Myers v. R., 98 DTC 1057, [1998] 1 CTC 2056 (TCC)

Hamlyn T.C.J.:

These appeals were heard together pursuant to an Order of this Court dated March 14, 1997.

From incorporation in 1955 to March 6, 1991, the Appellant William Wasserfall (“Wasserfall”) owned all the shares of Adelaide Electric Limited (“AEL”). For these several decades, Wasserfall was a director of AEL and AEL operated under his control and supervision. In 1990, the company ran into serious cash flow problems. Amongst many of the company’s financial difficulties, the company failed to remit to the Receiver General federal income tax withheld from the wages paid to its employees. The Appellant James D. Myers (“Myers”) (an employee of AEL) at the end of 1990 offered to buy all the shares from Wasserfall for a nominal sum; his objective was to revive the financial cash flow stability of the company and find alternate sources of finance. Towards this end, Myers’ spouse loaned AEL $200,000.00 on the security of an AEL land mortgage. Myers never formally became a director and there is a dispute in this proceeding whether he became a de facto director. Further, there is a dispute herein as to whether Wasserfall resigned as a director on January 15, 1991, March 6, 1991, at any other time, or that he remained a director throughout the period in question.

By Notices of Assessment dated October 20, 1994, the Minister of National Revenue (the “Minister”) assessed the Appellants for federal income tax deducted at source but not remitted by the corporation and for penalties and interest relating thereto as follows:

In assessing Wasserfall, the Minister relied upon the following pleaded particular assumptions of fact:

(a) by way of Agreement dated January 15, 1991, the Appellant [Wasserfall] agreed to sell and Mr. J.D. (Jimmy) Myers (“Myers”) agreed to purchase 100% of the issued and outstanding shares of the Corporation;

(b) on January 14, 1991, Myers presented to the Appellant [Wasserfall] the employment contract anticipated by paragraph 5.2 (viii) of the Agreement. Among other things, the contract provided that Mr. Wasserfall was to be retained as Executive Vice-President, with duties consisting of:

estimating the cost of electrical construction contracts, solicitation of new business, and other necessary advice and general duties consistent with your position;

(c) on March 6, 1991, a Resolution of the Board of Directors of the Corporation approved the transfer of 16,003 common shares in the Corporation from the Appellant [Wasserfall] to Myers. As a result of the transfer, Myers became the sole shareholder of the Corporation;

(d) on March 6, 1991, a resignation was signed by William John Wasserfall, as follows:

I hereby tender my resignation as director and officer and/or employee of the above Corporation, to take effect at any time upon acceptance of the shareholders of the Corporation.

(e) on March 6, 1991, resignations were also signed by Kathleen Wilson and John Wilson, as follows:

I hereby tender my resignation as director and officer and/or employee of the above Corporation.

(f) on March 6, 1991, a Special Resolution of the Shareholder - Adelaide Electric Limited resolved that the number of directors of the Corporation shall consist of one member and that the Appellant [Wasserfall] was confirmed to be a director of the Corporation;

(g) on July 17, 1991, a Certified Copy of the Special Resolution confirming the Appellant [Wasserfall] as a director of the Corporation was filed with the Companies Branch of the Ministry of Consumer and Commercial Relations (Ontario);

(h) on July 17, 1991, a Form 1 was filed with the Companies Branch pursuant to the Corporations Information Act listing W.J. Wasserfall as a director of the Corporation. The Form indicates that the Appellant [Wasserfall] was elected as a director on March 30, 1955:

(i) the Appellant was, at all material times, a director of the Corporation.

In assessing Myers, the Minister relied upon the following pleaded particular assumptions of fact:

(a) the Agreement [January 15, 1991 between Myers and Wasserfall] states as follows at paragraph 5.2:

5.2 The obligation of the Purchaser to close this transaction shall be conditional upon the following conditions, which are for the exclusive benefit of the Purchaser (but which may be waived by it in writing), having been satisfied on or before closing:

iii) Wm. J. Wasserfall, K.E. Wilson and M.E. Wasserfall, and any other directors and/or officers, shall have resigned as directors and from any offices held with AEL;

viii) the Vendor and AEL having entered into an employment contract satisfactory to the Purchaser for the services of Wm. J. Wasserfall to be attached hereto as Scedule [sic] E;

(b) the Agreement states that the Closing Date was to have been February 15, 1991;

(c) on January 14, 1991, the Appellant [Myers] executed the employment contract required by paragraph 5.2(viii) of the Agreement. Among other things, the contract provided that Mr. Wasserfall was to be retained as Executive Vice-President, with duties consisting of:

estimating the cost of electrical construction contracts, solicitation of new business, and other necessary advice and general duties consistent with your position;

(d) on March 6, 1991, a Resolution of the Board of Directors of the Corporation approved the transfer of 16,003 common shares in the Corporation from Mr. Wasserfall to the Appellant. As a result of the transfer, the Appellant became the sole shareholder of the Corporation;

(e) on March 6, 1991, a Resignation was signed by William John Wasserfall, to take effect at any time upon acceptance of the Shareholder of the Corporation;

(f) on May 24, 1991, a Form 1 was filed pursuant to the Corporations Information Act listing James Myers as a director of the Corporation;

(g) the Appellant [Myers] was, at all material times, a director of the Corporation;

(h) at all material times, the Appellant [Myers] was the sole shareholder and, as such, exercised complete control over the continued operations of the Corporation;

The following further additional assumptions of fact pleaded by the Minister were common to both Appellants:

(i) the Corporation failed to remit to the Receiver General federal income tax withheld from the wages paid to its employees as set out in ... Schedule was attached to Notice of Assessment.

(j) the Corporation also failed to pay penalties and interest relating to the unremitted federal tax in the amounts of $21,281.46 and $18,122.94 respectively;

(k) on October 27, 1992, a receiving Order was made against the Corporation under the Bankruptcy Act;

(1) on December 22, 1992, the Minister filed a proof of claim with the Corporation’s Trustee in Bankruptcy for the liability to which reference is made in paragraphs 10(j) and (k) herein; and

(m) the Appellant did not exercise the degree of care, diligence and skill to prevent the failure to remit the said amount by the Corporation that a reasonably prudent person would have exercised in comparable circumstances.

Issue

The issue to be decided is whether the Appellants individually are liable under subsection 227.1(1) for the failure by the corporation to remit to the Receiver General an amount of federal income tax as required by section 153 of the Income Tax Act (the “Act”) and the interest and penalties relating thereto.

Jurisprudence — Legislation

The directors of a corporation that does not comply with the withholding requirements can be held personally liable to pay the amount due by the corporation, together with interest and penalties (subsection 227.1(1)). The purpose of this section is to impose vicarious liability for a corporation’s default.

A director of a corporation is not immune from personal liability if the Minister commences a proceeding against him or her within two years from the time the director ceased to be a director (subsection 227.1(4)). A person ceases to be a director when he ceases to be in a position in law or in fact to exercise the powers of a director to rectify the failure of the corporation to deduct or remit.

A director of a corporation is not personally liable for the failure to withhold or remit taxes where the director has exercised the degree of care, diligence and skill to prevent the failure that a reasonably prudent person would have exercised in comparable circumstances.

An individual may be found to be a de facto director when the legislation and the circumstances surrounding the purported de facto directorship so dictate. [1]

Wasserfall’s Position

In his pleading, Wasserfall states his position as follows:

(c) Assessment made with respect to the failure of the Appellant to deduct, withhold or remit an amount of tax under subsection 153(1) of The Income Tax Act while he was reportedly a Director of Adelaide Electric Limited (“Adelaide”);

Appellant claims he did on or about the 15th day of January 1991, enter into an Agreement in writing, and for valuable consideration did sell, transfer and assign all of his shares and interest in Adelaide and at the same time did resign as Officer and Director;

Appellant claims that from and after the 15th day of January 1991, the Appellant was unaware that he was a Director or Officer of the Corporation and that from and after the said date he had no ability to rectify or remedy the default of the Corporation. The Appellant had no knowledge of any default until the assessment dated October 20, 1994 was issued; (d) the Appellant claims that as a result of having no authority to deal with the affairs of Adelaide a finding of liability against him should be reversed;

A petition was filed with the Ontario Court (General Division) in bankruptcy on the 6th day of October 1992 claiming Adelaide had committed acts of bankruptcy, and pursuant to the said petition a Receiving Order was made October 27, 1992. The petition having been made more than 2 years prior to the Notice of Assessment dated October 20, 1994, and Section 227.1(4) limits liability for Directors to a period of 2 years, the Appellant since pleads that the limitation period should apply and the assessment be reversed and Notice of Objection affirmed.

Myers’ Position

In his pleading, Myers states his position as follows:

12. The Taxpayer was not a director of Adelaide Electric during Adelaide Electric’s 1991, 1992 and 1993 taxation years, the periods in which Revenue Canada alleges Adelaide Electric failed to remit amounts withheld pursuant to subsection 153(1) of the ITA. In fact, the Taxpayer has never been validly elected or appointed as a director of Adelaide Electric under the applicable law. The Taxpayer is not shown as a director of Adelaide Electric on the records of the Ontario Corporations Branch and there are no corporate minutes or resolutions appointing the Taxpayer as a director.

Analysis — Wasserfall

Wasserfall entered into an agreement with Myers (January 15, 1991) wherein Wasserfall would sell all of the shares of AEL to Myers. The agreement specified that the obligation of the purchaser to close the transaction was conditional upon the following:

iii) Wm J. Wasserfall ... shall have resigned as director...

The agreement also provided the condition could be waived in writing.

At some point in time between January 15, 1991 and March 6, 1991, Myers presented to Wasserfall for his signature the following resignation (exhibit A-1, Tab 9):

To: Adelaide Electric Limited

I hereby tender my resignation as a director and officer and/or employee of the above Corporation, to take effect at any time upon acceptance of the shareholder of the Corporation.

Dated: March 6, 199]

William John Wasserfall

Wasserfall signed this conditional resignation.

Myers’ evidence was that if Wasserfall did not stay in the company he would not take the shares of the company. He further stated that without Wasserfall there would be no AEL and that the banks and the suppliers were directly linked to Wasserfall by way of Wasserfall’s assurances and covenants for AEL liabilities. Myers also stated that the oral understanding was that Wasserfall would stay on for a minimum of two years as a director and President.

Wasserfall denied this evidence and said he resigned as a director on January 15, 1991, undertook to stay on as an employee (estimator) with a salary and certain benefits, act in the office of Executive Vice-President and retain his signing authority for AEL. [2]

The corporate document trail [3] identified in evidence is found in exhibit A-1. Each document showed that Wasserfall signed the documents as a director or in some cases an officer of AEL. The further evidence was Wasserfall never unconditionally resigned his directorship at any time including the point in October 1992 when Wasserfall petitioned AEL into bankruptcy.

Summary — Wasserfall

Wasserfall conditionally resigned as a director of AEL, the condition being acceptance by Myers. However, the sole shareholder Myers, never accepted the resignation.

Wasserfall’s interest in AEL was significant including assurances to third parties given by him personally for liabilities of AEL. He had a personal interest in receiving a promissory note from the company and that promissory note took over a year to materialize. He was aware when the shares were transferred to Myers, there was a cash flow problem and a remittance problem with Revenue Canada. From the approach that Myers took in purchasing the shares, including Myers hiring an acquisition specialist and following legal advice throughout, all of which Wasserfall was aware of and moreover cooperated with, I cannot conclude that Wasserfall believed (despite his evidence that he was not a director from January 15, 1991) that Myers had any intention to relieve Wasserfall from any corporate director responsibility. To reiterate, Wasserfall did not do what he could have done, that is, resign unconditionally and refuse to sign or act on anything as a director of AEL.

Conclusion — Wasserfall

Wasserfall had every interest in remaining a director of a successful AEL. This success would potentially relive him of personal assurances to the bank and suppliers, relive his potential liability as a director for unremitted sums and ensure that his anticipated promissory note to himself was signed and eventually paid.

Wasserfall knew he was a director, he read everything he signed and reviewed with Myers what he was signing. In particular, he knew when he signed a document that corrected an error about his being removed as a director that in fact he was still a director. Moreover, Wasserfall knew the contents and significance of each of the documents he was signing. I conclude throughout Wasserfall was a director of the company and this was still so when he petitioned the company into bankruptcy. The Minister did commence a proceeding for failure to remit against Wasserfall within two years of October 27, 1992 when a receiving order was made against AEL. Other than meeting with Revenue Canada [4] , there is no evidence that Wasserfall did anything to prevent the failure to remit throughout. I conclude Wasserfall did not exercise the degree of care, diligence and skill to prevent the failure that a reasonably prudent person would have exercised in comparable circumstances.

Decision — Wasserfall

The appeal is dismissed. The Respondent is entitled to her costs. Analysis — Myers

Myers was the sole shareholder from March 6, 1991. Before his share purchase, during the period of acquisition and after the share purchase, Myers took great pains to ensure he was not a director. He sought legal advice throughout and knew the perils of being a director. Myers knew AEL was indebted to Revenue Canada. Myers knew the financial circumstances of AEL were a dire. Myers knew and recognized the need to keep Wasserfall in place as a director, and the necessity to maintain Wasserfall’s relations with suppliers and the bank. He (Myers) never held himself out as a director.

He acted as Secretary to AEL and acted as an employee. He made very sure he was never elected to the position of director.

For several months, not even the employees were aware of the share ownership change.

Myers’ evidence was to the effect Wasserfall was a director throughout and was President of the company and Myers informed and consulted with Wasserfall about matters concerning the company.

At one point when an incorrect notice filed under the Ontario Corporations Information Act showing Myers as a director, Myers addressed the error and rectified the problem and had Wasserfall sign the rectification on a form and transmitted the form to the Ontario Government under the Corporations Information Act.

Myers clearly acted as Secretary of AEL and presented those matters necessary to Wasserfall as director. Myers was careful not to act as a director.

Myers did open a separate bank account to divert corporate funds to avoid possible potential seizure from AEL’s regular bank and from this separate bank account Myers directed funds to the mortgage from Myers’ spouse. While this is indicative of an action of more than an employee, from all the evidence, I conclude Myers’ diversion of source corporate funds to the other bank account was done as a manager and Secretary of AEL. There is no evidence to support a conclusion he held himself out as a director in this transaction.

Conclusion — Myers

Myers was not formally a director nor was he a de facto director. Decision — Myers

The appeal is allowed and the assessment is vacated. The Appellant is entitled to his costs as against the Respondent.

One appellant's appeal allowed. Other appellant's appeal dismissed.