Dina Flusser, Rudolph Flusser v. Minister of National Revenue, [1972] CTC 2626, 72 DTC 1505

Roland St-Onge:—This appeal was heard at Vancouver, BC on October 28, 1971 by the Tax Appeal Board as it was then constituted, and is from a reassessment dated April 5, 1968, wherein tax of $43,- 876.43 with interest in the amount of $10,200.93 was levied in respect of income for the 1963 taxation year.

In 1962 and 1963 the appellant acquired a total of 3,374 shares of Vancouver Airline Limousines Ltd (hereinafter referred to as “VAL”) for a consideration of one cent per share. The Minister, in determining the appellant’s income for 1963, appraised the total value oi the shares at $91,098 by evaluating each share at $27 (3,374 X 27 = $91,098), deducted therefrom the cash payment of $3,010.50 and added to her income the sum of $88,087.50.

The manner in which the appellant became owner of the above- mentioned shares involves many corporations and requires an examination by the Board of a great deal of documentary and oral evidence.

The facts on which the respondent relied, in assessing the appellant as he did, are as follows:

1. Cascade Investments Ltd (hereinafter referred to as “Cascade”), incorporated under the laws of the Province of British Columbia on July 24, 1959, which during the taxation year in question had its head office at 509-626 West Pender Street in the City of Vancouver, was engaged in the business of real estate rentals.

2. The Class A (voting) shares of Cascade on March 23, 1962, were held as follows:

R N Shakespeare for BC Collateral Sales Co Ltd	1
H E Hutcheon for A A Evans	1
Rudolph Flusser	1
George Biley	1
Sidney Evans	1
	5

As of that date Dina Flusser had 200 Class B shares and 20,000 Preferred shares. On September 28, 1962, George Biley transferred, inter alia, his one Class A share of Cascade to the appellant.

3. A A Evans controlled B C Collateral Sales Co Ltd

4. On March 23, 1962, the appellant, Rudolph Flusser and A A Evans using the vehicle of Cascade arranged the financing for Vancouver Airline Limou- sines Ltd, Safeway Taxi Ltd and Dan McLure’s Taxi Ltd in the amount of $200,000.00 in respect of which Cascade made itself primarily liable to the Mercantile Bank from whom the money was borrowed. The appellant, Rudolph Flusser and A A Evans guaranteed the loan of Cascade to the Mercantile Bank. As of that time the voting shares of VAL were held as follows:

Mary Miles	100
Stanley Miles	6,648
R T Wilson on behalf of Standard Oil Company
of B C Ltd	254
	7,002

5. A voting trust was executed, dated March 23, 1962, whereby S Miles transferred to A A Evans 770 shares and to Rudolph Flusser 700 shares. An agreement was executed, dated March 23, 1962, which included, inter alia, an option agreement which was to run one year whereby Stanley Miles transferred 3,150 shares of VAL at $.01 per share as follows:

Dina Flusser	1,050
A A Evans or nominee	1,050
Kerry Investments Ltd	1,050
Total	3,150

By the terms of the option Miles could buy back the shares within one year for forty-five per cent of the consolidated surplus of VAL and the other taxi companies minus goodwill and $100,000.00.

6. On March 5, 1963, Stanley Miles gave notice that he was exercising his option stated in paragraph 5, which option was never exercised.

7. By an agreement dated March 30, 1963, Stanley Miles agreed to transfer to A A Evans, or his nominee, for $6,000.00 the beneficial ownership of his 3,498 common shares and the 100 common shares of Mary S. Miles and the 1,050 common shares of Kerry Investments Ltd, all in the capital of VAL. VAL also agreed to transfer to Stanley Miles certain motor vehicles registered under the name of Vancouver Airline Limousines Ltd.

8. By this same agreement of March 30, 1963, Stanley Miles also terminated the agreement dated March 23, 1962, referred to in paragraph 5 thus terminating his option to repurchase the 1,050 common shares held by Dina Flusser in VAL and the 1,050 common shares held by A A Evans in VAL.

9. As a result of the foregoing agreement dated March 30, 1963, the appellant became the beneficial owner of 3,374 shares in VAL, being one-half of the shares formerly held by Stanley Miles and his wife Mary Miles at a cost of:

1,050 shares transferred pursuant

to agreements of March 23,

1962 and March 30, 1963 at

$.01 per share		$ 10.50
2,324 being one-half of the shares
transferred to A A Evans by S Miles,
Mary Miles and Kerry Investments
Ltd pursuant to an agreement
dated March 30, 1963 for $6,000.00		3,000.00
Total cost to appellant	—	$3,010.50

10. A A Evans and Rudolph Flusser (husband of the appellant) caused to be incorporated Vancouver Airline Limousines (1963) Ltd to which company they sold the net assets of the bus and limousine operation of VAL for $200,000.00 and then sold the shares in Vancouver Airline Limousines (1963) Ltd to a Mr Nordal of Victoria for $200,000.00 and collateral being given by Mr Nordal in sufficient amount to cover the indebtedness of Vancouver Airline Limousines (1963) Ltd to VAL.

11. in so re-assessing the appellant he assumed the following facts:

(a) That both A A Evans and Rudolph Flusser have been associated in the pawnbrokerage business since at least 1952 and have an intimate knowledge of the business;

(b) That the appellant, Rudolph Flusser, A A Evans and Cascade, in accepting the pledge of the shares in VAL by Stanley Miles and the subsequent retention of these shares as an unredeemed pledge, were in effect acting as pawnbrokers and thus engaged in a venture in the nature of trade;

(c) That pursuant to an agreement between A A Evans and Rudolph Flusser, Rudolph Flusser acting as the agent of his wife and A A Evans would have control of VAL in equal shares, A A Evans caused the transfer of 2,324 shares of VAL to the appellant;

(d) At the time the appellant became the beneficial owner of the 3,374 shares pursuant to the agreement dated March 30, 1963, they had a value of $27.00 per share;

(e) As a result of the foregoing the appellant received a benefit as follows:

Value of 3,374 shares at $27.00		$91,098.00
Less: Cash paid		3,010.50
Amount of benefit	—	$88,087.50

THE STATUTORY PROVISIONS UPON WHICH THE RESPONDENT RELIES

AND THE REASONS WHICH HE INTENDS TO SUBMIT

(1) The respondent relies, inter alia, upon Section 3, 4, 8(1), 137(2) and and 139(1 )(e) of the Income Tax Act, RSC 1952, c 148.

(2) The respondent submits that the appellant, A A Evans, Rudolph Flusser and Cascade in accepting the pawn of the shares of VAL and their subsequent retention as an unredeemed pledge were engaged in a business within the meaning of Section 139(1)(e) of the Income Tax Act, and the profits arising therefrom are properly included in the appellant’s income under the provisions of Sections 3 and 4 of the Act.

(3) The respondent further submits that acquisition by the appellant of the shares in VAL was a benefit conferred on her by Cascade in the amount of $88,087.50 and as such has been properly included in computing the appellant’s income within the meaning of Section 8(1) of the Income Tax Act.

(4) The respondent further submits that the acquisition by the appellant of the shares in VAL was a benefit conferred on the appellant of $88,087.50 and as such was properly included in computing the appellant’s income within the meaning of Section 137(2) of the Income Tax Act.

At the hearing counsel agreed, among other things, on the following facts:

4. The Mercantile Bank required the following collateral from Cascade Investments:

(a) assignment of a fully registered debenture covering all assets of the taxi companies;

(b) unlimited guarantees with supporting resolutions of BC Collateral Loan Brokers Ltd and Coast Trading Ltd (a part of A Evans’ personal guarantee);

(c) unlimited guarantees of Mr and Mrs Flusser and A Evans;

(d) assignment of 6,748 of VAL shares to Mervan & Co.

2. Resulting from the transfers referred to above, ie, the agreements of March 23, 1962, the shareholders of VAL appeared as follows:

3. On March 23, 1962, by minutes of a directors’ meeting, it was resolved that share certificate Nos 13, 17, 18, 20, 21, 22, 23, 24 and 25 be cancelled and share certificate No 26 representing 6,747 shares be issued in the name of Mervan & Co.

NOTE: The 7,002 shares above less 254 shares of R T Wilson and one share of S Miles comprise the 6,747 shares.

4. By an agreement between VAL et al, Evans, R Flusser, Miles and Cascade Investments, dated March 30, 1963, S Miles agreed to transfer the beneficial ownership of 4,648 shares of VAL to A Evans or his nominee for $6,000 payable to Miles.

The 4,648 shares transferred pursuant to this agreement consisted of the following:

Evans issued five promissory notes to S Miles which Miles discounted May 7, 1963 at his bank. These notes matured as follows:

5. It appears that Miles received the following assets and benefits on the sale of his shares under the agreement of March 30, 1963:

(a) Automotive Equipment

(1) 5 ton GMC Truck )

(2) GMC Flatdeck Truck )

(3) Dodge /2-ton Panel Truck )

(4) Chevrolet /2-ton Pickup Truck )

(5) 1962 Ford Bus )

(b) VAL, Safeway, McLures, Evans, Flusser

and Cascade release Miles of all debts,

dues, claims, etc

(1) Shareholder’s Loan in VAL	$8,857.68
(2) Amounts paid by VAL to finance
companies for Miles
Coast Finance re auto	$1,173.00
Georgia Finance re auto	12,748.67
Pacific Tractor re auto	909.71
(3) Excess of payments to Miles
by McLures for a/c rec from
Standell Bldg in excess of
that account	33,887.51
(4) Cash appropriation by Miles from
VAL forgiven	5,000.00

6. The valuation unit of the Department of National Revenue placed a value of $189,054 on the total of 7,002 shares of VAL outstanding as at March 30, 1963. As a result of negotiations between June and September, Evans and Flusser sold the VAL operation to Mr Nordal of Victoria, BC for $200,000. Rather than realizing on their shares, Evans and Flusser incorporated a new company, VAL (1963) Ltd. They sold the assets and liabilities of VAL Ltd to VAL (1963) Ltd $200,000 and then transferred the shares of VAL (1963) Ltd to Mr Nordal. These sales were by agreement for sale, resulting in VAL Ltd having a receivable from VAL (1963) Ltd which the Nordals have been paying off.

Therefore Evans’ and Mrs Flusser’s shares in VAL Ltd are still worth about $200,000 although this value is partly the agreement for sale balance yet to be collected.

Mr A P Gardner, who has 30 years’ experience as a chartered accountant and who was also interested in five motor transport companies, was consulted on January 4, 1963 by the assistant manager of the Bank of Montreal with respect to the management of VAL. On this occasion he met Mr Flusser and agreed to act as management consultant for the said company. At that time the company was operating a limousine and bus service and a freight service to the airport, a chartered bus service through the province, a taxi service and a restaurant, and was indebted to Cascade for a quarter million dollars. For the taxation year ending December 30, 1962 VAL lost $60,000 (an average of $5,000 per month) and for the three months ending March 31, 1963 lost $15,000 a month.

He stated that he had personally participated in negotiations leading to the sale of the 4,648 shares of Mr and Mrs Stanley Miles and Kerry Investments Limited to Mr Alfred Evans in March 1963. In his opinion, these shares were worth a nominal value of only $2,000 or $3,000 because Mr Miles was an inept manager and could not obtain the necessary capital to operate the company. The company was on the verge of losing its licences unless it improved the bus terminal and obtained adequate buses to service the airport. Most of the buses were of 1940 vintage. There was also a taxi fleet which had been sold by VAL to the drivers of the cars at inflated prices. The company had resorted to this measure in order to obtain some cash. He testified that Mrs Flusser acquired 1,050 shares of VAL in March 1962 at a time when the company was operating at a substantial loss with no hope of improving its position. Consequently, the value of the shares was negli- gible. He explained that Mr Miles had acquired the shares of VAL from a Mr Delamothe in 1960 at a time when he was buying various companies and selling them to VAL at inflated prices. To achieve his purpose, Mr Miles had to strip all the companies of their assets in order to pay Mr Delamothe, and that was the reason he had no money to operate VAL in 1962 and 1963.

Upon cross-examination, Mr Gardner stated that the Bank of Montreal was providing the company with the necessary money to pay the operating expenses and that the company transferred some assets to Mr Miles at a time when it was in dire need of money because Mr Miles pretended that the assets belonged to him personally. Because the records for previous years had been destroyed, there was no way of finding out who owned the said assets. He put a nominal value on the shares on the assumption that nobody would be interested in buying into a company which was operating at a loss. Messrs Flusser and Evans were not experienced in the transportation business.

Mr A A Evans, a merchant, testified that a Mr Curry of Kerry Investments Limited was the auditor of VAL in March 1963; that he was not related to him or to Mr or Mrs Miles; and that because VAL was in dire need of funds he was able to purchase 4,648 shares at a price of only $6,000. Out of these 4,648 shares, Mrs Dina Flusser purchased 50%, or more specifically 2,324 shares. Mr Evans explained that early in 1963 he owned, with Mr Flusser, a company called Vancouver- Seattle Bus Lines, the main asset of which was a licence to operate a line between Canada and the United States. He narrated all the difficulties they had encountered when striving to obtain this licence — for example, their numerous appearances before the Public Utilities Commission.

Upon cross-examination he admitted that he was the chief shareholder of BC Collateral Loan Company Ltd of which Mr Flusser was an employee; that in 1962 he was a shareholder of Cascade Investments Limited: that his shares were beneficially held for him by Mr H E Hutcheon; that one share thereof was beneficially held for BC Collateral Loan Company Ltd by Mr Ray H Shakespeare; that he was able to control Cascade Investments Ltd; that BC Collateral Loan Company Ltd was not in the business of lending money and especially an amount of $200,000: and that, in his opinion, the shares had not been pawned by Mr Miles to Mr Flusser et al as a result of the agreement of March 23, 1962. From March 1962 to 1963 the relationship between Cascade and VAL was a landlord-tenant relationship and he testified that as far as he knew Mr Miles never made a request to repurchase his shares.

Upon further cross-examination Mr Evans was shown a letter (Exhibit R-2) in which (on the letterhead) he was described as president and Mr Flusser comptroller of VAL.

Mr Flusser testified that with his wife and Messrs Arthur and Sydney Evans he was a shareholder of Cascade which advanced to VAL $120,000, of which the sum of $50,000 was to be expended to renovate the terminal building and $45,000 to pay arrears of rents and taxes. As security for the said loan, VAL gave the aforementioned 19 taxi agreements, evaluated at 60% of their face value and which yield 18% interest. In March 1963, VAL owed $250,000 to Cascade, and on September 13, 1963 VAL sold its assets for $200,000 ($30,000 down and $640 per month over a ten-year period) to the Nordal group which operated a similar type of service in Vancouver. In the same deal the licence held by the Vancouver-Seattle Bus Line, considered to be a valuable asset, was also transferred to the Nordal group.

Upon cross-examination Mr Flusser admitted that he was office manager of BC Collateral from 1952 to 1958, and in 1962 and 1963 he was business adviser to Mr Evans and also manager, president and secretary of Cascade. In 1962 his wife obtained a voting share in Cascade from her cousin, Mr George Biley, and he and Mr Evans received 1,470 of the said shares. Then, according to an agreement dated March 23, 1962, 1,050 VAL shares were acquired by his wife and the same amount by Mr Evans and Kerry Investments Limited, all of which were subject to the right of repurchase by Mr Miles if he repaid a certain amount within a year. With respect to the control of VAL, Mr Evans had the voting power of 1,470 shares out of a total of 7,002 shares issued. At this juncture in the proceedings, a correction was made to the effect that Mrs Flusser bought from George Biley 500 voting shares of VAL. Mr Flusser also admitted that in February or March 1963 Mr Miles attempted to exercise his option to repurchase 2,100 shares held by his wife and Mr Evans.

Mr Miles’ lawyer, Mr Easton, testified that, according to written instructions which were in his file, he was asked in 1962 to dispose of his client’s shares in VAL to Messrs Evans and Flusser for $50,000 with a cash down payment of $10,000. According to him, when the said shares were sold in 1963, they were not worth more than $6,000.

The appellant testified that she acquired the shares in 1962 and 1963 on the suggestion of her husband.

Mr J Scott, a chartered accountant, filed a financial statement of VAL which showed an operating loss of $56,229 and a net loss of $59,325 as at December 31, 1962 and a financial statement for the three-month period ending March 31, 1963 showing a surplus of $58,462.04. In his opinion because the company’s equipment was in poor condition, this figure of $58,462.04 would not reflect the actual true surplus of the company. He agreed that, with respect to the taxi agreements, the company had only contracts rather than the title to the property. The witness did not perform any audit of the books of VAL for the period ending December 31, 1963, but only carried out a balance sheet examination — in other words, a verification of the assets and liabilities at the end of the fiscal year. As is stated in the document, it was an audit without qualification.

Finally, Mr Dempsey, the auditor for the income tax department who appraised the value of the shares at $27 each and filed his appraisal as Exhibit R-7, testified that he had used as an opening figure the sum of $105,348, being the equity which was the shares plus the surplus at December 31, 1962. He stated that Exhibit R-7 reflects all of the liabili- 2634 Canada Tax Cases [1972]

ties, and that VAL had not been valued on income but on the assets that were in the company.

Counsel for the appellant argued that Cascade was incorporated as a rental real estate company to provide for the shareholders’ retirement. For this reason, the VAL shares were not acquired by the company but by the shareholders personally. Cascade was bound to act as it did in order to retain the tenant and consequently it advanced the money to enable the company to continue its activity. Among the securities Cascade received from VAL were taxi agreements which Cascade used to get the loan from the bank.

He also argued that the transfer of the shares at one cent each was a bona fide sale and the shareholding equity at that time was not worth more because the company was insolvent. As a matter of fact, VAL in 1962 was operating at a loss of $5,000 a month and for the first three months of 1963 $15,000 a month, and in November 1962 Mr Miles instructed his lawyer to sell all his shares for $50,000.

He explained that the gain on the sale of the shares of the new company, VAL (1963) Ltd at $200,000 was fortuitous, and that the appellant was fortunately able to get that amount because the buyer who was in the same line of business wanted to instal his son in a similar business. As to the valuation of the shares, he stated that Mr Dempsey was not properly instructed because he was asked to evaluate them on the premise that all the shares were sold in 1963. Consequently, he did not follow the income approach method to value the company, but made his appraisal based on the market value of the assets during a 12-month period.

He stated that, in law, if there was a sale, the first 1,050 shares were sold in 1962 even though Mr Miles had an option to repurchase them. According to him, a sale with such a clause was still a sale irrespective of the option and could in no way whatsoever be considered as a loan or mortgage. Consequently, Mr Dempsey did not properly value those shares because $27 each could not be used as a fair market value. As to the balance of the shares acquired by the appellant and their value as of March 31, 1963, the Minister, in the opinion of counsel for the appellant, took the easy way to arrive at a valuation by using $200,000 as an accurate figure.

Counsel for the appellant also argued that the gain could not be taxed as an adventure in the nature of trade on the assumption that Mr Evans was in the pawnbrokerage business because, in law, Mr Miles was at all times the owner of the shares and the gain should be taxed only when the shares are disposed of. He also stated that the gain cannot be taxed under section 8 of the Act because the appellant did not get the shares from a corporation and, consequently, it cannot be said that a corporation rendered a benefit to Mrs Flusser. He also submitted that subsection 137(2) cannot be used because the parties were acting at arm’s length, and that the said section provides that a benefit will be taxable as income or as a gift. He concluded by saying that the Department is trying to tax the appellant because of the large amount of profit; that a close review of the case would show that $27 for a share was exaggerated; and that it was an arm’s length transaction and, consequently, the appellant should not be taxed.

On the other hand, counsel for the respondent argued that Mr Evans and Mr Flusser approached Mercantile Bank and agreed to advance money through Cascade and, consequently, Mrs Flusser was to receive 1,050 shares of VAL. Apparently, when the loan was made, Mrs Flusser was not a shareholder of Cascade — but when did she become a shareholder? Here was a group of money-lenders who put up security of their company, as a result of which Mr Miles gave some shares to Mrs Flusser with an option to repurchase. According to counsel for respondent, two positions can be taken in respect of this transaction:

1. This group of money-lenders was doing nothing more than lending money and requiring some reward in return.

2. Cascade put up the money but Mrs Flusser received the benefit — an advantage as a shareholder when the option expired. Mr Miles could not exercise his option and Mrs Flusser got the shares for one cent each.

He argued that in 1963 the group of money-lenders used their company to make a profit. They all made money. Even though the appellant was not an experienced money-lender, she was acting on the suggestion of her husband and consequently she is taxable by association. She received the full title and ownership of the shares in 1963 and consequently she should be taxed in that year.

Referring to the valuation of the shares, he pointed out that Mr Miles’ lawyer was instructed to sell at $50,000 but that it was not certain whether all or part thereof were to be sold. Furthermore, in the course of the transaction in 1963 certain assets were transferred to Mr Miles and there is nothing in evidence to refute the value placed on them by the Minister.

Usually, a bank such as the Mercantile Bank does not lend money to insolvents, and the best proof of the solvency of VAL is to be found in the requirement, by the Mercantile Bank, of the assignment of 6,748 shares as collateral.

It appears from the verbal evidence that Messrs Flusser and Evans were experienced pawnbrokers and when Cascade, in which they were both shareholders with Mrs Flusser, decided to lend money — apparently to retain a tenant — they used the tools of the trade to protect the loan. Actually, they advanced the money and took the pledge of the shares in VAL by Mr S Miles and retained the unredeemed pledge, as is usual in the pawnbrokerage business. Admittedly, they had no experience in the transportation business and their behaviour does not reveal any attempt to succeed along that line because they disposed of the transportation business after a very short period. Furthermore, the influx of capital into the company was not the kind of thing that would decrease the value of the shares of the company and, besides, would they have given so much collateral if the pledge had so little value? It has to be remembered that the onus was on the appellant to show that the value of the shares was only one cent per share which, at first glance, appears to be ridiculous. The appellant relied on financial statements, prepared by the company’s accountant, which are not elaborate and do not represent the true situation with respect to the value of the company. The financial statement is based upon revenue instead of real assets and, even at that, the revenue was calculated at the beginning of a new company’s operations, and it is usual for a new company to suffer operating losses at the beginning while building up goodwill and business. A company operating at a loss is not necessarily an insolvent company — especially a transportation company when it is well known that the main asset thereof is the holding of many transportation permits. Some witnesses mentioned that the company was on the verge of losing its permits but there is no convincing evidence such as written letters or complaints by authorities threatening application for cancellation of permits. On the contrary, Messrs Evans and Flusser applied successfully for an additional permit to transport passengers from Canada to the United States (Seattle, Washington), and when they sold the shares of the newly incorporated VAL (1963) Ltd for $200,000 they admitted that this Seattle permit was taken into consideration, along with the other permits, as a valuable asset.

There is no reason, in the light of the foregoing, to ignore the appraisal of the respondent and take into consideration the nominal value of one cent per share. The onus was on the appellant to prove that the value was one cent per share and she failed in that respect.

There is no doubt that the appellant received the shares for only one cent each in return for services rendered by the lenders who were not acting at arm’s length and consequently the price of the shares at the time of purchase by the appellant did not reflect their true market value.

The true value of the said shares was reflected in the sale of the assets and liabilities of VAL to VAL (1963) Ltd for $200,000 at which time the appellant who was then a shareholder realized, along with the other money-lenders a substantial profit and, consequently, was taxable by association. The fact that VAL (1963) Ltd shares instead of the VAL shares were sold to the Nordal group is immaterial when deciding whether the gain was taxable. In such a case the Board must look at the substance of the transactions and, in my estimation, the whole thing is an adventure in the nature of trade, taxable under sections 3, 4, paragraph 139(1)(e) and subsection 137(2) of the Income Tax Act. The appellant received full title to the shares and disposed of her equity in 1963 and should be taxed in that year.

The reasons for judgment in this case will also apply to the case of Rudolph Flusser.

For the reasons given, the appeals are dismissed.

Appeals dismissed.