Date: 19980602
Docket: 96-523-GST-G
BETWEEN:
TWO CARLTON FINANCING LTD.,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
Reasons for Judgment
Rip, J.T.C.C.
[1] The issue in this appeal from an assessment under the Goods and Services Tax ("GST") provisions of the Excise Tax Act ("Act") is whether the appellant, Two Carlton Financing Ltd. ("Carlton"), is entitled to input tax credits ("ITCs") for the period March 1, 1993 through November 30, 1993 ("period"). The Minister of National Revenue ("Minister") disallowed the claim for ITCs on the basis that during the period Carlton was not engaged in a “commercial activity” within the meaning of subsection 123(1) of the Act but was engaged in providing a financial service and its activities constituted "exempt supplies" within the meaning of the Act. A financial service is a supply exempt from GST.[1]
[2] In Carlton’s view, it carried on a business constituting a commercial activity during the period and is therefore entitled to claim ITCs in respect of goods and services acquired to carry on that business.
[3] Carlton was incorporated in 1986 to assist individual limited partners to borrow funds, usually from banks, to invest in limited partnerships promoted by the principals of Carlton. Carlton negotiated loans with Canadian banks and collected interest on the loans from the partners for payment to the lender. These activities constitute a financial service which is an exempt supply. The last loan negotiated by Carlton was in 1988 and that loan matured in 1992. By January 1993, said James Penturn, President of Carlton, the company ceased to have any business activity. At the same time Carlton no longer carried on a financial service.
[4] The appellant concedes that prior to 1993, it was not engaged in a commercial activity for purposes of the Act. Nevertheless the appellant applied to the Minister for registration under section 240 of the Act and was registered effective January 1, 1991.[2]
[5] Carlton's evidence is that on March 1, 1993 it acquired the business of Blackstone Entertainment Ltd. ("Blackstone"), a person with whom it did not deal at arm’s length. Up to and including 1988 Blackstone promoted limited partnerships as vehicles for investment in Canadian film and television productions and administered and managed the partnerships on behalf of the general partners. After 1988 Blackstone’s only activity was administration and management; it was this business, which included a list of potential investors, that Carlton acquired. Mr. Penturn was the President of Blackstone at the time of the transfer of the business.
[6] Mr. Penturn described Blackstone’s business. Blackstone employed between 12 and 20 people. The company maintained a data base of about 4,000 investors. It collected revenue from distributors, distributed revenue to the partners, provided accounting services and tax information to the partners and negotiated the resolution of disputes with distributors. Mr. Penturn estimated Blackstone was providing services to about a dozen limited partnerships in 1993. There was no written agreement for Blackstone’s services between Blackstone and any limited partnership.
[7] Blackstone never reported any taxable supplies. A management fee paid to Amber Financial Services Ltd. ("Amber"), another corporation with which it did not deal at arm’s length, was not subject to GST, according to its erstwhile controller, Mr. Hank Glastra, who is also controller of the appellant, because it was an inter company charge.[3] Mr. Glastra also testified that Blackstone had no income for taxation years 1988 to 1993 inclusive.
[8] According to Mr. Penturn the reason Blackstone transferred its business was because Blackstone had incurred financial losses and he "wanted to protect employees in a clean company ... and service better the limited partnerships." Carlton, having ended its previous business activity and having "virtually" no liabilities, was that "clean company." Documents providing for the transfer of assets and liabilities, including assignment of lease and notice to staff, were prepared and executed by both corporations. Changes to payroll, Blue Cross and related matters were put into effect. The notice to staff stated that Carlton would be performing administrative functions for all the companies in the corporate group, referred to as the Skyld Group of Companies. The appellant alleges that a transfer of Blackstone’s business to Carlton took place on March 1, 1993 and there is no evidence to the contrary.
[9] The months of March and April, Mr. Penturn declared, are busy months. Accounting statements for partnerships and income tax information are sent to the limited partners, reports of distributors are reviewed to verify all revenues owing to the partnerships were remitted by the distributors; legal action against distributors is considered. These services, previously performed by Blackstone, the appellant claims, were continued by it as of March 1, 1993.
[10] In providing services, Carlton incurs expenses for salaries, management fees, rent, courier services, office supplies and equipment, among other costs.
[11] As I understand the role of Carlton, the appellant provided services primarily to Mithras Management Ltd. ("Mithras"), the general partner of many of the limited partnerships promoted by the related group of companies[4]. Mr. Glastra explained in a letter of March 2, 1994 to a Mr. Savlov of Revenue Canada: Carlton administers the collection and distribution to investors of revenues received by Mithras. He explained that "whenever a distribution is done on behalf of the GP [General Partner] a set fee is charged by the GP to the limited partnerships to cover administrative expenses." Mr. Glastra added that GST is payable on the fee and has been remitted to Revenue Canada." Any other monies used to run/finance [Carlton] is advanced from monies still available that were generated prior to the implementation of the GST." The evidence suggests that Mithras originally contracted fee management services with Amber and Amber subcontracted the work to Carlton. In any event there was no written management agreement between the companies before November 1994. Amber paid Carlton an annual fee for management services soon after the year end. The fee payable to Carlton for the year ending February 28, 1994, which included the period in issue, was $600,000, based on a monthly fee of $50,000. (Since 1995, the fee has been paid monthly.)
[12] During the period March 1, 1993 to May 31, 1993 Carlton did not collect GST. For the period June 1, 1993 to September 30, 1993, it reported no sales or other revenue but made purchases of $54,422.43. For the last quarter of 1993 Carlton again reported no sales or revenue and zero purchases. For all these quarterly periods, input tax credits were claimed.[5] In a letter on May 12, 1995, Carlton’s accountant, Donald B. Forman, C.A., informed Revenue Canada that "[d]uring 1993 and prior to November 1, 1994 Carlton had no taxable supplies during the development stage of the commercial activities."
[13] In March 1993, financial statements were prepared for Carlton’s 1993 fiscal year, ending February 28, 1993. (Income tax returns for 1993, including these financial statements, were sent to Revenue Canada as late as February 10, 1995 by Mr. Glastra.) Assets of Carlton as at February 28, 1993 included cash, money market funds and accounts receivable. There was also a substantial liability due to affiliated companies. The bulk of revenue was from interest on deposits. (Only $22,957 of $164,940 of income was not interest income.) Most of the expenses were administrative, and a great portion of the administrative expense was a management fee of $175,000 paid to Amber. There was no administrative fee paid or payable to Blackstone. (The comparative information for 1992 also shows that the bulk of an income was from interest on funds on deposit.)
[14] A document listing changes in Carlton's retained earnings as at February 28, 1993 was produced. The document notes that Carlton gave Mr. Savlov a preliminary financial statement "which was prepared in the middle of adjusting and finalizing the February 28, 1991 statements." It appears that the original financial statements for 1994 were made on March 8, 1994; the balance sheet as at February 28, 1994 states that the retained earnings for Carlton as at February 28, 1993 was $792,351 and was reduced to $342,243 a year later. One of the adjustments to retained earnings at the end of 1993 is an administrative fee of $115,000 charged by Blackstone. A note in the document listing the changes in retained earnings explain that "prior to February 28, 1993 Blackstone ... provided the administrative services that were needed for ... Carlton ... to fulfil its duties. The administrative fee is based on a percentage of the expenses incurred by Blackstone. As the role of the agent for the investors decreased so did the fee decrease." After adjustments, the retained earnings of Carlton at the end of the 1993 period is charged to a debit amount of $144,179.
[15] The "remade" income statement for 1993 of Carlton (and the comparative information for 1992) shows no interest income from deposits; all income is from fees. However, the amount of income in the original and revised statements is identical.
[16] Carlton’s original financial statements for 1994, also filed earlier with Revenue Canada, indicate the only source of income for the year is interest in the amount of $82,802. The statements were remade on June 23, 1997.[6] According to the remade statement of income, the only source of income is from consulting and management fees, the $600,000 charged to Amber. A management fee of $183,538 payable to PFH Investments Limited is shown as an expense. The shareholders of PFH Investments Limited are Mr. Penturn and his sister.
[17] The remade balance sheets as of February 28, 1993 and 1994 and the remade statements of income and retained earnings for 1993 and 1994 raise questions. The balance sheet as of February 28, 1993 shows as an asset, an "investment" of $3,045,633 and the balance sheet as at February 28, 1994 includes among its assets "Investment-deposit receipts" of $2,169,552. Yet neither the income statement for 1993 nor that for 1994 reflect any investment income. Income from both years is from fees only. I infer that the investments were income producing - there was no evidence indicating otherwise - and that the original financial statements are more indicative of the sources of income than the remade statements.
[18] Mr. Penturn explained the need for the remade statements. All the companies in the group were behind in maintaining accounting records and they were trying to put things up-to-date. At the same time the companies were "doing (their) best to take care of the limited partners." For some companies, Mr. Penturn stated, it was only in 1996 and 1997 that tax returns were filed "for many years back." A chartered accountant employed by the group had the chore of bringing the companies up-to-date in their filings.
[19] Several documents in the respondent’s book of documents have a letterhead of a general partner of a limited partnership and not of Carlton. The respondent asked me to conclude that this suggests that the general partner itself, and not Carlton, provided certain services to the limited partners. Mr. Penturn explained that all documents for a partnership were sent out under the letterhead of the general partner but the information reported on the document, and the document itself, was prepared by Carlton.
[20] Mr. Penturn conceded that several employees paid by Carlton may not have been "dedicated" to any one corporation in the Skyld group.
[21] Mr. Glastra testified that in March 1993 he prepared a new set of books of account for Carlton to reflect the transfer of Blackstone’s business. The management fee for services rendered to Amber in Carlton’s 1994 fiscal year in the amount of $600,000 was calculated "soon after" the fiscal year end of Carlton and he said, was paid shortly thereafter. In cross-examination he acknowledged that no invoice was sent to Amber and the account was "paid" by a journal entry, effective February 28, 1994.
[22] Carlton now supplies administrative services, Mr. Glastra stated. It collects and remits GST. In his view Carlton is doing nothing different today than it did in March 1993. He conceded that it was not until February 1995 that Carlton first reported taxable supplies.
[23] Subsection 123(1) of the Act defines a "commercial activity" of a person to mean:
(a) a business carried on by the person (other than a business carried on by an individual or a partnership, all of the members of which are individuals, without a reasonable expectation of profit), except to the extent to which the business involves the making of exempt supplies by the person,
...
[24] A "business" includes:
a profession, trade, manufacture or undertaking of any kind whatever, whether the activity or undertaking is engaged in for profit, and any activity engaged in on a regular or continuous basis that involves the supply of property by way of lease, licence or similar arrangement, but does not include an office or employment.
[25] The term "exempt supply" means any supply described in Schedule V to the Act. Financial services are included in the definition of exempt supplies.[7]
[26] Carlton submits that it is eligible to claim the input tax credit as it was engaged in a commercial activity during the relevant period; it was in the business of providing "management and administrative services" once it acquired that business from Blackstone on March 1, 1993. The appellant says it was not engaged in providing any financial services since a financial service does not include the provision of management or administrative services to a corporation, partnership or trust, the principal activity of which is the investing of funds on behalf of shareholders, members or other persons: paragraph 123(1)(q).
[27] What activity was Blackstone carrying on before March 1, 1993? Apparently, if I accept the evidence of Mr. Glastra, it appears that Blackstone was not carrying on a business that provided a taxable supply. Blackstone had not collected GST on any fee it charged for management or administrative services. In Mr. Glastra's view, the services Blackstone provided to Amber were exempt from GST. Mr. Glastra did say that Blackstone did receive ITCs. He also confirmed there was no change in the nature of the business once the business was transferred from Blackstone to the appellant. Indeed, as respondent's counsel submitted, there was paltry evidence as to what activities Blackstone actually carried on before March 1, 1993.
[28] Therefore, respondent's counsel questioned if Blackstone did not provide taxable supplies and Blackstone's business was transferred to the appellant, how can the appellant be said to have provided taxable supplies in the course of carrying on same business?
[29] Since Carlton did not report any taxable supplies until February 1995 and did not collect any GST during the period, respondent's counsel concluded Carlton was not engaged in any commercial activity during the period.
[30] Appellant suggests that during the period Carlton was starting up a business. Its counsel referred to Revenue Canada Interpretation Bulletin No. IT-364 for the proposition that a business commences whenever some significant activity is undertaken that is a regular part of the income earning process in that type of business or is an essential preliminary to normal operations. Counsel also referred to Bowman, T.C.C.J. who stated that:
In determining when a business has commenced, it is not realistic to fix the time either at the moment when money starts being earned from the trading or manufacturing operation of the provision of services or, at the other extreme, when the intention to start the business is first formed. Each case turns on its own facts, but where a taxpayer has taken significant and essential steps that are necessary to the carrying on of the business it is fair to conclude that the business has started.[8]
[31] Counsel submitted that on March 1, 1993 her client took significant and essential steps to commence to carry on the commercial activity of providing administrative and management services. The appellant acquired the assets of Blackstone and assumed the latter's liabilities to its employees and landlord. All Blackstone's assets, as well as the expertise of the employees, were required for the purpose of carrying on the commercial activity and the appellant carried on such commercial activities.
[32] In 1995 Mr. Forman, the appellant's accountant, advised Revenue Canada that during 1993 and prior to November 1, 1994 Carlton had no taxable supplies. Mr. Forman described this period as the development stage of the appellant's commercial activities. Mr. Forman was not called as witness.
[33] I find strange the position of the appellant that during the 1993 calendar year and the first half of 1994, at least, Carlton was in the "start up" or "development" stage of commercial activity. The appellant led evidence that on March 1, 1993, it acquired Blackstone's business of providing administrative and management as a going concern. My understanding is that when business is transferred as a going concern the business continues to operate without any interruption.
[34] Thus, if Blackstone's business were transferred as a going concern, then Carlton commenced operating the business without interruption on March 1, 1993 and there was no "start up" or "development" stage insofar as Carlton is concerned. The business had its "start up" stage with Blackstone. There was no "development" or "start up" stage once Carlton acquired Blackstone's business as a going concern, a business that had clients and functions to perform in the carrying on of a mature business at that time. Hence, Carlton ought to have collected GST and be entitled to ITCs. If on the other hand, no GST was collected, was it because Carlton had not yet commenced carrying on the business it purportedly acquired? March and April are busy months for the business and yet Carlton made no supplies during those months. Something, somewhere is wrong. If there was an hiatus in the carrying on of the business by Carlton after February 1, 1993, then there is no evidence who did carry on the business during its "busy months", at least. If Carlton did not carry on the business once it purported to acquire it as a going concern, then there is no evidence before me to conclude Carlton intended to carry on the business it purported to acquire within some reasonable time. If, on the other hand, Carlton did carry on the business once the business was acquired and things are what the appellant says they are then a reasonable person would conclude that Carlton made supplies during its "busy months" of March and April 1993. That Carlton carried on the business is not supported by anything I heard at trial.
[35] The definitions of "supply" and "taxable supply" found in subsection 123(1) of the Act are broad enough to together encompass virtually all forms of transactions such as sale, transfer, barter, exchange, licence, rental, lease, gift or disposition made in the course of a commercial activity. The definition of "commercial activity" in subsection 123(1) of the Act does not expressly require that taxable supplies be made. Nonetheless, it is difficult to imagine the carrying on of a business without its activity falling within the scope of a supply.
[36] Practically speaking then, in conducting a business, except to the extent it involves the making of exempt supplies, almost all activities will constitute supplies. By definition such supplies are taxable supplies. In any event, a commercial activity suggests the business be involved in the making of supplies by the person carrying on the business that are not exempt supplies. Since the appellant reported no sales or revenues during the period, one may reasonably infer that the appellant was not engaged in commercial activities during the period and, if so, the appellant cannot be considered eligible for ITCs in the period.[9]
[37] In accordance with subsection 169(1) of the Act, ITCs are available where tax on inputs in respect of a supply becomes payable or is paid by a registrant person. Recovery of the tax paid is limited to the extent that the inputs were acquired for consumption, use or supply in the course of commercial activities of the person. In Nineteen Ninety Clothing Co. Inc. v. The Queen, [1994] GST C 84 (T.C.C.), at 84-5, Garon, J.T.C.C. said in obiter dicta:
Pursuant to subsection 169(1) of the Act, a person is only entitled to an input tax credit for the purchase of a service where the tax in respect of the service is paid or becomes payable by that person. Speaking generally, the purchaser of a taxable supply is entitled to an input tax credit and can recover from the government the tax he has paid to the extent that this purchaser uses that good or service in the production of other taxable supplies. [emphasis added]
ITCs are generally unavailable unless the inputs for which the ITCs are claimed were used in the production of other taxable supplies.[10] Carlton did not report any taxable supplies during the period in issue which, if it were in fact carrying on the business it purported to acquire immediately on acquisition, supplies would have been made.
[38] Accordingly, the appellant is not entitled to ITCs during the period and its appeal is dismissed with costs.
Signed at Ottawa, Canada, this 2nd day of June 1998.
"Gerald J. Rip"
J.T.C.C.
[1] Schedule V to the Act, Part VII.
[2] Persons making taxable supplies in the course of commercial activities are required to register.a Persons not required to be registered may do so voluntarily if they are engaged in commercial activities.b This raises the question of whether, given that it was not engaged in commercial activities at the time of registration, Carlton could be properly registered under the Act. Although the Minister is empowered to register any person applying for registration,c it is arguable that in circumstances where a registrant was not engaged in commercial activity at the time of registration, the registration should be considered a nullity and does not bind the Minister.d
It may well be that subsection 241(1) should be interpreted restrictively because subsection 240(3) would be meaningless and unnecessary if the Minister’s authority under subsection 241(1) to register any applicant were broad enough to include any applicant without condition. The effect of the broad construction would run counter to the interpretative presumptions against absurdity and incoherency.e However, the Technical Notes (May 1990) accompanying subsection 240(3) suggest that the purpose of the provision is to provide relief to certain discrete categories of persons, such as small suppliers. In this regard, subsection 240(3) may be said to provide a guideline to the Minister as to what specific kinds of voluntary applicants should be registered, without actually restricting the Minister’s general powers to accept applications from persons who do not fall within the requirements of subsection 240(3). If the registration of a person were found to be a nullity, then that person's appeal would have to be dismissed since the wording of subsection 169(1) is clear that a precondition to an ITC entitlement is that the person in question be a registrant. This issue was not argued by counsel and it may be necessary to consider this issue at a later date.
__________________________
a Subsection 240(1) of the Act.
b Paragraph 240(3)(a) of the Act.
c Subsection 241(1) of the Act.
d See B.J. Northern Enterprises v. The Queen, [1995] GSTC 12-1, where the Crown cited as authority: M.N.R. v. Inland Industries Limited, [1974] S.C.R. 514 at p. 524 per Pigeon J.; Granger v. Canada Employment and Immigration Commission, [1986] 3 F.C. 70. The final analysis in BJ Northern did not require that this argument be addressed, however, and so the question remains. See also GST New Memoranda, Chapter 2.3, “Voluntary registration” (June 1995), where in paragraph 6 the Department indicates that an applicant must be engaged in a commercial activity or demonstrate a clear intention to be so engaged in order to qualify for voluntary registration.
e See Ruth Sullivan, ed., Driedger on the Construction of Statutes, 3rd. ed. (Toronto: Butterworths, 1994), at 85-6 and 176.
[3] There is no evidence that Carlton or Amber or any corporation in the same corporate group filed an election pursuant to section 156 of the Act so that taxable supplies between such closely related corporations are deemed to be made for no consideration. Counsel did not refer me to any provision of the Act to support Mr. Glastra's position that no GST was payable on other inter corporate transactions and I did not ask counsel to do so.
[4] Exhibit A-1. tabs 7, 8 and 9.
[5] Exhibit A-1, tabs 7, 8 and 9.
[6] This is after the appellant objected to the assessment in issue on March 8, 1995. The Notice of Reassessment for the period ending November 30, 1993 is dated February 10, 1995.
[7] Subsection 123(1) of the Act and Part VII of Schedule V.
[8] Gartry v. The Queen, 94 DTC 1947 at 1949. See also Samson et Frères Ltée v. The Queen, 97 DTC 642 at 645 to 646, per Dussault, T.C.C.J.
[9] I do not think it is necessary that in a "start up" of a business, for example, any supplies need be made in order to be eligilible for ITCs. The expenditures giving rise to the ITCs should be made with the intent of carrying on a commercial activity or in the course of a commercial activity. There are also circumstances in which no GST is paid or payable and yet entitlement to ITCs remains (for example, where taxable supplies are deemed zero-rated pursuant to a section 156 election).
[10] The proposition also finds support in section 141.01 of the Act. Where a business is involved in making both taxable and exempt supplies, section 141.01 of the Act provides for an attribution of costs to the making of supplies. Subject to my comments in footnote 9, only if and to the extent costs were incurred for the purpose of making taxable supplies would they be eligible for ITCs.