McKinley v. MNR, 74 DTC 6138, [1974] CTC 170 (FCA)

Pratte, J (judgment delivered from the Bench):—This is an appeal and a cross-appeal from a judgment of the Trial Division which allowed in part the appellant’s appeal from the reassessment of his income tax for the 1965 taxation year.

The issue on the appeal is whether the trial judge was right in deciding that the profit made by the appellant on the sale of shares of Siebens Leaseholds Ltd was taxable income. The issue on the crossappeal is whether the trial judge was right in holding that the amount of the profit made by the appellant on the sale of those shares should be calculated by deducting from the price received by the appellant his portion of the book value of the assets owned by Siebens Leaseholds Ltd at the time of the sale.* [1]

Siebens Leaseholds Ltd was incorporated in 1956 at the instigation of one Harold Siebens who, for a number of years, had been involved, through various companies, in the business of dealing in petroleum and natural gas leases and rights in Western Canada. It remained dormant till 1958. At that time, Harold Siebens persuaded the appellant to join the company. The appellant had also been involved in the business of acquiring and selling oil and natural gas rights and, a few years previously, he had been one of Mr Siebens’ employees. The appellant was at that time allotted, at $1 per share, 167 common shares of Siebens Leaseholds Ltd and was also made an officer of the company. The appellant’s 167 shares amounted to 1/6 of the issued common stock of Siebens Leaseholds Ltd, the balance of which was held by Range Investment Limited, a company controlled by Harold Siebens. Under the management of the appellant, Siebens Leaseholds Ltd started to Carry on the business of dealing in petroleum and natural gas leases and rights.

In 1959 Mr Harold Siebens decided to retire and left Canada to live in Nassau. Soon afterwards his son, William W Siebens, came to Calgary and started to work for the company. In 1960, as the services of William W Siebens had proved satisfactory, he was given the opportunity of acquiring from Range Investment Limited 167 shares of the company. As a result of this acquisition, the common shares of Siebens Leaseholds Ltd were distributed as follows: the appellant and William W Siebens held 167 shares each and Range Investment Limited held 666 shares.

In the ensuing years Siebens Leaseholds Ltd continued its business under the direction of the appellant and of William W Siebens. It operated with borrowed capital obtained by virtue of the financial backing of its shareholders, particularly of Range Investment Limited. By 1964 it had succeeded in building up a large inventory of oil and gas rights but was, nevertheless, in a difficult situation. In order to retain its oil and gas rights for the purpose of realizing their potential value, it was faced with substantial expenditures for which it did not have the money, and Range Investment Limited, its principal shareholder, had decided not to give it any additional financial support. Such was the situation in December 1964 when the appellant left for a holiday in the Caribbeans, in the course of which he decided to retire.

While the appellant was away, William W Siebens, who had been left in charge of the company, met a Mr Beck, the president of Canadian Export Gas and Oil Ltd, who intimated that his company would be interested in acquiring certain oil leases owned by Siebens Leaseholds Ltd. Having been shown a list of the leases and oil rights that Siebens Leaseholds Ltd was willing to sell, Mr Beck ultimately offered to buy all the shares of that company, for a total price of $1,100,000 on the understanding that, at the time of closing, the company would have no assets except the leases and oil rights in which Canadian Export Gas and Oil Ltd was interested. That offer was accepted by William W Siebens and Range Investment Limited and, on January 26, 1965, at a time when the appellant was still vacationing in the Caribbean, they entered into a written agreement with Canadian Export Gas and Oil Lid. This agreement provided:

1. That William W Siebens and Range Investment Limited would sell all the shares of Siebens Leaseholds Ltd to Canadian Export Gas and Oil Ltd for $1,100,000.

2. That on the sale of the shares, Siebens Leaseholds Ltd would own only certain specified leases, reservations, permits and royalty agreements set forth in Schedules A, B and C of the agreement.

The agreement also contained a clause under which William W Siebens and Range Investment Limited agreed that, in the event of their being unable to deliver to the purchaser all the shares of Siebens Leaseholds Ltd, they would cause that company to sell to the purchaser, for the same price of $1,100,000 the leases and rights listed in Schedules A, B and C of the agreement. This clause had been inserted in the agreement at the request of the purchaser’s lawyer in view of the possibility that the appellant, who was not a party to the agreement, might refuse to sell his shares in Siebens Leaseholds Ltd.

A few days later the appellant learned of the agreement. He came back to Canada and, by an agreement dated February 16, 1965, agreed to deliver to Canadian Export Gas and Oil Ltd his 167 shares of Siebens Leaseholds Ltd for 1/6 of the $1,100,000 sale price.

Mr William W Siebens then formed a new company to continue the business of Siebens Leaseholds Ltd, and the company, for an aggregate price of $479,559.53, purchased from Siebens Leaseholds Ltd all its assets other than the oil and gas rights desired by Canadian Export Gas and Oil Ltd.

All the shares: of Siebens Leaseholds Ltd were thereafter transferred to Canadian Export and Oil Ltd, which paid the agreed price of $1,100,000,1/6 of which was received by the appellant.

The Minister of National Revenue considered that the profit made by the appellant on the sale of his shares of Siebens Leaseholds Ltd was taxable income. He further considered that the profit made by the appellant was to be determined by deducting from the price received by the appellant the amount he had paid for the shares ($167) together with certain expenses incurred on the sale of the shares. The appellant was therefore assessed accordingly.

It is this assessment that was varied by the judgment under appeal. The trial judge first held, and quite rightly in my view, that if Canadian Export Gas and Oil Ltd, instead of buying the shares of Siebens Leaseholds Ltd, had purchased from that company the assets it was interested in, Siebens Leaseholds Ltd, being a trading company, would have had to pay tax on the profit resulting from the sale by it of such assets. He then went on to find that the sale of the shares of Siebens Leaseholds Ltd was but an indirect way of selling the assets owned by that company at the time of the sale. Thus considering the sale by the appellant of his shares in the company as being, in fact, a sale by the appellant of the assets of the company, the learned judge concluded that the profit made by the appellant on that sale was taxable income and that, in the calculation of that profit, there should be deducted from the sale price of the shares his portion of the book value of the assets which, in substance if not in form, had been the subject matter of the sale.

I cannot agree with this reasoning which, in my view, does not take into account that there is, in law, a fundamental difference between the act of a company and that of its shareholders. When that difference is taken into account, it follows, in my view, that either the appellant was taxable on the profit that he, in fact, made by the acquisition and sale of the shares, in which event the cross-appeal must be allowed, or he is not taxable on that profit, in which event the appeal must be allowed. The decision of the Supreme Court of Canada in Ronald K Fraser v MNR, [1964] SCR 657; [1964] CTC 372; 64 DTC 5224, on which the trial judge relied, is not an authority for the proposition that, for income tax purposes, the existence of a company as a separate entity may be disregarded. That decision was explained by Pigeon, J in MNR v Freud, [1969] SCR 75 at 80; [1968] CTC 438 at 441-2; 68 DTC 5279 at 5281-2:

On the first question, the decision of this Court in Fraser v MNR, [1964] SCR 657; [1964] CTC 372, appears to be in point. It was there held that where real estate operators had incorporated companies to hold real estate, the sale of shares In those companies rather than the sale of the land was merely an alternative method of putting through the real estate transactions and the profit was therefore taxable. This decision does not in my view necessarily imply that the existence of the companies as separate legal entities was disregarded for income tax assessment purposes. On the contrary, it must be presumed that the companies remained liable for taxes on their operations and their title to the land, unchallenged. I must therefore consider that the decision rests on the view that was taken of the nature of the outlay involved in the acquisition of the companies’ shares by the promoters.

It is clear that while the acquisition of shares may be an investment (VNR v Foreign Power Securities Corp Ltd, [1967] SCR 295; [1967] CTC 116), it may also be a trading operation depending upon circumstances (Os/er Hammond and Nanton Ltd v MNR, [1963] SCR 432; [1963] CTC 164; Hill-Clarke-Francis Ltd v MNR, [1963] SCR 452; [1963] CTC 337. Due to the definition of business as including an adventure in the nature of trade, it is unnecessary for an acquisition of shares to be a trading operation rather than an investment that there should be a pattern of regular trading operations. In the Fraser case, the basic operation was the acquisition of land with a view to a profit upon resale so that it became a trading asset. The conclusion reached implies that the acquisition of shares in companies incorporated for the purpose of holding such land was of the same nature seeing that upon selling the shares instead of the land Itself, the profit was a trading profit not a capital profit on the realization of an investment. This principle appears equally applicable In the circumstances of this case. If the respondent and his friends had been successful in selling the prototype sports car, they might well have done It by selling their shares in the company instead of having the company sell the prototype, and there can be no doubt that if they had thus made a profit it would have been taxable. . . .

The question to be decided in this case is, therefore, in my view, whether the appellant’s profit from the acquisition and sale of the shares was a taxable profit of the same character as that taxed in Fraser's case.

The evidence shows that the appellant sold at a profit shares of Siebens Leaseholds Ltd. The profit he thereby made was a trading profit, and therefore a taxable profit, if the appellant was embarking on a venture in the nature of trade when he acquired those shares. On the other hand, if the acquisition of those shares by the appellant was an

“investment” in the sense in which Pigeon, J used that word in the Freud case, then the profit made by him on the realization of that investment was a capital profit.* [2] Therefore, the sole question to be determined on this appeal concerns the nature of the outlay made by the appellant when he acquired, for $167, the 167 shares of Siebens Leaseholds Ltd that he later sold for a little less than $200,000.

The respondent, in paragraph 9(1) of its reply to the notice of appeal, alleged that the assessment attacked by the appellant had been made on the assumption

that the acquisition of 167 shares in Siebens Leaseholds Ltd, the acquisition of an inventory of petroleum and natural gas leases by Siebens Leaseholds Ltd and the trading therein, the negotiations with respect to certain of these leases owned by Siebens Leaseholds Ltd, the incorporation of Siebens Oil & Gas Ltd, with the transfer of all the assets and liabilities of Siebens Leaseholds Ltd thereto, and the sale of the shares of Siebens Leaseholds Ltd at a time when its assets included only specific leases sought by Canadian Export Gas & Oil Ltd, were part of a scheme for profit-making by the Appellant and the two other shareholders of Siebens Leaseholds Ltd;

The appellant did not challenge the allegation that the respondent had, in assessing, assumed those facts. The onus was therefore on the appellant to disprove them.* [3] In particular, the onus was on the appellant to disprove the assumption “that the acquisition of 167 shares in Siebens Leaseholds Ltd ..and the sale of the shares of Siebens Leaseholds Ltd at a time when its assets included only specific leases sought by Canadian Export Gas & Oil Ltd, were part of a scheme for profit-making by the appellant.. .”.

I cannot find anything in the evidence which negates the assumption that the appellant, when he acquired his shares in Siebens Leaseholds Ltd, a company which was then without any resources,t [4] contemplated that the company, by its trading operation would, over a period of time, acquire a number of oil and gas leases which could later be disposed of at a profit either by the company selling its assets or by the shareholders selling their shares. This assumption is certainly compatible with the fact, disclosed by the evidence, that Harold Siebens, the promoter of Siebens Leaseholds Ltd, with whom the appellant had been associated before joining the company, had, a short time previously, owned shares in at least one similar company and had sold them after the company had sold part of its assets. Moreover, the fact that William W Siebens took upon himself to negotiate the sale of all the shares of the company, being sure, as he said, that the appellant would approve of the sale, seems to indicate that the sale of these shares at a profit had, since the beginning of the operations of the company, been contemplated by the shareholders.

On the other hand, no evidence was given by or on behalf of the appellant to show that, when he acquired his shares, he was not embarking on a venture in the nature of trade.

For these reasons, ! am of the opinion that the profit that the appellant made on the sale of his shares was taxable income and that there was no error in the respondent’s calculation of that profit.

Accordingly, I would dismiss the appeal with costs, allow the crossappeal with costs, set aside the judgment of the Trial Division, and order that the reassessment made by the respondent be restored.

Hyde, DJ (judgment delivered from the Bench):—The facts in this case are set out in the opinion of Mr Justice Pratte and do not need to be repeated.

Appellant’s principal contention is that he and William Siebens were not in the same position; that whereas for the latter it might be decided that the transactions carried out in the corporate name were “adventures in the nature of trade” (paragraph 139(i)(e) of the Income Tax Act) because of Siebens’ control and direction of them throughout including the very profitable sale of the company’s shares to Canadian Export Gas and Oil Ltd, he, McKinley, had not participated in the decision taken by Siebens for the company to sell the shares or, alternatively, the assets belonging to it which the purchasers wanted, but was faced with a fait accompli which he was obliged to go along with as far as his one-sixth interest was concerned.

I am not impressed with this argument. While it is true that McKinley was absent, incommunicado, during the negotiation of the sale he accepted it without any apparent protest. He and Siebens had worked very closely together during the six or seven years when the company had been extending its trading operations. Siebens recognized that it was McKinley who initiated him in this type of business. While it may have been the hope of both of them that these activities might turn up a commercially productive well I cannot, with respect, on the evidence before us, accept the conclusion of the Court below that there was not also a secondary intention of making a profit from the trading operations.

lt seems clear that, as in the Fraser case (supra), one of the intentions of the promoters of Siebens Leaseholds Ltd was the acquisition of oil leases and reservations with a view to a profit upon resale so that they became trading assets. As Pigeon, J, speaking for the Court in the Freud (supra) said (p 81), this conclusion “implies that the acquisition of shares in companies incorporated for the purpose of holding such land was of the same nature seeing that upon selling the shares instead of the land itself, the profit was a trading profit not a capital profit on the realization of an investment”.

Consequently I agree that the sale of the shares by McKinley produced a trading profit in his hands and that the Minister properly assessed as taxable income to him the difference between his cost of $167 and the net price he received on the sale of his shares, after deducting his share of the expenses incurred in effecting such sale, as determined in the Minister’s second reassessment allowing such expenses in the aggregate amount of $70,969.59 (see second footnote, W W Siebens v MNR, [1971] CTC 557 at 559; 71 DTC 5310 at 5312).

In accord with Mr Justice Pratte I would therefore dismiss the main appeal and maintain the cross-appeal with costs in each case.