T-2597-77
Carl Israel (Plaintiff)
v.
The Queen (Defendant)
Trial Division, Cattanach J.—Toronto, October
25; Ottawa, November 7, 1979.
Income tax — Income calculation — Farming must be chief
source of income as a prerequisite to electing to average
income over five years pursuant to s. 119 of the Income Tax
Act — Farming operation sold by plaintiff within the five year
period in question to company owned by him — Income for
1973 solely from deregistered R.R.S.P. that had been derived
from farming income — Income for 1974 primarily derived
from sale of inventory to company, but with small amount
from sources unrelated to farming — Whether or not plain
tiffs chief source of income in each of his 1970-74 taxation
years inclusive was farming — Income Tax Act, S.C. 1970-
71-72, c. 63, s. 119(1).
This is an appeal from the Tax Review Board's decision
confirming the Minister's assessment for plaintiffs 1974 taxa
tion year and dismissing the appeal from that assessment. The
Minister's assessment asserted that a condition precedent to
plaintiffs electing to average his income during the taxation
year and the four preceding taxation years had not been met—
that the plaintiffs chief source of income be from farming.
Plaintiff operated a mixed farm as sole proprietor from 1965
until November 1972, when a company was incorporated to run
the business of the farm, with the plaintiff acting in various
capacities, including employee. During the 1973 taxation year,
plaintiff had no income from farming, but derived $4,000
taxable income from the deregistration of a registered retire
ment savings plan created from funds derived from farming
income. Plaintiffs 1974 income included an amount unrelated
to farming and an amount related to the sale of plaintiffs
inventory to the farming corporation. The issue is whether or
not plaintiffs chief source of income in each of his 1970 to
1974 taxation years inclusive has been farming.
Held, the appeal is dismissed. The $4,000 deposited in a
registered retirement savings plan came from farming income
for 1972 or earlier but when that amount is paid out, as it was
in 1973, it no longer retains the character of farming income
but rather is a benefit under that plan and is taxable as such. In
determining which of two sources may be the chief source of
income, the only criterion present in the facts is a comparison
of income from different sources. In 1973 plaintiffs sole receipt
of income was $4,000 from a registered retirement savings
plan. There was no income from farming received by plaintiff
in that year. Plaintiffs employment by and capacity as an
officer of a Company engaged in farming in the 1973 year do
not qualify as "personal involvement" in farming and any
income received from that employment or office does not
qualify as farming income by reason of the express exclusion in
section 248(I) of the Act. Plaintiff has failed to establish an
essential condition precedent to the application of section
119(I)—that the plaintiffs chief source of income in the
averaging year, 1974, and the four immediately preceding
years, amongst which four years the 1973 taxation year falls,
was farming.
INCOME tax appeal.
COUNSEL:
J. W. Sloan for plaintiff.
I. MacGregor for defendant.
SOLICITORS:
Biggs & Sloan, Waterloo, for plaintiff.
Deputy Attorney General of Canada for
defendant.
The following are the reasons for judgment
rendered in English by
CATTANACH J.: This is an appeal from a deci
sion of the Tax Review Board whereby the learned
member of the Board confirmed the assessment of
the plaintiff to income tax by the Minister for the
plaintiffs 1974 taxation year and dismissed the
appeal from that assessment.
A document described as a "notice of assess
ment" dated July 7, 1975, on which document the
printed name "E. B. ARMSTRONG", over the title
"DEPUTY MINISTER OF NATIONAL REVENUE FOR
TAXATION" appears, which legend by virtue of
subsection 244(13) of the Income Tax Act, S.C.
1970-71-72, c. 63, lends authenticity to an other
wise unlawful identification, proffers this explana
tion:
Your election to average has been disallowed because your
chief source of income in the averaging period was not farming
or fishing.
A notice of objection to that assessment was
lodged in response to which by a notification dated
December 8, 1975, on stationery properly identify
ing its source and with the courtesy of a manual
signature, the Minister confirmed the assessment
on the ground that:
The taxpayer's chief source of income was not farming during
the taxation year and the four immediately preceding years
within the meaning of subsection 119(1) of the Act.
Section 119(1) reads:
119. (1) Where an individual's chief source of income has
been farming or fishing for a taxation year (in this section
referred to as the "year of averaging") and the 4 immediately
preceding years for which he has filed returns of income as
required by this Part (in this section referred to as the "preced-
ing years"), if the individual, on or before the day on or before
which he was required to file a return of his income for the year
of averaging, or on or before the day on or before which he
would have been required to file such a return if any tax had
been payable by him for the year of averaging, files with the
Minister an election in prescribed form, the tax payable under
this Part for the year of averaging is an amount determined by
the following rules:
The subsection then proceeds to outline the for
mula for computing the tax.
The purpose of the section is abundantly clear.
Farmers are recognized as being peculiarly vulner
able to the vagaries of nature with consequent
fluctuations in income from year to year. Farming
is a hazardous occupation subjected to the ele
ments which cannot be foreseen, guarded against
or mitigated.
Thus the purpose of section 119 is to provide a
measure of stability in the income tax exacted of
farmers by extending to them the privilege, if they
elect to exercise it, of averaging their income over
five-year periods. They do not pay tax on an
annual basis as other taxpayers do. In the last year
of the five-year period (in this instance 1974)
which is the "averaging year" the averaging pro
cess is invoked over the five-year period in accord
ance with the formula prescribed.
Basically what the formula accomplishes is that
for the "averaging period" which consists of the
averaging year and the four preceding years (in
this instance 1974, the averaging year, and 1973,
1972, 1971 and 1970) the aggregate net income is
apportioned equally to each of those years and
taxes payable are recomputed on that basis.
The tax payable for the fifth or "averaging"
year is what remains after deducting the taxes
paid in the first four years from the aggregate of
the whole five years.
However the conditions precedent to a farmer
electing to average his income under subsection
119(1) is that his chief source of income for the
year of averaging and the four immediately
preceding years for which he has filed returns as
required by Part I has been farming.
The issue in this appeal is whether the plaintiff's
chief source of income in each of his 1970 to 1974
taxation years inclusive has been farming. If farm
ing has been the plaintiff's chief source of income
in each year then he is entitled to elect to average.
If farming has not been his chief source of income
in each and every one of the five years then he is
not entitled to average.
It is a well established rule that the exemption
provisions of a taxing statute must be construed
strictly.
Therefore the plaintiff to avail himself of the
provisions of section 119 of the Act must show that
every constituent element necessary to its applica
bility is present in his case and that every condition
required by the section has been complied with.
Prior to the hearing of this matter the parties
agreed upon the following statement of facts:
AGREED STATEMENT OF FACTS
I. The Plaintiff filed a return of income tax with the Minister
of National Revenue for each of his 1970, 1971, 1972, 1973
and 1974 taxation years, reporting in each year the following
gross and taxable incomes:
Year Gross Taxable
1970 $ 1,586.00 $ nil
1971 2,813.00 nil
1972 32,502.00 24,476.99
1973 4,000.00 nil
1974 44,162.00 35,540.00
2. The Plaintiff commenced mixed farming as a sole proprietor
on his farm ("the farm") in Wallenstein, Ontario in 1965; the
year end of the sole proprietorship at all material times, was
December 31.
3. On November 1, 1972, Carl Israel Farms Limited ("the
Company") was incorporated for the purpose of running the
business of the farm, the year end of the Company, at all
material times, was October 31.
4. On November 1, 1972, and at all material times thereafter,
the Plaintiff and his wife were the sole directors, officers and
employees of the company and held 70% and 30% of the
outstanding shares, respectively.
5. On November 1, 1972 by the First Agreement dated Janu-
ary 25, 1973, the assets of the Plaintiff's farming business were
sold to the Company at their book value as follows:
Vacant Land S 1 / 2 Lot 4, Concession
4,
Township of Peel, 70 acres 25,000.00
Equipment 14,219.00
Prepaid expense 125.00 $ 39,344.00
Liabilities Assumed
Bank Overdraft 10.00
Bank Loan 7,000.00
Note—Carolyn Israel 2,100.00
Mortgage—I. Gingrich 4,000.00 $ 13,110.00
Net Assets $ 26,234.00
and in payment thereof the Plaintiff was issued 69 common
shares of the Company at $1.00 each and a promissory note
dated January 25, 1973 payable on demand in the amount of
$26,165.00 which note is still outstanding in full; a copy of the
First Agreement and promissory note relating thereto is
attached and forms Exhibit A to this Agreed Statement of
Facts.
6. On November 1, 1972, by the Second Agreement dated
January 25, 1973, the inventory of the Plaintiff's farming
business was sold to the Company for the amount of $42,950.00
and in payment thereof the Plaintiff received a promissory note
dated November 1, 1972 due January 2, 1973 in the amount of
$2,000.00 and a promissory note dated November 1, 1972 due
January 1, 1974 in the amount of $40,950.00 both of which
were exchanged for demand notes in the same amount issued
by the Company to the Plaintiff on October 31, 1974 which
notes are still outstanding in full; a copy of the Second Agree
ment and Promissory Notes relating thereto are attached and
form Exhibit B to this Agreed Statement of Facts.
7. On January 25, 1973, by the Third Agreement dated Janu-
ary 25, 1973, the Plaintiff agreed to transfer to the Company
remaining farm land for the amount of $114,000.00 which was
effected by Deed dated December 7, 1973 and registered
January 11, 1974, and in payment thereof the Company
assumed existing encumbrances in the amount of $30,710.00
and the Plaintiff received 2000 Preference shares at $10.00
each and a promissory note dated January 25, 1973 payable on
demand in the amount of $63,290.00 which was exchanged for
a demand note in the same amount issued by the Company to
the Plaintiff on October 31, 1974 which note is still outstanding
in full; a copy of the Third Agreement and Promissory Note
relating thereto is attached and forms Exhibit C to this Agreed
Statement of Facts.
8. The opening balance sheet of the Company as of November
1, 1972 and the financial statements of the Company for the
1973 and 1974 taxation years are attached and form Exhibits
D, E and F, respectively to this Agreed Statement of Facts.
9. The Plaintiff, during the years 1970, 1971 and until Novem-
ber 1, 1972 was engaged in the business of farming.
10. The Plaintiff, from November 1, 1972 was an employee of
the Company and was not paid any salary by the Company in
1972, 1973 and 1974.
11. The Company, from November 1, 1972, was engaged in
the business of farming.
12. From November 1, 1972, the Plaintiff on his own behalf
and not as an employee of the Company maintained the
buildings and the laneways with respect to the property
referred to in the Third Agreement until the property was
transferred to the Company, however, all expenses incurred in
this regard were charged directly to the Company.
13. From November 1, 1972, the property referred to in the
Third Agreement was used by the Company free of charge.
14. The Plaintiff at all material times reported income on a
cash basis.
15. The incomes for the years 1970, 1971 and 1972 were as
follows:
Farming Other Total Percentage
Year Income Income Income from Farming
1970 $ 1,414.00 $172.00 $ 1,586.00 89.16%
1971 $ 2,813.00 $ nil $ 2,813.00 100.00%
1972 $32,502.00 $ nil $32,502.00 100.00%
16. In 1973, the Plaintiff had no income from farming.
17. In 1973, $4,000.00 of taxable income was derived from the
deregistration of a R.R.S.P. which Plan was commenced in
1972 by a deposit of $4,000.00; said monies for the deposit
having come from farming income.
18. The income earned by the Plaintiff in 1974 in the amount
of $44,162.00 included the amount of $1,212.00 from sources
unrelated to farming and the amount of $42,950.00 relating to
the sale of the Plaintiff's inventory to the Company pursuant to
the Second Agreement.
I have not reproduced the exhibits to the agreed
statement of facts. The first such exhibit in Exhib
it A mentioned in paragraph 5 of the statement of
facts is an agreement whereby the assets of the
plaintiff's farming business were sold to a com
pany incorporated by him. Exhibit B is mentioned
in paragraph 6 and is an agreement for the sale of
the plaintiff's stock in trade to the Company. The
proceeds of that sale are in my view, income from
farming. Exhibit C mentioned in paragraph 7 is an
agreement whereby the plaintiff sold his farm land
to the Company. Exhibits D, E and F are the
opening balance sheet of the Company and the
financial statements of the Company for the 1973
and 1974 taxation years.
It is abundantly clear from paragraph 9 of the
agreed statement of facts that the plaintiff was
engaged in farming during the years 1970, 1971
and until November 1, 1972. It is equally clear
that the plaintiffs chief source of income in those
taxation years was farming.
From November 1, 1972 there is no doubt that
the plaintiff was an officer and employee of the
Company (see paragraph 4 of the agreed state
ment of facts) from which it follows from the
definition of "farming" in section 248(1) of the
Act that since the plaintiff held an office or
employment under a Company engaged in farming
this office and employment precludes the plaintiff
being engaged in farming by virtue of that office
and employment.
However, as submitted by counsel for the plain
tiff, the fact that the plaintiff was an officer and
employee of a "person" engaged in farming would
not preclude the plaintiff from having farming as
his chief source of income if he engaged in farming
on his own behalf and separate and apart from his
office and employment. There is no allegation
whatsoever in the agreed statement of facts that
such is the case. Neither the allegations in para
graph 12 of the agreed statement of facts nor the
provisions of the agreement, Exhibit C thereto,
justify such a conclusion.
In paragraph 16 of the agreed statement of facts
it is stated that the plaintiff had no income from
farming in his 1973 taxation year.
However paragraph 17 recites:
17. In 1973, $4,000.00 of taxable income was derived from the
deregistration of a R.R.S.P. which Plan was commenced in
1972 by a deposit of $4,000.00; said monies for the deposit
having come from farming income.
I accept without question that the $4,000 depos
ited in a registered retirement savings plan came
from farming income for 1972 or earlier but when
that amount is paid out, as it was in 1973, it no
longer retains the character of farming income but
rather is a benefit under that plan and is taxable as
such.
That is the only income which the plaintiff
received in 1973. For the reasons expressed above
it is not income from farming.
Counsel for the plaintiff pointed out that even if
no farming income was received in a taxation year
it is still possible that farming can be the chief
source of taxpayer's income in that year.
This is so. It has been held in many instances
that a source may be source of income in a par
ticular taxation year even though the taxpayer
receives no income or suffers a loss. This being so
the simple mathematical task of computing the net
income from two sources (if there are two sources)
is not a conclusive test for determining which of
two sources may be the chief source. To so deter
mine resort may be had to other criteria.
In this respect Ryan J. in Moldowan v. The
Queen [1976] 1 F.C. 355 said [at page 370]:
In seeking an answer, gross income, net income, capital invest
ment, cash flow, personal involvement, and other factors may
be relevant considerations.
While the criteria specifically mentioned by Mr.
Justice Ryan were not intended to be all inclusive,
nevertheless none of the specific criteria mentioned
is present in the facts of the present appeal nor any
facts ejusdem generis thereto.
Accordingly the only criterion remaining is a
comparison of income from different sources.
In 1973 the sole receipt of income by the plain
tiff was $4,000 from a registered retirement sav
ings plan which, for the reasons previously
expressed is not income from farming. There was
no income from farming received by the plaintiff
in that year. His employment by and capacity as
an officer of a Company engaged in farming in the
1973 year do not qualify as "personal involve
ment" in farming nor does any income received
from that employment or office qualify as farming
income by reason of the express exclusion in sec
tion 248 (1) of the Act.
Therefore the plaintiff had no farming income
in 1973 and, as previously stated, there is no
evidence that the plaintiff was engaged in farming
from November 1, 1972 to December 31, 1974
other than as . an employee and officer of the
Company engaged in the business of farming
which does not qualify as farming " by specific
statutory definition.
Accordingly the plaintiff has failed to establish
an essential condition precedent to the application
of section 119(1) that is to say that the plaintiff's
chief source of income in the averaging year, 1974,
and the four immediately preceding years,
amongst which four years the 1973 taxation year
falls, was farming.
For the foregoing reasons the appeal is dis
missed with costs.
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.