Citation: 2009 TCC 515
Date: 20091015
Docket: 2007-3565(GST)G
BETWEEN:
RESTAURANT LE RELAIS DE ST-JEAN INC.,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
[OFFICIAL ENGLISH
TRANSLATION]
REASONS FOR JUDGMENT
Lamarre J.
[1]
This is an
appeal from an assessment made under the Excise Tax Act (ETA) through
the Minister of Revenue of Quebec (the Minister) on April 5, 2005, and
relating to the period from January 29, 2002, to
December 31, 2003.
[2]
In that
assessment, the Minister claims additional tax of $47,080, with penalties of
$15,539 and interest of $2,719, relating to alleged additional income that was
not reported by the appellant and that was estimated by the Minister to be
$261,789 in 2002 and $254,574 in 2003 (see the notice of assessment filed as
Exhibit I-1, Tab 1, and the reconstruction of income attached to the audit
report as Exhibit I-1, Tab 4, page 6.4).
[3]
The
Minister used an indirect audit method to reconstruct the appellant's sales
during the period in question.
The reasons for proceeding in this way and the
procedure followed are explained in paragraphs 12.5 et seq. of the Reply to the
Notice of Appeal, reproduced below:
[Translation]
12.5
Given that the appellant's
accounting records were deficient, that meal bills were missing for the period
from January 29, 2002, to July 11, 2003, and that a preliminary test comparing
sales to purchases had revealed inconsistencies and irregularities in the
amounts reported by the appellant, the auditor used an indirect audit method to
reconstruct the appellant's sales during the period in question.
12.6
The audit method used was the
sampling method, which consisted in analyzing the purchases and sales of
selected items during the survey period.
12.7
The survey period ran from
July 30, 2003, to December 31, 2003.
12.8
Given that the appellant had
not kept the meal bills for the period from January 29, 2002, to
July 11, 2003, the survey period was used as a reference for that
period.
12.9
At the start of the audit in
July 2003, the auditor informed the appellant's representative that, from then
on, he had to keep the meal bills, and the auditor used the bills for the five
months that followed, namely, August to December 2003, for her sampling.
12.10
Despite the auditor's request
that the meal bills be sorted by date, they were not sorted, which made it
almost impossible to reconcile them with the cash register tapes.
12.11
The auditor used a sampling
interval of 10, which meant that 1 out of every 10 meal bills was used in the
sampling.
12.12
The auditor selected three of
the food items served at the restaurant to use in her audit, namely, hamburger
buns, cheese curds and beer.
12.13
The sampling interval, the
total number of meal bills available as well as the number of selected items
and the frequency with which those items are found on the selected bills are
sufficient for the auditor's survey to have 95% reliability and a 10.7% margin
of error.
12.14
For each selected meal bill,
the auditor wrote down the date, number, net sale amount and the selected items
referred to in subparagraph 12.11 if they were on the bill or if they were part
of the dish shown on the bill.
12.15
Baked beans were initially
chosen as an item to analyze but were not used in the survey at issue because
the auditor noticed that the annual purchases of baked beans from the
appellant's suppliers were lower than the quantities sold by the appellant,
which affected the credibility of the purchase amounts reported by the
appellant and showed that the appellant did not report all of its purchases.
12.16
The total net sales in the
sampling were $32,836.27.
12.17
The auditor then calculated a ratio of 71.84 [final
ratio, Exhibit I‑1, Tab 4, p. 6.4] by dividing the total
net sales in the sampling, which were $32,836.27, by the total number of items
sold in the sampling, which was 457 [final amount, Exhibit I‑1, Tab 4, p. 6.4]
for the survey period.
12.18
The auditor also took into account the 10% price
increase between 2002 and 2003, which lowered the ratio established for the
survey period.
12.19
To reconstruct the appellant’s sales for the
period in question, the auditor multiplied the ratio stated in subparagraph
12.16 by the total number of items purchased by the appellant during the survey
period.
12.20
The auditor determined which items the appellant
had purchased during the period in question using the supplier invoices
provided by the appellant.
12.21
The auditor took into consideration take-out
sales for which there might not have been meal bills, as well as losses and
personal consumption as determined by the appellant (5% of the items
purchased).
12.22
Adjustments were also made, following
submissions on the draft assessment, to correct some errors. However, those
corrections did not decrease the reliability of the survey conducted by the
auditor.
12.23
The net sales thus reconstructed by the auditor
for the period from January 29, 2002 to December 31, 2002
were $974,925, while the sales reported by the appellant were $713,136.
12.24
The net sales thus reconstructed by the auditor
for the period from January 1, 2003, to December 31, 2003,
were $927,587, while the sales reported by the appellant were $673,013.
12.25
Therefore, the appellant failed to report and
remit the GST on supplies of $261,789 for the period from
January 29, 2002, to December 31, 2002, and on supplies of
$254,574 for the period from January 1, 2003, to
December 31, 2003.
[4]
In addition, the
respondent indicated in the Reply to the Notice of Appeal that, after the
assessment had been confirmed, Carole Thibault, the auditor acting for the
Minister, had required and obtained from the bun suppliers documents showing
that the appellant had purchased 6,648 hamburger buns, while it had provided
purchase invoices for only 6,120 buns, resulting in a difference of 528 buns or
44 dozen. This leads the respondent to suggest that the estimate of unreported
sales in the assessment is even lower than it should be.
[5]
In her audit report,
Ms. Thibault indicated in paragraph 7.3 on page 4
(Exhibit I‑1, Tab 4) that [Translation]
“because of the irregularities in the financial statements, limited internal
control and a weak accounting system, we had to use an alternative method”,
which was described rather explicitly in the Reply to the Notice of Appeal and is
reproduced above.
[6]
In paragraph 6.8
on page 3 of that report, she stated that she had in her possession bank
statements from February 2002 to December 2003, purchase invoices
from February 2002 to December 2003, the financial statements from
2002‑12‑31 and 2003‑12‑31, dining-in meal bills from
July 12, 2003, to December 31, 2003, and the cash register
tapes from the start of the business's operations. She explained in the same
paragraph that the sales in the financial statements were determined by reading
the restaurant’s cash register “Z” tape. Argyris Chionis, the restaurant’s
majority owner, added up the cash register tapes at the end of each quarter to
determine the sales.
[7]
At the start of the
audit in July 2003, Mr. Chionis kept the meal bills for only
15 days because he used them to compile the tips allotted to each server.
As soon as that was done, he did not consider it necessary to keep the bills
since the sales were recorded on the cash register tapes, which he kept and
gave to his accountant. Ms. Thibault noted that he did not record the
sales in a sales journal. However, she was able to reconcile the taxes and the
inputs in the ledger with what was reported. She asked Mr. Chionis to keep
the meal bills in future, and he did so. However, he gave her those bills
pell-mell: sorted by server and not in chronological order.
[8]
In his testimony,
Mr. Chionis stated that he had purchased the restaurant at the start of
2002 from two elderly people, who had owned it for 35 years. The restaurant had
regular clientele consisting mostly of older people. There was a video bar next
door that remained open all night. When he purchased the restaurant,
Mr. Chionis closed it for a few weeks to do some renovations. Then he
slightly changed the menu to also attract younger clientele. Menu prices
generally ranged from $1.25 to $13.95 (except for 14-inch pizzas, the price for
which could be up to $17.25). The menu consisted mostly of subs, pizza,
hamburgers, poutine and other similar types of dishes (Exhibit I‑4).
After several months, he closed the bar at night. He also changed suppliers for
some of the foods.
[9]
Mr. Chionis had got to
know the restaurant business from his father, who had operated a take-out snack
bar. His father had always determined his sales using cash register tapes.
Mr. Chionis had never managed a restaurant before but had experience in the
kitchen. His restaurant was rather busy at mealtimes, and he also offered
take-out service. Some members of his family worked at the restaurant.
[10]
When Ms. Thibault
and a colleague came to the premises to conduct the audit, he cooperated as
well as he could, and this was confirmed by Ms. Thibault. He complied with
her requests that he keep the required documents. Throughout her audit, she
came to the restaurant several times per month and asked him questions, which
he answered as best he could, providing approximate answers. He explained that,
the whole time, he continued to take care of his clients, running from one end
of the kitchen to the other in order to serve them. The clients received a bill
at the end of their meal, which they took to the cash register to pay. The
person at the cash register rang in each sale. None of the servers carried cash
on them; all sales went through the cash register.
[11]
When Ms.
Thibault submitted her first draft assessment, she had estimated the unreported
sales for two years to be $1 million. Mr. Chionis was aghast, stating that he had
always reported all his sales. The auditor had
conducted her survey using around 4,000 invoices, choosing one out of every 10.
Mr. Chionis's accountant looked at about 600 of them
and showed Ms. Thibault a number of errors. She
corrected all of them and, in the end, reduced by half the unreported sales
that she had estimated on the basis of her survey. Among other things, she
agreed to reduce, to take take‑out food into account, the purchases used
to establish the unreported sale amount and made some other changes in order to
[Translation] "settle the
case", as she said in Court. For his
part, Mr. Chionis did not want to settle because he considered and still
considers that the sales reconstructed through the survey do not reflect
reality. He simply cannot understand why he
was assessed for so much.
[12]
Ms.
Thibault first conducted a pre-test of a nine-day period to see if it was
necessary to reconstruct the sales. She found that more baked beans were sold
than purchased. That fact was taken into
consideration in her decision to reconstruct the sales. She became aware of the situation with respect to baked
beans when she noticed that the beans were sold in small, two-ounce containers.
My understanding is that she compared the quantity of
beans sold according to the number of those containers with the quantity of
beans purchased according to the number of cans bought. Mr. Chionis explained in Court that it was difficult to say
that the sales of baked beans were higher than the purchases. In the first place, he said that the containers were never
full to the brim. In addition, one can of
beans could be used to fill more containers than is suggested by the quantity
shown on the can, since water was added to the beans. Finally, according to him, the fact that no beans were
purchased in a month means nothing as clients often ask not to be served any.
[13]
Moreover,
Mr. Chionis noted that Ms. Thibault did not take into account all the dishes in
which hamburger buns are served, which, in his opinion, distorts the results
obtained. He filed as Exhibit A-3 all the dishes in which those buns
are used and which were not taken into consideration in the audit.
[14]
Ms. Thibault
had also noticed that there were bills for meals served at the bar. Those bills
were recorded on the bar cash register, but Mr. Chionis might wait a few
days before recording them on the main cash register. He explained that he kept a
bar for the purpose of generating income from lottery tickets and video.
According to him, clients ate very little at the bar,
and that was why he did not transfer the sales of those meals to the main cash
register every day, but only did so every two or three days.
[15]
Ms.
Thibault also alluded in her testimony to the fact that perhaps not all cheese
curd purchases were reported since the quantity purchased varied by month
(Exhibit I-1, Tab 8, p. 6.15).
Analysis
[16]
The
respondent's main argument for upholding the assessment is that there is a
presumption of validity with respect to Ms. Thibault's reconstruction of
sales through sampling, and that the appellant had to provide statistical
evidence in order to rebut that presumption.
[17]
Counsel for
the respondent relied on the decision of the Federal Court of Appeal in Amiante
Spec Inc. v. Canada, 2009 FCA 139, at paragraph 15, where it is pointed out
that the onus is on the taxpayer to demolish the assumptions made by the
Minister to issue an assessment.
The Federal Court of Appeal further states that this
initial onus is met where the taxpayer makes out at least a prima facie
case that demolishes the accuracy of the assumptions. The Federal Court of
Appeal then sets out, at paragraphs 23 and 24 of that same
decision, what constitutes a prima facie case:
[TRANSLATION]
23.
A prima facie case is
one “supported by evidence which raises such a degree of probability in its
favour that it must be accepted if believed by the Court unless it is rebutted
or the contrary is proved. It
may be contrasted with conclusive evidence which excludes the possibility of
the truth of any other conclusion than the one established by that evidence” (Stewart
v. Canada, [2000] T.C.J. No. 53, paragraph 23).
24.
Although it is not
conclusive evidence, “the burden of proof put on the taxpayer is not to be
lightly, capriciously or casually shifted”, considering
that “[i]t is the taxpayer’s business” (Orly Automobiles Inc. v. Canada,
2005 FCA 425, paragraph 20). This Court stated that
the taxpayer “knows how and why it is run in a particular fashion rather than
in some other ways. He knows and possesses information that the Minister does
not. He has information within his reach and under his control” (ibid.).
[18]
In
addition, in Brasserie Futuriste de Laval inc. v. Canada, [2006] T.C.J. No. 440,
affirmed by [2007] F.C.J. No. 1653, Justice Dussault of this Court
introduced a reservation regarding the presumption of validity in cases where a
business's sales are reconstructed by means of an alternative method (in that
particular case, food sales were reconstructed by applying a 200% markup on
purchases, less 5% for losses, in the absence of sales invoices). Justice Dussault wrote the following at
paragraph 158:
158 It goes without saying
that the gross profit margins in the restaurant industry, and the pub sector in
particular, fall outside the scope of judicial notice. If the tax
authorities believe that the only way to determine the sales of a taxpayer
whose accounting is deficient and who does not have the appropriate documents
is to mark up its sales by a certain percentage, they must still show, by means
of evidence regarding industry standards or otherwise, and, if not by an
expert, then with statistics, that the markup being applied is a recognized,
reasonable and appropriate standard for the taxpayer's business. I cannot
accept the submission by counsel for the Respondent that the presumption of an
assessment's validity automatically carries with it a presumption that all the
assumptions on which the Minister relied to make the assessment are valid and
that no evidence of any kind need ever be offered. The 200% markup that
Ms. Morand used may well constitute a recognized, reliable and reasonably
applicable standard in this case, though I doubt it under the circumstances. It
is also possible that the appropriate markup was 175%, 150% or even less. In
short, when a taxpayer can raise a serious doubt, it must be shown that the
markup used is not a purely subjective standard, but, rather, a standard that
is objective, reliable and acceptable under the circumstances. One cannot hide
behind the presumption of an assessment's validity in order to avoid having to
offer such evidence. To claim otherwise is to open the door to arbitrariness
by allowing the tax authorities to propound any theory with the assurance that
it would be deemed valid. Just because a taxpayer has failed to meet its
obligations, has deficient accounting, does not have the appropriate documents,
or has destroyed those documents, does not mean that all assumptions are
warranted and that those assumptions will be deemed valid under all
circumstances. In income tax cases where a taxpayer is assessed by means of
the indirect net worth method, and, for lack of anything better, his personal
expenses are determined by means of assumptions, this is done by using minimum
objective standards drawn from official statistics published by Statistics
Canada with respect to the cost of living for individuals and households in
different parts of the country, not by relying on numbers that stem from the
auditor's impressions. In my opinion, this approach is also applicable to GST
cases. In summary, the assertion that "my team and I apply a markup of
at least 200%, less 5% for losses" is not sufficient to shift to the
taxpayer the full burden of rebutting this assumption where there are serious
doubts about it. A minimum amount of evidence is required in order to determine
that such a markup is recognized, reliable and reasonably applicable under the
circumstances. [Emphasis added.]
[19]
Justice Dussault
stated that, among other things, the overall position of the business must be
taken into account. At the same time, in that same decision,
Justice Dussault accepted a reconstruction of alcoholic beverage sales
that was based on a sampling of employee reports providing the details of sales
over 14 days in a three-month period. He considered that the sample was
sufficiently representative of the products sold and the sale prices during
that period.
[20]
It should
be noted that in Brasserie Futuriste de Laval inc. Justice Dussault
specifically stated that the auditor's work had been a function of the
taxpayer's methods. At
paragraph 152, he stated the following:
152 . . . I certainly admit that sampling can
only yield approximate results that do not necessarily reflect fully the true
picture; this is true of any alternative or indirect method that the tax
authorities use when a taxpayer's affairs, or a taxpayer's documents or lack
thereof, require the authorities to use such a method.
[21]
In that case,
it was admitted from the start that a significant net tax amount (close to
$80,000) was collected by the taxpayer but not remitted. The bank deposits
exceeded the sales recorded in the books. In addition, at the start
of the audit, the auditor had asked the taxpayer's representatives to provide
her with the reports concerning the sales of alcoholic beverages, which were
being systematically destroyed. Contrary to what
occurred in the case at bar, the taxpayer did not comply, and after two
warnings, the auditor was obliged to issue a requirement to produce the
documents. Furthermore, in Brasserie
Futuriste de Laval inc., the auditor had found many indications of wages being
paid in cash and even some of "under the table" payments. What is more, she had had no possibility of thoroughly
analyzing the payroll journal, and in general, was unable to reconcile the
books and records provided. In that context,
given the uncooperative attitude of the taxpayer's representative, the
inaccuracy of the business's books and records, the destruction of the employees'
reports on the details of the sales, and the evidence that the summaries of
sales were altered, the auditor had no choice but to use an alternative method.
In addition, in that same case, the pub had been operated by the same owner for
almost 10 years at the time of the audit.
[22]
I am of the
view that, in the case at bar, the situation is markedly different. For one
thing, the audit concerned the first two years during which the restaurant was being
operated by its current owner, Mr. Chionis. It is true that he
destroyed the meal bills after two weeks, but only once they had been recorded
on the cash register tapes. This was his first
experience as a restaurant owner, and he had no reason to believe that he was
acting illegally. Ms. Thibault had
reproached the appellant from the outset for not entering his sales in a sales journal.
It seems to me that that does not warrant recourse to
an arbitrary method to reconstruct sales that she had considered from the start
to be unreported.
[23]
Even
without a sales journal, she noted that the financial statements reflected all
of the sales found on the cash register tapes. She reconciled the sales
reported with the taxes remitted.
[24]
Having
asked Mr. Chionis to keep the meal bills, Ms. Thibault performed a
preliminary test to try to reconcile the purchases and sales. It seems that it
was the sale of baked beans that gave her the green light to reconstruct the
sales. Indeed, she judged the sales to be higher than the purchases, which,
according to her, proves that not all of the purchases were reported, and
consequently, not all of the sales were reported. Mr. Chionis explained very well the discrepancy that may have
existed between the sales of baked beans and the purchases. It is easily understandable that the amount bought in a can
does not necessarily translate into resale of a like amount, as the beans must
be diluted. In addition, it is my understanding
that Ms. Thibault had noticed that the purchases of cheese curds were not
the same every month. Instead of asking
questions in order to get some explanations, she decided to start her sampling
audit. As for the difference between the
purchases of buns and the number shown by the invoices provided, there was
never really any investigation into this since Ms. Thibault asked the
suppliers about the number of buns sold only after the assessment was issued.
Mr. Chionis was not given an opportunity to explain himself with regard to
that.
[25]
From what I
understand, it is those very random elements that she considers to be
irregularities in the financial statements and that form the basis of her
conclusion that Mr. Chionis's accounting system was deficient, which is her
justification for her attempt to establish unreported sales. Ms. Thibault
admitted in cross‑examination that the appellant's case was part of a
series of audits performed in the restaurant industry.
[26]
In my
opinion, the points relied upon by Ms. Thibault as justification for
proceeding with a reconstruction of sales using a more-than-arbitrary method
were not valid. Mr. Chionis was starting to operate his business. The fact that he
did not record his sales using the method advocated by Ms. Thibault is not
a good reason to cause him to incur astronomical costs to defend himself
against an astronomical assessment. She could have advised him to enter his
data using a method acceptable to the Minister and come back in a year or two
to conduct her audit. Besides,
Ms. Thibault herself recognized that the results obtained were not very
realistic, since part of her testimony was given over to explaining everything
that she did to reduce the unreported sales amount from $1 million to
around $500,000. That exercise alone demonstrates
that reconstructed sales are fundamentally very random and proves, in my opinion,
the elasticity and fragility of the alternative method used. In light of
such a difference, it is difficult to justify a
reliability coefficient of 95%.
[27]
It is my
view that the appellant has made a prima facie case that reconstructing
its sales by means of an alternative method was not justified in the
circumstances. The elements taken into account in order to proceed in that
way were insufficient, in my opinion, especially when one considers that the
appellant was only just starting to operate its restaurant. It would have been wiser, and much less costly for
everyone, to simply advise the appellant of a better way to record its
purchases and sales. The appellant has
certainly cast serious doubt on the necessity of reconstructing the sales in
this particular case.
[28]
For these
reasons, I would allow the appeal and refer the assessment back to the Minister
for reconsideration and reassessment in order to cancel the additional tax of
$47,080 determined on additional sales of $261,789 in 2002 and $254,574 in 2003,
as well as all interest ($2,719) and penalties ($15,539) related to that tax.
Signed at Montreal, Quebec, this 15th day of
October 2009.
"Lucie Lamarre"
on this 29th day
of January 2010.
Erich Klein, Revisor
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