Citation: 2012TCC168
Date: 20120518
Docket: 2011-1031(IT)I
BETWEEN:
EVELYN W. CHAN,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
REASONS FOR JUDGMENT
Webb J.
[1]
The issue in this
appeal is whether the penalty that was imposed pursuant to subsection 163(1) of
the Income Tax Act (the “Act”) in relation to an amount that the
Appellant failed to include in computing her income in her tax return that she
filed for 2008 (following a previous failure to include an amount in income in
filing her 2007 tax return) should be upheld or deleted. This subsection
provides as follows:
163. (1) Every person who
(a) fails to report an amount required to be included in
computing the person's income in a return filed under section 150 for a taxation
year, and
(b) had failed to report an amount required to be so included
in any return filed under section 150 for any of the three preceding taxation
years
is liable to a penalty equal to 10% of the amount described in
paragraph (a), except where the person is liable to a penalty under
subsection (2) in respect of that amount.
[2]
The penalty under
subsection 163(1) of the Act is imposed on a person who fails to report,
in that person’s tax return that was filed for a particular year, an amount
that is required to be included in computing that person’s income and also
failed to report in a tax return that was filed for any one of the three
preceding taxation years an amount that was required to be included in
computing that person’s income for such year. The Appellant acknowledged that
she had failed to include amounts in her income in filing her tax returns for
2007 and 2008.
[3]
In Saunders v. The
Queen, 2006 TCC 51, 2006 DTC 2267, [2006] 2 C.T.C. 2255,
Justice Woods stated that:
12 The penalty in subsection 163(1) is one of strict liability,
although this Court has held that it can be vacated if the taxpayer can
establish due diligence.
[4]
Justice Boyle in Dunlop
v. The Queen, 2009 TCC 177, 2009 DTC 1124, [2009] 6 C.T.C. 2223
reiterated that the penalty will not apply if the taxpayer “can demonstrate he
exercised a requisite degree of due diligence”.
[5]
Justice Létourneau, on behalf of
the Federal Court of Appeal,
in Les Résidences Majeau Inc. v. The
Queen, 2010 FCA 28, stated as follows:
7 As far as
the penalty is concerned, we are satisfied that the judge did not make any
mistake in upholding it. To avoid this penalty, the appellant had to establish
that it was duly diligent.
8 According to
Corporation de l'école polytechnique v. Canada, 2004 FCA 127, a
defendant may rely on a defence of due diligence if either of the following can
be established: that the defendant made a reasonable mistake of fact, or that
the defendant took reasonable precautions to avoid the event leading to
imposition of the penalty.
9 A reasonable
mistake of fact requires a twofold test: subjective and objective. The
subjective test is met if the defendant establishes that he or she was mistaken
as to a factual situation which, if it had existed, would have made his or her
act or omission innocent. In addition, for this aspect of the defence to be
effective, the mistake must be reasonable, i.e. a mistake a reasonable person
in the same circumstances would have made. This is the objective test.
10 As already
stated, the second aspect of the defence requires that all reasonable
precautions or measures be taken to avoid the event leading to imposition of
the penalty.
[6]
Although the penalty in
issue is not identified in this decision of the Federal Court of Appeal, it
appears from the decision of Justice Tardif which was appealed to
the Federal Court of Appeal that the penalty in issue is the penalty that was, prior
to April 1, 2007, imposed under section 280 of the Excise Tax Act. The
imposition of this penalty was also subject to the due diligence defence (see Pillar
Oilfield Projects Ltd. v. The Queen, [1993] G.S.T.C. 49).
[7]
Therefore if the
Appellant can establish that she was duly diligent then the penalty will be
vacated. The Appellant will need to establish either that she made a reasonable
mistake of fact or that she took reasonable precautions to avoid the failure to
include the omitted amounts in her income in 2007 or 2008.
[8]
In 2007 the amount that
the Appellant did not include in her income was $1,156 which was comprised of
the following amounts:
Taxable dividends $145
Other Income $1,010
Claim for capital gains on T3 slip $1
Total: $1,156
[9]
These amounts were all
related to investments that the Appellant held through TD Waterhouse. The
Appellant explained that the information slips for these amounts were not
received by the end of March 2008 and were only received after she had filed
her income tax return for 2007.
[10]
In 2008 the Appellant
failed to report a portion of her investment income in her 2008 income tax
return. In the Income Tax Return Information form that was filed during the
hearing it is stated that the amount of the unreported income on which the
penalty was assessed was $5,226. In the Reply it was stated that this was
determined as follows:
Taxable dividends $2,075.00
Interest $2,555.00
Other income $560.00
Other dividend income $89.00
Less foreign tax paid: ($52.35)
Total: $5,226.65
[11]
The Appellant
acknowledged that she did not include the above amounts of income in filing her
tax return for 2008. The penalty imposed under subsection 163(1) of the Act
was based on the amount of $5,226. No explanation was provided with respect to
why a deduction was made for foreign tax paid. The penalty under subsection
163(1) of the Act is 10% of the “amount required to be included in
computing the person's income in a return filed under section 150 for a
taxation year” that the person failed to include in so computing their income.
The amount paid for foreign taxes is generally deducted in computing the taxes
payable, not in computing income. It also appears from the Income Tax Return
Information form that was filed, that a foreign tax credit
of $165.63 was allowed as a deduction in determining
the amount of taxes payable. It is not at all clear why this was deducted in
computing the amount of income that the Appellant failed to report. In any
event since it reduced the amount on which the penalty was assessed and since
the Minister cannot appeal his own assessment, no adjustment will be made to this
amount.
[12]
In the Income Tax
Return Information form submitted during the hearing, the unreported amount of
$2,075 was identified as “taxable dividends”. Subsection 82(1) of the Act
in 2008 provided in part as follows:
82. (1) In computing the income of a
taxpayer for a taxation year, there shall be included the total of the
following amounts:
(a)
the amount, if any, by which
(i) the total of all amounts, other than
eligible dividends and amounts described in paragraph (c), (d) or (e), received by the taxpayer in the taxation
year from corporations resident in Canada as, on account of, in lieu of payment
of or in satisfaction of, taxable dividends,
exceeds
(ii) if the taxpayer is an individual, the total
of all amounts paid by the taxpayer in the taxation year that are deemed by
subsection 260(5) to have been received by another person as taxable dividends
(other than eligible dividends);
(a.1) the
amount, if any, by which
(i) the total of all amounts, other
than amounts included in computing the income of the taxpayer because of
paragraph (c), (d) or (e), received by the taxpayer in the taxation year from
corporations resident in Canada as, on account of, in lieu of payment of or in
satisfaction of, eligible dividends,
exceeds
(ii) if the taxpayer is an
individual, the total of all amounts paid by the taxpayer in the taxation year
that are deemed by subsection 260(5) to have been received by another person as
eligible dividends;
(b) if the
taxpayer is an individual, other than a trust that is a registered charity, the
total of
(i) 25% of the amount determined
under paragraph (a) in respect of the taxpayer for
the taxation year, and
(ii) 45% of the amount determined
under paragraph (a.1) in respect of the taxpayer for
the taxation year;
…
[13]
Dividends received from
corporations resident in Canada were subject to either a gross-up amount
of 25% or 45% in 2008. In this case, in the Income Tax
Return Information document, the unreported dividends were identified as:
Taxable dividends $2,075
Ineligible dividend other than eligible
dividends $89
[14]
Since dividends that
were not eligible dividends were identified separately, the amount of $2,075
must have been the taxable amount of eligible dividends. Since the gross-up
amount for eligible dividends would have been 45% of the amount received this
would result in a substantial difference between the amount of the dividends
that were received and the taxable dividend amounts for eligible dividends. It
is clear from the opening part of subsection 82(1) of the Act that the amount that is required to be included
in computing income is both the amount of the dividend that was received and
the additional amount (the gross-up) which, in 2008, would have been 45% of the
amount of the dividend that was received if the dividend was an eligible
dividend. It therefore appears that since the penalty imposed pursuant to
subsection 163(1) of the Act is 10% of the amount that is required
to be included in computing income, that the penalty would be imposed on the
grossed-up amount, which it was in this case.
[15]
This result appears to
be counterintuitive. For example assume that an individual received a dividend
of $10,000 in 2008. If it is an eligible dividend, an additional 45% would be
included in income, or $14,500 in total. The penalty under subsection 163(1) of
the Act for the failure to include this amount in income would be $1,450. However, if the same individual had
received $10,000 of interest income that was not included in income, the penalty
that would be imposed under subsection 163(1) of the Act would be $1,000. However, the tax liability arising from a
$10,000 eligible dividend (as a result of the dividend tax credit) would be
less than the tax liability arising from interest income of $10,000. Therefore although the income taxes
payable by an individual as a result of receiving a $10,000 eligible dividend
would be less than the income taxes payable by an individual as a result of
receiving the same amount of interest income, the failure to include the
taxable dividend amount in relation to the eligible dividend will result in
larger penalties under subsection 163(1) of the Act than the failure to
include the same amount received as interest income. This is because the
penalty under subsection 163(1) of the Act is based on the amount that
was not included in computing income, not on the taxes that such amount would
have generated, nor on the amount that the taxpayer received.
[16]
In this case the
taxable dividend amount of $2,075 for 2008 is the grossed-up amount in relation
to eligible dividends. Therefore the actual amount of dividends received in
2008 would have been $1,431. Based on the penalty as imposed by the
Respondent, the failure by the Appellant to include the grossed-up amount in
relation to $1,431 of eligible dividends received will result in a penalty
under subsection 163(1) of the Act of $207.50. If the amount received
($1,431) would have been interest that was not reported, the penalty would only
have been $143.10.
[17]
The question in this
appeal is whether the Appellant has established that she exercised the
requisite level of due diligence in relation to either the failure to include
an amount in income in 2007 or the failure to include an amount in income in
2008. As noted above, the penalty is imposed under subsection 163(1) of the Act
if the conditions in both paragraphs (a) and (b) are satisfied.
It seems to me that the penalty should not be imposed if the Appellant can
establish that she was duly diligent in relation to either failure to include
amounts in her income.
[18]
In Franck v. The
Queen, 2011 TCC 179, Justice Hogan stated as follows:
2. … Because subsection 163(1) of the Act requires
a failure to report in two of four consecutive years, a due diligence defence
for either year will nullify the penalty.
[19]
The due diligence
defence arises as a result of the classification of the offence as a strict
liability offence. In The Queen v. The Corporation of The City of Sault Ste. Marie, [1978] 2
S.C.R. 1299, Justice Dickson (as he then was) writing on behalf of the Supreme
Court of Canada stated that:
I
conclude, for the reasons which I have sought to express, that there are
compelling grounds for the recognition of three categories of offences rather
than the traditional two:
1. Offences in
which mens rea, consisting of some positive state of mind such as
intent, knowledge, or recklessness, must be proved by the prosecution either as
an inference from the nature of the act committed, or by additional evidence.
2. Offences in
which there is no necessity for the prosecution to prove the existence of mens
rea; the doing of the prohibited act prima facie imports the
offence, leaving it open to the accused to avoid liability by proving that he
took all reasonable care. This involves consideration of what a reasonable man
would have done in the circumstances. The defence will be available if the
accused reasonably believed in a mistaken set of facts which, if true, would
render the act or omission innocent, or if he took all reasonable steps to
avoid the particular event. These offences may properly be called offences of
strict liability. Mr. Justice Estey so referred to them in Hickey’s case.
3. Offences of
absolute liability where it is not open to the accused to exculpate himself by
showing that he was free of fault.
[20]
There are numerous
cases that have held that a defence of due diligence, if established, may be
relied upon by a taxpayer to avoid a penalty imposed under subsection 163(1) of
the Act. The penalty can only be imposed under this subsection of the Act
if a particular taxpayer fails to include an amount in income in two different
years. Therefore, the “prohibited act” consists of two failures - one is the
failure to include an amount in income in one year and the second is the
failure to include an amount in income in another year that is within three
years following the first failure.
[21]
Therefore if a
taxpayer, as stated by Justice Hogan, can establish that he or she (or in the
case of a corporation, it) exercised due diligence in relation to either the
first failure to include an amount in income or the second failure to include
an amount in income, then that taxpayer will be successful in relation to the
assessment of a penalty under subsection 163(1) of the Act. Even though
the calculation of the amount of the penalty is only based on the second amount
that the person failed to include in computing income, in order for the penalty
to be imposed the person must have failed to include amounts in computing
income in two different years and the two failures to include amounts in
computing income would be part of the “prohibited act”. In this case the
Appellant will be successful if she can establish that she exercised due
diligence in relation to either her failure to include $1,156 in her income for
2007 or her failure to include $5,226 in her income for 2008.
[22]
The amount that the
Appellant did not include in her income for 2007 was $1,156. Included in this
amount are taxable dividends of $145. There was no indication whether these are
eligible dividends. Assuming that these dividends are eligible dividends, the
amount that the Appellant actually received was $100. Her total income for 2007
(including these unreported amounts) was $109,123. Therefore the unreported
amount (including the taxable dividend amount) was 1.06% of her total income
for 2007. The Appellant explained that TD Waterhouse (who held the investments
that generated the income) did not send her the necessary information slips by
the end of March. The T3 and T5 slips for 2007 were to have been completed and
sent by:
T5 (for dividends, interest, other income) February
29, 2008
T3 (for trusts) March
31, 2008
[23]
The Appellant’s mistake
of fact in 2007 was that she had mistakenly believed that she had all of the
information slips that were to be sent to her by the end of March by TD Waterhouse
and therefore that she was reporting all of her income when she completed her
tax return in early April. It seems to me that this mistake was reasonable. The
amount that she omitted from her income was only 1.06% of her total income in
2007. Her mistake in not including this amount in her income was innocent. It
also seems reasonable to believe that a large financial institution such as TD
Waterhouse would have complied with its obligations under the Income Tax
Regulations to forward the necessary tax slips by the deadlines as set out
in these Regulations. It seems to me that a reasonable person could have
made the same error and mistakenly omitted such a small portion of his or her
income in the same circumstances. As a result, the Appellant has established
that she was duly diligent in relation to the failure to include the amount of
$1,156 in her income for 2007.
[24]
Although this is
sufficient to dispose of the appeal, the Appellant also explained how the
amount was missed for 2008. During 2008 the Appellant transferred some
investments that she had with National Bank to TD Waterhouse (where she already
had an account). To keep the two groups of investments separate until the
transfer was completed, the Appellant opened a separate account at TD Waterhouse.
Once the Appellant was satisfied that all of the investments were transferred
from National Bank, she asked TD Waterhouse to transfer all of the investments
from the temporary account to her other TD Waterhouse account.
[25]
While TD Waterhouse did
transfer the investments, for some unexplained reason, the investment income
earned on the investments held in the temporary account did not get added to
the investment income reported on her main TD Waterhouse account nor was a
separate T5 or T3 slip sent to the Appellant for this investment income.
[26]
The amount that was
missed for 2008 (using the taxable dividend amount) was $5,226 and her total
income for 2008 was $111,768. Therefore the missed amounts were 4.7% of her
total income. While the amounts that were missed were less than 5% of her total
income they were a significant percentage of her investment income. The amounts
that she failed to include in her income and upon which the penalty was
calculated and the total amounts of each type of income were as follows:
|
Type of Income
|
Amount Reported
|
Amount Not Reported
|
Total Amount
|
% of Total not Reported
|
|
Taxable dividends
|
$3,041
|
$2,075
|
$5,116
|
41%
|
|
Interest and investment income
|
$14,940
|
$2,555
|
$17,495
|
15%
|
|
Other income
|
$2,343
|
$560
|
$2,903
|
19%
|
|
Ineligible dividend
|
$43
|
$89
|
$132
|
67%
|
[27]
The percentage of her
total amount that should have been reported for each type of income is
significant - ranging from 15% of her total interest and investment income to
67% of her ineligible dividends, although the actual amount of ineligible
dividends that were not reported is small ($89). If the Appellant would have
been as diligent about ensuring that all of her income had been reported by TD
Waterhouse as she was about ensuring that all of her investments had been
transferred from National Bank, she would have noticed the missing income. As
well, since the year before TD Waterhouse had been late in sending the
information slips, a reasonable person would have taken further steps to ensure
that all amounts were accurately reported in 2008 by TD Waterhouse. Her mistake
of fact for 2008 was not reasonable and she did not take reasonable steps to
ensure that she did not fail to include all of her investment income in her
income in 2008. Therefore, it seems to me that the Appellant did not exercise
the requisite due diligence for 2008. However, since she only needs to
establish that she exercised the requisite due diligence for one of the years
for which an amount was not included in her income and since she has
established that she exercised the requisite due diligence in relation to the
failure to include an amount in income in 2007, the Appellant’s appeal will be
allowed.
[28]
As a result the appeal
is allowed, without costs, and the matter is referred back to the Minister of
National Revenue for reconsideration and reassessment on the basis that the
penalty imposed pursuant to subsection 163(1) of the Act in relation to
the income tax return that the Appellant filed for 2008 is deleted.
Signed at Halifax, Nova Scotia,
this 18th day of May, 2012.
“Wyman W. Webb”
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