Citation: 2011 TCC 520
Date: 20111114
Dockets: 2010-14(IT)G
2009-3339(IT)G, 2009-3337(GST)I
2009-3859(IT)I
2009-3866(IT)I
BETWEEN:
SHIRLEY FOURNEY,
SJC PROPERTY MANAGEMENT INC.,
DSD PROPERTIES INC.,
LEARNING BOOST INC.,
Appellants,
and
HER MAJESTY THE QUEEN,
Respondent.
REASONS FOR JUDGMENT
Hogan J.
I.
INTRODUCTION
[1]
These appeals are
brought by Shirley Fourney (the “Appellant”), SJC Property Management Inc.
(“SJC”), DSD Properties Inc. (“DSD”), and Learning Boost Inc. (“Learning
Boost”) from reassessments for each of their respective tax returns for the
years 2003, 2004 and 2005. The Appellant alleges that the three companies she
incorporated, SJC, DSD and Learning Boost, were merely acting as her agents and
bare nominees, and that she never gave up beneficial ownership of her business
assets and activities. A summary of the reassessments at issue in these appeals
is to be found in Schedule 1 to these reasons for judgment.
II. FACTS
[2]
The Appellant received
notices of reassessment dated June 7, 2007 with respect to her 2003, 2004 and
2005 personal returns as well as with respect to the corporate returns filed
for SJC, DSD, and Learning Boost for those same years. On October 2, 2009, in
response to the Appellant’s duly filed objections to all the reassessments, the
Minister of National Revenue the (“Minister”) varied the reassessments and
issued notices of reassessment.
[3]
The Appellant is a
retired teacher who has been involved in the rental property business since the
late 1980s, originally as a property manager and later by purchasing and
renting out part or all of various properties. She has also been running a
tutorial business since her retirement as a teacher. The evidence shows that
the Appellant has no formal tax or accounting training other than a 12‑hour
course on the accounting software QuickBooks.
[4]
In the late 1990s, a
conflict arose between the Appellant’s mother and brother regarding a contract
between them. The Appellant supported her mother and continued, as executor of
her mother’s estate, a legal action that her mother had brought against her
brother. A decision in favour of the Appellant’s mother was rendered by the
Ontario Court of Justice in 2009, and is currently being appealed. The Appellant
claims that her main motivation in incorporating the businesses was to have the
ability to transfer to them the title to her properties in order to hide her
assets from her brother, who, angry that she had sided with her mother in the
legal dispute, had threatened to sue her.
[5]
In 2001 and 2002, the
Appellant incorporated three Saskatchewan corporations, of which she is the director
and majority shareholder:
(a)
SJC, described as a
property management business, incorporated June 4, 2001;
(b)
DSD, described as a
property ownership business, incorporated June 10, 2002; and
(c)
Learning Boost,
described as a tutorial business, incorporated December 31, 2002.
The evidence shows that a lawyer incorporated DSD and
SJC and that the Appellant then incorporated Learning Boost without legal
assistance. The Appellant’s two sons are listed in all the documents of incorporation
and annual returns as minority shareholders, each holding 10% of the
corporations’ shares. The Appellant insists this was only done to fulfil
incorporation requirements, and the sons never invested money in or received
income from the corporations.
[6]
In 2003, the Appellant
transferred the titles to all her properties (the “properties”) to DSD by filing
the appropriate forms at the Land Titles Registry office. The following are the
properties that were transferred:
(a)
1706 – 14th
Street East,
Saskatoon, Saskatchewan (described by Ms. Fourney as her
principal residence throughout the periods in question);
(b)
116 – 126 Edinburgh Place, Saskatoon, Saskatchewan;
(c)
1312 – 13th Street East, Saskatoon, Saskatchewan;
(d)
1333 – 14th Street East, Saskatoon, Saskatchewan;
(e)
1307 Main Street East, Saskatoon, Saskatchewan.
The Appellant asserts that she did not receive any tax
advice on the implications of transferring the properties to DSD, and her
accountant, Garnet Chambers, testified that he never gave her tax advice regarding
the transfers. She did not receive any consideration for the properties
transferred to DSD.
[7]
For each of the years
in question, the Appellant herself prepared her personal income tax returns, in
which she claimed rental and business income and expenses. Similar or the same
income, losses and expenses were reported and claimed in the corporate tax
returns, which were prepared for the Appellant by Mr. Chambers and filed
electronically because the Appellant could not understand how to complete the
returns herself. The Appellant insists she was not aware that Mr. Chambers
was also reporting and claiming the business income and expenses in the
corporate returns.
[8]
The Appellant provided
Mr. Chambers with copies of her personal returns and financial
spreadsheets every year, which, she asserts, should have made him aware that
she had already reported and claimed the income and expenses personally. She
claims that she never reviewed the corporate returns with Mr. Chambers before
they were electronically filed and that she did not have the capacity to
understand them when she did see them later. Mr. Chambers, however,
testified that in the spring of 2005 he saw the Appellant’s 2004 personal tax
return and advised her to amend it to eliminate the amounts reported and
claimed with respect to the businesses as they also appeared in the corporate
returns.
[9]
Mr. Chambers has
worked as an accountant since 1970, but does not hold an accounting
designation. While he claims to have done some tax planning, he described the
majority of his work as relating to tax filing. Mr. Chambers testified
that he did not ask to see conveyance forms, that he could not recall filing
any rollover forms for the Appellant, and that he thought it was unlikely that
such forms were filed. Mr. Chambers did not recall working with any
lawyers on the Appellant’s files, but added that he did know that the Appellant’s
lawyer, who did not testify in this case, had little corporate law experience.
[10]
At trial, Linda Nystuen,
an appeals officer with the Canada Revenue Agency (the “CRA”), conceded during
cross-examination that corporate tax returns are very difficult to decipher for
lay people and that new employees at the CRA are provided with training
specifically to enable them to read the corporate return printouts.
[11]
Two previous audits
were conducted regarding the Appellant before the incorporation of the appellant
corporations. The subjects of the audits were expense claims, the capitalization
of expense items, and unreported capital gains. The Appellant submits that those
audits are not relevant because they were for minor dollar amounts and occurred
prior to the incorporations. The Respondent argues that the audits indicate that
the Appellant should have known her bookkeeping system and accounting knowledge
were inadequate.
III. THE REASSESSMENTS
[12]
The Minister’s June 7,
2007 reassessments assumed that the Appellant should not have reported and claimed
the rental and business income and expenses personally.
[13]
From September 2008 to
July 2009 the Appellant provided additional documentation to the CRA regarding
the adjusted cost base of the rental properties, as well as the adjusted cost
base of the Lloydminster property and details about its usage
during the entire period of ownership. The Appellant also provided information
supporting her claim that she never transferred beneficial ownership of her
business assets and interests to DSD, SJC and Learning Boost.
[14]
In March 2009, the CRA
proposed reducing the capital gains assessed in 2003, reducing the capital gain
assessed on the Lloydminster property in 2004, and eliminating some of
the shareholder benefits assessed for each year, but found that the
corporations were not mere agents and bare nominees of the Appellant. The Appellant’s
habitation of the property at 1706
– 14th Street East, which she
argued was her principal residence, was considered a shareholder benefit.
[15]
The appeals division
also confirmed the significant gross negligence penalties imposed, stating that
the Appellant “knew or ought to have known” that amounts were being double-claimed,
since it was the Appellant’s responsibility to provide the information needed
to complete the tax returns. The appeals division did, however, reassess the
capital gains on the rental properties to take into account the additional
information provided by the Appellant regarding the adjusted cost base of the
properties.
IV.
ISSUES
[16]
The issues are the
following, and each will be dealt with in turn:
(a) Did beneficial
ownership of the assets and businesses reside with DSD, SJC and Learning Boost
or the Appellant?
(b) Should gross negligence penalties
be imposed?
V.
BENEFICIAL OWNERSHIP
Appellant’s Position
[17]
The Appellant submits
that she always saw DSD, SJC, and Learning Boost as merely her agents and bare
nominees, and that she never gave up the beneficial ownership of her rental properties
and tutorial business. Throughout her pleadings and in her testimony, the Appellant
claimed a lack of understanding of tax and accounting concepts and of the
consequences of incorporation. The Appellant insists that a review of her
behaviour with regard to the corporations clearly indicates that she did not
transfer beneficial ownership to the corporations and that, therefore, many of the
reassessed tax liabilities should be cancelled, including the capital gains tax
on transfers of title and the tax on numerous shareholder benefits.
[18]
The factors that the Appellant
listed as demonstrating that she remained the beneficial owner, with DSD, SJC
and Learning Boost acting as her agents and bare nominees, are as follows:
• All invoices for
repairs and renovations to the rental properties were addressed to the
Appellant personally.
• All of the utility
bills for each of the rental properties are in the Appellant’s personal name.
• SJC and DSD did not
have their own bank accounts. Monies referable to SJC and DSD were transferred
through chequing accounts held in the Appellant’s name.
• All rent cheques
and other documents pertaining to the rental properties were addressed to the Appellant
personally.
• The Appellant
advertised the rental properties, collected rent cheques, cleaned the
properties, looked after the landscaping, completed minor repairs to the rental
homes, and was listed as the “landlord” on correspondence with the Office of
the Rentalsman.
• The T2s filed with
respect to DSD, SJC, and Learning Boost do not reflect any asset ownership
(other than a Suburban owned by SJC). More to the point, none of the properties
or business interests were ever reflected in the T2s as being owned by any of
the corporations. Further, no balance sheet was prepared by the accountant,
Garnet Chambers, for any of the corporations during the years in issue in these
tax appeals.
• The Appellant
created the television and print advertisements for Learning Boost.
• The Appellant designed
and created the Learning Boost logo.
• The Appellant collected
the fees from Learning Boost students.
• The Appellant
converted her single-car garage into a “Learning Boost Office”.
• The Appellant
personally contracted with tradespeople to effect renovations to the Learning
Boost teaching space.
• The Appellant
travelled to students’ homes to sign contracts and assist with tutoring.
• The Appellant hired
tutors to work with Learning Boost students.
• The Appellant used
personal funds during the tax years in question to cover operating expenses for
the Learning Boost business.
[19]
Additional submissions
and witness testimony revealed the following other factors in support of the Appellant’s
beneficial ownership claim:
• The audit conducted
by the CRA concluded that SJC was in fact doing nothing, having no income and
no expenses.
• The main reason the
CRA concluded the Appellant did not meet the test for beneficial ownership was that
the titles are registered in DSD’s name, despite the fact that, in many real
estate agency relationships, a corporation will hold legal title while beneficial
ownership lies elsewhere.
• No section 85 forms
were filed to roll‑over the assets to the corporations.
• There is a lack of
evidence of a true conveyance of the properties because there was no
consideration for the transfer of title to the properties.
• There was no
indication of the Appellant’s documenting the transfers in order to protect
herself and to clarify the impact of any transfers on the minority
shareholders.
• In the absence of consideration,
transfers of properties and other business assets could be considered gifts, but
valid gifts require clear intention, and there is no evidence of such here.
• When DSD acquired
the 1430 – 12th Street East property in 2003, the Appellant personally
provided the financial backing, even though the mortgage was put in the name of
DSD.
• All of the
mortgages were in the Appellant’s personal name until 2005.
• Throughout the
years in question, the Appellant always reported and claimed the rental
property and tutorial income and expenses in her own returns.
Respondent’s Position
[20]
The Respondent argues
that the Appellant’s intent in incorporating her businesses was to transfer the
risks and responsibilities of ownership to the corporations. Retrospective findings of an implied agency relationship are
inappropriate in this case, the Respondent argues, as the non‑arms length
relationship between the Appellant and the corporations requires clear
documentation in support of an intention to create such an agency relationship.
The Respondent calls the credibility of the Appellant into question and argues
that, as a former teacher with a post‑graduate degree in education and as
a person having had the benefit of legal and accounting assistance, the
Appellant must have known about and sought the risk-reducing benefits of
incorporation. The Respondent submits that the Appellant is now attempting to
recharacterize the way in which she structured her businesses because of the
tax consequences she faces. On the Respondent’s theory of the case, the factors
listed below clearly establish that the Appellant intended to transfer both
legal and beneficial ownership of her businesses to the corporations:
• SJC entered into tenancy agreements.
• The tenancy agreements were
between SJC and its tenants.
• SJC issued eviction notices to its
tenants on SJC letterhead.
• The SJC letterhead said
“SJC Management Inc., Shirley Fourney, Manager”.
• SJC identified
itself as a landlord to the Office of the Rentalsman.
• SJC maintained its
own e‑mail address, which appeared on SJC tenancy agreements and on SJC
letterhead.
• SJC was the
registered holder of an HSBC bank account.
• SJC obtained and operated
under a business licence issued in its name.
• SJC contracted with
third parties.
• In or around
March 2003, Shirley Fourney transferred title of five properties to DSD.
• In or around
July 2003, DSD made an offer to purchase property located at 807 Cumberland.
• In or around July 2003
DSD purchased property at 1430 ‑ 12th Street East.
• In or around
September 2004, DSD sold 116 ‑ 126 Edinburgh Place.
• In or around
September 2005, DSD purchased a property at 1401 ‑ 13th Street East.
• DSD had mortgages
with HSBC on six properties.
• DSD was the
registered owner of a GMC Suburban.
• DSD was the
registered holder of an HSBC bank account.
• Building permits
were issued in the name of DSD.
• A notice of lien
was issued against DSD.
• Property tax
notices were issued in the name of DSD.
• DSD was responsible
for repairing and maintaining the rental properties.
• DSD filed its 2003,
2004 and 2005 annual returns with the Saskatchewan Corporations Branch.
• A City of Saskatoon
Notice of Zoning By‑law Violation was issued to DSD.
• Learning Boost
filed its 2004 annual return with the Saskatchewan Corporations Branch.
• Learning Boost is
the registered holder of an HSBC corporate bank account.
• Learning services contracts
were between Learning Boost and parents or guardians of Learning Boost
students.
• The learning service
contracts were marked “© . . . Learning Boost Inc.”.
• Payment for
services under the learning service contracts was to be made to Learning Boost.
• The independent contractor
agreements were between Learning Boost and the individual tutors the Appellant
contracted with.
• The confidentiality
agreements were between Learning Boost and its tutors.
• The Franchise
agreement was between Learning Boost and the franchisee.
• Learning Boost
obtained, and operated under, a business license issued in its name.
• T4s were issued
under the name and business number of Learning Boost.
• The T4 Summary was
issued under the name and business number of Learning Boost.
• Learning Boost
maintained its own e‑mail address, Web site and telephone number.
• Learning Boost
received an invoice from SJC for one-sixth of the expenses for the residence at
1706 – 14th Street East.
• Learning Boost kept
its own financial statements, including statements showing profits and loss
details.
[21]
The Respondent’s
additional written submissions and witness testimony provided the following further
factors in support of the Respondent’s position:
• When the Appellant
purchased the 1430 – 12th Street East property in 2003, her
bank at the time, ScotiaBank, refused to take on the additional mortgage. At
that point the Appellant transferred all her mortgages to HSBC, which was
willing to take on the new mortgage as well as the older ones, and all the mortgages
were then put in DSD’s name.
• Learning Boost had
an account in its own name, and the Respondent argues that the DSD and SJC
accounts were only using the Appellant’s personal accounts because she wanted
to avoid the higher banking fees on corporate accounts with numerous
transactions.
• There was no agency
agreement between the Appellant and the corporations, and, in this situation
involving non-arm’s length parties, finding an implied agency
relationship is inappropriate.
• Section 35 of
the Saskatchewan Land Titles Act, 2000, S.S. 2000, c. L‑5.1,
forbids having a trustee registered on title.
• In preparation for
the CRA audit, the Appellant created a contract between herself and SJC in
2006, which she backdated to 2003 and in which she describes her duties as those
of property manager and holds herself out to be an agent of SJC, contrary to
her claim in this appeal that SJC is her agent.
Analysis: Beneficial Ownership
[22]
Subsection 248(1) of the
Income Tax Act (the “Act”) specifically excludes certain transfers where no
change in beneficial ownership occurs. In the present case, the relevant
provision is as follows:
248(1) Definitions — In this Act,
. . .
“disposition” of any property, except as expressly otherwise
provided, includes
(a) . . .
but does not
include
(e) any
transfer of the property as a consequence of which there is no change in the
beneficial ownership of the property, except where the transfer is
(i) from a
person or a partnership to a trust for the benefit of the person or the
partnership,
(ii) from a
trust to a beneficiary under the trust, or
(iii) from one
trust maintained for the benefit of one or more beneficiaries under the trust
to another trust maintained for the benefit of the same beneficiaries,
[Emphasis added.]
[23]
Subsection 104(1)
of the Act provides that references to trusts in paragraph (e) of
the definition of “disposition” in subsection 248(1) do not include
transfers to bare trusts, which will not be considered dispositions under
subsection 248(1) when the trust acts entirely as the agent of the
beneficiary, holding title with no change in beneficial ownership:
104(1) Reference to trust or estate −
In this Act, a reference to a trust or estate (in this subdivision referred to
as a “trust”) shall, unless the context otherwise requires, be read to include
a reference to the trustee, executor, administrator, liquidator of a
succession, heir or other legal representative having ownership or control of
the trust property, but, except for the purposes of this subsection,
subsection (1.1), subparagraph (b)(v) of the definition
“disposition” in subsection 248(1) and paragraph (k) of that
definition, a trust is deemed not to include an arrangement under which the
trust can reasonably be considered to act as agent for all the beneficiaries
under the trust with respect to all dealings with all of the trust's property
unless the trust is described in any of paragraphs (a) to (e.1)
of the definition “trust” in subsection 108(1).
[24]
In this case, the
Appellant argues that there was no disposition under subsection 248(1) of the Act because
only the legal ownership of the business assets and interests was transferred,
with no actual taxable disposition occurring because the incorporated entities
were merely holding title to the properties as the Appellant’s bare nominees or
agents, without acquiring beneficial ownership thereof. The Appellant argues
that the lack of consideration for any of the properties, combined with the
lack of intent to create a trust or give a gift, shows that true ownership was
never transferred. She further submits that any additional purchases or sales
of property were made through the corporations in their roles as agents.
[25]
In considering this argument,
I will explore the meaning of beneficial ownership, the law regarding transfers
of property for no consideration, and the factors required in order to
establish an agent-principal relationship. First, with regard to beneficial
ownership, the concept emerges from the need in equity to distinguish between a
person who holds title to a property (the “legal owner”) and the person who has
the true right to the benefits of ownership. As recognized by the Supreme Court
of Canada in Covert et al. v. Minister of Finance of Nova Scotia, citing Hart J.
in MacKeen Estate v. Minister of Finance of Nova Scotia (1977),
36 A.P.R. 572:
It seems to me that the plain ordinary meaning of the expression
"beneficial owner" is the real or true owner of the property. The
property may be registered in another name or held in trust for the real owner,
but the "beneficial owner" is the one who can ultimately exercise the
rights of ownership in the property.
[26]
More recently, the
Supreme Court of Canada, in Pecore v. Pecore, addressed the meaning of
beneficial ownership,
acknowledging the distinction between legal and beneficial ownership as
emerging from equity considerations:
Equity . . . recognizes a distinction between legal
and beneficial ownership. The beneficial owner of property has been described
as "[t]he real owner of property even though it is in someone else's
name": Csak v. Aumon (1990), 69 D.L.R. (4th) 567 (Ont. H.C.J.), at
p. 570.
[27]
When the person who has
legal ownership by holding title is different from the person having beneficial
ownership of the same property and the legal owner has no discretion to do
anything with the property, the property is understood to be held in a bare
trust, whether by an agent or a trustee. In De Mond v. The Queen, the Tax Court of
Canada explored the meaning of bare trust:
. . . Professor Waters defines a bare trust as
follows:
The usually accepted meaning of the term "bare,"
"naked" or simple trust is a trust where the trustee or trustees hold
property without any further duty to perform except to convey it to the beneficiary
or beneficiaries upon demand.
. . .
Every fiduciary, which includes an agent holding the title to
property for a principal, is a bare trustee of the property he holds for
another.
. . . it has also been stated that a bare trustee is
a person who holds property in trust at the absolute disposal and for the
absolute benefit of the beneficiaries (see Halsbury's Laws of England,
4th ed., volume 48, paragraph 641, and The Queen v. Robinson et al., 98
DTC 6232 (F.C.A.)).
[28]
Judge Lamarre then
reviewed the relationship between the concepts of bare trustee and agent:
Bare trustees have also been compared to agents. The existence of a
bare trust will be disregarded for income tax purposes where the bare trustee
holds property as a mere agent or for the beneficial owner. In Trident
Holdings Ltd. v. Danand Investments Ltd., 64 O.R. (2d) 65 (Ont.
C.A.), Mr. Justice Morden, speaking for the Ontario Court of Appeal, made the
distinction between an ordinary trust and a bare trust. He reproduced the
following passages from Scott, The Law of Trusts, 4th ed. (1987):
. . .
A person may be both agent of and trustee for another. If he
undertakes to act on behalf of the other and subject to his control he is an
agent; but if he is vested with the title to property that he holds for his
principal, he is also a trustee. In such a case, however, it is the agency
relation that predominates, and the principles of agency, rather than the
principles of trust, are applicable [Vol. 1, p. 95].
[38] Mr. Justice Morden also quoted with approval from an
article by M.C. Cullity, "Liability of Beneficiaries - A Rejoinder",
(1985-86), 7 Estates & Trusts Quarterly 35, at p. 36:
It is quite clear that in many situations trustees will also be
agents. This occurs, for example, in the familiar case of investments held by
an investment dealer as nominee or in the case of land held by a nominee
corporation. In such cases, the trust relationship that arises by virtue of the
separation of legal and equitable ownership is often described as a bare trust
and for tax and some other purposes it is quite understandably ignored.
The distinguishing characteristic of the bare trust is that the
trustee has no independent powers, discretions or responsibilities. His only
responsibility is to carry out the instructions of his principals --- the
beneficiaries. If he does not have to accept instructions, if he has any
significant independent powers or responsibilities, he is not a bare trustee.
[29]
For the Appellant’s
theory of the case to stand up, the transfers (and any subsequent purchases) of
property must have resulted in legal ownership in bare trust by the
corporations. Any further activity undertaken by the corporations with the
properties held in bare trust would need to be conducted as agents of their
principal, the Appellant.
[30]
A transfer of property for
no consideration generally results in a rebuttable presumption of a resulting
trust. The transferee is obligated to prove the transferor’s intent to make a
gift in order to rebut the presumption that the property is merely being held
in trust for the transferor. As stated by the Supreme Court of Canada in Pecore:
A resulting trust arises when title to property is in one party's
name, but that party, because he or she is a fiduciary or gave no value for the
property, is under an obligation to return it to the original title owner: see
D.W.M. Waters, M.R. Gillen and L.D. Smith, eds., Waters' Law of Trusts in
Canada (3rd ed. 2005), at p. 362. . .
24. The presumption of resulting trust is a rebuttable
presumption of law and general rule that applies to gratuitous transfers. When
a transfer is challenged, the presumption allocates the legal burden of proof.
Thus, where a transfer is made for no consideration, the onus is placed on the
transferee to demonstrate that a gift was intended: see Waters' Law of
Trusts, at p. 375, and E. E. Gillese and M. Milczynski, The Law of
Trusts (2nd ed. 2005), at p. 110. This is so because equity presumes
bargains, not gifts.
[31]
While in Pecore,
the Supreme Court went on to evaluate the appropriate burden of proof that the
transferee must meet in order to show the transferor’s intent to gift, such
considerations are not relevant in this case. The Appellant denies having had the
requisite intent to transfer the property gratuitously, and as she was the
majority shareholder of the transferee, it would lie with her to rebut the
presumption that, having received the properties by way of gratuitous
transfers, the corporation held those properties in resulting trust.
[32]
Further, a gift will
not be valid unless the donor’s intention to gift was absolutely unambiguous:
Inter vivos gifts are gifts from one
living person to another living person, literally between the living. Inter
vivos gifts can be oral or by deed.
(a) − Oral
The intention to gift must be unequivocal. If a donor’s
words or actions are equivocal or consistent with a possible intention to give
or not to give, the courts will not infer a gift. The difference between a
complete and an incomplete gift often turns on the use of specific words (Jones
v. Lock (1865), LR 1 Ch App 25).
Delivery is not merely evidence of a gift being made. Courts demand
full transfer of possession to complete an oral gift. The donor must put the
good out of his control. . . .
(b) −By Deed
To make a gift by deed, the donor must deliver to the donee a sealed
instrument in writing that states the intention to give and the subject of the
gift. The seal is needed to corroborate the intent in the written document. The
sealed instrument must be delivered out of the possession of the donor. It is
now less clear how formal the instrument needs to be. While a sealed instrument
many no longer be required, there must still be sufficient formality to
corroborate an informed and considered intention to gift.
[33]
As the Land Titles Registry’s
transfer documents are deeds, it might be argued that no consideration was
required when such deeds were used to transfer real property to DSD. Such an
argument was considered and rejected by the Supreme Court of Canada in Niles
v. Lake, [1947] S.C.R. 291, [1947] S.C.J. No. 13 (QL):
. . . the mere fact of the document in question being
under seal does not prevent the appellants from showing that there was no
consideration. That, they have done, and the resulting trust follows.
[34]
In the present case,
the evidence suggests that there was no meeting of the minds with regard to
forming a valid contract between the Appellant and the corporations. As
submitted by the Appellant:
A contract can only arise if there is the animus contrahendi
between the parties. With the expressed or implicit intention that a contract
should emerge as a result of the language or conduct of the alleged parties, no
contractual obligations can be said to exist and be capable of enforcement.
[35]
The resulting trust
doctrine should apply to all the properties transferred in this case. All
transfers of business assets and interests to the corporation were done
gratuitously. There is no evidence to indicate an intention to gift. Further,
as outlined below, the conduct of the Appellant and the corporations over the
three-year period does not indicate an intention to transfer property to the
corporation. Instead, an implied agent-principal relationship is indicated,
with the Appellant always maintaining beneficial ownership of the properties
and businesses.
[36]
The Appellant contends that
although there was no written agreement, the agency relationship between her,
the alleged principal, and the three corporations, her alleged agents, is
implied by their behaviour during the taxation years at issue. The Federal
Court of Appeal explored the meaning of the term “agency”, and how an agency relationship
arises, in Kinguk Travel Inc. v. Canada:
The term agency has been defined as:
". . . a fiduciary relationship which exists
between two persons, one of whom expressly or impliedly consents that the other
should act on his behalf so as to affect his relations with third parties, and
the other of whom similarly consents so to act or so acts." (Bowstead
& Reynolds on Agency (17th edition, Sweet & Maxwell 2001)).
In Royal Securities Corp. Ltd. v. Montreal Trust Co. et. al
59 D.L.R. (2d) 666, Gale C.J.H.C. identified the essential ingredients of an
agency relationship as follows:
1. The consent of both the principal and the agent;
2. Authority given to the agent by the principal, allowing the
former to affect the latter's legal position;
3. The principal's control of the agent's actions.
In reality, points 2 and 3 are often overlapping, as the principal's
control over the actions of his agent is manifested in the authority given to
the agent.
[37]
Bowstead and
Reynolds on Agency
explains that an agency relationship can emerge in the following ways:
(1) The
relationship of principal and agent may be constituted −
(a) by agreement, whether contractual or not, between principal and
agent, which may be express, or implied from the conduct or situation of
the parties;
(b)
retrospectively, by subsequent ratification by the principal of acts done on
his behalf.
[Emphasis
added.]
[38]
The Respondent submits
that the Appellant is trying to retroactively recharacterize her business
transactions and calls her credibility into question, insisting that she is a
capable and educated woman who chose whatever form was most convenient at
various times. The Respondent argues that the Court should not now allow her to
pick beneficial ownership with an agency relationship as the current most
convenient choice because it avoids the adverse tax consequences she is facing.
Counsel includes in his case law authorities that refer to the frequently cited
passage in the Federal Court of Appeal’s decision, in The Queen v. Friedberg,
92 OTC 6031 at page 6032, [1991] F.C.J. No. 1255 (QL), regarding the
importance of form in tax matters:
In tax law, form matters. A mere subjective intention, here as
elsewhere in the tax field, is not by itself sufficient to alter the
characterization of a transaction for tax purposes. If a taxpayer arranges his
affairs in certain formal ways, enormous tax advantages can be obtained, even
though the main reason for these arrangements may be to save tax (see The
Queen v. Irving Oil 91 DTC 5106, per Mahoney, J.A.). If a
taxpayer fails to take the correct formal steps, however, tax may have to be
paid. If this were not so, Revenue Canada and the courts would be engaged in endless exercises to determine
the true intentions behind certain transactions. Taxpayers and the Crown would
seek to restructure dealings after the fact so as to take advantage of the tax
law or to make taxpayers pay tax that they might otherwise not have to pay.
While evidence of intention may be used by the Courts on occasion to clarify
dealings, it is rarely determinative. In sum, evidence of subjective intention
cannot be used to 'correct' documents which clearly point in a particular
direction.
[39]
The Respondent argues
further that the Appellant is calling upon the Court to lift the corporate
veil. As one of the Respondent’s own submitted authorities notes, however, the
courts have accepted agency as a suitable reason to characterize the
relationship between a corporation and another entity by its substantive
nature:
The third basis on which courts have purported to disregard separate
corporate personality is by finding that the corporation is merely acting as
the agent of someone else, usually the controlling shareholder that is, itself,
a corporation. Conceptually, the corporate form is not disregarded by a holding
that it is an agent. Rather, the business of the corporation or whatever activity
gives rise to the claim by a third party is determined to be carried on not by
the corporation directly but only as an agent of the controlling shareholder.
There is no general bar to seeking to determine whether
the corporations were indeed agents of the Appellant. As will be seen below, however,
the test for finding an agency relationship in the absence of a written
agreement is restrictive; it requires evidence of the necessary conduct.
[40]
In Denison Mines
Ltd. v. Minister of National Revenue,
Cattanach J. analyzed an argument that a subsidiary corporation was merely the
agent of its parent company, which held all of the subsidiary’s shares:
Briefly the appellant's position is that the business of Con-Ell was
in reality the business of the appellant and in contradistinction thereof the
position of the Minister rests on the Salomon case (Salomon v. A.
Salomon & Co. Ltd. [1897] A.C. 22) that there are two separate legal
entities and the losses of one are not the losses of the other.
It is well settled that the mere fact that a person holds all the
shares in a company does not make the business carried out by that company the
shareholder's business, nor does it make that company the shareholder's agent
for carrying on the business. However it is conceivable that there may be an
arrangement between the shareholder and the company which will constitute the
company the shareholder's agent for the purpose of carrying on the business and
so make the business that of the shareholder. It is immaterial that the
shareholder is itself a limited company.
[41]
More recently, a
corporation’s ability to act as its shareholder’s agent was acknowledged
without question by Paris J. of the Tax Court of Canada in Avotus Corp. v. The
Queen. Paris J. cited Denison Mines in support of the following assertion:
It is established in the case law that there is
no bar to a corporation acting as agent for its shareholder. In Denison
Mines (supra) Cattanach J. noted at page 5388:
. . . it is conceivable that
there may be an arrangement between the shareholder and the company which will
constitute the company, the shareholder's agent, for the purpose of carrying on
the business and so make the business that of the shareholder. It is immaterial
that the shareholder is itself a limited company.
[42]
It is established,
then, that corporations can act as agents, and this concept is not repugnant to
the rule that corporations have separate legal personality a matter addressed
in the oft-cited Salomon case.
[43]
In the
present case, in the absence of a written agreement expressing the clear intent
to establish an agency relationship, what is the evidence required in order to support
the Appellant’s claim? In Avotus,
there was a written agreement between the principal and the agent, although it had
been drafted and signed in 1996 and the agent-principal relationship had
actually begun in 1994.
Regardless of the timing of the agreement, Paris J. concluded that its
existence was the deciding consideration:
In Denison
Mines (supra) there was no express contract of agency between the
taxpayer and its subsidiary corporation, and the court declined to find that
there was an implied contract of agency between them. By contrast, in this case
the Appellant and Americas entered into a written agency
agreement.
. . .
. . . It
is only in the absence of a written agreement that the conduct of the parties
must be examined for the purpose of determining whether an agency agreement may
be implied.
[44]
Here, given the absence
of a written agreement, the Court needs to closely examine the conduct of the
parties to determine whether there was an implied intention to create an agency
relationship, as described by G.H.L. Fridman in Canadian Agency Law:
. . . To arrive at the
conclusion that there was an agency involves an intricate analysis of the facts
to elucidate the correct nature of the relationship between the
parties . . . .
. . . the agency relationship may be impliedly
created by the conduct of the parties, without anything having been expressly
agreed as to terms of employment, remuneration, etc. The assent of the
agent may be implied from the fact that he has acted intentionally on another’s
behalf. In general, however, it will be the assent of the principal which is
more likely to be implied, for except in certain cases, “it is only by the will
of the employer that any agency may be created.”
. . .
Mere silence will be insufficient. There must be some course of
conduct to indicate the acceptance of the agency relationship. The effect of
such an implication is to put the parties in the same position as if the agency
had been expressly created.
[45]
Here, a key
consideration in reviewing the conduct of the alleged principal (the Appellant)
and her agents will be determining the level of control the Appellant exerted
over the corporations:
. . . It is important that the alleged agent be under
the control of the alleged principal. In the language of the court in 2000 in Advanced
Glazing Systems Inc. v. Frydenland. “The greater the power of control over
the agent/trustee, the greater the likelihood that the principles of agency …
are applicable.”
[46]
The Appellant in this
case had full control over every action of the corporations.
Indeed, the corporations could not act without her; even if the minority
shareholders became active, the Appellant would remain the controlling party.
The mere fact that she had such control, however, is not sufficient for a finding
of an agent-principal relationship, otherwise many privately controlled corporations
could be characterized as the agents of their majority shareholders. What, then, is
the actual test to apply in determining whether an agency relationship existed?
[47]
In Otineka Development Corporation
Limited et al. v. The Queen,
the Tax Court of Canada emphasized the need for a high threshold of evidence for
a finding that a corporation was actually acting as an agent:
. . . Where a corporation
holds itself out to third parties as owning its property and business, keeps
separate financial records, files its own corporate income tax returns and acts
like any other corporation that is independent of its shareholders, it would
require extremely cogent evidence to establish that all along it was really
just an agent or trustee for its shareholders on the basis of an unwritten oral
understanding or assumption on the part of some of the shareholders or
directors.
[48]
Here, DSD
and SJC also each held itself out to third parties as owning its property and
business, but only in limited instances. DSD held title to certain real property,
but, as previously discussed, the properties were held in resulting (bare)
trust as they were acquired through gratuitous transfers. Beginning in 2005,
DSD carried all mortgages on the properties. In 2003 and 2004, however, after DSD’s
incorporation, the mortgages had remained in the Appellant’s name. There is no
evidence that the Appellant transferred the mortgages to DSD’s name in 2005 to
minimize risk, rather, she continued to be the guarantor for all the mortgages,
and all payments on the mortgages came out of her personal accounts. In certain
limited circumstances, SJC did contract with third parties, concluding rental
agreements with tenants, for example; it also handled some correspondence with
tenants. SJC was found, however, in the CRA audit, to be doing essentially
nothing as a corporation.
[49]
Neither SJC
nor DSD kept separate financial records, although it appears that the Appellant
did her best, using her financial spreadsheets, to track general income and
expenses. All of SJC and DSD’s transactions went through the Appellant’s
personal accounts. While SJC’s name was used on letters and contracts with
tenants, rent cheques were made out to Ms. Fourney, and she was shown as the
landlord on documents filed with the Office of the Rentalsman.
[50]
Both DSD
and SJC filed corporate tax returns, however, the Appellant reported and claimed
income and expenses that were the same as or similar to those claimed by the
corporations. The reporting and claiming by the Appellant personally implies an
intention to act as a principal, with the corporations being mere agents and
bare trustees. The Appellant’s credibility is strong in this case; the
accountant did not demonstrate adequate and reasonable care or professional
skill when he prepared corporate returns without being able to trace any of the
assets in the corporations. The double-claiming by the Appellant was not
intentional and the reporting of income and claiming of expenses on the
corporate returns should not be taken as evidence against an agency
relationship when the Appellant’s claiming of the same expenses personally
provides evidence of exactly the contrary.
[51]
The Appellant testified
that she adopted the strategy of transferring the properties to DSD in order to
achieve her goal of hiding her assets from her brother. She testified that she
set up the corporate structure to make it more difficult for her brother to
discover what properties she owned. According to the Appellant, her brother,
accustomed to managing and operating a farm, placed an inordinately high value
on land. The Appellant alleges that her brother was bitter that the Appellant had
stood with her mother in the latter’s attempt to have her son honour his
commitment to paying the debt he owed her. That debt originated from the sale
to him of the family dairy farm after the Appellant’s father had died.
According to the Appellant, her brother stopped paying her mother because he
decided unilaterally that he had paid her enough. The Appellant’s concern about
protecting against a possible litigation risk turned out, with hindsight, to be
ill‑founded. Her mother’s claim was upheld by the courts, thanks in large
part to the considerable assistance of the Appellant.
[52]
The evidence reveals
that the Appellant did not have a panoply of structures to choose among to
achieve her alleged objectives. She could transfer the properties outright to
DSD in exchange for less liquid shares. The beneficial and legal ownership of
the properties would then reside with DSD. That is the Respondent’s theory of
what the Appellant in fact did. The evidence presented by the Appellant does
not allow me to share this view.
[53]
The other course of
action was for the Appellant to transfer only registered title to DSD. DSD
would hold the properties as bare trustee and would be constituted as the Appellant’s
agent in dealing with those properties. The Appellant could also choose not to
disclose the agency agreement to third parties. This is often done for real
estate transactions. Disclosure of the verbal agreement would in fact defeat
the purpose of that agreement.
[54]
The Appellant, in my
opinion, has established that such an arrangement is what she intended,
implemented, and caused the corporations to carry out on her behalf.
Undoubtedly, it would have been much simpler had the Appellant caused a bare
trust and agency agreement to be drawn up. She did not, and she has paid a very
heavy price, including having her life turned upside down by an audit, an
assessment and these appeals, all at considerable cost to her.
[55]
The empowering of DSD
to act on the Appellant’s behalf is confirmed by numerous factors. While the
bare trust and agency relationship was not totally disclosed to the lessees and
suppliers of DSD, the wary certainly had reasons to believe that this
relationship existed. For example, the evidence reveals that the rental cheques
were made payable to the Appellant. The invoices for repairs and renovations
were addressed to the Appellant. It was the Appellant who advertised the rental
properties, collected the rent cheques, cleaned the properties and was listed
as the landlord with the Office of the Rentalsman. The Respondent actually
acknowledges that SJC did nothing.
[56]
As noted earlier, the
Appellant’s troubles originate from the fact that both she and the corporations
reported the same revenue and expenses. This led to a duplication of the claims
for losses. Mr. Chambers, the person who prepared the corporations’ tax
returns, made a number of startling revelations during his testimony, which
explains in part how this occurred. The evidence shows that there was an
absence of effective communication between the Appellant and Mr. Chambers.
For example, he admitted that the Appellant was presented with copies of the
corporations’ 2003 and 2004 tax returns much later, after they had been electronically
filed. Those returns are not comprehensible to anyone other than a person who
has memorized the line codes opposite which the tax information appears. The
codes correspond to an electronic coding of the information, and this coding is
known only to the most skilled tax compliance professional. A taxpayer, or a
tax lawyer for that matter, cannot determine what the codes mean unless they
have access to a detailed coding manual which explains their meaning. The CRA
officer appearing for the Respondent admitted that CRA personnel receive
specialized training to enable them to understand electronically-filed tax
returns. On reviewing the returns at issue, the Appellant had no way of knowing
that Mr. Chambers claimed the same losses as she had claimed on her
personal tax return.
[57]
The most startling
revelation made by Mr. Chambers is his admission that he completed and
filed the tax returns without understanding how DSD acquired the properties. If
the Appellant had intended to transfer the properties on a tax-deferred basis,
she would have had to file an election under section 85 of the Act assuming all
the preconditions had been met. Generally speaking, because the Appellant had
accrued gains, she would have filed, if properly advised, a section 85 rollover
election. The present value of the tax payable will always exceed the present
value of the future depreciation expense. This is due to the fact that the depreciation
rate is low, meaning that the future tax savings have a low present value. The
Appellant did not file an election because, as the evidence shows, she intended
to retain beneficial ownership. In her mind, no taxable disposition occurred.
On a related‑party transfer of property, a professional completing tax
returns will ask to see the transfer agreement in order to discern whether the
transfer qualifies for a tax-free rollover or not. I note that the Appellant’s
two sons were given shares in the bare trust corporation. If a true disposition
had occurred and there had existed an element of gift in the form of a shifting
of some of the value of the transferred properties to the shares of the
Appellant’s sons part of the transfer could be taxable. On the other
hand, if, as Mr. Chambers admitted, he learned later that a section 85
rollover election had not been filed, he needed to know the fair market value
of each property in order to determine the undepreciated capital cost (UCC) balance
for DSD. Under the technical rules of the Act, only one-half of the
accrued gain is added to the UCC balance to match the taxation on one-half in
the hands of the transferor. In this case, the UCC balance is equal to the sum
of the cost of the property to the transferor and one-half of the gain.
[58]
A few basic questions on
Mr. Chambers’ part could have clarified the situation. He could have asked, for
example: Where is the purchase and sale agreement? What was the consideration
that was paid? Do you realize that the sale could be construed as taxable
unless you document your retention of beneficial ownership? Are you aware that
you will realize a taxable capital gain, which will exceed the net present
value of the future tax savings from the depreciation expenses if the
transaction is found to be taxable? He could have said: I need to know the
foregoing to establish the UCC balance, if any, of the properties. The
confusion was compounded by the fact that the electronic returns were filed
twice, long before the Appellant received copies. Had Mr. Chambers done as
indicated above, these matters could have been cleared up without an audit and
resulting reassessments.
[59]
The Appellant testified
that she felt comfortable using off-the-shelf tax software to complete her
personal tax returns as she had done in the past. She was, in her words,
terrified by the complexity of the tax software used to prepare
electronically-filed tax returns. This is understandable as it takes a great
deal of sophistication to convert financial information into the tax
information required in the returns. She turned to Mr. Chambers for this
service. Mistakes were made but the evidence shows that it was not the
Appellant who wrongly claimed the expenses, as alleged by the Respondent. It
was DSD and the other corporations that did so in the returns prepared and
filed by Mr. Chambers. The basis for the Respondent’s claim of tax,
interest and penalties against the Appellant is that the Appellant failed to
report the gains from the transfers and claimed losses to which she was not entitled.
With regard to DSD and SJC, the evidence clearly shows that she was entitled to
do so.
[60]
Learning Boost held
itself out to third parties as a separate legal entity in more ways than DSD
and SJC. Learning Boost did have its own bank account and did prepare financial
statements every year. The Appellant however, took care of every aspect of
Learning Boost’s activities except the work performed by the hired tutors. She
collected payments from students, took care of all advertising, and designed
the Learning Boost logo. The Appellant personally took on the risk when she
contracted in her own name to renovate her home for Learning Boost’s office.
Unlike the procedure followed for SJC, however, payments for tutorial services
were made to Learning Boost and not the Appellant. Contracts with tutors were made
between the tutors and Learning Boost, as were confidentiality agreements.
Learning Boost had a business number and a business licence, and issued T4s
under its own name. The tutorial company maintained its own phone number and Web site.
Still, the Appellant continued to claim Learning Boost’s income and expenses in
her personal returns.
[61]
The mere maintenance of
a separate bank account and careful attention to budgeting for a business
endeavour do not necessarily mean that such an endeavour (here, Learning Boost)
is not an agent, but the number of instances of the corporation holding itself
out to third parties as a separate legal entity does weaken the appearance of
an implied agency relationship (in this case, with the Appellant). I believe
that other tests regarding agent-principal relationships and beneficial
ownership can guide me in my decision on the status of Learning Boost.
[62]
J. Anthony VanDuzer in The
Law of Partnerships and Corporations, tells us that the test for whether an
agency relationship exists is as follows:
. . . The factors referred to in Smith, Stone and
Knight Ltd. v. Birmingham Corp, are almost universally cited as those
relevant to a determination whether agency exists:
• Were the profits treated as profits of the shareholder?
• Was the person conducting the business appointed by the
shareholder?
• Was the shareholder the head and brain of the trading
venture?
• Did the shareholder govern the adventure
and decide what should be done and what capital should be committed to the
venture?
• Did the shareholder make the profits by its skill and
direction?
• Was the shareholder in effectual and constant control?
[63]
All three corporations herein
can answer each of the above questions in the affirmative. The Appellant had
total control of these corporations and there is no evidence of any restraints
by the minority shareholders or anyone else on her discretion to guide the
business, commit (her own) capital to that business, choose what to do with
profits, and so on. Still, VanDuzer goes on to stress that the mere presence of
the above factors is not sufficient:
Extensive and even complete control by a single person, however, is
contemplated in the CBCA, so the existence of control satisfying the
test in Smith cannot in any way be conclusive. . . .
. . .
There is nothing in any corporate statute which suggests that any
particular degree of control is inappropriate or prohibited. In Alberta Gas
Ethylene Co. v. M.N.R., Madame Justice Reed observed that Smith does
not stand for the proposition that one must ignore the separate existence of a
subsidiary corporation when the six criteria are met. One must ask for what
purpose the corporation was incorporated and used, and consider the overall context in which the
obligation to the third party arose.
[64]
Rip A.C.J. (as he was then)
undertook in Prévost Car Inc. v. The Queen a detailed
analysis of the meaning of “beneficial owner” in Canadian common law, as that
term was undefined in the agreement in question in that case. He concluded that
an agency relationship in which the principal retains beneficial ownership can
only exist in narrow circumstances that meet very specific criteria:
. . .
When the Supreme Court in Jodrey stated that the
"beneficial owner" is one who can "ultimately" exercise the
rights of ownership in the property, I am confident that the Court did not
mean, in using the word "ultimately", to strip away the corporate
veil so that the shareholders of a corporation are the beneficial owners of its
assets, including income earned by the corporation. The word "ultimately"
refers to the recipient of the dividend who is the true owner of the dividend,
a person who could do with the dividend what he or she desires. It is the true
owner of property who is the beneficial owner of the property. Where an agency
or mandate exists or the property is in the name of a nominee, one looks to
find on whose behalf the agent or mandatary is acting or for whom the nominee
has lent his or her name. When corporate entities are concerned, one does not
pierce the corporate veil unless the corporation is a conduit for another
person and has absolutely no discretion as to the use or application of funds
put through it as conduit, or has agreed to act on someone else's behalf
pursuant to that person's instructions without any right to do other than what
that person instructs it, for example, a stockbroker who is the registered
owner of the shares it holds for clients. . . .
[65]
This is such a case:
all three corporations could be characterized as mere conduits for the Appellant.
They had no ability to act on their own; there is no evidence of minute books
or annual meetings; the corporations had neither the discretion nor any right
to use any income earned through them; they could indeed be described as mere
conduits or agents of the Appellant.
[66]
In Larose v.
Minister of National Revenue,
this Court describes as follows the beneficial ownership test: “A property is
deemed to be beneficially owned when one person possesses the three attributes
of the ownership of property (usus, fructus, abusus). . . .” In Smedley
v. The Queen,
the Tax Court of Canada reiterated that “. . . the test for
beneficial ownership is the date at which the party has acquired the indicia of
ownership, those being risk, use and possession.” With respect to
DSD and SJC, the Appellant clearly meets this test, as she takes on all the
risk personally, using all the business assets herself and having possession of
them. Only the case of Learning Boost raises some doubt in that the Appellant took
risks in terms of her investment in home renovations for teaching space, but at
the same time reduced her risk by using the corporate name to contract with
third parties, including the tutors, in some contexts.
[67]
In the specific case of
Learning Boost, although it is not perfect, the evidence establishes on a
balance of probabilities that Learning Boost was also acting as a bare nominee
and agent of the Appellant. Indications of such a relationship include the
following:
(a) The Appellant
created the television and print advertisements for Learning Boost.
(b) The Appellant
designed and created the Learning Boost logo.
(c) The Appellant
collected the fees from Learning Boost students.
(d) The Appellant
converted her single-car garage into a “Learning Boost Office”.
(e) The Appellant personally
contracted with tradespeople to effect renovations to the Learning Boost
teaching space.
(f) The Appellant
travelled to the students’ homes to sign contracts and assist with tutoring.
(g) The Appellant hired
tutors to work with Learning Boost students.
(h) The Appellant used
personal funds during the tax years in question to cover operating expenses for
the Learning Boost business.
VI. PENALTIES
Appellant’s Position
[68]
In the Appellant’s
view, gross negligence penalties should not be imposed in this case for the
following reasons:
• Given the manner in
which the Respondent worded her pleading, which cannot be changed without
affecting the fairness of the trial, gross negligence penalties can only be
imposed if the Appellant’s agency claim fails. Any references to
double-claiming by the Appellant of some of the expenses, if such references are
not found in the Respondent’s pleading, cannot be considered now, as the Respondent
has no right to appeal her own assessment. This issue is different than the
double-claiming issue raised by the Respondent to support the assessments. The
issue raised in the pleading concerns the double-claiming by the corporations
and the Appellant of the same expenses. At trial, the Respondent brought up the
fact that the Appellant claimed some of the same expenses twice in her tax
returns. This is a matter not covered by the assessments issued against the
Appellant and was raised for the first time at trial. As a result, this matter
did not form part of the basis of the assessment of gross negligence penalties
against the Appellant.
• The burden of proof
lies with the Respondent, who failed to establish the evidentiary grounds for
gross negligence, having never provided the penalty calculation despite the Appellant’s
request and the CRA’s undertaking during examination for discovery to provide
the relevant documents.
• The Respondent has
not proven that the Appellant had the necessary intent justifying the
assessment of such penalties.
• Despite the
reference to such a test in the Respondent’s reply to the notice of appeal, the
gross negligence penalty provisions in subsection 163(2) of the Act and
section 285 of the Excise Tax Act (the “ETA”) do not impose an “ought to
have known” test. Rather, the phrase used is “knowingly, or under circumstances
amounting to gross negligence”.
• The Respondent has
in no way proven that the Appellant knowingly, or under circumstances amounting
to gross negligence, made false statements or omissions in her returns. The Appellant
has no formal education in taxation or accounting, but she kept detailed books
and records and shared that information with her accountant on the assumption
that she was obtaining qualified professional assistance that would ensure that
she was meeting her tax obligations.
• Although the Appellant
had experienced two previous audits, they related to different issues and were
prior to the incorporations.
• The Appellant never
had the opportunity to review her 2004 and 2005 corporate returns before they
were e-filed. While she did see the 2003 return, the Appellant did not have the
requisite skill to understand the corporate returns, a claim supported by the
CRA appeals officer’s concession that the corporate returns require special
training in order for a person to be able to read and understand them.
• Even without the
double-claiming, the Appellant’s returns for the years in question would still show
her to be in a loss position.
Respondent’s Position
[69]
Gross negligence
penalties should be imposed, the Respondent having proven the existence of multiple
grounds for doing so, namely:
(a)
“Ms. Fourney has
recklessly disregarded her legal obligations with respect to personal and
corporate taxation. The evidence supports a finding that Ms. Fourney chose
to do whatever seemed to work for her, regardless of whether or not it
conformed to the requirements of the Income Tax Act or the Excise Tax
Act.”
(b)
“Ms. Fourney’s
cross-examination disclosed errors in her personal tax returns and in the
corporate tax returns of the incorporated Appellants, almost too numerous to
mention. . . . The problem of errors in the various personal and
corporate tax returns was pointed out to Ms. Fourney at the audit and
appeals stages; there is no ambush.”
(c)
The Appellant was
previously audited for issues relating to the capitalization of expense items
and the non-reporting capital gains.
(d)
The Appellant should
have properly shared information with her accountant.
(e)
Mr. Chambers, the
accountant, testified that once he noted the double-claiming, he informed the Appellant
in 2005 that she needed to amend her personal return.
(f)
As a person who had
been in business since 1994, the Appellant should have taken steps to inform
herself to a greater degree about tax accounting matters.
(g)
The large number of
errors in the Appellant’s returns shows that her bookkeeping system was clearly
inadequate.
The amounts involved are substantial. With respect to
DSD, the unreported income is substantial in relation to the reported net
income for 2003, 2004, and 2005. With respect to Learning Boost, it is evident
that the losses claimed are substantial in relation to the income reported for
2003 and 2004. With respect to Ms. Fourney, it is evident that the
business losses claimed with regard to the business activities of DSD, SJC and
Learning Boost are substantial. As regards SJC’s GST matters, the amounts
involved are substantial in relation to the total amounts reported and claimed.
Penalties Analysis
[70]
It is abundantly clear
from the reply to the notice of appeal, that it was the Minister’s position
that penalties should apply to the Appellant if and only if this Court were to
find that both beneficial and legal ownership of the properties was transferred
to the corporations and that the corporations were not appointed agents of the
Appellant for the purposes of dealing with the transferred properties and
operating the businesses on her behalf. In this regard, the reply frames the
issues as follows:
The issues are:
a)
whether Shirley Fourney was the beneficial owner
and operator of the assets and activities of DSD, SJC and Learning Boost in
2003, 2004 and 2005;
b)
if Shirley Fourney was not the beneficial owner
and operator of the assets and activities of DSD, SJC and Learning Boost in
2003, 2004 and 2005, whether the Minister properly assessed the appellant to:
i)
increase rental income by $3,824.57 in 2003 and
reduce rental income by $11,151.67 in 2004;
ii)
add business income of $146,335 in 2003,
$136,071.80 in 2004 and $49,215.28 in 2005;
iii)
include shareholder benefits of $10,800 in each
of the 2003, 2004 and 2005 taxation years;
iv)
include taxable capital gains of $8,710.76 in
2003 and $26,412.33 in 2004 in respect of the disposition of properties; and
v)
include penalties pursuant to subsection 163(2)
of the Act in respect of the appellant’s 2003, 2004 and 2005 taxation
years.
The Respondent’s counsel attempted to put forward a
different position at trial, which met with strenuous objections from the
Appellant’s counsel. The Respondent invited me to consider the fact that the
Appellant admittedly double-claimed some expenses in 2003 and 2004 tax returns.
This Court has stated in the past that taxpayers generally have the right to
rely on the issues being as framed by the Respondent in her reply. While leave
may be granted to amend the reply, the discretion to do so is generally not
exercised once the trial has begun. In any event, I note that the Respondent
did not move to have her reply amended but raised the issue in argument. The
purpose of the above-stated position of the Court with regard to the issues is
to avoid trial by ambush and preserve the parties’ right to properly prepare
for trial. More generally, the Respondent’s claim for penalties should be
dismissed either way because the Respondent failed, for detailed reasons stated
below, to establish on a balance of probabilities that the conditions giving
rise to the assessment of penalties have been met.
[71]
Subsection 163(2) of
the Act describes the standard for imposing gross negligence penalties:
False
statements or omissions
163(2) Every person who, knowingly, or under circumstances amounting
to gross negligence, has made or has participated in, assented to or acquiesced
in the making of, a false statement or omission in a return, form, certificate,
statement or answer (in this section referred to as a “return”) filed or made
in respect of a taxation year for the purposes of this Act, is liable to a
penalty of the greater of $100 and 50% of the total of. . . .
The subsection uses the word “knowingly” but not the
phrase “ought to have known”, which the Respondent uses in both her reply to the
notice of appeal and her Additional Written Submissions.
[72]
Section 285 of the ETA
uses the same standard as the Act, again without the phrase “ought to have
known”:
285. Every person who knowingly, or under circumstances amounting to
gross negligence, makes or participates in, assents to or acquiesces in the
making of a false statement or omission in a return, application, form,
certificate, statement, invoice or answer (each of which is in this section referred
to as a “return”) made in respect of a reporting period or transaction is
liable to a penalty of the greater of $250 and 25% of the total
of. . . .
[73]
The standard referred
to by the Respondent in her written submissions is wrong. Instead, the Appellant’s
actions need to be reviewed on the basis of whether her false statements were
made “knowingly, or under circumstances amounting to gross negligence.” The
case law provides a road map for applying this standard to the facts herein.
First, the Federal Court of Appeal’s decision in Lacroix v. Canada, supports the Appellant’s
position in the present case that the burden is on the Minister to prove that
penalties should be imposed:
Although the Minister has the benefit of the assumptions of fact
underlying the reassessment, he does not enjoy any similar advantage with
regard to proving the facts justifying a reassessment beyond the statutory
period, or those facts justifying the assessment of a penalty for the
taxpayer's misconduct in filing his tax return. The Minister is undeniably
required to adduce facts justifying these exceptional measures.
In Richard Boileau v. M.N.R., 89 D.T.C. 247, Judge Lamarre
Proulx stated as follows, at page 250:
Indeed, the Appellant was unable to contradict the basic elements of
the net worth assessments. However, in my view, this is not sufficient for
discharging the burden of proof which lies on the Minister. To decide otherwise
would be to remove any purpose to subsection 163(3) by reverting the Minister's
burden of proof back onto the Appellant.
In a similar vein, in Farm Business Consultants Inc. v. Her
Majesty the Queen, [1994] 2 C.T.C. 2450, 95 D.T.C. 200, Judge Bowman wrote
the following at paragraph 27:
27. A court must be extremely cautious in sanctioning the imposition
of penalties under subsection 163(2). Conduct that warrants reopening a
statute-barred year does not automatically justify a penalty and the routine
imposition of penalties by the Minister is to be
discouraged. . . .
Moreover, where a penalty is imposed under subsection 163(2)
although a civil standard of proof is required, if a taxpayer's conduct is
consistent with two viable and reasonable hypotheses, one justifying the
penalty and one not, the benefit of the doubt must be given to the taxpayer and
the penalty must be deleted . . . .
[74]
The Federal Court of
Appeal, in Lacroix, went on to make a statement regarding the Minister’s
burden that has since caused some confusion:
What, then, of the burden of proof on the Minister? How does he
discharge this burden? There may be circumstances where the Minister would be
able to show direct evidence of the taxpayer's state of mind at the time the
tax return was filed. However, in the vast majority of cases, the Minister will
be limited to undermining the taxpayer's credibility by either adducing
evidence or cross-examining the taxpayer. Insofar as the Tax Court of Canada is
satisfied that the taxpayer earned unreported income and did not provide a
credible explanation for the discrepancy between his or her reported income and
his or her net worth, the Minister has discharged the burden of proof on him
within the meaning of subparagraph 152(4)(a)(i) and subsection 162(3).
[75]
When reviewing the above
passage in Dao v. The Queen,
Campbell J. of the Tax Court of Canada found it confusing, that it made it
unclear whether the Federal Court of Appeal was imposing a new standard for
gross negligence penalties:
. . . With respect, the reasons of Pelletier J. in Lacroix
v. The Queen, [2008] F.C.J. 1092, leave me bewildered and somewhat
perplexed when I compare his analysis to the preceding cases in both the Tax
Court and the Federal Court of Appeal. At paragraphs 30 to 32 of Lacroix,
the two provisions are essentially lumped together and the same onus is imposed
upon the Minister with respect to both provisions. The effect of this would be
to remove the requirement for the element of mens rea and, consequently,
establish circumstances that would allow penalties in many unsuccessful
appeals. Where a taxpayer is accused of reckless and reprehensible conduct
bordering on criminal behaviour for which he may be slammed with the punishment
of gross negligence penalties, the Minister under subsection 163(2) has a duty
to justify its decision which will not be satisfied merely, as Lacroix
suggests, by showing that the taxpayer has unreported income but could not
provide a credible explanation.
[76]
I do not believe that
the decision of Pelletier J.A. in Lacroix constitutes a departure from
the principles enunciated in previous case law, as suggested by my colleague in
Dao. Pelletier J.A.’s comments must be considered in light of the nature
of the appeal he was dealing with. Mr. Lacroix was reassessed on the basis of
the findings of a net worth assessment. The trial judge found that the appellant
in that case had no explanation for the large discrepancy between his reported
income and his significantly greater net worth. I understand Pelletier J.A.’s
comment to mean that a trial judge can draw a reasonable inference from the
evidence presented by the Respondent. If no reasonable explanations are given
to explain the discrepancy, a trial judge can draw the inference that the
taxpayer was grossly negligent in failing to report his or her income. I caution,
however, that the inference must be reasonable and further, that the evidence must
not allow for a different explanation. If it does, then the Minister must establish
on a balance of probabilities that this explanation is untrue.
[77]
Because subsection
163(2) is penal in nature, it calls for a higher degree of culpability and must
be applied only where the evidence clearly justifies so doing. If the evidence
creates any doubt that it should be applied in the circumstances of the appeal,
then the only fair conclusion is that the taxpayer must receive the benefit of that
doubt in those circumstances. In Farm Business Consultants Inc. v. The Queen,
95 DTC 200, a decision which was upheld by the Federal Court of Appeal (96 DTC
6085), at pages 205 to 206, Judge Bowman (as he was then), stated:
A court must be extremely cautious in sanctioning the imposition of
penalties under subsection 163(2). Conduct that warrants reopening a
statute-barred year does not automatically justify a penalty and the routine
imposition of penalties by the Minister is to be
discouraged . . . . Moreover, where a penalty is imposed
under subsection
163(2) although a civil standard of proof is required, if a taxpayer's conduct
is consistent with two viable and reasonable hypotheses, one justifying the
penalty and one not, the benefit of the doubt must be given to the taxpayer and
the penalty must be deleted . . .
[78]
An extensive body of
case law refers to the need for evidence of intent or recklessness on the part
of an appellant in order for gross negligence penalties to be imposed. Here, no
such evidence has been provided. The Appellant sought professional accounting
assistance to complete her tax returns. Mr. Chambers provided no plausible
explanation showing how he could have acted with reasonable care as an
accountant without having had with the Appellant a conversation about the tax
consequences of transferring properties to the corporations, about the need to
trace the corporate assets, and about the Appellant’s intentions regarding the
reporting of income and claiming of expenses personally or through the
corporations. Mr. Chambers’ testimony that he noticed the double-claiming
in 2005 and that he told the Appellant to amend her returns at that time lacks
credibility considering the general lack of care that he displayed. In any
event, it was by then much too late for the returns that had already been
filed. Finally, his advice was inconsistent with the factual reality that the
Appellant transferred only the legal title to the properties to the
corporations that acted as her exclusive agents in connection with those
properties and the business.
[79]
The evidence shows that
the Appellant strived to become self-reliant in building her rental property
business from scratch and launching Learning Boost following her retirement as
a teacher. As a single mother she wanted a better life for her two sons and
herself. Rental businesses are not high-profit activities. To be successful,
one cannot afford to outsource all services to outside professionals. It is obvious
that the Appellant went one step too far in trying to become self-reliant with
respect to her tax compliance obligations. She believed that she had mastered
the use of the personal tax preparation software, when in fact she had not.
Undoubtedly, she has learned from this unpleasant and costly experience. The
double-claiming of expenses on her personal returns was attributable to the
fact that she did not understand that she had to enter the information under either
the rental property section or business section of the software, but not both,
as this would lead to a duplication of her declared losses. She incorporated
Learning Boost on her own to save costs. She completed the real estate transfer
documentation on her own, not fully appreciating that she could have succeeded in
implementing her plan by using a written bare trust and agency agreement. She
had the judgment not to tackle the preparation of the electronic tax returns of
DSD, SJC and Learning Boost herself because she realized that she would be out
of her depth. She hired Mr. Chambers for this purpose. Rather than sitting
down and gauging the Appellant’s true intent, Mr. Chambers filed the
returns without taking stock of the situation. It is clear that the Appellant
recognizes that she needs help in meeting her tax compliance obligations.
Nonetheless, the Appellant should be applauded for having succeeded in building
two businesses and should not be punished for honest mistakes that clearly, in
light of the evidence, do not constitute grossly negligent behaviour. In any
event, the evidence shows that the Appellant retained beneficial ownership of
the properties and businesses, meaning that the Respondent has failed to prove
that the Appellant wrongly claimed the expenses at issue in these appeals.
[80]
It is clear that the
Appellant lacks basic knowledge of accounting and tax matters. Her numerous
errors in her tax returns point to her lack of skill in these areas. In a
self-assessing tax system, however, gross negligence penalties are not imposed for
mere mistakes by a taxpayer who lacked the intention to misstate or omit.
Further, the case law establishes that if there is any doubt about intent, the
benefit of that doubt should go to the taxpayer since the penalty provision in
question is penal in nature. The same reasoning applies to the penalties assessed
against the corporate appellants under the Act.
[81]
The Minister also
reassessed SJC with respect to input tax credits (ITCs) claimed on taxable
supplies. The evidence shows that the properties and businesses belonged to the
Appellant. For these reasons, SJC was not entitled to claim ITCs and the
reassessments should stand.
VI. CONCLUSIONS
[82]
The Appellant’s
beneficial ownership claim succeeds for the reasons set out above. The
resulting trust doctrine applies to all the properties transferred in this case;
the corporations merely had legal ownership of property transferred
gratuitously in circumstances where there was no evidence of an intention to
gift. An assessment of the conduct of the Appellant and the corporations over
the three-year period indicates an implied agency relationship. The Appellant
always was the owner of the assets and businesses registered in the name of the
corporations.
[83]
For similar reasons,
the Respondent’s gross negligence argument fails. Evidence of intent or
recklessness is required in order for gross negligence penalties to be imposed.
Here the Minister has not met his burden. It is clear that the Appellant lacks
basic knowledge of accounting and tax matters, but she sought professional
accounting assistance and did not intend to make a misstatement or omission. In
any event, the gross negligence penalties are not applicable because the
Appellant has succeeded in establishing that she remained the beneficial owner
of all of the assets held and of the businesses carried on by the
corporations.
[84]
SJC was not entitled to
claim ITCs.
Signed at Ottawa, Canada, this 14th day of November 2011.
Robert J. Hogan
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