Robertson J.A.:
1 Subsection 153(1) of the Income Tax Act (“the Act”) imposes a duty on corporations to withhold taxes and other source deductions from an employee's salary and to remit such amounts to the Receiver General of Canada. Subsection 227.1(1) of the Act makes a corporation liable for unremitted amounts while at the same time imposing joint and several liability on its directors. However, that obligation is tempered by subsection 227.1(3) which enables corporate directors to escape liability for non-remittance if they can establish that they “exercised the degree of care, diligence and skill to prevent the failure that a reasonably prudent person would have exercised in comparable circumstances.”
2 This is an appeal from a decision of the Tax Court of Canada holding that the appellant taxpayer failed to satisfy the so-called “due diligence defence” set out in subsection 227.1(3). Specifically, this Court is asked to consider and reconcile the allegedly inconsistent jurisprudence of the Tax Court. While it is at least arguable that such a conflict in the authorities might be more imagined than real, it is indisputable that the underlying question of the standard of care, diligence and skill to be exercised by a corporate director in the performance of his or her duties has been largely ignored. These reasons will address that fundamental issue.
I. Facts
3 In October of 1987 the appellant taxpayer, an experienced businessman, became a director of Ramona Beauchamp International (1976) Inc. (hereafter “RBI”) at the instigation of Ramona Beauchamp for two purposes: first, to promote RBI's interests in the marketplace and, second, to lend his name and reputation in conjunction with a proposed listing of RBI on the Vancouver Stock Exchange. At the relevant time the taxpayer was the chief operating officer of Canada-Wide Magazines. RBI operated a talent agency and a modelling school.
4 At the time the taxpayer joined the Board of Directors of RBI, he knew that it was experiencing financial difficulties. At the November 1987 meeting of the Board he was given a copy of the balance sheet of RBI which, as of 30 September 1987, showed a net loss of $132,000. At no time did any employee or Board member of RBI discuss with the taxpayer the failure of RBI to make certain tax remittances as required under the Act. Ramona Beauchamp, a co-director, had instructed the other directors of RBI not to discuss with the taxpayer anything other than that which was dealt with at directors' meetings attended by the taxpayer. RBI's failure to remit source deductions to the Department of National Revenue was never raised at any Board meeting. At no time did the taxpayer inquire as to whether RBI was complying with its remittance obligations under the Act. The taxpayer remained a director of RBI from October 1987 until his resignation became effective on 10 February 1988. [Although the Minister asserts at paragraph 4 of his Memorandum of Fact and Law that the taxpayer became a director in June of 1987, the Tax Court Judge's finding on this matter has not been questioned on appeal].
5 Pursuant to subsection 227.1(1) of the Act, the taxpayer was assessed as a director for unremitted employee withholdings of RBI, plus interest and penalties in the amount of $13,009.04 for the period October 1987 to January 1988. The taxpayer appealed that assessment to the Tax Court of Canada under the General Procedure. After rejecting the taxpayer's argument based on his limited role in RBI, an issue abandoned on this appeal, the Tax Court Judge went on to hold that in the circumstances the statutory defence of due diligence was not available to the taxpayer. In the opinion of the Judge below, the fact that the taxpayer knew of RBI's financial difficulties at the time he accepted the directorship coupled with the fact that he took no steps to ensure remittance was a sufficient basis upon which to conclude that the taxpayer had failed “to exercise the degree of care, diligence and skill to prevent the failure that a reasonably prudent person would have exercised in comparable circumstances.”
II. Issues
6 It is often said that the requisite degree of care, skill and diligence to be exercised by a given director in the performance of his or her duties is to be determined as a “question of fact”. Such an approach, while perhaps superficially attractive, oversimplifies the problem by failing to recognize that it is first necessary to establish the applicable standard of care. In turn, the pivotal issue is whether the statutory standard involves a subjective element, in the sense that the personal knowledge and background of a director is a relevant consideration, or whether the standard is an entirely objective one, to which all directors would be similarly held. When the issue is placed in this perspective, it is not difficult to understand what has been occurring in the Tax Court of Canada. As a general observation, a majority of judges of that Court have adopted the subjective standard, albeit by implication only. In but a few cases has that standard been rejected: White v. Minister of National Revenue (1990), 91 D.T.C. 54 (T.C.C.). Moreover, there are a number of cases where the imposition of directors' liability is justified regardless of which standard is chosen. Thus, perhaps the only conflict that truly exists is in the articulation of the proper standard: see Cybulski v. Minister of National Revenue (1988), 88 D.T.C. 1531 (T.C.C.), and compare with Barnett v. Minister of National Revenue (1985), 85 D.T.C. 619 (T.C.C.). In the end, a measure of consistency has been achieved, if only by virtue of the fact that the judicial qualities of common sense and fairness have filled the gap left by the absence of a precise explanation of the due diligence defence as articulated in subsection 227.1(3).
7 As the subjective standard has its roots in the common law, my analysis will focus on the seminal decision in this area before turning to the basic question of whether and to what extent that standard has been modified by subsection 227.1(3) of the Act. As that provision is a mirror image of the standard imposed on directors under the Canada Business Corporations Act (the “CBCA”), R.S.C. 1985, c. C-44, and in light of the statutory presumption of coherence between statutes, it remains to determine Parliament's intent. In the reasons that follow, I conclude that the federal legislation includes an objective component but largely adopts the common law position to the extent that the former recognizes the subjective element. It is instructive, however, to begin with an overview of the circumstances giving rise to the adoption of the director liability provisions and the due diligence defence set out in section 227.1 of the Income Tax Act.
III. Legislative History and Framework
8 Prior to the coming into force of section 227.1 of the Act, the Department of National Revenue faced two related but distinct problems. The first was the non-payment of corporate taxes per se and the second was the non-remittance of taxes that were to be withheld at source on behalf of a third party (e.g. employees). The 1981 recession exacerbated both of these problems. As companies experienced difficult financial times, corporations and directors actively and knowingly sought to avoid the payment of taxes in a variety of ways. For example, some companies allowed themselves to be stripped of their assets by a related entity, and left with an uncollectible I.O.U., with the result that the Crown's claim for unpaid corporate taxes could not be satisfied. Yet other corporations that were short of capital “sold” their unused investment tax credits or scientific research deductions with little concern for whether the company would subsequently be able to fulfill its obligations under the Act. Non-remittance of taxes withheld on behalf of a third party was likewise not uncommon during the recession. Faced with a choice between remitting such amounts to the Crown or drawing on such amounts to pay key creditors whose goods or services were necessary to the continued operation of the business, corporate directors often followed the latter course. Such patent abuse and mismanagement on the part of directors constituted the “mischief” at which section 227.1 was directed: see E.G. Kroft, “The Liability of Directors for Unpaid Canadian Taxes,” in Report of Proceedings of the Thirty-seventh Tax Conference, 1985 Conference Report (Toronto: Canadian Tax Foundation, 1986) 30:1 at 30:1-3, 30:14-15; see also E.P. Moskowitz, “Directors' Liability Under Income Tax Legislation and Other Related Statutes” (1990) 38 Can. Tax J. 537 at 539-41.
9 Before the introduction of section 227.1, the means available to the Department for the collection, from directors personally, of amounts owing to the Crown were limited and inadequate. Subsection 159(2) of the Act alone imposed personal liability on a director for corporate tax arrears only if a director acting in the capacity of a liquidator or a trustee distributed corporate property before obtaining the requisite tax clearance certificate. In addition to such civil liability, a director was (and still is) subject to criminal liability for corporate tax arrears pursuant to section 242 of the Act if that director “directed, authorized, assented to, acquiesced in, or participated in” the company's commission of an offence under the Act. However, in light of the difficulty of meeting the mens rea requirement of section 242, few directorial convictions under that provision have been secured.
10 It was against this background that efforts were made to facilitate the Department's collection process by broadening directors' exposure to personal liability. The draft legislation, made public in June of 1982, which was a precursor to section 227.1 imposed absolute liability on directors for amounts that the corporation failed to deduct or remit on behalf of a third party as required by the Act. Notably, as originally enacted, section 227.1 did not impose liability for a failure to pay Part VII or Part VIII corporate tax. That development came later by way of amendment to subsection 227.1(1) in 1984: see S.C. 1984, c.1, s. 100, applicable to 1983 and subsequent taxation years.
11 As noted above, section 227.1 was originally drafted as an absolute liability provision. It was only following a policy review undertaken in September of 1982 by the Department of Finance, in conjunction with the drafting process, that the “due diligence defence” set out in the current subsection 227.1(3) was introduced and the harsh character of the proposed legislation tempered.
12 In 1989, when the Minister assessed the taxpayer in this case, section 227.1 read in full as follows:
(1) Where a corporation has failed to deduct or withhold an amount as required by subsection 135(3) or section 153 or 215, has failed to remit such an amount or has failed to pay an amount of tax for a taxation year as required under Part VII or VIII, the directors of the corporation at the time the corporation was required to deduct, withhold, remit or pay the amount are jointly and severally liable, together with the corporation, to pay that amount and any interest or penalties relating thereto.
(2) A director is not liable under subsection (1), unless
(a) a certificate for the amount of the corporation's liability referred to in that subsection has been registered in the Federal Court of Canada under section 223 and execution for such amount has been returned unsatisfied in whole or in part;
(b) the corporation has commenced liquidation or dissolution proceedings or has been dissolved and a claim for the amount of the corporation's liability referred to in that subsection has been proved within six months after the earlier of the date of the commencement of the proceedings and the date of dissolution; or
(c) the corporation has made an assignment or a receiving order has been made against it under the Bankruptcy and Insolvency Act and a claim for the amount of the corporation's liability referred to in that subsection has been proved within six months after the date of the assignment or receiving order.
(3) A director is not liable for a failure under subsection (1) where he exercised the degree of care, diligence and skill to prevent the failure that a reasonably prudent person would have exercised in comparable circumstances.
(4) No action or proceedings to recover any amount payable by a director of a corporation under subsection (1) shall be commenced more than two years after he last ceased to be a director of that corporation.
(5) Where execution referred to in paragraph (2)(a) has issued, the amount recoverable from a director is the amount remaining unsatisfied after execution.
(6) Where a director pays an amount in respect of a corporation's liability referred to in subsection (1) that is proved in liquidation, dissolution or bankruptcy proceedings, he is entitled to any preference that Her Majesty in right of Canada would have been entitled to had such amount not been so paid and, where a certificate relates to such amount has been registered, he is entitled to an assignment of the certificate to the extent of his payment, which assignment the Minister is hereby empowered to make.
(7) A director who has satisfied a claim under this section is entitled to contribution from the other directors who were liable for the claim.
13 Subsection 227.1(1) thus provides that directors may be held personally liable for the corporation's failure to withhold and remit certain amounts to the Receiver General of Canada. However, the Minister cannot successfully rely upon subsection (1) for recovery of amounts owing unless a series of preconditions are satisfied. Subsection 227.1(2), for example, shields a director from personal liability unless one of the following circumstances arises:
• A certificate for the amount of the corporate tax liability has been registered in the Federal Court and execution thereof has been partially or wholly unsatisfied;
• The corporation has commenced proceedings for liquidation or dissolution and a claim for the amount of the corporate tax liability is proved within six months after commencement of such proceedings; or
• The corporation has made an assignment (or had a receiving order made against it) under the Bankruptcy and Insolvency Act and a claim for the amount of the corporate tax liability is proved within six months after the date of the assignment or receiving order.
See V. Krishna, The Fundamentals of Canadian Income Tax, 5th ed. (Toronto: Carswell, 1991) at 1111-12; see also Information Circular IC 89-2, “Directors' Liability — Section 227.1 of the Income Tax Act” (1 May 1989).14 Moreover, pursuant to subsection 227.1(4), the Minister is not entitled to invoke subsection 227.1(1) unless he commences proceedings thereunder within two years of the date that the defendant director ceased to hold that corporate position. Finally and most importantly, for our purposes, subsection 227.1(3) states that a director is not liable under subsection (1) if he or she “exercised the degree of care, diligence and skill to prevent the failure [to deduct, withhold or remit] that a reasonably prudent person would have exercised in comparable circumstances.”
15 During the course of oral argument, a question arose as to whether a finding of director liability might somehow impact negatively upon an employee's liability to pay tax, the inference being that if a director is exonerated then perhaps an employee might somehow be required to provide the funds notionally deducted and still owing to Her Majesty. As I understand the current statutory regime, employees are not held personally liable in the event that a company fails to remit deductions purportedly withheld at source: see Lalonde v. Minister of National Revenue (1982), 82 D.T.C. 1772 (T.R.B.). Employees are entitled to apply amounts purportedly deducted at source “as a credit against their taxes payable,” whether deducted or not (Moskowitz, supra at 549). Of course, Parliament could have opted to treat employees in a less generous fashion. Prior to the enactment of section 227.1, however, the Departments of Finance and National Revenue had specifically considered and rejected such a course as an alternative to that provision: see Kroft, supra at 30:13. In short, the issue of director liability under section 227.1 is irrelevant to the question of employee liability for unremitted source deductions.
IV. The Standard of Care
16 The starting point for an analysis of the common law duty of care is the seminal judgment of Romer J. in City Equitable Fire Insurance Co., Re, [1925] 1 Ch. 407 (Eng. C.A.). In that case, an investigation undertaken upon winding up of the company revealed a shortage of funds determined to be largely attributable to fraud on the part of the managing director. Although the other corporate directors were not party to that fraudulent action the Official Receiver, as liquidator, sought to hold them liable for the loss on the basis that they were in a position to prevent the fraud and should have done so. Romer J. found that the other directors had breached their duty of care but further held that an indemnification clause in the company's articles of association prevented the Official Receiver from recovering the missing funds from them. In coming to that conclusion, Romer J. framed in the following terms the minimum standard of care, diligence and skill required of directors by the common law (at 426-28):It has sometimes been said that directors are trustees. If this means no more than that directors in the performance of their duties stand in a fiduciary relationship to the company, the statement is true enough. But if the statement is meant to be an indication by way of analogy of what those duties are, it appears to me to be wholly misleading. I can see but little resemblance between the duties of a director and the duties of a trustee of a will or of a marriage settlement. It is indeed impossible to describe the duty of directors in general terms, whether by way of analogy or otherwise.
...The larger the business carried on by the company the more numerous, and the more important, the matters that must of necessity be left to the managers, the accountants and the rest of the staff. The manner in which the work of the company is to be distributed between the board of directors and the staff is in truth a business matter to be decided on business lines.
In order, therefore, to ascertain the duties that a person appointed to the board of an established company undertakes to perform, it is necessary to consider not only the nature of the company's business, but also the manner in which the work of the company is in fact distributed between the directors and the other officials of the company, provided always that this distribution is a reasonable one in the circumstances, and is not inconsistent with any express provisions of the articles of association. In discharging the duties of his position thus ascertained a director must, of course, act honestly; but he must also exercise some degree of both skill and diligence.
...(1.) A director need not exhibit in the performance of his duties a greater degree of skill than may reasonably be expected from a person of his knowledge and experience.... In the words of Lindley M.R.: “If directors act within their powers, if they act with such care as is reasonably to be expected from them, having regard to their knowledge and experience, and if they act honestly for the benefit of the company they represent, they discharge both their equitable as well as their legal duty to the company: see Lagunas Nitrate Co. v. Lagunas Syndicate[citation omitted]. It is perhaps only another way of saying that directors are not liable for mere errors of judgment. (2.) A director is not bound to give continuous attention to the affairs of his company. His duties are of an intermittent nature to be performed at periodical board meetings, and at meetings of any committee of the board upon which he happens to be placed. He is not bound to attend all such meetings, though he ought to attend whenever, in the circumstances, he is reasonably able to do so. (3.) In respect of all duties that, having regard to the exigencies of business, and the articles of association, may be left to some other official, a director is, in the absence of grounds for suspicion, justified in trusting that official to perform such duties honestly.
[For a good review of the common law, see Dixon v. Deacon Morgan McEwen Easson (1989), 41 B.C.L.R. (2d) 180 (B.C.S.C.), per Bouck J.].
The above quotes reveal a plethora of legal propositions. For purposes of this analysis, I confine myself to the following.First, it is clear that directors are not to be equated with trustees. As Gower points out, directors are agents of the company rather than its trustees: see L.C.B. Gower, The Principles of Modern Company Law, 3rd ed. (London: Stevens & Sons, 1969) at 516. But as agents, directors stand in a fiduciary relationship to their principal, the company. Admittedly, to the extent that a fiduciary is under a duty to act, for example, in good faith so too is a trustee and, thus, in this limited sense the comparison of a director and a trustee has validity. The analogy breaks down, however, when consideration is given to the duties of care and skill.
Notwithstanding the fact that the director/trustee analogy is generally inappropriate in the corporate context, during the course of oral argument, attention focused on the fact that subsection 227(5) of the Act deems amounts deducted or withheld to be held in trust, irrespective of whether the funds deducted or withheld under the Act were actually so segregated. The inference to be drawn was that that provision somehow cloaks a director with the cape of a trustee. In my view, the inference is without legal foundation once regard is had to the true purpose underlying subsection 227(5). The purpose of that subsection is to enable the Minister to allege priority over competing creditors in the event that a corporation is no longer able to meet its continuing fiscal obligations. At this point, a brief explanation is required.
At the time of enactment of section 227.1, subsection 227(5) as it then read dictated that all amounts deducted or withheld under the Act be kept in a separate trust account. In 1986, that requirement was repealed and replaced by a provision which deemed amounts deducted or withheld after 23 May 1985 to be “held in trust ... separate ... and apart from the [corporation's] own moneys...,” irrespective of whether the funds deducted or withheld under the Act were actually so segregated: see S.C. 1986, c. 6, s. 118(1). The re-enactment of subsection 227(5) was apparently motivated by a desire to ameliorate the Department's position vis-à-vis other secured creditors by dispensing with the perceived need for “tracing” funds caused by the original provision in order to establish priority: see Kroft, supra at 30:5, note 22. While the new deeming provision seeks to ensure that the Crown no longer suffers from the perceived disadvantage of having to trace monies back to an actual trust account, the trust character of source deductions was preserved. It is my understanding that without some sort of trust, the Crown is of the opinion that it would have even greater difficulty establishing the priority of its claim over others. In the circumstances, I do not think it can be reasonably argued that subsection 227(5) reflects Parliament's intent with respect to the statutory standard of care set out in subsection 227.1(3).
The reality is that employers do not actually set aside funds relating to source deductions every time an employee is issued a pay cheque. The withholding of source deductions is a notional concept which does not materialize until the obligation to remit actually arises. In respect of amounts which are notionally withheld from an employee's salary pursuant to subsection 153(1), the regulations under the Act prescribe that remittance must take place within fifteen days of the end of the month in which the withholding occurred. That is a minimum requirement and more frequent remittance is prescribed where average monthly withholdings exceed $15,000.
At least one commentator has suggested that the amendment to abolish the need to establish a separate trust account has the practical effect of lowering the level of diligence that the Act requires of directors in relation to employee withholdings: see R.L. Campbell, “The Fiduciary Duties of Corporate Directors: Exploring New Avenues” (1988) 36 Can. Tax J. 912. For purposes of this appeal, it is sufficient that I conclude that subsection 227(5) does not raise the standard of care to the trustee threshold. I return now to some of the other legal propositions established in City Equitable.
The second proposition that I wish to discuss is the following: a director need not exhibit in the performance of his or her duties a greater degree of skill and care than may reasonably be expected from a person of his or her knowledge and experience. Thus, the standard of care is partly objective (the standard of the reasonable person), and partly subjective in that the reasonable person is judged on the basis that he or she has the knowledge and experience of the particular individual. It is a hybrid “objective subjective standard”. The English courts, true to their aristocratic traditions, appear to have been unwilling to hold directors to a higher standard of account, namely the objective one, for a pragmatic reason: “...the facts are that until recently the possession of a title was often regarded as a greater qualification for office than any amount of business acumen and drive, and that the ordinary part-time director was only expected to display such skill (if any) as he happened to possess, and such attention to duty as he thought fit to offer” (Gower, supra at 549).
Third, a director is not obliged to give continuous attention to the affairs of the company, nor is he or she even bound to attend all meetings of the board. However when, in the circumstances, it is reasonably possible to attend such meetings, a director ought to do so. Subsequent English cases, though, went to more of an extreme, permitting a director to avoid liability despite having missed all board meetings for a period of several years: see Denham & Co., Re (1883), 25 Ch. D. 752 (Eng. Ch. Div.); see also Cardiff Savings Bank, Re, [1892] 2 Ch. 100 (Eng. Ch. Div.). Notwithstanding such authorities, it would be silly to pretend that the common law would stand still and permit directors to adhere to a standard of total passivity and irresponsibility. At the risk of getting ahead of myself, it should be noted here that the law today can scarcely be said to embrace the principle that the less a director does or knows or cares, the less likely it is that he or she will be held liable. Further to this point, the statutory standard of care will surely be interpreted and applied in a manner which encourages responsibility. Accordingly, the director who acts irresponsibly, for example, by failing to attend all board meetings now does so at his own peril: see McCandless v. R. (1995), 95 D.T.C. 484 (T.C.C.). That being said, the matter of director passivity will have to be re-evaluated in light of the statutory standard discussed below.
Fourth, in the absence of grounds for suspicion, it is not improper for a director to rely on company officials to perform honestly duties that have been properly delegated to them. Further to this point, it is the exigencies of business and the company's articles of association that, together, will determine whether it is appropriate to delegate a duty. The larger the business, for instance, the greater will be the need to delegate.
17 Those who argue in favour of a subjective standard of care, as established at common law, cite the difficulties associated with formulating and applying an objective standard by which to judge the conduct of all directors. B.L. Welling explains the problem in the following terms in Corporate Law in Canada: The Governing Principles, 2nd ed. (Toronto: Butterworths, 1991) at 329-30:
...[F]ew minimum qualifications are required to be a corporate director whereas most identifiable professional groups share among them some minimum entry standards; in addition, directors are required to exercise business judgment and to take business risks varying from extreme conservatism to out-and-out speculation. The combination of these two factors made it difficult for judges and legislators to articulate a minimum standard of competence applicable to all managers in all situations.
Notwithstanding these arguments based on both the absence of stringent prerequisites for becoming a director and the nature of that office which involves the exercise of business judgment, the question of whether the standard of care should be “upgraded” and if so, to what extent, has long been a subject of debate: see e.g. F. Iacobucci et al., Canadian Business Corporations (Agincourt, Ontario: Canada Law Book Ltd., 1977) at 291-93.18 The question I must address is whether the standard of care formulated in City Equitable has been upgraded pursuant to subsection 227.1(3) of the Act. For purposes of deciding this appeal, that question may be recast more precisely as follows: has the subjective element of the common law standard been eliminated or reduced by statute? In other words, has the largely subjective standard been “objectified”? Recall that subsection 227.1(3) reads thus:
A director is not liable for a failure under subsection (1) where he exercised the degree of care, diligence and skill to prevent the failure that a reasonably prudent person would have exercised in comparable circumstances.
Interestingly, the wording of that provision is virtually identical to the language used in subsection 122(1)(b) of the Canada Business Corporations Act which sets out, for purposes of corporate law, the following general standard of care to be exercised by directors:Every director and officer of a corporation in exercising his powers and discharging his duties shall...
exercise the care, diligence and skill that a reasonably prudent person would exercise in comparable circumstances.
Notably, the statutory phrase “care, diligence and skill” reflects the language of the City Equitable case. It is also noteworthy that a number of provinces have corporate legislation containing a provision which mirrors in all material respects subsection 122(1)(b) of the CBCA: see e.g. the Ontario Business Corporations Act (the “OBCA”), 1982, S.O. 1982, c. 4, s. 134(1)(b); but compare the British Columbia Company Act (the “BCCA”), R.S.B.C. 1979, c. 59, s. 142(1)(b), which does not contain the phrase “in comparable circumstances”.19 In my view, it is not simply a fortuitous occurrence that subsection 227.1(3) of the Income Tax Act adopts the same language as found in subsection 122(1)(b) of the Canada Business Corporations Act, for both statutory provisions relate to the standard of care to be exercised. Admittedly, the CBCA provision deals with the standard of care owed to the corporation while the taxation provision concerns the standard of care owed to the Crown and Canadian taxpayers. However, that distinction does not serve to nullify the relevance of the standard set out in the CBCA, if only because of the presumption of coherence between statutes. That elementary principle of statutory interpretation is explained by P.-A. Côté in The Interpretation of Legislation in Canada, 2nd ed. (Cowansville, Quebec: Les Editions Yvon Blais Inc., 1991) at 288, 290:
Different enactments of the same legislature are supposedly as consistent as the provisions of a single enactment. All legislation of one Parliament is deemed to make up a coherent system. Thus, interpretations favouring harmony between statutes should prevail over discordant ones, because the former are presumed to better represent the thought of the legislator.
This presumption of coherence in enactments of the same legislature is even stronger when they relate to the same subject matter, in pari materia. Apparent conflicts between statutes should be resolved in such a way as to re-establish the desired harmony.
To sum up, the presumption of coherence in related legislation applies particularly to statutes of the same legislature. But it is also relevant to statutes of different jurisdictions, as one legislature may be deemed to imitate the form or be consistent with the substance of a statute enacted by another.
Thus, in order to determine whether the common law standard of care was modified by statute, it is both appropriate and instructive to consider not only the due diligence provision set out at subsection 227.1(3) of the Income Tax Act but also the analogous, and virtually identical, standard of care provisions found in the Canada Business Corporations Act.20 The question of the extent to which the common law standard might have been “upgraded” by these statutes has been questioned by academics and practitioners alike. Some commentators are of the view that, far from effecting a significant modification of the common law standard of care, the relevant legislative provisions established only a slightly more onerous regime than previously existed and one that retains much of its original, subjective character: see e.g. Welling, supra at 332. I am in general agreement with that assessment, keeping in mind my earlier comments with respect to director passivity (see discussion supra at 14). I begin my analysis by considering each of the statutory standard's constituent elements in turn, namely: skill, care and diligence.
21 Federal company law dictates that a director must “exercise the ... skill that a reasonably prudent person would exercise in comparable circumstances.” By comparison, at common law a director was required to exercise only that degree of skill which could reasonably be expected from a person of his or her knowledge and experience. It has been suggested that the statutory skill criterion is essentially the same as the common law requirement: see Welling, supra at 333; see also Kroft, supra at 30:42-43. In reaching that conclusion, those commentators point to the use of the phrase “in comparable circumstances” and, in conjunction therewith, note that a reasonably prudent person might not be at all skilled in the field of corporate management. Put differently, a reasonably prudent person in comparable circumstances may be, for example, an unskilled person. In my view, it is correct to distinguish in this way between a reasonably prudent person and a reasonably skilled person so as to conclude that the subjective element of the common law standard of skill has not been altered by federal statute.
22 With respect to the duty of care, the Canada Business Corporations Act calls upon a director to “exercise the care ... that a reasonably prudent person would exercise in comparable circumstances.” Once again, however, the statutory enactment of a care requirement does not appear to have altered the common law position that a director be expected to fulfill his or her duties with care by acting reasonably according to the knowledge and experience that he or she actually possessed: see Welling, supra at 333. Put differently, the relevant legislation does not refer to “a reasonably skilled person” who, presumably, would be deemed to possess a certain level of skill in relation to corporate management. Rather, the statute speaks of a reasonably prudent person and the care that that person would exercise in comparable circumstances. Hence, in the event that the reasonably prudent person is unskilled (which possibility is discussed above), the statute requires only the exercise of a degree of care which is commensurate with that person's level of skill. It is in this manner that skill and care are clearly interconnected. That being said, it is worth emphasizing that it is insufficient for a director to assert simply that he or she did his or her best if, having regard to that individual's level of skill and business experience, he or she failed to act reasonably prudently. I turn now to the third and final element of the standard—diligence.
23 Upon reflection, it seems arguable to me that the term “diligence” is synonymous with the term “care”. That is, diligence is simply the degree of attention or care expected of a person in a given situation. At least, that is the way the term is employed in City Equitable. If attention to one's obligations is the essence of diligence, then that aspect of the standard neither adds nor detracts from the statutory statement in subsection 227.1(3) of the Income Tax Act. Others, however, have taken a different approach by contending not only that diligence is an independent element of the statutory standard but also that that requirement, unlike the statutory requirements for skill and care, is more onerous than at common law: see Welling, supra at 333-34; see also the Ontario case of Kerr v. Law Profession Indemnity Co. (1994), 22 C.C.L.I. (2d) 28 (Ont. Gen. Div.), which deals with the Ontario Business Corporations Act.
24 Professor Welling posits that the reasonably prudent person serving as a director would surely exercise diligence in attending to his or her duties; a skilled individual should use his or her skills to perform said duties while an unskilled individual should obtain “competent outside advice” in respect of same (supra at 334). I am reluctant to embrace that analysis unreservedly. Even if a director is unskilled, I fail to see why he or she should not be entitled to rely, as contemplated in City Equitable, on advice provided by officials inside the corporation—unless the circumstances are such that the reasonably prudent but unskilled person acting as a director would seek outside advice. If Professor Welling intended his comments on outside advice to apply only to the latter set of circumstances, then there is no disagreement between us. In any event, for purposes of deciding this appeal, I need not attempt to delimit the precise boundaries of the diligence requirement.
25 In my opinion, it is not surprising that federal legislation has retained the subjective element of the common law standard of care for directors. Even the law of tort adjusts its objective standard of the reasonable person downward so as to account, for example, for the age, experience and intelligence of children. The standard may also be adjusted upward, as it is for professionals: see generally A.M. Linden, Canadian Tort Law, 5th ed. (Toronto: Butterworths, 1993) at chapter 5, section B, beginning at 117. The reasonable person standard is thus hardly inflexible. It adjusts to the circumstances and to the individual qualities of the actor. This is all the more true in the context of federal company or taxation law where that standard, at least as it applies to directors' duties, is explicitly modified by the phrase “in comparable circumstances.”
26 The legislative history of the Ontario Business Corporations Act, whose standard of care provisions are virtually identical to those found in the CBCA, supports my conclusion that the common law standard of care, while altered slightly, has not been significantly upgraded by statute. Notably, the Report of the Select Committee on Company Law (1967) (the Lawrence Report) recommended a legal standard of conduct for Ontario directors that was framed in the following terms (at para. 7.2.3):
Every director of a company shall exercise the powers and discharge the duties of his office honestly, in good faith and in the best interests of the company, and in connection therewith shall exercise that degree of care, diligence and skill which a reasonably prudent director would exercise in comparable circumstances. [Underlining added].
The intent of the Committee, in suggesting the words that it did, was clearly to upgrade to a professional level the legal standards for directors imposed at common law: see the Lawrence Report, supra at paras. 7.2.2 and 7.2.3. However, the original draft provision met with opposition and the Ontario legislature ultimately adopted a different standard, that of the reasonably prudent person. The standard set out in the enacted provision also contained the phrase “in comparable circumstances”.27 It was in the wake of a concerted lobbying effort by the corporate bar that the word “person” was ultimately inserted in place of the term “director” in the Ontario Business Corporations Act. The essence of the corporate bar's position is captured neatly by J.S. Ziegel et al., vol. 1 Cases and Materials on Partnerships and Canadian Business Corporations, 3rd ed. (Toronto: Carswell, 1977) at 474-75:
...The concern expressed was that a professional standard could result in liability for a wide group of individuals who serve as directors, ranging from the wife of the majority shareholder in a small company to a prominent chief executive officer of a public company who, because of his prominence, serves on the board to five other public companies.
By abandoning a professional standard for directors, the legislature presumably was signalling to that “wide group of individuals who serve as directors” that they could rest easy since the statutory standard in Ontario was not intended to seriously alter the common law. The reality is that courts have to contend with a wide variety of corporate forms. Bluntly stated, the vast majority of Canadian corporations do not issue shares which trade on the various stock exchanges. The “ma and pa” operation is as much a part of the business fabric of the country as are the enterprises controlled from Bay Street.28 Since the language of the Canada Business Corporations Act mirrors that of the OBCA, it seems logical to infer that the federal Parliament intended to send out the very same message to existing and potential directors. In any event, had Parliament wished to strengthen the standard of care imposed at common law, it could have easily done so by adopting appropriate language. In this regard, it is helpful to consider section 142 of the British Columbia Company Act which reads as follows:
142.(1) Every director of a company, in exercising his powers and performing his functions, shall(a) act honestly and in good faith and in the best interests of the company; and
(b) exercise the care, diligence and skill of a reasonably prudent person.
(2) The provisions of this section are in addition to, and not in derogation of, any enactment or rule of law or equity relating to the duties or liabilities of directors of a company.
Subsection (2) of that provision indicates that the standard of care for directors set out in subsection 142(1)(b) is clearly intended to serve as more than a codification of the requirements imposed at common law. Interestingly, neither the Ontario Business Corporations Act nor the Canada Business Corporations Act contains an explicit statement of this nature to the effect that those statutes represent, without a doubt, an upgrading of common law requirements. Equally relevant is the fact that subsection 142(1)(b) of the British Columbia Company Act refers only to “a reasonably prudent person,” which expression is unqualified by the phrase “in comparable circumstances”. It seems at least arguable that the British Columbia legislation, which was enacted after the Ontario company legislation, represents an attempt to avoid the legal interpretation associated with the use of that qualifying expression in the OBCA. To the extent that the standard in the British Columbia Company Act is more burdensome than the standard in the Canada Business Corporations Act, the taxpayer is entitled to rely on the latter standard as reproduced in the Income Tax Act.29 This is a convenient place to summarize my findings in respect of subsection 227.1(3) of the Income Tax Act. The standard of care laid down in subsection 227.1(3) of the Act is inherently flexible. Rather than treating directors as a homogeneous group of professionals whose conduct is governed by a single, unchanging standard, that provision embraces a subjective element which takes into account the personal knowledge and background of the director, as well as his or her corporate circumstances in the form of, inter alia, the company's organization, resources, customs and conduct. Thus, for example, more is expected of individuals with superior qualifications (e.g. experienced business-persons).
30 The standard of care set out in subsection 227.1(3) of the Act is, therefore, not purely objective. Nor is it purely subjective. It is not enough for a director to say he or she did his or her best, for that is an invocation of the purely subjective standard. Equally clear is that honesty is not enough. However, the standard is not a professional one. Nor is it the negligence law standard that governs these cases. Rather, the Act contains both objective elements—embodied in the reasonable person language—and subjective elements — inherent in individual considerations like “skill” and the idea of “comparable circumstances”. Accordingly, the standard can be properly described as “objective subjective”.
V. Analysis
31 There are far too many cases dealing with section 227.1 of the Act. One way to appreciate the breadth of the extant law is to categorize the relevant cases. That task has, in fact, already been accomplished in large part by some of the commentators: see e.g. Moskowitz, supra at 556-66; see also R.L. Campbell, “Directors' Liability for Unremitted Employee Deductions” (1993) 14 Advocates' Q. 453.
32 For example, in some instances the relevant issue will be whether an individual was in fact or in law a director at the relevant time for purposes of imposing personal liability or whether that individual ceased to hold office by operation of a valid resignation. In other cases, such as those involving bankruptcy and receivership, the central issue will be de jure control. Yet another cluster of cases, including situations in which a dominant director is able to limit others' influence over corporate affairs, will deal with de facto control. I intend to focus on the category of cases respecting the distinction between inside and outside directors since that line of authority is the most pertinent to this appeal.
33 At the outset, I wish to emphasize that in adopting this analytical approach I am not suggesting that liability is dependent simply upon whether a person is classified as an inside as opposed to an outside director. Rather, that characterization is simply the starting point of my analysis. At the same time, however, it is difficult to deny that inside directors, meaning those involved in the day-to-day management of the company and who influence the conduct of its business affairs, will have the most difficulty in establishing the due diligence defence. For such individuals, it will be a challenge to argue convincingly that, despite their daily role in corporate management, they lacked business acumen to the extent that that factor should overtake the assumption that they did know, or ought to have known, of both remittance requirements and any problem in this regard. In short, inside directors will face a significant hurdle when arguing that the subjective element of the standard of care should predominate over its objective aspect.
34 In some instances, it is easy to see why inside directors have been held liable. Such is true in respect of Barnett, supra, the first case which dealt with the due diligence defence. In that case the taxpayer, as director and sole shareholder of the company, hired a comptroller. When the latter informed the taxpayer that the company was short of cash, the taxpayer instructed that the business' key suppliers should be paid first. In these circumstances, the Tax Court dismissed the taxpayer's appeal from the Minister's assessment which held the taxpayer personally liable for the source deductions withheld but not remitted. Equally understandable is the imposition of liability in the following cases involving inside directors: Quantz v. Minister of National Revenue (1988), 88 D.T.C. 1201 (T.C.C.); and Beutler v. Minister of National Revenue (1988), 88 D.T.C. 1286 (T.C.C.).
35 Similarly, the taxpayer in Fraser (Trustee of) v. Minister of National Revenue (1987), 87 D.T.C. 250 (T.C.C.), provides a good example of an inattentive inside director upon whom liability was justifiably visited. The taxpayer in that case was a director, minority shareholder and vice-president of manufacturing operations of a corporation. As of a certain time, he was apprised of the fact that the company was in arrears with Revenue Canada. Nevertheless, the taxpayer did nothing more in respect of that problem than rely on assurances, from the inside directors responsible for the financial side of the business, to the effect that there was no need to worry. Having made no efforts to prevent further defaults, the taxpayer was held personally responsible for the amounts that should have been remitted to the Crown by the corporation.
36 Of course, not all inside directors have been held liable. The Tax Court has refused to impose liability on an inside director in cases where he or she is an innocent party who has been misled or deceived by co-directors: see Bianco v. Minister of National Revenue (1991), 91 D.T.C. 1370 (T.C.C.); Edmondson v. Minister of National Revenue (1988), 88 D.T.C. 1542 (T.C.C.); Shindle v. R. (1995), 95 D.T.C. 5502 (Fed. T.D.); and Snow v. Minister of National Revenue (1991), 91 D.T.C. 832 (T.C.C.). There are also other examples of an inside director being exonerated: see Fitzgerald v. Minister of National Revenue (1991), 92 D.T.C. 1019 (T.C.C.).
37 From the perspective of the taxpayer in this case, however, the most disconcerting decision to emerge from the Tax Court must be Sanford v. R., [1996] 1 C.T.C. 2016 (T.C.C.). That case concerned the liability of an individual who was, at the relevant time, a co-director with the present taxpayer at RBI. In Sanford, the inside director who was assessed as a taxpayer under section 227.1 of the Act was an employee who had invested a substantial sum of money in the company but was subsequently denied the opportunity to participate in the management of the corporation. The company's principals had encouraged the taxpayer to focus on her area of expertise namely, sales, and afforded her little influence in respect of administrative and financial matters in which she had no training. She did, however, have authority to co-sign company cheques along with another director. After learning that the company was in arrears to Revenue Canada, the taxpayer requested and co-signed a cheque to address that problem. Although that cheque was ultimately returned, marked “N.S.F.”, the taxpayer did not know at the time it was issued that there were insufficient funds to cover the cheque. From the reasons for judgment, one must infer that liability was avoided because of the taxpayer's limited financial experience and restricted influence on corporate management. As well, when the taxpayer found out that funds were owing to Revenue Canada she took active steps to see that the taxes were paid. I wish to make it clear, however, that the purpose of subsection 227.1 (3) is to prevent failure to make remittances and not to cure default after the fact (though, as a practical matter, the provision should have the latter effect as well). I must leave that issue for another day. For the moment, I will refrain from further comment on Sanford: see discussion infra.
38 The final case I wish to discuss in this section dealing with inside directors is Stevenson Estate v. Minister of National Revenue (1996), [1997] 1 C.T.C. 2740 (T.C.C.). That case provides a quintessential illustration of the difference between the nature of liability for inside as opposed to outside directors and the effect of the subjective element of the standard of care. The company at issue was a family run enterprise whose principal activity was the sale of earthworms. At the relevant time, the directors of that business included “an elderly man of minimal education who had virtually no idea what was going on” and who was a director in name only, as well as “an intelligent woman with considerable business experience” who held the position of Chief Financial Officer of the company (ibid. at paras. 13 and 11, per Bowman J.T.C.C.). The Tax Court Judge held the inside director liable for failure to meet the standard of care set out in subsection 227.1(3) of the Act and, in doing so, noted that that director “was involved in the company's affairs to a degree that she could not have been oblivious to its financial difficulties”; in contrast, the outside director was exonerated on the basis that he “took no part in the financial affairs of the company and could not have influenced the course of events” (ibid. at paras. 11 and 13). I turn now specifically to a consideration of outside directors and, in particular, how the standard of care set out in the Act is to be met by them.
39 In order to satisfy the due diligence requirement laid down in subsection 227.1(3) a director may, as the Department of National Revenue has noted, take “positive action” by setting up controls to account for remittances, by asking for regular reports from the company's financial officers on the ongoing use of such controls, and by obtaining confirmation at regular intervals that withholding and remittance has taken place as required by the Act: see Information Circular 89-2, supra at para. 7.
40 Likewise, some commentators have advised directors that, if they wish to be able to rely successfully on the due diligence defence, it would be wise for them to consider undertaking a number of “positive steps” including, in certain circumstances, the establishment and monitoring of a trust account from which both employee wages and remittances owing to Her Majesty would be paid: see e.g. Moskowitz, supra at 566-68.
41 While such precautionary measures may be regarded as persuasive evidence of due diligence on the part of a director, in my view, those steps are not necessary conditions precedent to the establishment of that defence. This is particularly true with respect to the establishment of a separate trust account for source deductions to be remitted to the Receiver General. It is difficult to hold otherwise given the fact that Parliament abolished that express requirement for the purpose of achieving other legislative goals. Above all, a clear dividing line must be maintained between the standard of care required of a director and that of a trustee. Accordingly, an outside director cannot be required to go to the lengths outlined above. As an illustration, I would not expect an outside director, upon appointment to the board of one of Canada's leading companies, to go directly to the comptroller's office to inquire about withholdings and remittances. Obviously, if I would not expect such steps to be taken by the most sophisticated of business-persons, then I would certainly not expect such measures to be adopted by those with limited business acumen. This is not to suggest that a director can adopt an entirely passive approach but only that, unless there is reason for suspicion, it is permissible to rely on the day-to-day corporate managers to be responsible for the payment of debt obligations such as those owing to Her Majesty. This falls within the fourth proposition in the City Equitable case: see discussion supra at page 15. The question remains, however, as to when a positive duty to act arises.
42 In my view, the positive duty to act arises where a director obtains information, or becomes aware of facts, which might lead one to conclude that there is, or could reasonably be, a potential problem with remittances. Put differently, it is indeed incumbent upon an outside director to take positive steps if he or she knew, or ought to have known, that the corporation could be experiencing a remittance problem. The typical situation in which a director is, or ought to have been, apprised of the possibility of such a problem is where the company is having financial difficulties. For example, in Byrt v. Minister of National Revenue (1991), 91 D.T.C. 923 (T.C.C.), an outside director signed financial statements revealing a corporate deficit and thus he knew, or ought to have known, that the company was in financial trouble. The same director also knew that the business integrity of one of his co-directors, who was the president of the corporation too, was questionable. In these circumstances, having made no efforts to ensure that remittances to the Crown were made, the outside director was held personally liable for amounts owing by the corporation to Revenue Canada. According to the Tax Court Judge the outside director had, in contravention of the statutory standard of care, failed to “heed what is transpiring within the corporation and his experience with the people who are responsible for the day-today affairs of the corporation” (supra at 930, per Rip J.T.C.C.).
43 Two other cases involving outside directors are worthy of comment as these authorities were relied upon by the appellant in this case: Golfman v. Minister of National Revenue (1990), 90 D.T.C. 1863 (T.C.C.)and Smith v. R. (1994), 94 D.T.C. 1716 (T.C.C.). In Golfman, the taxpayer was a lawyer who had become a director of a corporation for whom he had served as a legal advisor for a number of years. Before becoming a director, the taxpayer had reviewed the most recent financial statements available, which suggested that the company was in good financial shape. Further, he had asked two of his co-directors about the corporation's remittances to Revenue Canada and had been informed that everything was in order. Both of the individuals of whom he had inquired were longstanding acquaintances of the taxpayer as well as senior officers of the company with solid business reputations. Given these facts, it was held that the outside director could not reasonably have been expected to conclude that there might be a problem with remittances. It should also be noted that, upon being informed of the corporation's debt obligation to Her Majesty, the taxpayer resigned immediately.
44 So too in Davies, supra, were the directors relieved of personal liability. In that case, three individuals (a physician and two engineers) were asked to join the board of directors of an eyewear company in order to provide specific forms of expertise. None of these outside directors possessed experience in relation to the daily financial management of a corporation. They relied on the corporation's competent, in-house financial officers to handle withholdings and remittances. Further, for the better part of 1988, the financial reports prepared by those officers gave no indication to the outside directors that arrears owing to the Crown had arisen early in that year and gone unaddressed. Although the existence of a monthly cash shortfall was known early in 1988, the weekly event reports as well as other indicators of the company's financial health all painted a positive financial picture. The Tax Court held that the taxpayers were not personally liable for the amounts owing since there had been no reason for them to suspect that there might be a source deduction problem until late in 1988 when the financial reports suggested such for the first time. In other words, prior to November of 1988 when those financial statements were released, it could not be said that the outside directors could reasonably have been expected to have taken positive action.
45 It is important to note that whether a company is in serious financial difficulty, such as to suggest a problem with remittances, cannot be determined simply by the fact that the monthly balance sheet bears a negative figure. For example, many firms operate on a line of credit to deal with fiscal fluctuations. In each case it will be for the Tax Court Judge to determine whether, based on the financial information or documentation available to the director, the latter ought to have known that there was a problem or potential problem with remittances. Whether the standard of care has been met, now that it has been defined, is thus predominantly a question of fact to be resolved in light of the personal knowledge and experience of the director at issue.
46 Applying the foregoing analysis of the law to the facts of this case, I find that the taxpayer was under a positive duty to act which arose, at the latest, in November of 1987 when he received the balance sheet of RBI revealing that the company was experiencing what the Tax Court Judge found, as a matter of fact, to be “extremely serious” financial problems (Appeal Book at 43). In light of that finding by the Tax Court Judge, and given the taxpayer's ample experience in the field of business, the balance sheet of November 1987 should have alerted the taxpayer to the existence of a possible problem with remittances. This is all the more true since there was no indication or evidence that RBI's financial troubles were merely temporary in nature. In the circumstances, however, the taxpayer made no inquiries in respect of remittance of employee withholdings.
47 Counsel for the taxpayer argues in his written submissions that material information was knowingly withheld from the taxpayer by both Ms. Beauchamp and the other directors of RBI, such that a “conspiracy of silence” against the taxpayer denied him any knowledge of the non-remittance of employee withholdings: see Appellant's Memorandum of Fact and Law at para. 24. Counsel argues further that the alleged conspiracy deprived the taxpayer of freedom of choice and the ability to exert any influence or control over the management of RBI (ibid.). I find it difficult to accept the taxpayer's argument to the effect that a “conspiracy of silence” is to blame for his inaction. There was no finding by the Tax Court Judge, nor was there any evidence, to support the understanding that Ms. Beauchamp had given a specific instruction to the other directors that remittances were not to be discussed with the taxpayer. Admittedly, she had instructed the other directors not to discuss with the taxpayer anything other than that which was dealt with at directors' meetings attended by the taxpayer, which matters did not include the issue of remittances. However, there is no indication that the taxpayer was misled or frustrated by other company officials during a quest for knowledge about the state of remittances. In any event, it is unnecessary to decide precisely what steps the taxpayer in this case should have taken after having learned of RBI's grave financial situation and, correlatively, the potential for a remittance problem. Suffice it to say that what the taxpayer did, that is nothing, was inadequate for the purpose of discharging the burden imposed on him by subsection 227.1(3) of the Act, given the precarious financial position of the company.
48 The difference in outcomes between this case and Sanford can be rationalized on the basis of the subjective element of the standard of care. The Sanford case involved an individual with no management experience who took active steps and performed her directorial duties reasonably, having regard to her level of skill and experience, and the corporate circumstances in which she found herself. Accordingly, she was able to avoid personal liability for the unremitted amounts. On the contrary, this case concerns an experienced businessman who took no positive steps to ensure remittance of employee withholdings despite the fact that he should have been alerted to a potential problem in that regard. He did absolutely nothing but close his eyes. As a consequence, it can hardly be said that the taxpayer in this case exercised, in his capacity as director of RBI, the degree of care, skill and diligence required by the Act.
49 For all of these reasons, the appeal must be dismissed. This is one instance in which it is simply not appropriate to visit the taxpayer with costs of the appeal. The issues pursued before this Court transcend his personal interests. Accordingly, no costs should be awarded.
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