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Published: April 21, 2022

Last Updated: October 28, 2022

A real estate agent bought and sold three houses and was reassessed for business income

Mr. Wall was a licensed real estate agent in Vancouver. From 2004 to 2010, he bought and sold three properties and the transactions all had a similar fact pattern. Mr. Wall would first demolish the property right after purchase and then apply for a construction permit. Just around the time the construction was finished, he would then list it for sale. In light of this pattern, Mr. Wall insisted he intended to acquire all three properties as a place for himself and his son and testified that he occupied each property for a period of time before selling it. Because he assumed each property qualified for principal residence exemption, he did not report any gains resulting from the dispositions of the three properties. After he received a tax notice of reassessment for unreported business income from the Canada Revenue Agency (the “CRA”), Mr. Wall appealed to the Tax Court of Canada.

Tax Court ruled that Mr. Wall engaged in an adventure in the nature of trade

The main issue in dispute was whether Mr. Wall was carrying on a business or an adventure or concern in the nature of trade in building and selling three houses from 2004 and 2010. After examining the evidence from both Mr. Wall and the Canadian tax litigation lawyer representing the CRA, the Tax Court found Mr. Wall not to be a credible witness because he could not provide documentary evidence to support much of his position and was selective in remembering the details of the three properties.

The court then applied case law and concluded Mr. Wall carried on the development of the three properties in the course of a business. As a result, the profit he earned was on account of income and that principal residence exemption would not apply because none of the three properties were capital properties. In addition, the tax court ruled that section 3 of Part I of Schedule V of the Excise Tax Act (ETA) did not apply, and Mr. Wall was not exempt from GST because the property must be used as a place of residence to qualify for the exemption.

The Federal Court of Appeal upheld the Tax Court’s decision

Mr. Wall then appealed to the Federal Court of Canada and identified two issues in his appeal:

  1. Whether the Tax Court judge made a palpable and overriding error of fact and law in finding that he was carrying on a business as a builder, and whether section 2 of the ETA should apply to exempt him from GST; and
  2. Whether the Tax Court judge made errors of fact and law by drawing adverse inferences when there was no basis in law or fact to do so.

The Federal Court of Appeal first decided that the standard of review was correctness, and for a question of fact or mixed fact and law, it was palpable and overriding error. Therefore, the court concluded the critical issues was whether Mr. Wall was engaged in a business or an adventure or concern in the nature of trade when he constructed the three properties.

The legal test to determine the issue was set out in Happy Valley farms Limited v Minister of National Revenue, [[1986] 2 CTC 259:

  • The nature of the property sold;
  • The length of the period of ownership;
  • The frequency or number of similar transactions;
  • Work expended on or in connection with the property;
  • The circumstances that were responsible for the sale of the property;
  • Motive.

The court clarified that the motive was the most important factor, but it must be evaluated in light of all factors. With respect to Mr. Wall’s stated intent that he acquired the properties for the purpose of constructing homes to be used by him and his son as a place of residence, the court referred to the decision in MacDonald v Canada, 2020 SCC 6 that ex-post facto testimony regarding a taxpayer’s intention could not overwhelm the manifestations of a different purpose objectively ascertainable for the record. Accordingly, the court concluded that Mr. Wall’s testimony must be evaluated in light of all other evidence presented at the hearing.

The court then focused on another issue raised by Mr. Wall that the Tax Court had drawn an adverse inference due to the absence of a particular person. The Federal Court of Appeal ruled that it was not necessary to analyze the issue because even without any adverse inference, there was more than sufficient basis for the Tax Court judge to reach the conclusion on a balance of probability. The court also found that the evidence supporting Mr. Wall’s assertion was outweighed by the evidence that contradicted his assertion.

Finally, based on the similar fact pattern of all three properties, the court found that the relatively short period of potential occupancy in each property had to occur before the occupancy permit was permitted, which would reasonably support an inference that Mr. Wall’s true intention was to build and sell the houses for a profit.

As for the self-supply rules under subsection 191(1) of the ETA that led to GST application, the court concluded that the exemption under subsection 191(5) of the ETA did not apply because Mr. Wall failed to establish any of the three properties was used primarily as a place of residence for him or his son. Overall, there was no basis for overturning the Tax Court’s ruling.

Pro Tax Tips – Intention is the most factor in determining business income vs capital gain

When determining whether certain profits should be characterized as business income or capital gain, courts will review a list of factors set out in Happy Valley Farm and the intention is the dominant one. Although Mr. Wall insisted that he acquired the three houses as his own residency, the overwhelming evidence didn’t support his claim and he was also ordered by the Federal Court of Appeal to pay $3,000 to the CRA for their costs incurred. Therefore, it is highly recommended for a taxpayer to consult with an experienced Canadian tax lawyer in Toronto to evaluate the merits of the case to avoid any unnecessary costs.


How to differentiate business income and capital gain?

The legal test to determine whether certain profits constitute business income or capital gain was set out in Happy Valley Farms and the court will review the following factors:

  • The nature of the property sold: Certain types of property are more likely to result in capital income or business income. For example, shares generally result in capital income, though business income can be earned from selling shares as well. Other properties, like certain real estate, are neutral. Generally, a property which gives the owner a return that is either financial or personal enjoyment simply by owning the property will give rise to capital income upon its sale.
  • The length of the period of ownership: shorter periods of ownership suggest business income is being earned. Nevertheless, the courts have considered whether shorter periods of ownership are appropriate given the circumstances and thus not indicative of business income.
  • The frequency or number of similar transactions by the taxpayer: A taxpayer who has a pattern of making similar sales or makes several similar sales around the same date is generally conducting business.
  • Work expended on or in connection with the property realized: Those conducting business are typically actively looking to sell their property and will expend work to make the property marketable or find purchasers. This factor can often be analyzed by comparing the taxpayer’s activities to those of a person conducting business with the same property.
  • The circumstances that were responsible for the sale of the property: Reasons for the sale of property which are unexpected at the time of purchase, such as job loss, are indicative of capital income.
  • Motive: The taxpayer’s intention, to conduct business or earn capital income, at the time of acquiring the property.

What is the self-supply rule under subsection 191(1) of the ETA?

The basic self-supply rules apply when a builder either personally occupies or rents out a residential property—i.e., a residential home, condo unit, or apartment building—after having built or substantially renovated that property. If either rule applies, the builder is deemed to have sold and repurchased the property at its fair market value. The builder must therefore include the GST/HST payable on the fair market value of the built or renovated property when computing his or her net tax payable.

Subsection 191(5) of the Excise Tax Act ousts the self-supply rules if the builder used the built or renovated property primarily as his or her place of residence after completing construction. The personal-residence exception also applies if the builder’s spouse, former spouse, or relative used the property as a place of residence after the builder completed construction.

But the personal-residence exception doesn’t apply if either:

  1. the builder is a corporation;
  2. the builder claimed input tax credits for acquiring or improving the property; or
  3. after its construction or renovation, the built or renovated property was used primarily for a purpose other than as the place of residence of the builder or the builder’s spouse, former spouse, or relative.


"This article provides information of a general nature only. It is only current at the posting date. It is not updated and it may no longer be current. It does not provide legal advice nor can it or should it be relied upon. All tax situations are specific to their facts and will differ from the situations in the articles. If you have specific legal questions you should consult a lawyer."

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