T-3250-73
Philrick Limited (Plaintiff)
v.
The Queen (Defendant)
Trial Division, Sweet D.J.—Toronto, December 20
and 21, 1976 and March 28, 1977.
Income tax — Deductions — Plaintiff "maintaining ...
horses for racing" Minister disallowing deduction of farm
ing losses Whether farming, in combination with plaintiffs
sole other source of income, plaintiffs chief source of income
— Income Tax Act, R.S.C. 1952, c. 148, ss. 13(1), 139(1)(p).
Plaintiff was "maintaining horses for racing" within the
meaning of section 139(1)(p) of the Income Tax Act. He
sustained substantial losses from that business during the taxa
tion years 1967-1970. During the same period his sole other
business, i.e. real estate developer and builder, generated net
income varying between $18,000 and $69,000. Plaintiff sought
to deduct his farming losses from his taxable income. The
deduction was disallowed by the Minister, who also allocated
one-half of the salary paid to R., beneficial owner of plaintiff,
to the farm operation as an expense of that operation and then
disallowed it as a deduction from the chief source of income.
Held, allowing the appeals, the re-assessments for the taxa
tion years in question are referred back to the Minister for
further re-assessment. Farming does not cease to be a source of
income in a year for the sole reason that it does not yield a
profit within that year. When there are only two sources of
income, one of which is farming, then "a combination of
farming and some other source of income" becomes the only
source of income, and section 13(1) does not apply. In order
that there may be "a combination of farming and some other
source of income" it is not necessary that there be any connec
tion between the two. On the second point, it is reasonable to
attribute one-half of R.'s salary to the farming business having
regard to the time spent by him in the farming operation, but
this will not affect the result having regard to the disposition of
the first issue.
Brown v. The Queen 75 DTC 5433, followed. Moldowan v.
The Queen [1976] 1 F.C. 355, distinguished.
INCOME tax appeal.
COUNSEL:
R. E. Anka and G. J. Corn for plaintiff.
J. S. Gill for defendant.
SOLICITORS:
Shibley, Righton & McCutcheon, Toronto,
for plaintiff.
Deputy Attorney General of Canada for
defendant.
The following are the reasons for judgment
rendered in English by
SWEET D.J.: This appeal from the plaintiff's
income tax re-assessments for its 1967, 1968, 1969
and 1970 taxation years has two parts.
One arises out of its claim that in computing its
taxable income for those years all of its farming
losses should be deducted, farming having been
one of its businesses. The Crown's position is that
the plaintiffs chief source of income for those
years was neither farming nor a combination of
farming and another source of income within the
meaning of section 13(1) of the Income Tax Act'
(the Act) and that the deductible farming losses
are only the lesser of the amounts stated in para
graphs (a) and (b) of section 13(1) of the Act.
Section 13(1) of the Act was:
13. (1) Where a taxpayer's chief source of income for a
taxation year is neither farming nor a combination of farming
and some other source of income, his income for the year shall
be deemed to be not less than his income from all sources other
than farming minus the lesser of
(a) his farming loss for the year, or
(b) $2,500 plus the lesser of
(i) one-half of the amount by which his farming loss for
the year exceeds $2,500, or
(ii) $2,500.
The other facet of the appeal is in connection
with a disallowance by the Minister (quoting from
the statement of claim) "of one-half of the salary
paid to Mr. Richards on the basis that it is
charged to the farm loss". The Mr. Richards
referred to is H. W. Richards, the then president
' R.S.C. 1952, c. 148.
of the plaintiff and beneficial owner of all its
issued shares.
It is common ground that one of the plaintiff's
businesses during the relevant years was farming
and another, real estate.
The following is an extract from the statement
of defence:
In so assessing, the Minister of National Revenue relied, inter
alla, upon the following findings or assumptions of fact:
(a) he relied on the facts hereinbefore admitted;
(b) at all relevant times the Plaintiff operated two busi
nesses: that of a real estate developer and builder and of
breeding and racing standard-bred horses;
(c) according to the Plaintiff's financial statements its net
income from its business of real estate development and
building was as follows:
1967—$43,314.00
1968— 18,206.00
1969— 45,541.00
1970— 68,949.00
(d) according to the Plaintiffs financial statements its
losses from the farming operations were as follows:
1967—(15,196.00)
1968—(18,252.00)
1969—(25,142.00)
1970—(53,704.00)
(e) The Plaintiff never realized a profit on its farming
operations.
The present state of the jurisprudence makes it
quite clear that farming does not cease to be a
source of income in a year within the meaning of
section 13 (1) of the Act for the sole reason that it
does not yield a profit within that year.
In Moldowan v. The Queen [1976] 1 F.C. 355,
Pratte J. said [at pages 357-8]:
Section 13 presupposes that farming may be a taxpayer's
chief source of income for a taxation year in spite of the fact
that the taxpayer may have incurred a farming loss for that
year. A business does not cease to be a business in a year (and a
source of income does not cease to be a source of income in a
year) for the sole reason that it does not yield a profit in that
year. Section 13(1) does not refer to the "chief source of the
taxpayer's income" but to the "taxpayer's chief source of
income". In my view, as long as a taxpayer carries on the
business of farming, farming remains one of the taxpayer's
sources of income regardless of the fact that the farming
business may in certain years result in losses and regardless of
the fact that the taxpayer may have no reasonable hope of
operating his farming business at a profit in those particular
years.
In the same case, Urie J. (who dissented in the
result) said [at page 3651:
Reference then must be had to section 139(la)(a). This
section, read in conjunction with section 3, leads to the conclu
sion that every business must be regarded as a source of
income, irrespective of whether in any given year it produces
any income, either gross or net.
Counsel for the respondent argued that since section 4 of the
Act defines income as profit, "source of income" as used in
section 13 means "source of profit". With respect I do not
agree with this submission.
And Ryan J. said [at page 369]:
I am also in accord with the view that farming or farming in
combination with some other source may be a source of income
for purposes of section 13, though the taxpayer sustained a loss
through its operation during the taxation year. If this were not
so, it would be difficult to make sense of the section.
In Brown v. The Queen 75 DTC 5433, decided
after Moldowan, Cattanach J. said [at page 5436]:
It has been held in many instances that a source may be a
source of income in a particular taxation year even though in
that year the taxpayer suffers a loss. That being so, the simple
mathematical task of comparing the net incomes from two
sources is not a conclusive test for determining which of the two
sources of income is the chief source. To so determine resort
may be had to other criteria.
Although a farming business which suffers a
loss in a taxation year may be a "source of
income" in that year within the meaning of section
13(1) of the Act that, in itself, may leave
unresolved the question as to whether a combina
tion of that farming operation and some other
source of income would constitute the taxpayer's
"chief source of income" for that taxation year
within the meaning of section 13 (1) so as to relieve
the taxpayer from the limitation on the deduction
for a farming loss imposed by section 13(1). In
this, three aspects may be considered:
1. The situation where there are only two
sources of income, one of them being farming.
2. Characteristics (other than "connection")
qualifying farming for inclusion in "a combination
of farming and some other source of income"
within the meaning of section 13 (1) of the Act as
indicated by Moldowan v. The Queen (supra)
where, however, there were more than two sources
of income.
3. Whether there need be any "connection" be
tween farming and the other source of income.
I deal first with the question as to whether the
plaintiff had, during the relevant taxation years,
two or more than two sources of income.
At the trial, no one took the position that there
were more than the two sources of income, farm
ing and the real estate operation. In the statement
of defence the defendant, as previously indicated,
pleaded "at all relevant times the Plaintiff oper
ated two businesses: that of a real estate developer
and builder and of breeding and racing standard-
bred horses". However, the copies of financial
statements filed as an exhibit indicated that there
may have been some investment income per se
although this is not clear even from those financial
statements. Accordingly, I do not consider I am
relieved from the responsibility of considering that
possibility. The balance sheets carry investments
as an asset. For the fiscal periods ending the 28th
day of February, 1967, 1968, 1969 and 1970 these
are shown respectively at $7,000, $12,467, $8,001
and $1,001. I did not find in the statements any
items designated as income from any investments
in securities. If any such income there actually
was, it would seem that it would be relatively
small. In the statements of retained earnings for
the years ended February 28, 1969 and February
28, 1970, losses on disposal of securities were
shown respectively at $259 and $7,000.
The conclusion which I reach is that, having
regard to all of the circumstances including the
vagueness (if not the absence) of evidence regard
ing the possibility of investment income that possi
bility should not, for the purpose of disposition of
this appeal, be given any weight and that this case
should be disposed of on the basis that during the
relevant years the plaintiff had only two sources of
income, namely farming and real estate.
As I read section 13 (1) of the Act, the wording
"Where a taxpayer's chief source of income for a
taxation year is neither farming nor a combination
of farming and some other source of income"
implies that the section refers merely to situations
where there are more than two sources of income.
I think the use of the word "chief" makes this
clear. For the combination of farming and another
source to be the "chief source" as distinguished
from the "only source" there would, as I interpret
it, have to be some source or sources other than
that combination. Here, as I view the matter, the
combination of farming and the real estate opera
tion was the only source. Accordingly, as I see it,
section 13 (1) with its limitation on deductions of
farming losses is not applicable to and does not
govern this situation.
Urie J. dealt with this phase of the matter in
Moldowan v. The Queen (supra) where he said [at
pages 365-6]:
An examination must be made of the various sources of a
taxpayer's income, if he has more than one, to ascertain
whether farming income, combined with income from another
source, represents his chief source of income. Of course, if he
has only one other source, then his chief source must be
farming together with the other source, in which event obvious
ly the taxpayer is outside the purview of section 13(1). It goes
without saying that this is also true if his only source of income
is farming.
In Brown v. The Queen (supra) Cattanach J.
said [at page 5438]:
In view of the conclusion I have reached on the question of
fact in these appeals it is not necessary for me to consider the
question as to whether the plaintiff's "chief source of income"
is a "combination of farming and some other source of
income". If it were incumbent upon me to do so I could not
refrain from pointing out that in these appeals there are but
two sources of income. That being so, it seems to me to follow
that the plaintiff's total income, from these two sources, must
be a combination of farming and some other source of income.
Different considerations might prevail if there were more than
two sources of income thereby resulting in different possible
combinations.
If I am right in my conclusions set out above
that is the end of the matter. Section 13(1) would
not be applicable here and the plaintiff's appeal
must be allowed, bearing in mind the following
comment by Pratte J. in Moldowan v. The Queen
[at page 356]:
Section 13 provides that, in certain circumstances, a taxpayer
engaged in the business of farming is not allowed, in the
computation of his world income, to deduct the whole of the
farming loss that he may have incurred. It must be stressed
that, apart from the section, under the general rules governing
the computation of income, the farming losses of a taxpayer
engaged in the farming business would, in the computation of
his world income for the year, be entirely deductible from his
profits from other sources.
If I am wrong in those conclusions and if, for
the plaintiff to escape the limitations on deduc
tions for farming losses imposed by section 13(1),
its farming business must have at least some char
acteristics indicated in Moldowan (where there
were more than two sources of income) the result,
in my opinion, must nevertheless be the same. In
my opinion, the plaintiff's farming operation had
sufficient of those characteristics to qualify it for
inclusion in "a combination of farming and some
other source of income" within the meaning of
section 13(1) of the Act. Here I do not deal with
the question as to whether there must be a connec
tion between farming and the other source to
qualify farming for inclusion in the combination. I
leave that phase to be dealt with below.
Pratte J., in Moldowan, said [at pages 358-9]:
However,—and this is perhaps the crucial question—how
does one assess the relative importance of the various sources of
income of the taxpayer?
In order to reach a conclusion in this case, I do not find it
necessary to give an exhaustive answer to that question. It is
enough for me to say that, in my view,
1. the importance of a source of income cannot be entirely
divorced from the importance of the income that it normally
produces or that it is expected to produce in the future;
2. a source of income which, for a taxpayer, has always been
and is expected to remain a marginal source of income
cannot be said, as long as it remains a marginal source of
income, to be the taxpayer's chief source of income.
The following are extracts from the judgment of
Urie J. in the same case [at pages 365-6]:
The reasoning process in the determination of fact leading to
the conclusion that a person is engaged in the business of
farming, it seems to me, may involve ascertaining from the
evidence, as one of the indicia, whether or not the alleged
farmer has a "reasonable expectation of profit", as that term is
used in section 139(1)(ae)(i). In my view, it should be empha
sized that this concept provides only one of the indicia, the
weight to be given to which will vary with the evidence adduced
in each case.
and
Without attempting in any way to exhaust the possibilities,
some of those criteria which might be considered are the
relative amounts of capital investment in the respective sources,
the reasonableness of his expectation of profit therefrom, the
amounts of gross income and of net income derived from each
source, the proportion of time spent in each day by the taxpayer
in respect of each source, and the prior history of the respective
sources in respect of amount of income generated. If, on all of
the evidence it could not be said that the farming and some
other source provided the chief source of income, then section
13(1) would apply.
Dealing with the same subject in the same case,
Ryan J. said [at pages 369-70]:
... and while it is true that a source may be a source of income
in a particular year though it did not yield a profit in that year,
it nonetheless appears to me pertinent to look at each of the
taxpayer's sources from the point of view of capacity for
present or future profit or for both when one is seeking to
determine his chief source of income in that year. The relative
importance of sources as sources of income would seem to me
to be in most part a function of their capacity to produce gain.
In my opinion an appropriate path to a resolution of this
difficult problem is to give significant attention to the taxpay
er's ongoing income-earning activities in a practical and busi
nesslike way and in this way to determine which of the taxpay
er's sources of income, in the ordinary run of his affairs, but
taking account of his plans and his activities in implementation
of his plans, is the chief source of his income in the sense of its
usual or its foreseeable profitability or both. In seeking an
answer, gross income, net income, capital investment, cash
flow, personal involvement, and other factors may be relevant
considerations.
According to its financial statements the plain
tiffs total assets and the amounts included for
horses per se (the latter without including any
other asset connected with farming) were:
Feb. 28, Feb. 28, Feb. 28, Feb. 28,
1967 1968 1969 1970
Total: $106,246 $107,132 $180,452 $153,444
Horses: 13,202 8,600 22,538 43,525
The following is a summary of some of Rich-
ards' evidence in connection with the plaintiff's
farming activities.
In 1964 it was decided to buy some sort of
facility for the horses. A farm, five miles east of
Markham, was purchased and registered in the
plaintiffs name. It was 23 1 / 2 acres and had on it a
house into which Richards moved with his family.
Fourteen stalls, a hay room and a tack room were
installed. A rough track was built. There were then
about 8 horses. Later, a trainer was hired who
stayed until early Spring 1967. Richards wanted to
get out of the real estate business. His interest was
in the horses. By 1966 or 1967 he was pretty well
settled in looking after the horses.
Filed as an exhibit is a copy of a lease dated the
15th day of May, 1969 from the plaintiff to
Audrey M. Downing of what appears to have been
the plaintiff's farm.
According to Richards, the plaintiff leased
another farm across the road consisting of 100
acres at a rental of $1,200 per month and on it was
a racing stable and a track. Richards indicated the
plaintiff leased it because it needed the track. In
his evidence he said this might be 1971 or 1972. I
think it may be that he was mistaken about the
date because of the lease dated the 15th day of
May, 1969 mentioned above.
It seems to me that a significant amount of the
plaintiffs assets was used, or committed for its
farming operation.
It is my conclusion that by 1967 Richards per
sonally found involvement with the race horses
much more interesting than the real estate opera
tion. I think that from then on he spent more time
with that branch of the business than with the land
operation. I believe he had high hopes and expec
tations for the raising, breeding and racing of
standard-bred horses. He said that he had
"unbelievably bad breaks" and had no reason to
doubt the horse business. I think he actually
believed this though the results show that for the
relevant years, at least, he seems to have been too
optimistic. On the other hand, I think it must be
accepted that horse racing is a hazardous business.
I feel that Parliament must fully have recognized
the hazards when it included in the definition of
farming "maintaining of horses for racing". (Sec-
tion 139(1)(p).)
My conclusion is that the plaintiff's farming
operation was a significant branch of its business
notwithstanding the farming losses.
I deal now with the question as to whether there
must be a "connection" between farming and the
other source of income in order that farming may
qualify as part of "a combination of farming and
some other source of income" referred to in section
13(1) of the Act with the result that the taxpayer
avoids the limitation on allowable deductions for
farming losses imposed by that section.
In Moldowan v. The Queen, Pratte J. said [at
page 359]:
I do not share the view that a taxpayer's chief source of income
may be "a combination of farming and some other source of
income" even if there is no "connection" of any sort between
the farming activities of the taxpayer and his other source of
income. In my opinion, the word "combination" means more
than "addition"; it implies, in my view, a certain degree of
association or integration. It is only if two sources of income
are, in some way, integrated or interconnected that it can be
said that their combination constitutes one source of income.
Moreover, if the expression "combination" meant nothing
more than "addition", section 13 would be devoid of any effect
since the taxpayer engaged in the business of farming and
having also other more important sources of income could
always claim (by adding "farming" to his most important
source of income) his chief source of income to be "a combina
tion of farming and some other source of income".
In Moldowan, Urie J. referred to Dorfman v.
M.N.R. [1972] C.T.C. 151 and James v. M.N.R.
[1973] F.C. 691, saying that several principles
were enunciated there with which he agreed and
which he accepted. One was [see page 363]:
There need not be any connection between farming and the
business making up in combination therewith a source of
income.
Mentioning the conclusion of Gibson J. in the
James case [at page 700], namely:
... I find no statutory authority for the proposition that in
order for it to be possible to make a determination under
section 13 of the Act, whether or not the chief source of income
for a taxation year of a taxpayer is a "combination" of farming
and some other source of income that there must be some
"connection" between the business of farming and the business
from which such other source of income is derived.
Urie J. continued [at page 363]:
With that conclusion I agree and merely add that if it were
intended that there should be some sort of a connection be
tween farming and the other source of income with which its
income might be combined, Parliament could very easily have
used language clearly to express this intention. Instead, it used
the word "combination". The Shorter Oxford Dictionary, 3rd
Ed. defines "combination" as follows:
1. The action of combining two or more separate things.
1613
2. Combined state or condition; conjunction 1597
3. Concr. a group of things combined into a whole 1532.
There is no implication from this definition of the necessity for
a connection between the things which are combined. In fact
the opposite appears to be the case. To so imply would require
that additional words be read into the section and would strain
the natural meaning to be given to a word. Neither result is
desirable. I thus conclude that neither the legislative history nor
the dictionary definition require that there be a connection
between the businesses or source of income making up the
combination.
Ryan J. said [at pages 370-1]:
In my view, the decision as to whether the combination of
farming and some other source of income was the taxpayer's
chief source of income involves the making of a practical
judgment on the question of whether in fact the combination
constituted the chief source. I do not think the question is
answerable simply by saying that farming can be combined
with the taxpayer's most important other source, no matter
what it may be, and thus concluding without more that the
combination is the chief source.... Just as in the case of
determining whether farming alone is the chief source, so in the
case of determining whether farming combined with another
source is the chief source, a practical judgment must be made,
and in my opinion the judgment is to be made by way of
analogy to the process appropriate to determining whether
farming alone is the chief source.
Having regard to the context in which it
appears, it does not seem to me that when Ryan J.
said:
I do not think the question is answerable simply by saying that
farming can be combined with the taxpayer's most important
other source, no matter what it may be, and thus concluding
without more that the combination is the chief source.
he was holding that what was required in addition
to the mere combination was some connection
between farming and the other source. As I con
strue his Lordship's statement in its context, he did
not consider "connection" a requirement.
If I am not right in my interpretation of Ryan
J.'s statement, and if only two diverse views were
expressed on the matter in Moldowan v. The
Queen, then I must deal with the point, because, in
my opinion, in all other respects, the farming part
of the plaintiff's business met all requirements so
that it could be part of the combination of farming
and some other source of income mentioned in
section 13(1) to the end that the deduction for the
loss from the farming was not limited by section
13(1).
My respectful opinion on the point is that in
order that there may be a "combination of farming
and some other source of income" within the
meaning of section 13 (1) of the Act, there need
not be any connection between the farming and
the other source of income. As I construe it, there
is nothing in section 13(1) which says there must
be any such connection. Respectfully, I do not
think there is anything in the wording of this
section which implies that there must be any such
connection.
I find that for the purpose of computing the
taxable income of the plaintiff for its taxation
years 1967, 1968, 1969 and 1970 deductions for its
farming losses for those years respectively are not
limited by section 13 of the Act and that section
13 of the Act is not applicable to the situation
existing in this case.
I now turn to that part of the plaintiffs appeal
which is against the disallowance "of one-half of
the salary paid to Mr. Richards on the basis that it
is charged to the farm loss".
It seems to have been accepted by the Crown
that Richards' salary was in order except for its
claim that half of it should be charged to farming
operations. In the statements re income in the
financial statements, under the heading of
"expenses", there are items called "management
salary". Presumably, Richards' salary is included
in these. Thus it would seem that in the plaintiff's
accounting none of Richards' salary was charged
to the farm operation.
Having regard to the time spent by Richards on
the farming operation during the relevant years I
consider that the plaintiff could have no good.
objection to an allocation of 50% of Richards'
salary as an expense of that operation.
However, having regard to the disposition of the
other branch of the appeal and the Crown's objec
tion appearing to be confined to allocation, the
result would be the same regardless of how Rich-
ards' salary is allocated as between the two activi
ties. Instead of charging all of it to the real estate
operation, the allocating of half to the farming
operation, as the Crown has done, of course
increases the profit on the real estate operation
and increases by the same amount the loss on the
farming operation.
Nevertheless, the point may become important
in the event of a review of this decision. I find that
the Crown's allocation of 50% of Richards' salary
to the farming operation should not be disturbed.
Otherwise, I find that all of Richards' salary is an
item properly deductible in respect of the relevant
years.
The appeals of the plaintiff are allowed.
The re-assessments for the plaintiff's taxation
years 1967, 1968, 1969 and 1970 are referred back
to the Minister of National Revenue for further
re-assessment on the basis of what is set out in
these reasons for judgment.
The plaintiff will have its costs of these proceed
ings payable by the defendant.
Either party may prepare a draft of an appropri
ate judgment to implement the Court's conclusion
and move for judgment accordingly pursuant to
the General Rules and Orders of the Court.
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.