Toby Barnett v. Minister of National Revenue, [1970] CTC 212, 70 DTC 6173

CATTANACH, J.:—This is an appeal from the appellant’s assessment to income tax under Part I of the Income Tax Act for her 1963 taxation year. By that assessment the Minister added to the net income of the appellant for her 1963 taxation year the sum of $40,118.48 described in the Notice of Assessment as the appellant’s share of the profit realized by a partnership known as Harte Realty Co., in which the appellant and her brother were the only partners, on the sale of a parcel of land acquired by the partnership in April 1961.

The question for determination is whether the profit so made by the appellant was the result of the sale of land which was “inventory” in a ‘‘business’’ within the meaning of that word as it appears in Section 3 of the Act including therein, by virtue of Section 139(1) (e),* [1] an adventure or concern in the nature of trade as contended by the Minister or a capital asset as contended by the appellant. If the land were the former then clearly the resultant profit is properly taxable as income of the appellant, but if the latter is the case then it is equally clear that the amount realized is not taxable income.

Put another way, if it were the exclusive purpose of the partnership at the time of the acquisition of the land by it to erect an apartment building thereon and obtain rental income therefrom, then a profit from the sale of the land or part thereof would not be profit from a business. If that were not the exclusive purpose of the partnership at that time but the partnership had also in mind, through the minds of its constituent partners, the purpose or one of the possible purposes of the subsequent disposition of the land or part thereof at a profit, then the resulting profit is taxable.

The onus of disproving the Minister’s assumptions in assessing’ the appellant as he did falls on the appellant.

The question as to what the appellant’s purpose was in acquiring the property is one of fact that must be decided after considering all the evidence. The appellant’s statement at trial as to her intention at the time of acquisition must be considered along with the objective facts.

The question I must therefore decide is whether the balance of probability on the evidence in this case is that the only purpose that motivated the appellant and her brother to acquire the property here in question was to erect an apartment building thereon.

Prior to trial the parties agreed upon the following statement of facts :

1. Toby Barnett, of the City of Hamilton, in the Province of Ontario, married woman, the Appellant herein, is a sister of Robert Organ, the Appellant in an action in this court which has the style of cause ROBERT ORGAN vs. THE MINISTER OF NATIONAL REVENUE, bearing court number B-2225.

2. The Appellant, in partnership with the said Robert Organ, has carried on business in the City of Hamilton since the 10th day of June, 1958 under the name Harte Realty Company.

3. A Declaration of Partnership under said name was registered in the Registry Office for the registry division of Wentworth in the Province of Ontario on the 12th day of July, 1958.

4. Percy Barnett, of the said City of Hamilton, is the husband of the said Toby Barnett.

5. In the year 1958, Harte Realty Company built a triplex apartment building at 47 Stanley Avenue in the City of Hamilton at a cost of approximately $28,000.00.

6. In the year 1959, Harte Realty Company built a 42-suite apartment building at 1234 Fennell Avenue in the City of Hamilton, called the “Fennell Plaza”, at a cost of approximately $270,000.00.

7. In the year 1959, Harte Realty Company purchased a parcel of land at 700 Mohawk Road East in the City of Hamilton, and in 1960 constructed a 43-suite apartment building (hereinafter called “the Park Plaza project”) on said parcel of land at a cost of approximately $265,000.00.

8. In the year 1959, Harte Realty Company purchased a parcel of land situated at 385 Queenston Road in the City of Hamilton, and in 1960 commenced construction of a 63-suite apartment building (hereinafter called “the Queenston Plaza project”) on said parcel of land which building was completed in 1961 at a cost of approximately $445,000.00.

9. By Agreement of Purchase and Sale dated the 6th day of September, 1960 and accepted the 7th day of September, 1960, Robert Organ agreed to purchase from Abbotsford Homes Ltd. for the price of $58,000.00, a parcel of land located at 270 Mohawk Road East in the City of Hamilton, having a frontage of about 390 feet on Mohawk Road and a depth of about 200 feet adjacent Cardinal Street, w hich parcel of land will be referred to hereafter as ‘the Cardinal Plaza land”.

10. In the month of April, 1961, the purchase of the Cardinal Plaza land was completed at a total cost of $59,131.60.

11. By deed dated the 22nd day of September, 1960 and registered on the 4th day of April, 1961, the Cardinal Plaza land was conveyed by Abbotsford Homes Ltd. to Robert Organ and Toby Barnett both of the City of Hamilton in the County of Wentworth, carrying on business under the firm name and style of Harte Realty Company.

12. At the time of purchase, only the front one hundred and fifty feet of the Cardinal Plaza land was zoned for an apartment building. The rear fifty feet was zoned for single family residential dwellings.

13. On September 13, 1960, Bylaw 9094 of the City of Hamilton was passed re-zoning the rear fifty feet of the Cardinal Plaza land for apartments. Said Bylaw was approved by the Ontario Municipal Board on July 27, 1961.

14. In August, 1961, Harte Realty Company purchased a parcel of land located at 17 Robinson Street in the City of Hamilton, which parcel of land will be referred to hereafter as “the 17 Robinson Street land” and on July 2, 1962 Harte Realty Company completed the purchase of the 17 Robinson Street land at a total cost of $106,825.91. To obtain a mortgage commitment of $1,000,000.00 for an apartment project on the said parcel of land, it was sold at cost to a newly incorporated company called Seventeen Robinson Street Limited in which the Appellant, Robert Organ and Percy Barnett were the sole shareholders.

15. By an instrument in writing dated the 15th day of January, 1962, the Appellant and Robert Organ gave the exclusive right to sell the Cardinal Plaza land until the 15th day of April, 1962 at a price of $65,000.00 cash, to Main Agencies Ltd., real estate brokers, carrying on business in the said City of Hamilton.

16. By an Agreement of Purchase and Sale dated the 12th day of June, 1962 and accepted the 11th day of June, 1962, the Appellant and Robert Organ agreed to sell the Cardinal Plaza land to Lexmount Investments Limited for the price of $82,500.00 on the terms and conditions set out in the said Agreement.

17. The said sale was not completed.

18. By an instrument in writing dated the 13th day of February, 1963, Harte Realty Company applied to the Standard Life Assurance Company for a mortgage loan in the amount of $915,000.00 in respect of a proposed 140-unit apartment building on the Cardinal Plaza land.

19. By letter dated the 18th day of March, 1963 from Messrs. Ross & Robinson, solicitors for the Standard Life Assurance Company to Harte Realty Company, the said application was accepted subject to the terms and conditions stated in said letter and the further conditions stated in a letter dated the 21st day of March, 1963 from Messrs. Ross & Robinson to Harte Realty Company.

20. The conditions set forth in both letters were accepted by Harte Realty Company on the 23rd day of March, 1963 and the 25th day of March, 1963, respectively.

21. On or before the 26th day of March, 1963, Harte Realty Company deposited with Messrs. Ross & Robinson a cheque in the sum of $9,150.00 being the deposit required as one of the conditions of acceptance of the application for a mortgage.

22. On or about the 8th day of April, 1963 a limited Ontario company, Cardinal Plaza Limited, was incorporated to comply with one of the conditions imposed by the Standard Life Assurance Company.

23. By an offer to purchase, duly accepted, dated the 30th day of April, 1963, John Dydzak agreed to purchase an undivided one- half interest in the Cardinal Plaza land from the Appellant and Robert Organ for the sum of $70,000.00.

24. By an instrument in writing dated the 6th day of May, 1963, there was entered into an agreement between Percy Barnett, the Appellant and Robert Organ, as Party of the First Part, John Dydzak, as Party of the Second Part and P. Barnett Construction Limited as Party of the Third Part.

25. On or before the 6th day of May, 1963 the Cardinal Plaza land was sold to Cardinal Plaza Limited by the Appellant, Robert Organ and John Dydzak for the price of $140,000.00.

26. As a result of said sale to Cardinal Plaza Limited, the said company was indebted to the Appellant and Robert Organ in the aggregate sum of $70,000.00 and to John Dydzak in the sum of $70,000.00.

27. On or about the 18th day of May, 1963, John Dydzak caused to be paid to the Appellant and Robert Organ the aggregate sum of $70,000.00 for the one-half interest in the Cardinal Plaza land and on or about the 23rd day of May, 1963 the said sum was loaned by the Appellant and Robert Organ to Cardinal Plaza Limited.

28. Subsequently, John Dydzak caused to be loaned to Cardinal Plaza Limited further sums of money totalling approximately $70,000.00.

29. The Appellant, Robert Organ and Percy Barnett each subscribed for and were issued one-sixth (1/6th) of the authorized common stock of Cardinal Plaza Limited and John Dydzak and his nominees subscribed for and were issued the balance of the authorized common stock.

30. In lieu of giving a deed to John Dydzak for his interest in the Cardinal Plaza land and then he and Robert Organ and the Appellant transferring their respective interests in the Cardinal Plaza land to Cardinal Plaza Limited, Robert Organ and the Appellant by deed dated the 6th day of May, 1963, and registered on the 23rd day of May, 1963 conveyed the Cardinal Plaza land to Cardinal Plaza Limited.

31. By mortgage dated the 7th day of June, 1963, and registered on the 5th day of November, 1963, Cardinal Plaza Limited granted a first mortgage of the Cardinal Plaza land to the Royal Trust Company, trustee, for the principal sum of $915,000.00. This is the mortgage contemplated by the application and acceptance referred to in paragraphs 18 and 19 hereof.

32. The construction of a 142-suite apartment building on the Cardinal Plaza land was commenced on or about the 1st day of May, 1963 and was completed on or about the 30th day of May, 1964.

33. By notice of assessment dated the 11th day of January, 1967, the Minister of National Revenue added to the net income of the Appellant for the 1963 taxation year the sum of $40,118.48 described in the Notice of Assessment as the Appellant’s share of the profit arising from the sale of the Cardinal Plaza land to John Dydzak and Cardinal Plaza Limited claimed as a capital gain on the Balance Sheet of Harte Realty Company dated December 31, 1963.

34. The said notice of assessment was varied by the Minister of National Revenue by Notice of Reassessment on the 13th day of October, 1967. The variation was the allowance of a deduction of a reserve under section 85B of the Income Tax Act respecting. the sale of the Cardinal Plaza land to Cardinal Plaza Limited.

85. As of the date of the Notice of. Appeal herein, the Appellant and Robert Organ continued to own the lands and apartment buildings referred to in paragraphs 5, 6, 7, and 8 hereof and continued to hold the same interest in the common stock of Seventeen Robinson Street Limited and Cardinal Plaza Limited referred to in paragraphs 14 and 29 hereof, respectively.

In addition the appellant gave testimony, in detail, as did her husband, P. Barnett and the manager of the appellant’s bank in Hamilton, Ontario at the relevant times.

I summarize the essence of the facts agreed upon, and the testimony given.

The appellant and her brother in partnership began the business of building apartment buildings and obtaining rental income therefrom. In 1958 they began in a modest way with a triplex. In each successive year they undertook more ambitious projects as shown in paragraphs 5, 6, 7 and 8 of the Agreed Statement of Facts.

Each apartment building was built by P. Barnett, the appellant’s husband, who was a general contractor and, while not a member of the partnership, exercised great influence over the partners and proffered advice which was normally acted upon. On behalf of the partnership he undertook the arrangement of financing by way of mortgages and interim financing through the partnership’s bank. The four apartment buildings above referred to were each financed by a completion mortgage with interim bank financing.

In April 1961, the partnership, on the advice of P. Barnett, bought the land (hereinafter referred to as ‘the Cardinal Plaza land’’) the transactions respecting which give rise to the present appeal, at the approximate price of $60,000 for the avowed purpose of constructing a large apartment building thereon. This was to be a much more ambitious project than any other previously embarked upon by the partnership. At this point I should say that the partnership had established a reputation for caution, efficient management and financial soundness, from which it follows that the partners were capable of undertaking this larger project. The area was at the boundary of the city of Hamilton limits, 150 feet of the property being within Hamilton and the remaining 50 feet in the adjoining township. However P. Barnett foresaw that the entire area would soon be within the city of Hamilton which was growing in that direction, but he frankly admitted that immediate development might be premature. This was confirmed by difficulties in obtaining a mortgage to permit commencement of construction in 1961. However, Mr. Barnett’s foresight was justified by the development of the area in 1962 and at which time the adjacent area had become part of the city of Hamilton.

Meanwhile when negotiating for a mortgage on the Cardinal Plaza land with Ross and Robinson, who were Hamilton solicitors acting for Standard Life Assurance Company, Mr. Ross suggested that the partnership might consider the purchase of the property of a girls school, of which Mr. Ross was one of the governors, to erect a de luxe apartment on the site. The site was in the centre of the city of Hamilton. The girls school was moving to another location and Mr. Ross assured the partnership that a million dollar mortgage would be readily forthcoming from Standard Life with interest at the rate of 34%.

The partners and Mr. Barnett immediately discussed the matter with Mr. Amy, the manager of their bank who was enthusiastic about the project and undertook to provide interim financing.

The partnership thereupon bought the school site (hereinafter referred to as 17 Robinson Street) at a cost of $106,825.91. On July 2, 1962 the construction of a de luxe apartment was begun on that site.

The optimistic prediction of Mr. Ross that a mortgage of $1,000,000 would be readily forthcoming from Standard Life was not wholly justified. While Standard Life was willing to make the commitment, it insisted on interest at the rate of 7% rather than 634% which was the interest rate at which Mr. Ross had indicated to the partners the mortgage would be available.

An independent real estate agent had approached the partners requesting that he should be given the opportunity to arrange for a mortgage with London Life, which company he represented. A mortgage for $1,000,000 was so arranged at 634% and accepted by the partnership. The original commitment was for a completion mortgage, that is, the principal amount would be paid upon the completion of the building. At the suggestion, and perhaps the insistence of Mr. Amy, the bank manager, this was changed to a draw mortgage, that is, drawings against the principal amount would be made at various stages of construction. Mr. Amy conducted negotiations for this change with London Life, which was done. Mr. Amy, Mr. Barnett and the partners confidently expected that 40%, or $400,000 could be drawn when the roof was on the building with three further drawings of 20% at successive stages of construction. While that expectation might not have been justified from the correspondence in evidence, nevertheless, I find as a fact that such was the expectation of Mr. Amy, Mr. Barnett and the partners.

In the meantime the interim financing of the project was done by the bank but subsequently the bank restricted its credit.

There is no doubt that the partners experienced difficulty in financing the project at 17 Robinson Street as a consequence of the restricted bank credit. In July 1962 they borrowed $70,000 from relatives. In November 1962 they mortgaged their homes, and the apartment at 47 Stanley Street, which they owned clear of encumbrances. From these sources they obtained $85,000. All these funds were put into the project. In addition they enjoyed the confidence of the sub-trades.

At this time Mr. Amy advised the partners to abandon their proposed Cardinal Plaza project and concentrate their resources on 17 Robinson Street. Accordingly in April 1962 the Cardinal Plaza land was listed for sale at a cash price of $65,000. It is significant to note that this price represented the cost of the land plus expenses for architect fees and the like so that no gain would result if the land were sold. No offers resulted from this listing.

In June of 1962 an unsolicited offer was received from Lex- mount Investments Limited for the Cardinal Plaza land at a price of $85,000 but subject to the condition, inter aha that a mortgage could be obtained on the land. The prospective purchaser could not obtain a mortgage and the sale was not completed. An extension was requested but refused by the partnership because the land was now ripe for development and the area was in fact rapidly developing and because the partners felt that they, themselves, by reason of their reputation and prior contacts could more readily obtain a mortgage commitment than could Lexmount Limited.

The roofing of the apartment at 17 Robinson Street was completed in January 1963, but the initial drawing was not immediately forthcoming from London Life. Mr. Amy, as manager of the bank, was vitally interested and on behalf of the partnership undertook to obtain the initial draw.

The initial draw from London Life was received and deposited in the partnership account at its bank on March 19, 1963. To the consternation of those concerned the amount of the draw was $160,000 rather than $400,000 as had been expected.

This the appellant termed in her testimony as a disaster.

On February 13, 1963 the partnership had applied to the Standard Life for a mortgage loan in the amount of $915,000 in respect of a now proposed 140 unit apartment on the Cardinal Plaza land. That commitment was given on March 18, 1963 subject to the conditions that (1) the land must be acquired by a limited company to which the mortgage would be given, (2) construction must commence by May 1, 1963 and (3) that a deposit of $9,150 given when the loan was applied for would be forfeited if the mortgage were not taken down in accordance with these conditions.

The partners caused a company to be incorporated under the name of Cardinal Plaza Limited to comply with the first condition. On application to their banker, Mr. Amy, the manager, refused to advance the necessary interim financing because of restrictions in credit or “tight money policy’’ and because of the partners’ commitment in the 17 Robinson Street project. He did suggest that the partners might induce fresh capital into the Cardinal Plaza project by taking in someone else whose credit was secure.

Time was short. P. Barnett tried to interest several substantial builders but was unsuccessful.

Some time previously the appellant’s neighbour, Mr. John Dydzak had made a casual call during the course of which he mentioned that he had watched the partnership operations, that he liked what he had seen and expressed a willingness to enter into one or more of their projects. His offer was politely rebuffed with the suggestion that it might be considered if occasion arose.

Recalling this offer the appellant called Dydzak whose daughter informed her he was in Nassau, but that she would convey the message to him by telephone. On receiving this information Dydzak returned to Hamilton forthwith. The partners introduced Mr. Dydzak to Mr. Ross and to Mr. Amy who investigated and found that Mr. Dydzak was a man of great wealth, having substantial deposits in the bank’s Nassau branch.

Accordingly John Dydzak purchased an undivided one-half interest in the Cardinal Plaza land from the appellant and her brother for $70,000.

The owners of the land, John Dydzak, Robert Organ and the appellant then sold the land to Cardinal Plaza Limited for $140,000. The Company thereupon became indebted to the appellant and her brother in the amount of $70,000 and to John Dydzak in the amount of $70,000.

The partners loaned the $70,000 they received from John Dydzak for the sale of the land to Cardinal Plaza Limited and John Dydzak, through a company he controlled, also loaned $70,000 to Cardinal Plaza Limited.

The shares in the capital stock of Cardinal Plaza Limited were issued on the one hand to the appellant, her brother and her husband and on the other to John Dydzak in equal amounts for a nominal consideration.

Mr. Dydzak was not given title to his half interest in the land, but as a matter of convenience the land was transferred by the appellant and her brother, in whom title to the whole was vested, to Cardinal Plaza Limited.

Furthermore, John Dydzak personally guaranteed a line of credit to the partners with their bank to the extent of $300,000.

With the financing now available the partnership completed the de luxe apartment at 17 Robinson Street, the subsequent drawings on the mortgage being more substantial, as well as the apartment on the Cardinal Plaza land with funds available, the only variation in their original plan being that, instead of the partners owning the whole of the Cardinal Plaza apartment, they had a half interest therein with Mr. John Dydzak having the other half interest.

I should mention that the price of $140,000 at which the Cardinal Plaza land was sold to Cardinal Plaza Limited represents the then market value of the land.

This land had been acquired by the partners at a cost of approximately $60,000. It was sold for $140,000 which represents a gain of $80,000, one half of which, or $40,000 was realized by the appellant and $40,000 was realized by her brother, Robert Organ, the other partner. I have used rounded figures but it was as a result. of these transactions that the Minister included the sum of $40,118.48 to the appellant’s income for her 1963 taxation year and computed her tax accordingly. A reserve of half that amount was allowed pursuant to Section 85B(l)(d) of the Income Tax Act since the amount of $70,000 being half the purchase price of the property sold in the year was not received from Cardinal Plaza Limited during the appellant’s 1963 taxation year, but $70,000 of the total price was received from John Dydzak in that year.

After having carefully considered the evidence of the appellant, her husband and Mr. Amy and after fully considering what was actually done as well as all the surrounding circumstances, the cumulative effect leads me to the conclusion that the situation was not one from which it should be inferred that the land had been purchased with a view to its possible sale at a profit but rather that the exclusive purpose at the time of the acquisition of the land was to erect an apartment thereon and that that purpose was frustrated by the circumstances outlined above to the extent that a one-half interest had to be sold to bring the project to its ultimate conclusion.

When the land was purchased in 1960 care was taken to ensure that it was zoned for apartment building.

The entire history of the previous operations of the partnership discloses a pattern of acquiring land, building and retaining apartment buildings thereon to realize rental income. This pattern discloses a modest beginning with progressively larger and better apartments culminating in the de luxe apartments at 17 Robinson Street and the large apartment at Cardinal Plaza described as the largest in the city of Hamilton.

After acquisition of the land conerete and practical steps were taken towards the realization of the building of the apartment. A mortgage commitment was obtained, architect’s plans were obtained and the like. When first acquired the land might have been premature for apartment development but the foresight of P. Barnett in advising its acquisition was justified within the space of a year.

The subsequent event which is most convincing is that ultimately the apartment building was built on the site but with a lesser interest in the building than had been originally contemplated.

Added to these factors is the appellant’s protestation of her intent throughout to build an apartment on the land. She was thoroughly tested on cross-examination. It was suggested to her that the draw of $160,000 on 17 Robinson Street rather than $400,000 was not the disaster she described because the very next day a mortgage commitment was accepted on Cardinal Plaza and that discretion had indicated retrenchment. However she explained that the mortgage commitment rendered the Cardinal Plaza land more vendible if need arose and that the disaster she described would be the loss of the confidence of sub-trades at 17 Robinson Street if the Cardinal Plaza project, of which the sub-trades knew, were abandoned with consequent filing of mechanies’ liens and like disastrous results. I am of the opinion that the appellant’s protestation of her intent was not shaken in the main. Buttressed as it is by the objective facts I accept her evidence, with the full realization that it was selfserving, as truthful.

I, therefore, allow the appeal with costs and the assessment is referred back to the Minister in order that the amount of $40,118.48 may be deleted from the appellant’s income for her 1963 taxation year.