I found it impossible not to feel sorry for Mr Ruff, a lawyer who paid hundreds of thousands of dollars to a team of fraudsters: see Ruff v R, 2012 TCC 105. Naturally, the CRA disallowed his attempt to deduct the losses as business expenses. The Tax Court agreed with the Minister’s position.
Part of the fraud involved Mr Ruff having to deal with a “security company” that was supposed to be holding a valuable container to which Mr Ruff was attempting to gain access. The Court noted the following about the company:
[8] The Appellant also located the homepage for the security company (Optimum Security Service). In the joint book of documents there is a photocopy (in black and white) of the Internet homepage for Optimum Security Service. During the hearing the Appellant also introduced a copy of this page that was printed in colour. One obvious observation in looking at the page in colour is that of the five pictures at the top of the page, two of the pictures are clearly taken in an area where there is snow. One picture is of a house with snow in the driveway and snow on the roof and another is of a dog standing on a roadway which is snow covered. The security company was supposedly located in Abidjan, Côte d’Ivoire which is very close to the equator. Given the proximity of Abidjan, Côte d’Ivoire to the equator one would have expected that the climate would be a tropical climate and not one where one would find snow covered houses or roads. The Appellant stated that he had not noticed this until it was brought to his attention during argument following the hearing.
The Tax Court went on to consider Hammill v R, 2005 FCA 252 (which I discuss here). The Court distinguished Hammill with respect to whether Mr Ruff had a source of income on the basis that Mr Ruff did have such a source to which the fraud was reasonably related, namely his law practice. Mr Ruff seemed to indicate to the fraudsters that he would act as their lawyer and trustee. Mr Ruff apparently did act as a trustee in the course of his legal practice. The Court, then, was satisfied that the fraud reasonably related to a source of income (the taxpayer’s legal practice).
The Court, however, went on to hold that section 67 of the Income Tax Act (Canada) needed to be considered as well and that section 67 did not merely govern the proper quantum of an expenditure. The Court quoted Hammill, which in turn quoted ¶ 57 of the Supreme Court’s decision in Stewart v R, 2002 SCC 46:
.. If the deductibility of a particular expense is in question, then it is not the existence of a source of income which ought to be questioned, but the relationship between that expense and the source to which it is purported to relate. The fact that an expense is found to be a personal or living expense does not affect the characterization of the source of income to which the taxpayer attempts to allocate the expense, it simply means that the expense cannot be attributed to the source of income in question. As well, if, in the circumstances, the expense is unreasonable in relation to the source of income, then s.67 of the Act provides a mechanism to reduce or eliminate the amount of the expense. Again, however, excessive or unreasonable expenses have no bearing on the characterization of a particular activity as a source of income. [emphasis added]
Based on this approach, the Court then asked whether “it was reasonable for the Appellant to have believed that there was a container with $8.5 million U.S. in it” and then “whether the amounts incurred [to retrieve the container] were reasonable.” The Court held that Mr Ruff’s belief was not reasonable, then he was not entitled to deduct any amount in respect of the fraud.
Unfortunately for Mr Ruff, the Court concluded that his belief was not reasonable:
[28] It seems to me that there are simply too many inconsistencies and too many questions about the story for the Appellant to have a reasonable belief that the container existed. …
[29] … As a result of these inconsistencies and questions, it does not seem to me that it was reasonable for the Appellant to have believed that there was a container with $8.5 million U.S. in it that was being held by a security company in Abidjan, Côte d’Ivoire. As a result, it seems to me that none of the amounts expended by the Appellant are reasonable in relation to his law practice business and therefore no portion of these amounts is deductible in computing his income from his law practice business.
