proposition. I say this with respect, but with no reservation or hesitation whatsoever. I think if the Minister is mad at Mr Hashman let him tax Mr Hashman and leave us alone. My friend has the temerity to come to this Court and say hold off your decision until you find what the Court’s decision is going to be in the Hashman case. There has been one figure throughout this whole case, and it has kept lurking in and out of it like a ghost, whereas he is within a few blocks of this court house, and why don’t you call him if you want to tar him with Mr Hashman’s brush. I think it is a scandalous procedure, Mr Chairman. My friend and his client, the Minister, have been thwarted in every legal and legitimate attempt, and in every illegitimate attempt, they have tried to make, to link these taxpayers with Mr Hashman, other than by an acknowledged fact that they were co-shareholders.

Prior to the above exchange, the Board felt that its decision, if possible, should not be geared to the principle of guilt by association found in some leading trading cases, but on the true nature of the transaction per se. The suggestion that the Board hold its decision open pending the hearing of an appeal on a separate matter in order to test the validity of the Minister’s assumption, when the Crown itself was not prepared to adduce evidence to uphold its position and after the said assumption had been upset under oath, precludes the Board, in my view, from further consideration of this particular issue.

The questions therefore before the Board are mainly questions of fact:

1. Were the holdings of the appellant in the nature of investments or were they speculations?

2. Is the appellant an investor or a speculator?

It is proposed to examine these two interrelated questions independently with a view to characterizing the nature of the gain realized.

Counsel for the appellant in his argument contended that the corporate shares purchased by the appellant company representing a 25% interest in 12th Avenue and a 3% in Allied should be construed in themselves as something in the nature of an investment, as shares in a corporation are not articles of commerce and their acquisition is a recognized method of investing money in a business enterprise. He argued that shares or interests in a company are investment vehicles and any realized increment in value is in the nature of a capital gain.

Counsel for the respondent in his argument paid little heed to the investment aspects of the issues before the Board and did not argue the question as to whether the appellant company was an investor or a speculator. His argument, as previously stated, was mainly confined to the proposition of “guilt by association” on the ground that the Minister’s presumptions were valid. However, as indicated above, the question of association with Mr Hashman is not in issue before the Board.

The Board recognizes the appellant’s position as containing a mixture of law and fact and for that reason chooses to note judicially certain facts well known in the investment industry.

Since World War Il, institutional investors have come into the forefront of the investment field with the growth of mutual funds, pension plans and trust companies. In their efforts to reach sound investment decisions, the economist and the financial analyst are changing old concepts. The buy-and-hold philosophy is broadening and the investment decision-making process is becoming a continuous affair. Technical analysis and fundamental studies are carried on by research divisions of dealers, brokers and other institutions in every important financial centre in Canada.

In today’s changing world, the prudent investor still invests, not for speculation, but for safety and income, but now gains greater perspective by watching what other investors are doing in the marketplace and thus makes his moves more quickly in order to avoid being caught on the wrong side of the market. He endeavours to invest with the major trend and not against it. He sustains himself against error by diversifying his holdings, which usually comprise stocks and bonds readily bought and sold over an exchange or in the over-the-counter market. The main badges of investments are safety, income, diversification and marketability. In the battle for investment survival, investors require a measure of long-term capital gains to preserve the purchasing power of capital. Capital preservation is a reasonable investment target for the prudent investor. Using the investment approach, the prudent investor usually endeavours to maintain a well-balanced portfolio of listed stocks and high-grade bonds, investing in the future growth of the economy. He buys for investment reasons and sells for investment reasons. The speculator, on the other hand, is concerned with a quick profit. His badges are: leverage, concentration and quick turnover. The speculator seeks a significant quick rise, often basing his moves on technical analysis or on information which is hard to get.

To decide whether a taxpayer is an investor, it is important to look at what he does with his money.

In the appeal at bar, the appellant’s investment in two equities is shown in its balance sheet as of July 31, 1966 as follows:

Assuming that all shares in 12th Avenue and Allied were issued at the same price to the other shareholders, we get the following equity picture:

The total ownership equity in 12th Avenue, a large office building, is $24 and the equity ownership in the CN Tower, one of the largest buildings in Western Canada is $2,000. This is high leverage, as any increase in asset values flows through to the common-stock shareholders with no benefit to those who have the chief financial interest unless they happen to be one and the same person or group. Leverage is one of the hallmarks of the speculator which, combined with concentration, frequently makes for enormous gains. The portfolio of investments of the appellant, if one can call it a portfolio, reflects lack of diversification, being concentrated in only a few items.

Prima facie the “investments” shown in the balance sheet of the appellant as at July 31, 1966 are speculations. The issue, however, cannot turn on this point entirely without first weighing all the facts in greater detail. The 12th Avenue Building cost approximately $600,000, with North American Life lending $480,000 on mortgage security and the participating shareholders advancing the balance. As of July 31, 1972 the appellant’s advance was $27,872. The appellant also signed a head lease on the building, renting a full floor and taking an adjoining lease on another full floor for a period of 10 years. The building was erected in a semi-residential area on a well-treed lot giving it the look of a professional architectural building. The appellant’s intention according to the evidence was to hold the building “forever” as an investment and it was clear that the architectural firm of Abugov and Sunderland intended to occupy part of the premises as permanent tenants. The offer to purchase was accepted reluctantly, and then only under some pressure from Mr Sam Hashman and others. In view of these unusual and special circumstances, I find that the appellant company made an investment in the shares of 12th Avenue and that the gain realized is in the nature of a capital realization.

In respect of its shares in Allied, I make the opposite finding. In this instance the appellant company was a rider (a term not infrequently used in the investment industry) or speculator. For a nominal sum, the appellant obtained “a piece of the action” which it realized upon even before the construction of the top floor was completed. The gain realized, in my view, is in the nature of trade and subject to tax under the appropriate provisions of the Income Tax Act.

Reference may be had to Irrigation Industries Ltd v MNR, [1962] CTC 215; [1962] SCR 346.

The appeal is allowed in part and the matter is referred back to the Minister for reconsideration and reassessment.

Appeal allowed in part.