October 07, 2011

Arthur Clemiss (Plaintiff) v. Her Majesty the Queen (Defendant)

92 DTC 6509
Federal Court-Trial Division
September 16, 1992

(Court File No. T-44-88.)

Stock option benefit — Timing of taking up of option for purposes of calculating quantum of benefit — Income Tax Act, S.C. 1970-71-72, c. 63, s. 7(1)(a). Inclusions in income from employment — Legal expenses paid by taxpayer’s employer to defend him from criminal charges involving alleged theft from such employer — Income Tax Act S.C. 1970-71-72, c. 63, s. 6(1)(a).

At all relevant times, the taxpayer was the president and Chief Executive Officer of BX Ltd. (1) On February 23, 1978, the taxpayer purported to take up an option to acquire 60,000 shares of BX Ltd., alleging that a cheque in payment therefor was delivered in person to BX Ltd. through his solicitor. No cancelled cheque, however, was ever produced. On August 30, 1979, the directors of BX Ltd. passed a resolution authorizing the issuance to the taxpayer of the 60,000 shares and, on the same day, share certificates were issued to the taxpayer. The taxpayer did not report the resulting stock option benefit in his 1978 return but did so in his 1979 return. In assessing the taxpayer, the Minister took the position that the shares had been acquired by him on August 30, 1979 at a time when the fair market value thereof was $8.80 per share. The taxpayer, on the other hand, alleged that he had acquired the shares on February 23, 1978 when the fair market value thereof was only $4.25 per share. (2) On January 27, 1977, the taxpayer and two other directors of BX Ltd. were charged with conspiracy to defraud BX Ltd. and with theft of the property of BX Ltd. All three accused were acquitted on November 9, 1979. On May 5, 1980, at an Extraordinary Meeting of the shareholders of BX Ltd., a resolution was passed authorizing the corporation to reimburse the taxpayer for all legal expenses incurred by him in defending himself in respect of the said criminal charges. In due course, the amount in question (in excess of $146,000) was paid to the taxpayer following an approval for payment obtained from the Supreme Court of British Columbia on June 13, 1980. The Minister included this amount in the taxpayer’s income for 1980. The taxpayer’s appeal to the Tax Court of Canada with respect to both of the above-mentioned issues was dismissed (87 DTC 569) and the taxpayer appealed to the Federal Court–Trial Division.

Held: The taxpayer’s appeal was dismissed. (1) The conduct of the parties demonstrated that a binding contract for the purchase of the 60,000 shares in issue was not entered into until August 30, 1979. The taxpayer did not pay for the shares on February 23, 1978; he did not consider himself to be a shareholder (with respect to those shares) on that date and he did not report the benefit in his 1978 return. In addition, BX Ltd. did not authorize the allotment of the shares to the taxpayer until August 30, 1979; the taxpayer was never reported in BX Ltd.’s insider reports (with the Vancouver Stock Exchange) as a shareholder prior to August 30, 1979; and the shares were not authorized as “free-trading” by the provincial Securities Commission until well after August 30, 1979. For all of these reasons, the taxpayer could not be considered to have “acquired” the shares (within the meaning of paragraph 7(1)(a) of the Act) until August 30, 1979. Thus, in computing the amount of the stock option benefit to be included in his income, the Minister had correctly used the $8.80 figure which was the fair market value of the shares involved on August 30, 1979. (2) The issue here was whether or not the payment by BX Ltd. of the taxpayer’s legal expenses amounted to an employee “benefit” required to be included in his income by virtue of paragraph 6(1)(a) of the Act. The applicable test established in the Canadian jurisprudence for the determination of this question, of course, is whether the legal fees paid by the employer are for losses incurred by reason of the employee’s employment or his office as a director, or whether they are for expenses incurred by the employee of a predominantly personal nature. In this case, the expenses were incurred by the taxpayer not in order to do his job, but to answer criminal charges laid against him personally and not against BX Ltd. Accordingly, while the actions giving rise to the criminal charges took place in the context of the taxpayer’s employment as an employee and director of BX Ltd., the legal expenses incurred in connection therewith were not sufficiently closely connected to the taxpayer’s employment to warrant a conclusion that they were incurred in respect thereof. Payment thereof by BX Ltd. therefore constituted a “benefit” to be included in the taxpayer’s income under paragraph 6(1)(a) of the Act. On both issues, therefore, the taxpayer’s appeal was dismissed and the Minister’s assessment was upheld.