The “One-Man Company”:
Some Principles of Taxation
James S. Hausman*
Although traditionally the corporation has been a favoured form
of business organization because it offers such advantages as limited
liability, it has become, with the introduction of the progressive in-
come tax, an important vehicle for tax planning. The purpose of this
discussion is to examined some of the principles of the law of taxation
that come into play when the corporate entity is employed to achieve
tax planning objectives. Particular emphasis is laid on those that are
relevant to the closely held corporation, which in the jargon that has
developed, is commonly referred to as the “one-man company”.
Canadian View of the Corporate Entity
Any discussion of the corporate entity must begin with the decision
in Salomon v. Salomon and Company, Limited 1 where the House of
Lords affirmed that incorporation was a privilege open to anyone who
could meet the technical requirements of the relevant legislation, and
that the corporation once formed must be recognized as separate
and distinct from its corporators. Lord Halsbury L.C., summarized
the views of their Lordships when he stated:
… it seems to me impossible to dispute that once the company is legally
incorporated, it must be treated like any other independent person with its
rights and liabilities appropriate to itself, and that the motives of those
who took part in the promotion of the company are absolutely irrelevant
in discussing what those rights and liabilities are.
One may reasonably question whether the principle enunciated in
the Salomon’s case, which dealt with a question of limited liability,
should also be applied to recognize the shareholder and the corporation
as distinct legal persons for taxation purposes. But the scheme of the
Canadian Income Tax Act 2 is based on the premise that they are
distinct, and that each is subject to tax separately. 3 Thus, in in-
terpreting its provisions, it must be assumed that it was the intention
*Of the Ontario Bar.
1 (18971 A.C. 22.
2 R.S.C. 1952, c. 148 as amended.
3 See, for example, ss. 139(1) (ac), 2, 6(1) (a) (i), 8, 17 and 81 of the
Income Tax Act.
McGILL LAW JOURNAL
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of Parliament, in the absence of special provisions in the Act,4 to apply
the general principles of corporate law in determining whether tax is
to be imposed in any particular set of circumstances.
This was the approach adopted by the English Courts in inter-
preting the British tax legislation. For example, in The Gramo-
phone & Typewriter Limited v. Stanley,5 the English Court of Appeal
held that the mere fact that an English company held all the shares
of the German company did not subject the profits of the business
of the German company to income tax in England as profits of the
English company. Similarly, in C.l.R. v. Sansom 6 the Court of Appeal
held that loans made to the sole shareholder of a corporation which in
fact were never repaid could not in law constitute a distribution of the
corporation’s profits to the shareholder.7
The leading Canadian authority on this question is Pioneer Laun-
dry and Dry Cleaners, Limited v. M.N.R.,5 where the taxpayer ap-
pealed to the Judicial Committee of the Privy Council with respect
to its liability for tax under the Canadian Income War Tax Act.,
The appellant had sold its depreciable assets to an affiliated com-
pany at their appraised values and then sought to depreciate them
at those values to arrive at taxable income. The Privy Council disa-
greed with the Minister and the Courts in Canada affirming that
the depreciation base could be increased in this way. Lord Thankerton
speaking for the Board said :10
[The Minister] … was not entitled, in the absence of fraud or improper
–
conduct, to disregard the separate legal existence of the appellant company,
and to inquire as to who its shareholders were and its Telation to its prede-
cessors. The taxpayer is the company and not its shareholders.
If any doubt remained as to the ambit of the right of a Canadian
taxpayer to confound the tax collector by using the corporate entity, it
must have been completely dispelled by the decision of the Supreme
Court of Canada in Army and Navy Department Store Limited V.
M.N.R. 11 The Supreme Court, by a majority judgment, in effect agreed
with the taxpayer’s contention that shares held by a group of individu-
4 See, for example, ss. 8, 39, 67, 81, 138A(l) & (2), 139(5) and 105 of
the Income Tax Act.
5 [1908] 2 K.B. 89, 5 T.C. 358.
6 [1921] 2 K.B. 492.
7 The Privy Council confirmed that both the Gramophone and Sansom cases
represented the law of Canada in Export Brewing & Malting Co. V. Dominion
Bank [1937] 3 D.L.R. 513, a case which did not deal with the imposition of tax.
8 [1940] A.C. 127.
9 R.S.C. 1927 c. 97.
10 [1940] A.C. 127, at p. 137.
11 E19531 2 S.C.R. 496, 53 D.T.C. 1185 (S.C.C.).
No. 2]
SOME PRINCIPLES OF TAXATION
als through an intermediary holding company were not “owned by
them directly or indirectly”. 12
Instances of Non-recognition of the Corporate Entity
While it is fundamental to the corporate and tax law of Canada
that a corporation is an entity distinct from its shareholders, the
Courts have nevertheless held that in some instances, despite incorpo-
ration, the business or property in law remains that of the controlling
shareholder. In doing so the Courts have frequently found that the
corporation was merely an agent or sometimes a “sham, simulacrum,
cloak, or alter ego” for the controlling shareholder.
The admonition that such a finding was possible in tax cases
was clearly made by Lord Cozens-Hardy, M.R., in the Gramophone
case. 13
I do not doubt that a person in that position [i.e. owning all the shares of
the company] may cause such an arrangement to be entered into between
himself and the company as will suffice to constitute the company his agent
for the purpose of carrying on the business, and thereupon the business
will become, for all taxing purposes, his business. Whether this consequence
follows is in each case a matter of fact.
Lord Sterndale, M.R. in the Sansom case, supra, stated the prin-
ciple in the following way: 14
There may… be a position such that although there is a legal entity within
the principle of Salomon v. Salomon & Co., that legal entity may be acting
as the agent of an individual and may really be doing his business and not
its own at all. Apart from the technical question of agency it is difficult to
see how that could be, but it is conceivable. Therefore the mere fact that the
case is one which falls within Salomon v. Salomon & Co. is not of itself
conclusive. It goes some considerable way, but it is not conclusive.’ 5
It is on this basis that the decision of the Supreme Court of Canada
was adverse to the taxpayer in Colgate-Palmolive-Peet Company,
Limited v. The King.16 In that case, two companies, one Ontario and
12 The strict view of the corporate entity has operated to the disadvantage of
the unwary taxpayer. For example, where a parent company has made good the
losses of its subsidiary, the amounts paid could not be said to be exclusively laid
out for the purpose of the shareholder’s trade. Odham’s Press Ltd. v. Cook [1940]
3 All E.R. 15, c.f., Topper v. M.N.R. 65 D.T.C. 5018.
13 [1908] 2 K.B. 89, at p. 96.
14 Supra at [1921] 2 K.B. 492.
15 See also the brewery cases: St. Louis Breweries, Ltd. v. Apthorpe (1898)
4 T.C. 111; United States Brewing Co., Ltd. v. Apthorpe (1898) 4 T.C. 17;
Apthorpe V. Peter Schoenhofen Brewing Co., Ltd. (1899) 4 T.C. 41 and more
recently Firestone Tyre and Rubber Co. v. Llewellin [1957] 1 W.L.R. 464 (H.L.).
16 [1933] S.C.R. 131; 1 D.T.C. 238.
McGILL LAW JOURNAL
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the other Dominion, were incorporated by the same U.S. parent com-
pany. The Ontario company manufactured goods and sold them to
the Dominion company which in turn sold them to the public. The
Crown sought to impose a sales tax on the Dominion company’s
sale price on the basis that the Dominion company was the “producer
or manufacturer at the time of the sale”. Their Lordships were obvi-
ously impressed by the evidence that indicated that the Ontario com-
pany had to carry out the instructions of the Dominion company and
that the Ontario and Dominion companies did not deal with each other
as free agents. Cannon, J. speaking for the Court concluded :17
… we must, as matters of fact, identify the producer of the goods and
determine the real price received by such producer when selling them to the
public for consumption. In this case, it is abundantly clear that the Palmo-
live soap is produced and sold to the public by a combination of these two
incorporated departments of a foreign company doing business here in order
to reach the Canadian consumer. While the two companies are separate legal
entities, yet in fact, and for all practical purposes, they are merged, the
Ontario company being but a part of the Dominion company, acting merely
as its agent and subject in all things to its proper direction and control.18
It is unfortunate that in many cases the Courts have chosen to
describe the corporation in such terms as “alter ego”, “cloak”, “simu-
lacrum” or even “agent” to justify their conclusion that the separate
existence of the corporation is to be ignored. If literally applied as a
test to determine when the corporate entity is to be ignored, it is diffi-
cut to see how there could not be a finding in every case of the “one-
man company” that the company is merely acting as agent for its
shareholder. Salomon’s case is, of course, direct authority that such a
finding cannot be made in every case and therefore the question
arises: when is a court entitled to find that the corporation
is
“agent” for the shareholder, or more properly, that the legal sepa-
ration of shareholder and corporation has not been achieved ?18
At least part of the answer lies in the relationship that is estab-
lished between the shareholder and the corporation. As a very mini-
mum, the corporation must be vested with the assets with which its
business is to be carried on.’0 Moreover, the affairs of the share-
holder and those of the corporation cannot be so confused and in-
tertwined that it is not clear to third persons whether it is the corpo-
ration or the shareholder that is carrying on the business –
the prin-
ciple being that if the shareholder disregards the corporate entity, he
cannot expect outsiders, including the Tax Department, to be bound
by the separation of shareholder and corporation.
17 Ibid., at p. 140.
18 See also: Canada Rice Mills, Ltd. v. The King [1939] 3 All E.R. 991.
19 See, for example, Apthorpe v. Peter Schoenhofen Brewing Co. Ltd., (1899),
4 T.C. 41.
No. 2]
SOME PRINCIPLES OF TAXATION
This principle was stated by Rand, J., in Toronto v. Aluminum
Company of Canada Limited 0 in the following way:
The question, then, in each case, apart from formal agency which is not
present here, is whether or not the parent company is in fact in such an
intimate and immediate domination of the motions of
the subordinate
company that it can be said that the latter has, in the true sense of the
expression, no independent functioning of its own.
Although the Courts have never said so specifically, it appears that
they also look to the activity which is carried on by the shareholder to
determine whether it is appropriate to separate the functions allo-
cated to the corporation from the business of the shareholder.
For instance in Kindree v. M.N.R.21 a medical doctor transferred
his practice and clinic to a company with which he purported to
make a contract of employment, under which he was to receive a
fixed salary. The Exchequer Court refused to recognize that the
medical practice could be carried on in the corporate form and,
accordingly, held that the medical fees were received by the medical
doctor in his personal capacity. Cattanach, J., in arriving at this
conclusion, stated:
In my opinion, the appellant is precluded in fact and in law and as a matter
of public policy from practising the profession of medicine in any of its
forms as agent of a body corporate and the document purporting to be a
contract of employment between the appellant and the Company did not
establish an employer-employee relationship. Similarly so, the documents
purporting to be contracts of employment between the other doctors and
the Company did not establish an employer-employee relationship as between
them and the Company, but rather such relationship subsisted between them
and the appellant.
It is well established, however, that the fact that a corporation’s
business is illegal does not prevent the profits from being considered
its income and subject to tax.22 Rather, it appears that the Court
has made a judgment that in the circumstances the corporation was
not the appropriate vehicle for carrying on a medical practice, and,
therefore, no recognition could be made of its activities in deter-
mining the tax liability of the doctor who was its principal share-
holder.23
20 [1944] S.C.R. 267 at p. 271; See also Toronto v. Famous Players Canadian
Corp. [1935] 3 D.L.R. 327, af’d. [1936] S.C.R. 141, where dividends from
operating subsidiairies were considered to be business income.
21 64 D.T.C. 5248 (Ex. Ct.).
22 C.f. Minister of Finance v. Smith, [1927] A.C. 193; Mann V. Nash, [1932J
1 K.B. 752.
23 There are authorities which indicate that as a matter of law a corporation
is incapable of carrying on a profession: William Esplen, Son & Swainston, Ltd. v.
C.LR., [1919] 2 K.B. 731; I.R.C. v. Peter McIntyre, Ltd., 12 T.C. 1006. At least
there is a judicial bias against it. Compare Shulman v. M.N.R., [1961] C.T.C.
385 and Peate v. Commissioner of Taxation, [1966] 2 All E.R. 766.
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[Vol. 13
The recent decision of the Exchequer Court in M.N.R. v. Consol-
idated Mogul Mines Limited,24 is another example where the ambit
of the business attributed to the shareholder was not co-extensive with
the “corporate borders”. In that case the Exchequer Court held that
the appellant’s principal business was “mining or exploring for
minerals” even though the actual exploration and mining activities
were carried out by affiliated companies.25
The Corporate Entity and Commercial Intention
Thus far our inquiry has been directed to the circumstances in
which the Courts are entitled to find that business is carried on by
the shareholder and not by the corporation. There are, however,
instances where there is no doubt that the property is vested in
the corporation, or that the proceeds resulting from sale of the prop-
erty belong to the corporation. The only issue is whether a sale was
made in the course of its business or whether it is properly charac-
terized as a realization of capital investment.
In making such a determination the Courts in many cases have
looked to the intentions of the natural persons who are the corpora-
tion’s shareholders. 26 For example, in Regal Heights Limited V.
M.N.R.,2 7 certain lands which had originally been purchased for the
construction of a large shopping centre were transferred to a corpora-
tion which subsequently disposed of the land for a considerable profit.
Judson, J. who delivered the reasons for the majority judgment of
the Supreme Court of Canada, agreed with the Minister that the profit
resulted from an adventure in the nature of trade, and held that it was
not open to the appellant company to argue that its intentions were to
be considered separate from those of its shareholders. He said:
Throughout the existence of the appellant company, its interest and intentions
were identical with those of the promoters of this scheme. One of the objects
stated in a memorandum of association of the company was ‘to construct
and operate apartment houses, blocks, shopping centres and to otherwise
24 66 D.T.C. 5008.
25 For a discussion of the “Enterprise Entity” theory which has developed
much further in the U.S.A., see Berle, “The Theory of Enterprise Entity”, (1947)
47 Col. L.R. 343. It is interesting to speculate whether the “enterprise entity
theory” is really only an aspect of the principle that the corporate entity will
be ignored where the shareholder is in “intimate and immediate domination” of
its affairs. If the business of the shareholder is not conveniently severable from
that of the corporation is it not likely that just such a relationship will be
established ?
26 To determine uniquely human attributes from those of the shareholders who
are natural persons is consistent with Daimler Co. v. Continental Tyre & Rubber
Co., [1916] 2 A.C. 307 (H.L.).
27 [1960] S.C.R. 902.
No. 2]
SOME PRINCIPLES OF TAXATION
carry on any business which may be conveniently carried on in the shopping
centre’. Nothing turns upon such a statement in such document. The question
to be determined is not what business or trade the company might have
carried on but rather what business, if any, it did in fact engage in. (Sutton
Lumber and Trading Co. Ltd. v. M.N.R. [1953] 2 S.C.R. 77). What the
promoters and the company did and intended to do is clear to me on the
evidence, as it was to the learned trial judge.
Even where a transaction would otherwise not be considered to
have been made during the course of trade, if the corporate powers
envisage such a transaction as part of its business, there is a tendency
for the Courts to regard it to be within the stated intention for which
the company was formed and therefore productive of taxable income. 28
The question that as yet has not been satisfactorily answered is
whether an individual or corporation trading in assets capable of
being held as an investment can segregate a portion of those assets
for investment purposes by incorporation so that any gain realized
upon their ultimate disposition will be considered to be received on
account of capital rather than as income.29
Transactions Between Shareholder and Corporation
If in law the corporation and its shareholder are separate legal
entities, it follows logically, and the Courts have so held, that the
property of the corporation is not the property of the shareholder.
This principle has been recognized by the Courts for tax purposes 30
although presumably it is open to a Court to find that in appropriate
circumstances the corporation was merely an “agent” or “alter ego”
of the shareholder.31
Therefore, if a shareholder is to be subject to income tax, it must
be in respect of amounts received as income arising from the shares
which he holds and not from the property of the corporation.3 2 Accor-
dingly if a corporation chooses to pay a stock dividend, although it
may be in the form of a redeemable security coinciding in value
28See, for example, Atlantic Sugar Refineries V. M.N.R. [1949] C.T.C. 196;
49 D.T.C. 602 (S.C.C.); and Balstone Farms Ltd. V. M.N.R. 66 D.T.C. 5482.
29 The recent decision in Foreign Power Securities Limited v. M.N.R., 66 D.T.C.
5012, indicates that it is possible. At the time of writing, the decision is under
appeal to the Supreme Court of Canada.
30 See, for example, Army and Navy Department Store Limited v. M.N.R.,
[1953] 2 S.C.R. 496.
31 See, for example, Leckie Estate V. M.N.R., 66 D.T.C. 5237, where the Ex-
chequer Court found that the place of transfer of a corporation was where the
principal shareholder was domiciled because the shareholder did not consider the
corporation as distinct from himself.
32 1.R.C. v. Reid’s Trustees, [1949] 1 All E.R. 354.
McGILL LAW JOURNAL
[Vol. 13
with the accumulated trading profits of the corporation, the further
shares do not constitute a realization of income but merely represent a
rearrangement of the shareholder’s investment in the corporation. 3
Yet the law is also clear that when trading assets are disposed of
for value, income is realized whether the consideration is in the
form of money or money’s worth, and shares of a corporation con-
stitute money’s worth.3 4
It becomes more difficult to determine when income is realized
in circumstances where shares of a corporation are exchanged as
part of the reorganization of an enterprise in which the shareholder is
already participating. For instance, in The Royal Insurance Company,
Limited v. Stephen,35 the appellant company, a trader in shares,
was required to accept new shares in an amalgamated company
in exchange for the shares it held in the predecessor companies.
The value of the new shares received was less than the original cost
to the appellant of the shares surrendered, and the appellant claimed
that the difference should be allowed as a deduction in computing
its profits for tax purposes. Rowlatt, J., agreed with the appellant’s
claim, holding that the surrender of the old shares enabled the
result of the company’s holdings in those investments to be definitely
ascertained, and therefore the loss had been realized. Rowlatt, J.,
expressed his reasons in his usual candid manner :36
It is not a question of getting money as I have said. At the bottom of this
principle of waiting for a realization, I think there is this idea: while an
investment is going up or down, for Income Tax purposes the Company cannot
take any notice of fluctuations, but it has to take notice of them when all
that state of affairs comes to an end, when that investment is wound up
I will say –
“wound up” is an unfortunate expression perhaps and I will
say when an investment ceases to figure in the Company’s affairs, when
it is known exactly what the holding of that investment has meant, plus
or minus to the Company, and then the Company starts so far as that portion
of its resources is concerned with a new investment.37
How then are these principles to be applied in the context of the
“one man company” where the sole shareholder has transferred trad-
ing assets having a value in excess of his cost to a corporation, in con-
33LR.C. v. Blott, [1921] 2 A.C. 171; 8 T.C. 101; Re Waters, [1956] S.C.R. 889;
Eisner v. Macomber (1920) 252 U.S. 189, 4 Sup. Ct. 189.
3 4 California Copper Syndicate (Ltd. and Reduced) V. Harris (1904) 5 T.C.
159; Gold Coast Selection Trust v. Humphrey, [1948] A.C. 459, [1948] 2 All E.R.
379, 30 T.C. 209.
35 (1928) 14 T.C. 22.
36 Ibid., at p. 28.
37 Contrast however, British South Africa Company v. Varty, (1965) 42 T.C.
406, where the House of Lords (Lord Guest dissenting) held that the exercise of
the option by a trader in securities was not a realization of the asset.
No. 2]
SOME PRINCIPLES OF TAXATION
sideration for the issuance of its shares? There is little doubt that the
transaction between corporation and shareholder is properly charac-
terized as a sale, and if strict recognition is to be given to the
separate corporate entity, the consideration received arises out of
a realization of these assets.38 But such an analysis fails
to
recognize that a transfer to a wholly-owned corporation merely
in the manner in which assets are con-
represents a change
trolled, and that those assets have not “ceased to figure in the tax-
payer’s affairs.” It is arguable that there is no gain in any economic
sense, since the shareholder’s enrichment is still dependent on the
assets transferred; and even on strict legal analysis, the owner of all
the shares of a corporation has the right to liquidate the corporation
and retrieve the assets.39
The Privy Council appears to have adopted the latter view of the
transaction in Doughty v. Commissioner of Taxes,40 where the Board
held that the sale of trading assets of a partnership to a corporation
was a mere bookkeeping entry and as such was not conclusive
evidence of the existence of a profit. Lord Phillimore said:41
The two partners made no money by the mere process of having their stock
in trade valued at a high rate when they transferred to a company consisting
of their two selves.
If they overestimated the value of the stock, the value of the several shares
became less. The capital of the company would be to this extent watered.
As already observed, they could not, by overestimating the value of the assets,
make them more.
There are, however, three recent decisions, two of the Supreme
Court of Canada and one of the Exchequer Court, which indicate
that the law of Canada requires a strict adherence to the separation
of the corporate entity and the shareholder in such circumstances.
The first is the decision of the Supreme Court of Canada in
Falconer v. M.N.R.,42 where certain persons, including the appellant,
acquired an oil farm-out agreement as part of an adventure in the
nature of trade. The agreement was transferred to a company
formed by the syndicate in consideration for the issuance of no
par value shares of the company to each of the members of the
syndicate. The issue before the Court was whether the appellant
38 John Foster & Sons, Limited v. C.IR., [1894] 1 Q.B. 516, where for the
purposes of the Stamp Act, which imposed a duty on every “conveyance or
transfer on sale of any property”, a transfer of assets to a limited liability
company by a partnership was held taxable.
39 Subject, of course, to the rights of creditors.
40 [1927] A.C. 827.
4′ Ibid., at p. 336.
42 [1962] S.C.R. 644.
McGILL LAW JOURNAL
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was to be taxed in respect of the value of the shares of the com-
pany at the time that the oil farm-out agreement was actually
transferred to the company, or whether they were to be valued
at the time the agreement to take shares of the company was entered
into. The majority of the Supreme Court held that the crucial date
for valuation purposes was the date that the agreement was entered
into, and since the agreement with the company was entered into
almost immediately after the acquisition of the oil farm-out agree-
ment, the shares received could have a value no more or no less than
the value of the asset which had been turned over to it. The case is
significant in that it is implicit in the reasons for judgment of the
Court that, had the oil farm-out agreement been transferred to the
corporation at a time when its value had been in excess of the cost,
the receipt of shares of the corporation would have constituted a
realization of income for the purposes of the Income Tax Act. Al-
though the Doughty case was cited, it was apparently not considered
by their Lordships as authority for the proposition that no profit can
be realized upon the transfer of assets to a corporation. 48
In R. K. Fraser (No. 1) v. M.N.R.., 44 the taxpayer, who admittedly
was a trader in land, transferred an undeveloped piece of land to a
corporation which was not controlled by him or his associates. The
face value of the consideration, which took the form of fully-paid
redeemable preferred shares and the assumption of a mortgage, was
$205,000, whereas the fair market value of the land at the time of
transfer was approximately $60,000. The Minister sought to tax the
appellant on the basis that he had realized the amount of $205,000
on the transfer. The Exchequer Court allowed the taxpayer’s appeal
and held, relying on both the Doughty and the Falconer cases, that
the value of the preferred share was no more and no less than the
value of the land at the date of the transaction and that the value
of the latter was the sole question to be decided.45
43 See also, R.K. Fraser (No. 2) v. M.N.R., [1964] C.T.C. 372, 64 D.T.C. 5224
(S.C.C.), where dealers in land had transferred trading assets to a corporation
immediately after acquisition. They were subsequently taxed upon a sale of the
shares on the difference between the cost of the land and the amount ultimately
realized upon the sale of the shares. Presumably, members of the syndicate in
the Falconer case, supra, would be taxed in the same manner upon the ultimate
disposition of their shares in the corporation if the sale were held to be part of
the original adventure.
44 [1964] C.T.C. 1, 64 D.T.C. 5003 (Ex. Ct.).
45 It
is probably only appropriate to value the assets transferred to determine
the value of the amount realized on the transfer where those assets are the only
ones held by the corporation. See, E. Saunders and P. Crawford, “Shares as
Consideration”, 1965 Canadian Tax Journal 38.
No. 2]
SOME PRINCIPLES OF TAXATION
In Belle-Isle v. M.N.R.,46 the taxpayer transferred a hotel property
to a company formed by him as part of a transaction for the disposi-
tion of his hotel business. In consideration for the transfer, the
taxpayer took back a mortgage and shares of the corporation to
which a value was attributed that did not exceed the undepreciated
capital cost of the depreciable assets. On the same day the appellant
sold the shares to an individual for an amount which did exceed
their undepreciated capital cost. The Supreme Court of Canada 47
held that the appellant was subject to recapture of capital cost al-
lowance as determined by the Minister. Although it is not entirely
clear from the reasons for judgment on what basis the taxpayer was
subject to tax, Dumoulin, J., in the Exchequer Court, seemed to rest
his decision upon the ground that the value of the shares received
by the appellant was to be determined by their fair market value
and not by an arbitrary valuation set up by the taxpayer. Their real
value could, of course, be determined by reference to the agreement
which was entered into in the same day between parties dealing at
arm’s length.48
It is apparent from these cases that even though shares of a
corporation are received as a result of what may fairly be described
as a non-commercial disposition of trading assets, the courts can be
expected to adopt a strict view of the separate existence of the cor-
porate entity and deem that the shareholder has received money’s
worth for the assets. 49 To criticize such an approach may over-
emphasize the fictitious nature of the corporate entity and ignore
the fact that in a very real sense, from the point of view of both the
market place and the law, the rights arising out of the ownership of
shares of a corporation are very different from those arising from
direct ownership of the underlying assets. As Learned Hand, J., said
in a leading U.S. tax decision :50
Though courts at times ignore the corporate guise, and look to the control
reserved through share ownership, neither the law nor commercial custom
46 66 D.T.C. 5100 (S.C.C.).
47 Affirming the decisions of the Tax Appeal Board, 63 D.T.C. 347, and the
Exchequer Court, 64 D.T.C. 5041.
48 It
is perhaps significant that under the provisions of section 17(7) and
section 20 (4) of the Canadian Income Tax Act transfers at less than fair market
value are envisaged between persons who do not deal at arm’s length. Quaere:
whether in the light of this case any transfer for common shares in the capital of a
corporation can be made for less than the fair market value of the assets.
49 Leaving aside any consideration of the specific provisions of the taxing
statutes, e.g. section 17 of the Income Tax Act.
o Insurance & Title Guarantee Company v. Commissioner, (1929) 36 F.
(2d)
842 (Cir. C.A.), at page 843.
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[Vol. 13
assimilates absolute title with share holding for purposes of sale and so of
profit. Shares are separate salable units, not even aliquot interests in the
company’s property, for their owner has no more than a right against the
company, at least before insolvency. Collectively they may allow the holder
still to deal with the assets as he will, but he adopts the corporate form
just for a new convenience in subdividing and disposing of his rights, and
because law and commerce impute substance to the change in form. This
divisible command of money so realized does not exist until he does so; he
must sell the goods en bloc or piecemeal, practically a very different thing
If chattels received in exchange would create a profit, shares will do as well…
Once having conceded that the ownership of shares is neither
practically nor legally the equivalent of ownership of the corporate
assets, the fact that the acquisition of the shares arises out of dealings
which are, in substance, with oneself does not offend any fundamental
principle of the law of taxation. The House of Lords in Sharkey V.
Wernher 51 affirmed that a non-commercial disposition of trading
assets could be productive of taxable income even where in essence
a trader was trading with himself. Lord Radcliffe stated the principle
in the following way :52
… it seems to me better economics to credit the trading owner with the
current realisable value of any stock which he has chosen to dispose of without
commercial disposal than to credit him with an amount equivalent to the
accumulated expenses in respect of that stock. In that sense, the trader’s
choice is itself the receipt, in that he appropriates value to himself or his
donee direct instead of adopting the alternative method of a commercial sale
and subsequent appropriation of the proceeds.
Conclusion
In summary, the principle in Salomon’s case recognizing the strict
separation between the shareholder and the corporation appears to
remain unimpaired and applicable in determining liability for tax
under Canadian taxing legislation. It is therefore with some justi-
fication that the authors of a recent book have opined that, in the
tax planning context, the corporation has replaced the dog as man’s
best friend. 3 But the law has recognized that there are significant
limitations on the use of the corporation, especially where functions
allocated to the corporation cannot be separated conveniently from
the activities of the shareholder or where he fails to separate them.
Even where the separation is achieved, in the light of the present
state of the authorities, transferring assets to a corporation may
have the unanticipated effect of accelerating the incidence of tax
rather than minimizing or deferring it.
51 [1955] 3 All E.R. 493. The doctrine of deemed realization as set out in
Sharkey v. Wernher was held applicable to transfers of property between related
companies in Petrotim Securities v. Ayres [1964] 1 All E.R. 269.
52 [1955] 3 All E.R. 493, at p. 506.
5 3 Spindler and Timbrell, Canadian Estate Planning, Don Mills (1966).
