A-232-74
Minister of National Revenue (Appellant)
v.
Anthony Thomas Leon (Respondent)
and
A-233-74
Minister of National Revenue (Appellant)
v.
Edward Leon (Respondent)
and
A-234-74
Minister of National Revenue (Appellant)
v.
Lewie Leon (Respondent)
Court of Appeal, Heald and Ryan JJ. and
MacKay D.J.—Toronto, March 8 and 9; Ottawa,
June 28, 1976.
Income tax—Five companies under control of five taxpay-
ers—Assessment for income in fees paid to companies—
Whether companies personal corporations—Income Tax Act,
s. 68.
Respondent taxpayers were associated in various branches of
a furniture business, which they directed through the limited
partnership, Ablan Leon Distributors. The latter employed five
companies to perform services (in three cases expressly
managerial). None of the companies had any employees of
significance, other than respondents who controlled them and
the companies lacked some of the usual facilities of a business.
For the years 1968 and 1969 the Minister assessed each of the
respondents for the fees paid by Ablan Leon Distributors to the
employed companies. Respondents claimed that they performed
services for, and were paid salaries by, the employed compa
nies. The position of the respondents was upheld by the Tax
Review Board, and the Minister appealed. The Trial Division
dismissed the appeal, holding that the effect of the interposition
of the three management companies in question was to reduce
respondents' tax liability. What had been projected had been
carried out. Respondents had discharged the onus of proving
that the companies were each carrying on an "active commer
cial business" outside the scope of the definition of a "personal
corporation" in section 68(1)(c) of the Income Tax Act, and
hence were not subject to section 67 et seq. of the Act respect
ing personal corporations. The Minister appealed.
Held, allowing the appeals, the assessments should be res
tored. The Trial Judge's findings of fact should be allowed to
stand. However, there was no bona fide business purpose for
the interposition of the management companies; it was solely to
reduce respondents' tax liability. While there was a bona fide
business purpose for the incorporation of the three companies,
respondents must also establish such a purpose for the interpo
sition of the companies in the transaction. If the transaction
lacks a bona fide business purpose it is a sham, notwithstanding
the fact that the incorporation is not. It is the agreement or
transaction to which the Court must look. The interposition of
the companies was a sham, the sole purpose of which was to
avoid payment of tax.
M.N.R. v. Cameron (1972) 28 D.L.R. (3d) 477 affirming
71 DTC 5068, distinguished. Holmes v. The Queen [1974]
1 F.C. 353 and Lagacé v. M.N.R. [1968] 2 Ex.C.R. 98,
applied. Littlewoods v. McGregor (1966-69) 45 T.C. 519,
discussed.
INCOME tax appeal.
COUNSEL:
N. A. Chalmers,. Q.C., and J. Weinstein for
appellant.
R. E. Shibley, Q.C., M. L. O'Brien and G. J.
Corn for respondents.
SOLICITORS:
Deputy Attorney General of Canada for
appellant.
Shibley, Righton & McCutcheon, Toronto,
for respondents.
The following are the reasons for judgment
rendered in English by
HEALD J.: The above three actions are appeals
from a judgment of the Trial Division' dismissing
the Minister's appeal from a decision of the Tax
Review Board vacating income tax assessments in
respect of each of the above respondent's 1965,
1966, 1967 and 1968 taxation years.
The respondent, Edward Leon, held beneficially
all the issued shares in Timmyal Limited, an
Ontario corporation incorporated on January 2,
1963. The respondent, Anthony Thomas Leon,
held beneficially 75% of the issued common shares
and 100% of the issued preferred shares in Anto-
mel Limited, an Ontario corporation also incorpo
rated on January 2, 1963 (said respondent's wife,
' [1974] 2 F.C. 708.
Ellen Leon owning the other 25% of the issued
common shares). The respondent, Lewie Leon,
held beneficially all of the issued shares in Midge-
mar Limited, also an Ontario- corporation incorpo
rated on January 2, 1963.
By an order made on consent, all relevant evi
dence adduced at the trial of the action between
The Minister of National Revenue and Ablan
Leon (1964) Limited (File No. A-226-74) which
appeal was heard by the Court immediately prior
to the hearing of these appeals, will apply to these
appeals.
Upon incorporation, Timmyal Limited, Antomel
Limited, Midgemar Limited, Geormar Limited
(an Ontario corporation, all of the issued shares of
which were beneficially owned by George Leon, a
brother of these three respondents) and Jomila
Limited (an Ontario corporation, all of the issued
shares of which were beneficially owned by Joseph
Leon, another brother of these three respondents)
formed a corporate partnership by means of which
the business of Ablan Leon Distributors was to be
operated, said corporate partnership agreement
being also dated January 2, 1963. The Ablan Leon
Distributors furniture business was, in fact, oper
ated by this corporate partnership until May 1,
1964.
By agreement for sale purporting to bear date
May 1, 1964, said corporate partnership purported
to sell the business of Ablan Leon Distributors, as
of April 28, 1964 to Ablan Leon (1964) Limited
and the seven primary family trusts purportedly
established and referred to in Action No. A-226-
74—Ablan Leon (1964) Limited.
By letter dated September 14, 1965 to Miss
Marjorie Leon, Mr. Mark Perlmutter, the char
tered accountant advising the Leon family on these
matters, advised that the five former corporate
partners should not be used as management com
panies because, in his view, pursuant to section
39(4)(d) of the Income Tax Act and the discre
tionary provisions of section 138A(2), these com
panies would be regarded as associated corpora
tions taxable at the 52% corporation rate.
Accordingly, he recommended that the business
pay a management salary to the three respondents
and not pay a management fee to their respective
companies.
In a further letter dated November 2, 1965 to
Miss Marjorie Leon, Mr. Perlmutter stated:
However, if these companies are going to provide management
services for Ablan Leon Distributors as their major activity, it
seems to me extremely likely that a direction may be made
under Section 138A[2](a) treating the companies as associated
corporations in any event, and the benefit of separate compa
nies may very well be lost. If, however, it is decided to take this
risk and to proceed to use the five companies as management
companies, it is extremely important that there be written
agreements entered into by each company with the Partnership,
for the provision of management services in return for an
agreed fee and that there be contracts entered into between
each management company and the individual concerned,
whereby he undertakes to provide his services on a full-time
basis for his company. As we discussed at our meeting, the
whole question of the deductibility of the management fee may
in itself become a tax problem. It is our considered opinion that
the Partnership pay a management salary to the Messrs. Leon,
and not pay a management fee to their respective companies.
The respondents elected not to follow Mr. Perl-
mutter's advice and decided that the partnership
would pay a management fee to their respective
companies who would in turn pay a lesser amount
by way of salary to the three respondents.
The agreements between Ablan Leon Distribu
tors and the three management companies and
between the three management companies and the
three respondents were dated May 1, 1964 but
were in fact executed at some unknown date subse
quent to May 1, 1964. The evidence did not estab
lish precisely when the management agreements
were executed but it was likely at a date after
November 2, 1965.
The management agreements between Ablan
Leon Distributors and the three management com
panies provided in paragraph 1 thereof that the
stores to be managed were to be designated by
Ablan Leon Distributors. Paragraph 5 stipulated
that bonuses were to be paid to the management
companies pursuant to a subsequent agreement to
be entered into between the parties. At the trial, no
evidence was adduced of any written designation
of stores or of subsequent agreements as to
bonuses.
In the case of Antomel and Midgemar, there
was no evidence of anything undertaken by or
through the companies apart from Ablan Leon
Distributors.
In the case of Timmyal, Edward Leon devoted a
portion of his time to managing and supervising
stores known as Times Furniture Stores, including
Times Willowdale. Times Willowdale was not a
business owned and carried on by Ablan Leon
Distributors but was owned by Lewie Leon Lim
ited and Hafurn Sales Limited in equal propor
tions. Hafurn Sales Limited was not a Leon enter
prise. Paragraph 8 of the management agreement
between Ablan Leon Distributors and Timmyal
stipulated that Timmyal was not to be employed or
engaged in any similar business without the writ
ten consent of Ablan Leon Distributors. Times
Willowdale was a similar business, and Ablan
Leon Distributors did not consent in writing to
Timmyal's management thereof contrary to said
paragraph 8. There was no evidence of any man
agement agreement between Timmyal and either
or both of Lewie Leon Limited or Hafurn Sales
Limited nor between Ablan Leon Distributors and
either or both of said two companies. There was no
evidence of anything undertaken by or through
Timmyal apart from Ablan Leon Distributors and
Times Furniture Stores.
In the case of Timmyal and Midgemar, during
the years under appeal, the companies had no
telephone directory listing—their offices were
those occupied by the respondents Edward Leon
and Lewie Leon in their respective capacities with
Ablan Leon (1964) Limited. Neither company had
a printed letterhead and their respective financial
statements showed no payment for rent. In the
case of Antomel, during the years under appeal, it
had no telephone directory listing; its office was
that occupied by the respondent Anthony T. Leon
in his capacity as President of Ablan Leon (1964)
Limited; it had no printed letterhead; its financial
statements show no payment for rent and it had no
employees other than the respondent Anthony T.
Leon and a messenger who was paid $50 per
month.
In the case of all three respondents, the role of
each of them in the Leon furniture business did
not change materially after May 1, 1964 as a
result of the "reorganization" of the business but
only as necessitated by the growth of the business.
Based on the evidence adduced, the learned
Trial Judge made the following findings of fact,
inter alia:
(a) That each of the respondents had control in
and over each of their management companies
(Timmyal, Antomel and Midgemar), and since
between them, they controlled Ablan Leon (1964)
Limited, they were in a position to exert influence
in the matter of the bonuses to be paid to the
management companies.
(b) That each respondent was, for all practical
purposes, in a position to control the salary paid by
his management company to himself.
(c) None of the three management companies
had any employees or at least none of any signifi
cance other than the particular respondent who
controlled the particular management company.
(d) Each of said three management companies
were without some of the common and usual facili
ties of a business such as a telephone or an office
of its own.
(e) All of the services each of the management
companies were to supply under their respective
management agreements were performed by the
particular respondent controlling the particular
management company and that which was impor
tant to the business of Ablan Leon Distributors
was the services of the three respondents as distin
guished from the three management companies.
(f) The sole purpose of the interposition of the
management companies was to reduce the
respondents' liabilities for income tax, and the
utilization of the management companies for that
purpose was accomplished through the respond
ents' control of Ablan Leon Distributors along
with the cooperation of George Leon and Joseph
Leon who also had financial interests in it.
Respondents' counsel urged us to accept the
findings of fact of the learned Trial Judge and
counsel for the appellants agreed. (See, for exam
ple, appellant's memorandum of fact and law—
Anthony Thomas Leon case—page 7). A perusal
of the evidence satisfies me that said findings of
fact, as above enumerated, were clearly justified
on the evidence, and should be allowed to stand.
After making these findings of fact, the learned
Trial Judge went on to state at pages 718 and 719
of this judgment:
Each of Antomel Limited, Timmyal Limited and Midgemar
Limited were separate, distinct and existing corporate entities.
It is a commonplace that notwithstanding a shareholder may be
in control of a corporation of which he is a shareholder, the
shareholder and the corporation are also separate and distinct
entities.
I find:
(a) that Ablan Leon Distributors entered into an agreement
with each of the three corporations namely Antomel Limited,
Timmyal Limited and Midgemar Limited whereby those
corporations respectively were to provide management ser
vices to Ablan Leon Distributors;
(b) that those corporations did supply the services they
respectively undertook to provide for Ablan Leon Distribu
tors; and
(c) that those corporations were entitled to be paid and were
paid for those services.
It seems to me to be irrelevant under the circumstances of
these three matters that it was intended that the services which
the corporations were to provide would be and were performed
by the respondents.
It is my view that the plans involving the management
corporations in the Anthony Thomas Leon, the Edward Leon
and the Lewie Leon matters were implemented and what was
projected was actually carried out.
I am satisfied that the onus which rests upon each of
Anthony Thomas Leon, Edward Leon and Lewie Leon, heavy
as it is under the circumstances here, has been met.
It follows that Antomel Limited, Timmyal Limited and
Midgemar Limited were carrying on active commercial busi
nesses and that the provisions of the Income Tax Act regarding
"personal corporations" would not apply.
The appeals in the Anthony Thomas Leon, Edward Leon and
Lewie Leon matters are dismissed with costs.
Appellant's counsel, while agreeing with the
findings of fact of the learned Trial Judge, does
not agree with the conclusions which he reached as
to the disposition of these particular assessments.
It is the submission of appellant's counsel that
from the above findings of fact, there should flow
a conclusion that the monies paid by Ablan Leon
Distributors to the management companies owned
by the three respondents during the years under
review is income taxable in the hands of the three
respondent brothers rather than in the hands of the
management companies.
The respondents rely on the case of M.N.R. v.
Cameron 2 . However, the Cameron case is clearly
2 (1972) 28 D.L.R. (3d) 477, affirming 71 DTC 5068.
distinguishable on its facts. In that case, there
were findings of fact to the effect that the primary
purpose for incorporation of the company and for
the resulting agreement was to serve as a vehicle
whereby senior employees of the employer could
purchase an interest in the employer corporation,
said corporation through its controlling sharehold
er having decided that he did not wish to deal with
said senior employees in their personal capacities.
In effect, said finding amounts to a finding of a
bona fide business purpose for subject transaction.
In the case at bar, no such bona fide business
purpose is present since the Trial Judge found
"that the sole purpose of the interposition of the
management companies was to reduce the
respondents' liabilities for income tax." What the
furniture business of Ablan Leon Distributors
desired was the management services and expertise
of the three respondents. These services could have
just as easily been provided without the interven
tion of the management companies (which was the
procedure recommended by the tax adviser, Perl-
mutter). Thus, there was no bona fide business
purpose, merely a tax purpose, for the interposition
of the management companies.
Respondents' counsel is quite correct in stating
that for incorporation of Timmyal, Antomel and
Midgemar there was a bona fide business purpose
in that prior to May 1, 1964 these three companies
along with Jomila and Geormar Limited owned
the Ablan Leon Distributors furniture business.
However, it is one thing to concede a bona fide
business purpose for incorporation and quite
another thing to concede a bona fide business
purpose for the interposition of the management
companies in the transaction of providing manage
ment services. In my view, for the respondents to
be successful in this appeal, they must establish a
bona fide business purpose in the transaction,
which on the evidence in these cases, they have
failed to do. It is the agreement or transaction in
question to which the Court must look. If the
agreement or transaction lacks a bona fide busi
ness purpose, it is a sham. It is, in my view,
possible to have a company, the incorporation of
which is not a sham, because of the existence of a
bona fide business purpose for the incorporation,
engaging in a transaction which is a sham, because
of the absence of a bona fide business purpose for
said transaction. The cases at bar are, in my
opinion, examples of such a situation. The judg
ment of the Supreme Court in the Cameron case
(supra) makes it clear that the Court was direct
ing itself to the question as to whether or not the
agreement was a sham. In the Cameron case
(supra), there was a bona fide reason for the
agreement or transaction, and the savings in
income tax were incidental. In the case at bar,
there is no bona fide business reason for the
agreements and the sole purpose of the agreements
is the savings in income tax.
The case of Holmes v. The Queen 3 is another
case where the Court looked at the agreement or
transaction in question from the point of view of
whether "genuine business reasons" existed for
payment of a management fee under the contract.
The judgment of President Jackett (as he then
was) in Lagacé v. M.N.R. 4 is also, in my view,
germane to the situation here present. At page 109
of the judgment, the learned President said:
The most significant feature of the appellants' contention in
this Court, as it strikes me, is that it is inherent in the
contention that profits that would otherwise have accrued to
the appellants have ended up in the name of a company
controlled by them, not because of bona fide business transac
tions between the appellants and such company, but because of
transactions that have been arranged between them to imple
ment a contract between the appellants and a third person to
accomplish objects desired by the third person. In other words,
the contention is based on the assumption that profits of the
appellants' business operations were put into the hands of the
company by a device and that the profits were not the result of
the company having embarked on business transactions. In my
view, therefore, the short answer to the contention, even assum
ing the facts to have been established, is that, for purposes of
Part I of the Income Tax Act, profits from a business are
income of the person who carries on the business and are not, as
such, income of a third person into whose hands they may
come. This to me is the obvious import of sections 3 and 4 of
the Income Tax Act and is in accord with my understanding of
the relevant judicial decisions.
As in that case, here also, it can be said that the
remuneration for operating and managing the
business is the income of the individuals who actu
ally operate and manage the business, and not the
income of a third person such as the three manage
ment companies into whose hands the income may
come.
3 [1974] 1 F.C. 353 at 371 and 373.
4 [1968] 2 Ex.C.R. 98 at 109.
Pertinent also to a discussion of this issue is the
view expressed by Lord Denning in the Little-
woods case s , where he said at page 536:
The doctrine laid down in Salomon v. Salomon ([18971 A.C.
22) has to be watched very carefully. It has often been sup
posed to cast a veil over the personality of a limited company
through which the,Courts cannot see. But that is not true. The
Courts can, and often do, draw aside the veil. They can, and
often do, pull off the mask. They look to see what really lies
behind....
In the case at bar, when the veil is pierced and
the mask removed, it is clear that the three
individual respondents who in fact "ran" the
Ablan Leon Distributors furniture business, a very
large business, also, in fact, earned the remunera
tion which was "diverted" to the management
companies where the income attracted a lower rate
of income tax. This portion of their remuneration
was then recouped by them through redemption of
preference shares. Thus, the interposition of the
management companies between the employer and
the employee was a sham, pure and simple, the
sole purpose of which was to avoid payment of tax.
Accordingly, in my opinion, the transactions
cannot be allowed to stand, the Minister's appeals
should be allowed in all three cases and the assess
ments under review should be restored. Since all
three appeals were argued together, the appellant
should be entitled to only one set of costs against
the respondents.
* * *
RYAN J.: I concur.
* * *
MACKAY D.J.: I agree.
5 Littlewoods v. McGregor (1966-69) 45 T.C. 519 at 536.
You are being directed to the most recent version of the statute which may not be the version considered at the time of the judgment.