Citation: 2011 TCC 3
Date: 20110104
Docket: 2009-77(IT)G
BETWEEN:
RAYMOND NOWAK,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
REASONS FOR JUDGMENT
Paris J.
[1] These are appeals
from reassessments of Mr. Nowak’s 2000 and 2001 taxation years. The issues
raised in the appeals are:
(i) whether
Mr. Nowak failed to report income of $153,645 in 2000 and $141,160 in 2001;
(ii) whether
two partnerships of which he was a member overclaimed business expenses in 2000
and 2001; and
(iii) if
he underreported his income as set out in paragraph (i), whether he is liable
for penalties in respect of those amounts in accordance with subsection 163(2)
of the Income Tax Act.
Facts
[2] Mr. Nowak and his
spouse were born in Poland and immigrated to Canada with their two children in 1986. Mr.
Nowak trained as a chef in Poland and he and his spouse owned and operated a restaurant there
from 1972 to 1985. Since coming to Canada, he has carried on a number of different businesses.
In the years in issue, he was a 50% partner with Ryszard Ratajcsak in R & R
Country Railings which supplied and installed deck and stair railings. He was
also a 50% partner along with his son in K & R Trading which bought and
resold used cars. Most of the used cars were bought in the United States, and exported to Poland for resale.
[3] Mr. Nowak’s tax
returns for 2000 and 2001 showed total income of $7,510 and $5,877,
respectively. His spouse’s income was shown as $3,480 in 2000 and $8,216 in
2001. The Canada Revenue Agency considered the combined reported income of Mr.
Nowak and his spouse to be low and, therefore, selected Mr. Nowak’s 2000
and 2001 taxation years for audit.
[4] The CRA auditor,
Ms. Ann Marie Sawh, testified that she attempted on several occasions to
contact Mr. Nowak to obtain information for the purposes of her audit. She left
several phone messages for him and sent him four letters. One of those letters
was sent by registered mail, and one was left at Mr. Nowak’s residence. Mr.
Nowak did not reply to any of the phone messages or letters.
[5] In his 2000 and
2001 tax returns, Mr. Nowak had filed statements of business activities for R
& R and K & R showing the following amounts of revenue, expenses and
net income:
R & R
|
|
2000
|
2001
|
|
Revenue
|
$133,854
|
$81,618
|
|
Expenses
|
123,566
|
70,525
|
|
Net Income
|
10,289
|
11,194
|
K & R
|
|
2000
|
2001
|
|
Revenue
|
$122,210
|
$45,040
|
|
Expenses
|
129,008
|
44,380
|
|
Net Income
|
(6,797)
|
660
|
[6] Given Mr. Nowak’s
lack of response to her requests for information, the auditor proposed to disallow
all of the expenses claimed by the partnership. She sent this proposal in a
letter to Mr. Nowak, and again, received no response. She therefore proceeded
with the reassessments.
[7] Mr. Nowak, through
an agent, objected to the reassessments, and submitted records to support
expenses claimed by the partnerships. The appeals division of the CRA, which was
dealing with Mr. Nowak’s objection, asked Ms. Sawh to review the records
provided by Mr. Nowak for the purpose of determining his business income in
those years.
[8] Ms. Sawh testified
that the receipts that were provided were not organized or sorted into
categories, and her attempts to sort them produced different totals for a
number of the categories of expenses shown in the partnerships’ statements of
business activities - some higher than what had been claimed and some lower.
However, the overall total of vouchered expenses was lower than the total
expenses claimed, by the following amounts for each of the partnerships:
|
|
2000
|
2001
|
|
R & R
|
$33,879
|
$3,186
|
|
K & R
|
32,879
|
‑
|
She proposed to disallow
these amounts as expenses of the partnerships.
[9] Ms. Sawh asked for
banking records for the partnerships and for Mr. Nowak in order to verify
revenue. After a number of requests, she eventually obtained records for the
partnerships’ bank accounts and for an account Mr. Nowak held jointly with his
spouse. Ms. Sawh’s analysis of the partnership accounts revealed total
unidentified deposits in the following amounts:
|
|
2000
|
2001
|
|
R & R
|
$10,978
|
$8,733
|
|
K & R
|
$50,104
|
$60,700
|
Ms. Sawh considered that these
amounts were unreported revenue of the partnerships and proposed to add 50% of
those amounts to Mr. Nowak’s income.
[10] Ms. Sawh was also unable
to verify the source of deposits totalling $123,104.28 in 2000 and $106,444.12
in 2001 into the personal joint account of Mr. Nowak and his spouse. Ms. Sawh
believed that these amounts were income which Mr. Nowak had failed to report on
his 2000 and 2001 returns and proposed to add them to his income.
[11] Ms. Sawh testified
that she met with Mr. Nowak and his daughter, Ava, in June 2007 to explain the
proposed reassessments and gave them copies of her working papers. Ms. Sawh did
not receive any further information from Mr. Nowak and the reassessments
that are under appeal were issued.
[12] At the hearing
before me, Mr. Nowak and his spouse each testified that the unidentified bank
deposits were made with money they had left behind in Poland when they
emigrated and which Mr. Nowak had brought back from Poland on trips taken over a number of
years. They said that when they left Poland they sold all of their property, including the home
they inherited from Mrs. Nowak’s parents, their restaurant and two cars. Since
they could not take any money out of the country, they left all of the cash
they received from selling their property, along with cash they had saved from
their restaurant business, with Mr. Nowak’s parents to keep for them and to
convert gradually into US dollars on the “unofficial market”. They said that
at that time, no one in Poland trusted the banks and everyone kept their money in cash at
home.
[13] Mr. and Mrs. Nowak
provided a notary’s act dated July 15, 1995 recording an agreement for the sale
of property by them in Poznan, Poland for 3 million zlotys. The original document was in
Polish and was accompanied by an official English translation. They also
provided a second document in Polish, untranslated, and only made available to
the Respondent on the day of the hearing, which they said showed that the true
selling price of the house was in fact 5.5 million zlotys.
[14] Mr. and Mrs. Nowak testified
that they sold their restaurant for between 5 and 7 million zlotys, a one-year
old Mercedes for 4 million zlotys and a Fiat for 2 or 3 million zlotys. All of
these amounts were said to have been paid in cash. Mrs. Nowak said they also
had savings of between 5 and 7 million zlotys.
[15] According to Mr.
Nowak, the unofficial exchange rate was around 50 or 60 zlotys to the US dollar
in 1986.
[16] Mr. Nowak said he returned
to Poland for the first time in
1990, after receiving his Canadian citizenship, to visit his parents and to see
if he could take money out of the country. He said that at that time, the
situation in Poland had changed completely and that it had become possible to obtain
permission to take money out of the country. He did not recall when he began
taking money out of Poland, that it was possibly in 1995, but that when he
wanted money, he would visit Poland three or four times a years for that
purpose. Mrs. Nowak said that she recalled that after Mr. Nowak’s initial visit
back to Poland, he went back three or
four times a year right up until this year.
[17] Three Polish
currency export certificates (along with English translations) were produced at
the hearing showing that Mr. Nowak was authorized to take the following amounts
of money out of Poland on the following dates:
$36,000 US
(June 29, 1996)
$25,000 US
(November 3, 1997)
$22,000 US
(February 19, 1999)
[18] Mr. Nowak explained
that he first had to deposit US dollars into a bank account in Poland in order to obtain an
export certificate. Once he had the certificate, he would withdraw the cash to
bring it back to Canada. He presented three Polish bank receipts (again with English translations)
showing that he made the following withdrawals from the Pekao Bank in Poznan on the following dates:
$22,600 US
(April 16, 1998)
$15,000 US
(December 21, 1998)
$37,000 US
(February 19, 1999)
[19] Both Mr. and Mrs.
Nowak said that Mr. Nowak had brought back more money than what was evidenced
by the receipts but that they could not find any more of the export
certificates or withdrawal slips. They also said that at some time after 1999,
Polish law changed and it was no longer necessary to obtain permission to
export currency. Mr. Nowak said he continued until this year to make trips back
to Poland to get money.
[20] Both Mr. and Mrs.
Nowak said that they kept the US cash from Poland at home in Mississaugua and
whenever they needed money for business or personal reasons, Mrs. Nowak would
convert it downtown Toronto to Canadian dollars and deposit it into the bank.
[21] With respect to the
partnership income and expenses, Mr. Nowak and his spouse testified that Mr.
Nowak’s spouse did the bookkeeping for K & R and R & R. She said she
had recorded all the revenue and expenses in a notebook, which she gave to their
accountant each year to prepare Mr. Nowak’s tax returns. The notebook was not
put into evidence, nor were any supporting documents and Mrs. Nowak was unable
to give any details of the actual expenses incurred by the partnerships.
Appellant’s position
[22] Mr. Nowak’s counsel
argued that the evidence showed that Mr. and Mrs. Nowak had built up assets in
Poland before coming to Canada, and that those assets were the source of the bank
deposits that the auditor treated as unreported income.
[23] With respect to the
disallowed expenses, counsel said that Mr. Nowak had relied on his spouse to
keep records for the partnership and she was adamant that she had kept good
records and had provided the accountants everything that was needed to prepare
the returns. Counsel suggested that Mr. Nowak and his spouse had provided
credible evidence that the expenses as claimed had been incurred, and that it
was not necessary to provide receipts and records to support the expenses.
[24] Counsel also argued
that gross negligence penalties were not warranted because Mr. Nowak believed
he was keeping the necessary records to properly report his income, and that
any errors in his returns were attributable to persons Mr. Nowak relied on to
prepare the books and tax returns for his businesses. It was submitted that Mr.
Nowak was not privy to those errors and that there was no evidence that he was
deliberately attempting to underreport his income.
Analysis
[25] The first issue is
whether the Appellant failed to report income in his 2000 and 2001 taxation
years. This issue turns mainly on the credibility of the Appellant and his
spouse, and for the reasons that follow, I do not believe their testimony
concerning the source of the unidentified bank deposits. I find their explanations
unconvincing and implausible, and very little in the way of corroboration was
presented to the Court. The few documents they did produce raise as many
questions as they answer.
[26] Firstly, I find that
Mr. Nowak’s failure to provide an explanation for the unidentified deposits to
the auditor at their meeting in June 2007 raises a significant doubt as to the
veracity of his and his spouse’s testimony concerning the origin of the funds. Mr.
Nowak’s version of what took place at the meeting was quite different from that
given by Ms. Sawh. Mr. Nowak said that he went to the meeting with his daughter
expecting to discuss a GST refund he had applied for. He said they were made to
wait for an hour, and that when Ms. Sawh finally arrived, her attitude was
that Mr. Nowak was “worthless”, and that she was unpleasant to him. He said he
felt humiliated and left within five minutes, but his daughter stayed, and she
was given documents by the auditor. He said his daughter later explained the
proposed adjustments to the income tax to him, and showed him those documents,
and that he turned the matter over to his accountant.
[27] The auditor made a
summary of the meeting in her T2020 diary, and there is no indication that Mr.
Nowak left the meeting early. In her testimony, the auditor said that she
explained the proposed reassessments step-by-step to Mr. Nowak’s daughter
who translated for her father and who appeared to understand what she was
saying. The auditor said that Mr. Nowak appeared to understand what his daughter
was saying to him as well.
[28] I do not accept Mr.
Nowak’s testimony as to what took place at this meeting. Firstly, Mr. Nowak’s
daughter, who could have confirmed Mr. Nowak’s story, was not called as a witness.
There was no suggestion that she was unavailable to come to Court, and I draw the
inference that her evidence would have been unfavourable to Mr. Nowak on this
point. (see Blatch v. Archer).
I also find that the failure to put Mr. Nowak’s version of events to the
auditor during Mr. Nowak’s cross-examination is a factor I am entitled to take
into account in weighing Mr. Nowak’s evidence relating to the meeting (see Browne
v. Dunn, R.
v. Giroux).
Finally, there was no reference in any of the materials put in evidence to Mr.
Nowak’s feeling “humiliated” or being frustrated by the auditor, which one
might expect to be raised or mentioned in subsequent correspondence or
discussions on the file.
[29] The evidence of what
took place at the meeting is important because it was the first opportunity for
Mr. Nowak to disclose the source of the unidentified deposits, which he did not
do. Nor did he provide any explanation in the weeks that followed. Even if Mr.
Nowak had left the meeting with the auditor early, he still admits that his
daughter later explained the proposed adjustments to him and, therefore, he was
aware at that point that the major part of the adjustments that the auditor was
proposing related to bank deposits which Mr. Nowak now says were from a single
non-taxable source.
[30] Given the magnitude
of the unidentified deposits and given that Mr. Nowak says they all
originated from the same source, I would have expected that Mr. Nowak would provide
that information at the earliest opportunity. His failure to do so adds to my
doubts about the truth of the explanation that he provided subsequently for the
deposits.
[31] Other parts of Mr.
and Mrs. Nowak’s testimony are confusing, such as their explanation for the
existence of two documents with different sale prices for their house in Poznan. Mr. Nowak suggested
that the notary’s act was a “preliminary agreement” and that the sale price was
subsequently adjusted upwards. However, the notary’s act is dated after the other
supposed sale agreement and the notary’s act shows that transfer taxes and fees
were paid on the basis of the lower sale price amount. Mr. Nowak also said that
he was not there when the transaction took place, but the notary’s act says
that Mr. Nowak and his spouse appeared along with the purchasers, and
identified themselves with their passports. Mrs. Nowak said that she thought
that the notary’s act was prepared by the purchasers of the property, but it
appears to me that the notary drafted it and Mr. and Mrs. Nowak both signed it
along with the purchasers.
[32] If I were to accept
that the true sale price of the house was 5 million zlotys, as they now say it
was, this would mean that Mr. Nowak and his spouse, along with the purchasers
of the home, misrepresented the price in the notary’s act. The only apparent
reason they would have done so was to reduce the treasurer’s fees payable with
respect to the sale. Those fees were calculated at a rate of 10% of the
purchase price. It is not clear who was responsible for paying the fees, but
even if it was the purchasers’ responsibility, Mr. Nowak and his spouse would
still have participated in the misrepresentation. This does little for their
credibility.
[33] I also find Mrs.
Nowak’s explanation for the late production of the document showing the sale
price as 5 million zlotys hard to accept. She said it was clipped together with
the notary’s act in a bundle of documents that she had at home, but that she
only noticed it the day before coming to Court. It seems to me odd, though, that
Mr. and Mrs. Nowak would not have noticed when they first gave the notary’s act
to their lawyer that the price in the notary’s act was different from what they
say the sale price actually was (and by a large margin), and that they did not
look into the matter further at that time.
[34] I also note that no
documents pertaining to the sale of the restaurant were provided, despite the
fact that it sold for as much as their house. It was not suggested that there
were no official documents drawn up for the sale, and given Mr. Nowak’s frequent
trips to Poland up to and including this year, I would have expected that he
might have tried to obtain copies of any such documents relating to the sale or
transfer of the restaurant.
[35] Moreover, the
restaurant sale itself is somewhat problematic. Mr. Nowak testified that his
restaurant had been subject to harassment by local authorities in the early
1980s because someone wanted to take it over from him, and that he was finally forced
by the “municipal office” to shut it down. In these circumstances, it is
surprising that Mr. Nowak and his spouse would have been able to sell the
restaurant for the price they allege. On a related note, it is also surprising
to me that if, as Mr. Nowak said, his restaurant business had been suffering
for a number of years before 1985, how he and his spouse would have had the
means to own two cars, including a one-year old Mercedes-Benz in 1985 or that
they would have had savings from that business equivalent to $140,000 US (i.e.
7 million zlotys at 50 zlotys/dollar). I would point out as well that only
Mrs. Nowak mentioned that they had savings from the restaurant.
[36] Mr. Nowak’s
explanation of the timing of the repatriation of funds from Poland also strikes me as
unlikely. His first trip back to Poland was in 1990 when he obtained his Canadian citizenship. One
of his reasons for going was to find out how to bring money back to Canada because he said he
needed money here and wanted to settle down. It was also around that time that
he and his wife were starting a banquet hall business. However, even though it
was possible by 1990 to get permission to take money out of Poland, Mr. Nowak said he only
started doing so in 1995. I am unclear why, if Mr. Nowak needed money in Canada in 1990, he would have
waited five years.
[37] In addition, while
he said he went three or four times a year to Poland for money when he needed it, he
could only find three currency export certificates in total, and three bank
withdrawal records, including one that dealt with the same funds as the
February 19, 1999 export certificate. All of these records only add up to approximately
$125,000, whereas the bank deposits included in Mr. Nowak’s income in 2000
and 2001 was $294,805 which would not take into account money used by Mr. and
Mrs. Nowak from their Polish savings prior to 2000.
[38] There is also a
discrepancy between Mr. Nowak’s testimony and the information set out on the
February 19, 1999 bank withdrawal form and the export certificate. Mr. Nowak
said that he would first deposit the funds he wanted to take to Canada into the bank account,
where it would have to stay for three days, and then he would get an export
certificate and withdraw the money and take it with him to Canada. However, the February
19th withdrawal form shows that Mr. Nowak withdrew $37,000 US from the account
whereas the export certificate was only for $22,000 US.
[39] Another puzzling
aspect of this arrangement is why Mr. Nowak would have continued to bring back
money from Poland on many trips up to
2010, when he said that at some point around the year 2000, there were no
longer any restrictions on moving funds out of the country. If it were the
case, why would he not have brought back everything at once, after the controls
were lifted. I am also surprised that Mr. Nowak would choose to travel with
large amounts of cash rather than having the money moved by bank transfer.
[40] Furthermore, I find
it difficult to believe that Mr. Nowak and his spouse would have kept hundreds
of thousands of dollars in cash at home for long periods of time. When asked
why they chose to keep the money at home, Mr. Nowak’s spouse said she did
not know. Mr. Nowak said it was because the value of the Canadian dollar was
declining and he did not want to convert it all at once. This still does not
explain why the amounts were kept at home, when more secure options would have
been available. It appears that Mr. Nowak had a US dollar chequing account in
2000 for K & R, which tells me that Mr. Nowak was aware of at least one
more secure option.
[41] Finally, there did
not seem to be any record kept of the deposits allegedly made from Mr. Nowak’s
cash hoard into the R & R business account, which is peculiar given that R
& R was a partnership with an unrelated person. I would have expected that
if Mr. Nowak deposited almost $20,000 of his own money in cash to the
partnership account, he would have wanted to keep track of these amounts to
ensure he was given credit for them. I would have also expected Mr. Nowak’s
partner, Mr. Ratajcsak, to be aware of what was happening, but Mr. Ratajcsak
was not called as a witness.
[42] I find therefore
that the Appellant has not shown on a balance of probabilities that the
unidentified bank deposits were not income to him in his 2000 and 2001 taxation
years.
[43] Turning now to the
question of the disallowed business expenses in K & R and R & R, the
evidence that was presented was utterly lacking in detail, and for that reason,
does not constitute reliable oral evidence that the claimed expenses were in
fact incurred. The notebook that Mrs. Nowak supposedly used to record revenue
and expenses was not produced, and no explanation was given for why it was not
made available. Her testimony that she wrote everything down and gave that
information to the accountant is not, in itself, sufficient to meet the onus of
proving that the amount of expenses was higher than what the auditor allowed.
For his part, Mr. Nowak said that he relied entirely on his spouse to do the
bookkeeping, and upon his accountant to prepare his returns, and he could not
give any details of the expenses that had been incurred.
[44] The final issue to be
decided is whether Mr. Nowak is liable for penalties on the unreported income. Subsection
163(2) of the Act provides for a penalty where a taxpayer “knowingly or
in 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 … filed in respect of a taxation year”. The Respondent has the onus of
proving the facts that would justify the imposition of the penalty.
[45] In this case, the penalties
were imposed only in respect of the unreported income. No penalties were
imposed in respect of the disallowed business expenses of K & R and R &
R. Appellant’s counsel maintains that Mr. Nowak believed that he was keeping
proper records to report his income and says he relied on others to do the
bookkeeping and file the returns.
[46] However, it is clear
that Mr. Nowak did not instruct his accountant to include the unreported income
in issue as income in his returns for 2000 and 2001. This is apparent because Mr.
Nowak maintains that these deposits came from a non-taxable source – money that
was brought from Poland. Therefore, the input of Mrs. Nowak and of his accountant in the
preparation of the returns is irrelevant. This is not a case of an accountant’s
error or ineptitude. It is a case of Mr. Nowak deliberately failing to disclose
income.
[47] While Mr. Nowak said
he did not recognize the signature on his 2000 tax return and the 2001 tax
return was unsigned, I am satisfied that those returns were filed by Mr. Nowak’s
accountant on his behalf and according to his instructions. Mr. Nowak testified
that his accountant prepared the returns on the basis of information he
provided or that was provided on his behalf by his spouse, and therefore, I
find that he acquiesced in or assented to the misrepresentation of his income
that was presented in those returns.
[48] Recently, in the case of Lacroix v. The
Queen, the Federal Court of Appeal considered
what was required of the Minister in order to discharge the onus with regard to
the reassessment beyond the statutory period and the imposition of gross
negligence penalties in the case of a net worth assessment. At paragraph 32
Pelletier, J.A. wrote:
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).
The Court also cited its earlier decision in Molenaar
v. The Queen, another net worth assessment, where
Létourneau J.A. wrote at paragraph 4:
Once the Ministère establishes on the basis of
reliable information that there is a discrepancy, and a substantial one in the
case at bar, between a taxpayer's assets and his expenses, and that discrepancy
continues to be unexplained and inexplicable, the Ministère has discharged its
burden of proof. It is then for the taxpayer to identify the source of his
income and show that it is not taxable.
[49] These comments would
appear equally applicable in a case such as this one where it has been shown
that the taxpayer has had a substantial unexplained increase in his assets. I
find that the Respondent has shown that there is a substantial discrepancy
between Mr. Nowak’s income in the form of deposits to his bank account and his
reported income, and that at the end of the day, this discrepancy remains unexplained.
[50] In the absence of a credible
explanation by Mr. Nowak for the bank deposits in issue, I find that the gross
negligence penalties were properly applied.
[51] The appeals are therefore
dismissed, with costs to the Respondent.
Signed at Ottawa, Canada, this 4th
day of January, 2011.
“Brent Paris”
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