Citation: 2008TCC221
Date: 20080502
Docket: 2005-4517(IT)G
BETWEEN:
DENNIS BONOTTO,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
REASONS FOR JUDGMENT
Hershfield J.
The Issues
[1] The issue in this
appeal is whether the Appellant is liable under subsection 227.1(1) of the Income
Tax Act (the “Act”) for the failure of Belmont Drywall Systems Ltd.
(the “Corporation”) to remit $88,778.38 federal income tax plus certain
interest amounts to the Receiver General as required by section 153 of the Act.
[2] The liability of
the Appellant under subsection 227.1(1) depends on a finding that at relevant
times he was either a de jure or a de facto director of the
Corporation and that as such was not relieved of liability under subsection
227.1(3). That subsection is relieving where the director exercised the degree
of care, diligence and skill that a reasonably prudent person would have
exercised in comparable circumstances to prevent the failure of the Corporation
to remit the amounts in issue. Accordingly, the underlying issues are the
status of the Appellant as a director of the Corporation and the applicability
of the due diligence defence.
[3] In dealing with the
due diligence defence the Appellant has noted that this is not a case of total
remittance failures by the Corporation. There have been some timely remittances
and some late remittances. An argument was made that the due diligence defence
in this case might have to be considered in respect of two distinct periods
even though the assessments cover one continuous period, namely January 1, 2001
through December 31, 2003. This has given rise to a further issue; namely, how
should late payments be applied if applying them to the oldest arrears first
(as done by the Respondent) has the effect of increasing the Appellant’s liability
for a period where he was liable, compared to his liability for that period had
the late payments been applied to current remittance obligations in respect of
that period.
Factual Background
[4] The Appellant
worked as a tradesman in his father’s drywall business since 1982. When his
father died in 1993, the Appellant took over the business.
[5] The lawyer for the
father’s estate was a Mr. Fiksel. One of his employees was a woman by the name
of Colleen Fitzpatrick with whom the Appellant became romantically linked.
[6] The Appellant
testified that he thought Ms. Fitzpatrick had some good ideas one of which,
apparently, was that they should start a new drywall business. The idea it
seems was that it should be her business.
[7] A new company was
formed in February of 1996 in the name of Belmont Drywall (Concord) Ltd. (“Belmont Concord”). Companies Branch
profile reports show the director of this company as being Margaret Stroud who
the Appellant testified was a friend of Ms. Fitzpatrick. The incorporator was
Mr. Fiksel. His name and signature were on the certified Articles of
Incorporation.
[8] Little evidence was
led as to the activities of Belmont Concord other than the Appellant’s testimony
that it was Ms. Fitzpatrick that owned the company and that he simply worked
for the company as a tradesperson. Documents provided at the hearing that corroborate
that she was at least the President of Belmont Concord are the Companies Branch
profile report referred to above, a Statutory Declaration dated August 2000 and
a Business Banking Agreement with the Toronto-Dominion Bank executed by her as
President having sole signing authority and dated April 1996.
[9] While Respondent’s
counsel tried to suggest that Belmont Concord was just a continuance of the
Appellant’s father’s business and that Ms. Fitzpatrick could not have been its
directing mind, the Appellant’s testimony was that it was her company and that
she worked at generating new and good customers for it and that he simply acted
as an employee in charge of the field work.
[10] By 1999, the romance
between the Appellant and Ms. Fitzpatrick ended. They were not getting along
personally. She was suing his mother on a mortgage secured loan where, according
to the Appellant, no funds had actually been advanced. The mortgage security
signed by his mother was, according to the Appellant, suggested by Ms.
Fitzpatrick as a way to creditor proof his mother. As well, there had been
earlier issues with unions. Ms. Fitzpatrick had apparently been accused of
converting union funds to her own use. Still, the business arrangement between
them continued in terms of the operation of Belmont Concord at least until June
2000 when the Corporation (i.e. Belmont Systems) was incorporated.
[11] Notwithstanding
denials, it appears to me that, in effect, the Appellant sought to take back
the business for his own account at that time which is much earlier than he
wanted me to believe. He wanted me to accept that he, in effect, usurped her
interests and authority in 2002 when, as will be elaborated on later in these
Reasons, she was gone from the scene and he let the Corporation’s accountant
document his interests and authority. I am not satisfied, however, that Ms.
Fitzpatrick was ever intended to have an ownership interest in the business of,
or a shareholder interest in, the Corporation. In my view, the erosion of the
Appellant’s relationship with Ms. Fitzpatrick prior to the formation of the
Corporation and the Appellant’s subsequent actions only tend to betray his
assertions. Furthermore, as will be noted later in these Reasons, her
abandonment from the scene occurred shortly after the formation of the
Corporation – not in 2002.
[12] Mr. Fiksel was shown
as the incorporator and first director of the new company; i.e. the Corporation.
However, Mr. Fiksel gave evidence at the trial to indicate that he was not the
incorporator and that his signature had been forged on the Articles of
Incorporation. He testified that he believed that Ms. Fitzpatrick was the
person who forged his signature.
[13] Mr. Fiksel became
aware of the forgery when he was sent copies of the Articles of Incorporation
in October of 2000 by the Appellant’s lawyers. Mr. Fiksel took immediate action
to have the records at the Companies Branch rectified and Ms. Fitzpatrick was then
shown as first director.
Ms. Fitzpatrick signed an indemnity that Mr. Fiksel required of her given his
concern about any liability that he might have relative to his being shown as the
incorporating director of this company. That Ms. Fitzpatrick signed the
indemnity leads me to believe that she did in fact take responsibility for the
forgery and that she had earned Mr. Fiksel’s distrust.
[14] At this point, I
note that an employee of the Corporation, Ms. Kondrashev, gave evidence that
when she was hired in about April 2000 she was initially interviewed by Ms.
Fitzpatrick and was told that she, Ms. Fitzpatrick, and the Appellant were
partners in business together and that if he too approved of her hiring, then
she would have the job.
[15] Ms. Kondrashev testified
that Ms. Fitzpatrick was the person attending to corporate business on a
regular basis in the first four or five months of her employment and that as
far as she knew Ms. Fitzpatrick was working for both the Corporation (i.e. Belmont
Systems) and for Belmont Concord. She seemed to have no knowledge that Belmont Concord
had, purportedly at least, ceased to carry on business once the Corporation had
been formed. This testimony together with the Statutory Declaration for Belmont
Concord (referred to above) being signed in August of 2000 evidences that Belmont
Concord may still have been carrying on some activities in its name after the
incorporation of the Corporation in June. This in turn might suggest that Ms.
Fitzpatrick’s interest in the business, reflected through Belmont Concord, was
not being yielded so readily at this time. A new form of alliance or
association might have been in the works.
[16] Ms. Kondrashev also
testified that four or five months after being hired, Ms. Fitzpatrick’s regular
attendance at the office stopped. She testified that Ms. Fitzpatrick went away
on extended trips and did not spend that much time in the office. During such
long absences it was the Appellant who attended to corporate business on a
regular basis. She testified that by July 2001 things got ugly between Ms.
Fitzpatrick and the Appellant and after that Ms. Fitzpatrick was essentially barred
from the office. Exchanges were abusive. The police were brought in and arrests
were made. The import of the testimony was that it was Ms. Fitzpatrick that was
causing the trouble even though it was the Appellant that was initially
arrested. Ms. Fitzpatrick was apparently not someone you wanted to alienate.
[17] As well, Ms.
Kondrashev testified that in about September 2001 she took all of the
Corporation’s records over to the accountant’s office for the preparation of
Financial Statements. The year end of the Corporation was June 30. Its first
year’s Financial Statements for the year ending June 30, 2001 had not yet been
prepared. The accountant was Mr. Scambellone. He testified at the hearing as
well.
[18] Mr. Scambellone testified
that in the course of preparing the Financial Statements he discovered that
there were no Minute Books. This led to his discovery on March 7, 2002 that Ms.
Fitzpatrick was still on record as the first director so he prepared a document
for the Appellant making him the director replacing Ms. Fitzpatrick. He
acknowledged that he back-dated the appointment date to June 6, 2000. This was
filed with the Companies Branch at some point after the accountant’s discovery
that Ms. Fitzpatrick was the director of record. Nonetheless, the amended corporate
records reflect this back-dated appointment and is the basis for the
Respondent’s position that the Appellant was a de jure director since
June 2000 and continued as such throughout the assessment period.
[19] Mr. Scambellone testified
that he spoke to the Appellant about all this at the time he was preparing the Financial
Statements.
The Appellant was the person in charge who confirmed, at that time at least,
the content of documents that needed to be prepared. The back-dated appointment
reflected the information reported to him by the Appellant. Nonetheless, the Appellant
asserts that his appointment as de jure director was not a
representation made by him until early 2002 when the 2001 Financial Statements
were being finalized and these questions were being addressed.
[20] Mr. Scambellone also
testified as to the financial condition of the Corporation by reference to the
Financial Statements for 2001 and 2002 where the Corporation reported losses of
$58,034 and $235,665 respectively. The Appellant spoke of financial strains as
well. Corporate obligations to suppliers in the construction field were
demanding and onerous. In spite of this, Mr. Scambellone testified that while
the Corporation was in arrears in remittances at the end of the 2000 calendar
year, it had actually remitted an excess amount for the 2001 calendar year. I
was given nothing to corroborate this evidence which does not reconcile with
the assessments. Accordingly, it is of limited value.
[21] I note here as well
that in June 2000 the Appellant signed the banking documents for the
Corporation with the Toronto-Dominion Bank. He is shown on these documents as
President with signing authority but they do not show who the directors were. No
Director’s Resolutions were apparently requested. That the Appellant signed
these documents indicates that he was in fact representing himself to the bank
as the appropriate officer of the Corporation. Further, while he wavered
somewhat on the point, I find that the evidence, indeed his own testimony,
confirms that he was the sole signing officer of the Corporation from the time
these documents were signed by him.
[22] I note here, as well,
that although there were no corporate Minute Book records put in evidence (and
it is likely that none exist), the Respondent did not take issue with the testimony
of the Appellant that he owned 90% of the shares of the Corporation and his
brother owned 10%.
While under corporate law, directors are appointed at shareholders’ meetings or
by written shareholder resolutions (or by a quorum of directors acting to fill
a vacancy), I have little doubt that although no minutes or signed resolutions
seem to exist, that the Appellant had effectively, without interference, taken
on the role of the directing mind of the Corporation. As discussed below, this
weighs heavily in the analysis of his status as a director.
The Remittance Record
[23] The spot audit that
commenced at the beginning of May resulted in a series of assessments. The
first assessment on May 25, 2000 was for some $29,600 for the period January 1,
2001 through to the end of March 2001. The
second assessment was in October 2001 for the period April through August 2001.
It was the largest single assessment for some $67,700. A series of subsequent
assessments followed for subsequent periods, the last period assessed ending
December 2003. The Appellant responded to the first of these assessments promptly by delivering
a series of post-dated cheques. There were as many as 6 post-dated cheques a
month. They were each for $1,444 until the end of September 2001 and after that
they were for varying larger amounts with only one 4 week gap in July 2003. The
Respondent treated all of these payments as payments of arrears on a
first-incurred first-paid basis. That
is, they were not treated as remittances on account of current
remittance liabilities arising at the time the post-dated cheques were cashed.
[24] In addition to these
payments, there were some current remittances after the spot audit but some
were late. The Appellant relies on the post audit aggregate of the post-dated
instalment type payments and the current remittances as being an important
factor to take into account in my considerations of the due diligence defence. It
was admitted by the Respondent that there were some current remittances after
the spot audit, some late or insufficient, and the Respondent also noted that there
were periods where no remittances were made at all. These deficiencies
generated additional assessments which generated more arrears. However, that
record is difficult to reconstruct as the only exhibit showing payments, shows
only the instalment type payments that were applied to arrears on a
first-incurred first paid basis. The Respondent’s witness did not explain the
process in a way that cast any light on the problem. He did say, however, that
if there was no assessment relating to a particular month, then I could assume
that there were current timely remittances made in that month for the full
amount required to be remitted.
[25] The record reveals
there were three such months: October 2001, November 2001, and June 2002. As
well, it appears that there were months (for example December 2001) where there
was a current remittance that was less than the full amount required to be
remitted. The assessments (on March 1, 2002 and June 5, 2002) for that month (December
2001) suggest that timely remittances were only sufficient to fully discharge
remittance liabilities for UI and the CPP.
[26] There also appear to
be assessments for a number of months (for example January and February 2002)
where there may have been timely remittances in respect of some liabilities
and/or late remittances that were all credited against liabilities in those
months as opposed to being applied to arrears. This is suggested by the fact that
in those months the only penalty assessed is in respect of Federal tax.
[27] Still, while such
anomalies are troublesome to me, the assessment records clearly demonstrate that
there were no current remittances (or payments credited as such) for most of the
months in the period under appeal. That is the case for the months January 2001
through August 2001, April 2002, August 2002 through May 2003 and July 2003 to
December 2003. As noted there were payments during these periods (the
post-dated instalments) but they were treated as payments for arrears. Over the three year period the assessments totalled
$226,451. This is net of the remittances applied currently. The balance owing
at the end of that period, after taking into account payments credited against arrears
(including a few last instalment payments in January 2004), was $88,778 plus
some accrued interest. That underlines the extent of the overall remittance
failure problem.
[28] I must say, however,
that the evidence of the manner in which remittances were made and treated was
poorly dealt with by the parties. If a due diligence defence is being relied on,
and tracing payments is relevant in respect of that defence, the Court has to
be given better evidence and the onus does not simply rest with the Appellant
in this case. The Respondent is the best party to explain, if not the only
party that can explain, exact particulars of how the assessments have treated
remittances and payments. The schedules relied on by the Respondent to quantify
the Appellant’s liability essentially bury information that is potentially
relevant to a due diligence defence.
[29] Another example of
this is the absence of reliable evidence as to what happened between June 1,
2000 and December 31, 2000. According to the Respondent’s witness I should
assume that remittances were made as required during that period since there
were no assessments for these months. Does this mean we have a history of
compliance that should be taken into account in applying the due diligence defence?
[30] On the other hand, as
noted above, the Appellant’s accountant testified that according to his records
there were remittance shortfalls at the end of 2000. Does this mean the
shortfall was remitted late but credited as paid prior to the first assessment
dated May 25, 2001? Is this more tenable because in cross-examination the
Appellant did not expressly deny remittance failures in 2000? On balance, I
find that the evidence suggests that remittances were made on a timely basis in
2000. That there were late remittances does not seem tenable since even if the
Respondent applied late payments to remittance failures in 2000 there would
have been assessments for interest and penalties. There is no record of such
assessments in evidence and the Respondent’s own witness testified that if
there is no assessment in respect of a period, I must assume that remittances
were made on a timely basis. The accountant’s evidence to the contrary is not
reliable.
Director Arguments
[31] The Appellant puts
at issue whether he was ever a director, de jure or de facto and
if he was, it would be at some point in early 2002 when he presumed to present
himself to the world as a director. Should I find that the Appellant was a
director before that time, the argument was that I should not find him to be a
director before the spot audit started, that being the first time it could be
argued that he acted as and held himself out as a de facto director. Quantification
of his liability, subject to the due diligence defence, should begin at either
of these times and be calculated in a manner that would not make him
effectively liable for earlier remittance failures.
[32] The Respondent
argues that the record of the Appellant’s de jure appointment can be
relied on, that his actions in early 2002 confirmed he was willing to hold
himself out as being a director since June 2000 and, in any event, he was, by
January 1, 2001 or earlier, the sole person acting as and holding himself out
to be a director.
Due Diligence Argument
[33] The Appellant’s
principle argument puts reliance on this Court’s decision in Franck v. R. which is asserted
to be authority for allowing the instant appeal in the event I find that the
Appellant was a director. In that case, like this one, the director in spite of
serious financial difficulty continuously put his mind to and attempted to deal
with and pay large remittance requirements. The Court found that, in the
circumstances of that case, not turning a blind eye to the problem constituted
sufficient diligence and reasonable care to prevent the remittance failures and
on that basis the director was not found personally liable for shortfalls. This
speaks primarily to the period after the Appellant became aware of the
remittance failures.
[34] Appellant’s counsel
also referred me to the Construction Lien Act (Ontario) and argued that
construction receipts were statutorily encumbered and held in trust for workers
so that the Corporation’s ability to fund remittances was impaired. While
acknowledging that the Crown’s charge was preferential, Appellant’s counsel
suggested that these encumbrances helped explain the financial difficulties of
the Corporation and further evidenced the Appellant’s diligence to see that
remittances were made.
[35] Appellant’s counsel
also argued that the Canada Revenue Agency (“CRA”) contributed to the situation
by not seeking to enforce its collection rights at the outset. The Appellant as
a responsible person relied on the apparent satisfaction of the CRA with the
Corporation’s efforts to meet its remittance obligations. By not acting on
garnishment rights under the Act, the CRA was on the one hand saying at
that time: “you are acting prudently”, and on the other hand, are now saying:
“you didn’t act prudently”.
[36] Suffice to say the
Respondent did not have much to say about the Franck case or any of
these arguments. The Respondent simply relied on the fact that it was apparent
that the Appellant purposefully used trust funds to finance a failing business
and that in such a case the due diligence defence could not, in reason, be applied.
[37] The Appellant’s
alternative argument, as noted earlier, looked at the assessment period in two
segments. The Appellant essentially argued that if there are no remittance
problems for the 2000 year, then it should not be presumed that he was
responsible for the change from compliance to non-compliance until the
beginning of May when he was confronted by the spot audit. Arguably, that was
the first time that he acted imprudently by not addressing the problems that he
suggests he was only made aware of when the auditor spoke to him about it in early
May 2000. Further, up until that time, there is the suggestion that it was Ms.
Fitzpatrick, a director, who was responsible for this part of the business and
he could rely on her to have things done properly as evidenced by the
Corporation’s compliance throughout 2000. If that is the case, quantification
of his liability should begin after April 2000 and be calculated in a manner
that would not make him effectively liable for earlier remittance failures.
Applying payments on a first-incurred first-paid basis increases the later
remittance shortfalls which, effectively, makes him liable for earlier
remittance failures.
[38] The Respondent
argues that the evidence falls short of establishing that Ms. Fitzpatrick was
ever in charge of anything and that the Appellant deliberately used trust funds
to finance his failing business.
Analysis
Ms. Fitzpatrick
[39] I will first consider
whether, or the extent to which, the Corporation was managed or directed by Ms.
Fitzpatrick. The evidence is clear that by 1999, the couple was fighting in a
serious way. Ms. Fitzpatrick is actually suing the Appellant’s mother on what
the Appellant suggested at the hearing to be a fraudulent credit proofing
scheme initiated by Ms. Fitzpatrick. Still, somehow, this business partnership
was being tolerated to some extent. Interestingly, in May of 1999 Ms.
Fitzpatrick gave the Appellant a General Power of Attorney to deal with her interests
in Belmont Concord and other activities. This might suggest that he was seeking
or she was giving up de facto control over Belmont Concord. Nonetheless,
her continuing presence and activities in relation to at least Belmont Concord
are evident in the testimony of Ms. Kondrashev and the Statutory Declaration
signed in August of 2000. None of this, however, shows that she was serving as an
active director of, or carrying out any duties on behalf of, the Corporation
and even if she did, it seems likely to have ended by September of 2000
according to the testimony of Ms. Kondrashev.
[40] That does not mean
that Ms. Fitzpatrick did not set up, and was the person seeing to, remittance
procedures in the summer and fall of 2000. She was doing office work then and
there were no remittance failures until later. If the Appellant worked primarily
in the drywalling part of the business, the inference is that she was
responsible for the office and he had no reason to believe that the systems or
practices of the Corporation would result in the remittance failures discovered
in May 2001. The Appellant seeks to hide behind his apparent ignorance of
remittance failures until the beginning of May 2001 when there is the suggestion
that that is when he first learned of such failures.
[41] I do not believe the
“suggestions” and inferences here are sufficient to warrant a finding that
favours the Appellant. I accept the evidence that it was the Appellant, not Ms.
Fitzpatrick, who was in the office by the fall of 2000 and that the Appellant
as the person who wrote the cheques would have known in January 2001 that the
remittances were being missed. In my view, it is simply undeniable that the
Appellant was aware of remittance requirements, was in a position to dictate
remittance compliance and, as a means to finance the business, failed to make
timely remittances. I make this finding in respect of the entire period under
appeal; namely January 1, 2001 to December 2003.
[42] I note here that I
would come to the same conclusion even if I accepted a different version of the
relationship between the Appellant and Ms. Fitzpatrick. In spite of all the
reasons to distrust Ms. Fitzpatrick there may well still have been a business
partnership in June 2000 and beyond. Ms. Kondrashev’s testimony supports the scenario
that the Corporation might simply have been formed to replace Belmont Concord
as a means of escaping Concord’s problems. This would explain why Ms. Fitzpatrick was
never removed as the first director until 2002. It might even have been
intended that she be the shareholder of and have stewardship over the affairs
of the Corporation to mirror the situation in Belmont Concord. In many
respects, in spite of all the personal issues going on between the Appellant
and Ms. Fitzpatrick that seem to betray this version of the facts, it does
“fit” and I do not reject the possibility that the Appellant could not, or did
not want, to escape from this unholy business association. However, the nature
of the association did change. The Appellant became the President and sole
signing officer of the Corporation while Ms. Fitzpatrick was the President and
sole signing officer of Belmont Concord. As things stood, by the fall of 2000,
the Appellant was the directing mind of the Corporation. The ongoing
association scenario changes nothing. It remains undeniable that he was aware throughout
the assessment period of remittance requirements, was the only person in a
position to dictate remittance compliance and, as a means to finance the
business, he failed to cause the Corporation to make timely remittances.
De Jure Director
[43] There is no doubt that
section 227.1 imposes a liability on a de jure director. Without
necessarily suggesting that there is doubt as to that imposition in respect of
a de facto director, the first determination required in a case like
this is, generally, whether that person is a de jure director. Having
said that, I find I must deviate from that route somewhat in this particular case.
The only reason for my suggesting such deviation is that, in this case, it is
clear to me that the Appellant was a de facto director of the
Corporation at all relevant times and, subject to a due diligence defence, is,
in this case, liable as such under section 227.1. That makes the enquiry into
his de jure status academic.
[44] Still, it is worth
noting that the Appellant’s de jure status is less than clear. Since
there was an assumption made by the Respondent that he was a director, there is
a burden on the Appellant to establish that he was not a de jure
director. That being the case, the uncertainty may simply be resolved by
finding that the Appellant did not meet the burden of proof imposed on him. I
am, however, reluctant to make that finding. To the contrary, if put upon to
make a finding on the point, I would have to give the Appellant the benefit of
any doubts at least regarding his status before February 2002.
[45] The Respondent seems
to rely entirely on the back-dated records of the Appellant’s apparent de
jure appointment. The appointment however must have been made in accordance
with corporate law for him to be a de jure director. The uncontradicted
evidence is that the first director properly named in the Articles of
Incorporation was Ms. Fitzpatrick. There is no evidence of her retirement and
there is no evidence of a shareholders’ meeting or written resolution
appointing replacement directors. There is no evidence of an express consent in
writing of the Appellant acting as a director. The Respondent has not effectively
challenged the Appellant’s position that none of these necessary formalities
have been met.
While I am not entirely convinced that there was no undocumented shareholders’
meeting that approved the appointment of the Appellant as the sole director in
the stead of the first director, I would be hard pressed to find that such an
appointment had been made before February 2002. Regardless, as stated, the
question is academic.
De Facto Director
[46] I have little
hesitation in finding that the Appellant was a de facto director by
January, 2001 which is the beginning of the first assessment period under
appeal.
[47] As well, there is no
question that a de facto director is or at least can be a
“director” for the purposes of being held liable under section 227.1 for remittance
failures. The “can be” qualification merits further comment.
[48] A good discussion of
a de facto director’s liability under section 227.1 is found in Wheeliker v. R.,
[1999] 2 C.T.C. 395 (Fed. C.A.), reversing [1998] 1 C.T.C. 2021 (T.C.C.). The appellants
in that case were not de jure directors as the Articles of Incorporation
of the subject company required that each director own at least one share of
the company. None of the directors at the relevant time owned any shares.
Also, there were nine directors at the relevant time, even though the Articles of
Incorporation limited the board of directors to seven members. It was not
challenged that at all relevant times the Appellants acted as directors. The
question was whether the failure to meet the appointment qualifications was
fatal to assessments under section 227.1.
[49] The majority decision of the Federal Court of Appeal delivered
by Noël J.A. first noted at paragraph 9 that
the proper question was whether the word “director” as used in section 227.1
only connotes a person qualified to act as such under the applicable
corporate statutory regime. The majority held, at paragraphs 13, 14 and 15,
that the provisions of the particular statutory regime under consideration
acknowledged that persons may act as directors without being qualified and may
be liable as directors where they purport to act as such. The majority went on
however at paragraph 18 to conclude that statutory provisions recognizing
consequences for acting as a director did not constitute an unqualified person
as a director. Still, they found the appellants liable under section 227.1 applying
common law principles. More specifically, to protect persons who relied on
persons acting or purportedly acting as directors, the majority decision of the
Court confirmed that common law afforded such persons protection under the
principle that a man cannot take advantage of his own wrong. A person then who
acts as a director, who is held out as if he was a director, has no defence to
an assessment under section 227.1. That is, while nothing in the statute operates to make the Appellants
“directors” of the Corporation, the Appellants could not exculpate themselves
from liability.
[50] It is interesting to note that this reasoning does not
use the concept, nor is it necessarily the same as the concept, of de facto
directors being liable under section 227.1. It is also interesting that at the
Tax Court of Canada, the appellants in Wheeliker were found to be de facto
directors who, based on the decision in Kalef v. R., [1996] 2 C.T.C. 1
(Fed. C.A.), were said not to be “directors” for the purposes of section 227.1
and not liable for remittance failures of the Corporation.
[51] Létourneau J.A.
wrote a dissenting judgment in Wheeliker that agrees
with the majority judgment in reversing the Tax Court of Canada decision but he
does so on a different basis. Firstly, he found that Kalef should not be
taken as authority that only de jure directors are liable under section
227.1. Secondly, he found that the correct analysis required a finding that the
term “director” in section 227.1 meant any type of director, de jure or de
facto. In reaching this conclusion he relied on a series of corporate law
authorities that held “director” includes a de facto director.
[52] While Létourneau
J.A. was dissenting in his reasons in Wheeliker, it seems he ultimately succeeded
in elevating his views in McDougall v. R., [2002] G.S.T.C. 127 (Fed. C.A.). In
brief reasons, it was stated that Beaubier J.T.C.C. made no error of law in
relying upon Wheeliker to find that liability attached to the appellant in
that case for acting as a de facto director. Various decisions of the
Tax Court of Canada have since relied on Wheeliker for the proposition
that de facto directors are liable under section 227.1 of the Act
and section 323 of the Excise Tax Act, such as Hartrell v. R.,
[2007] 1 C.T.C. 2109 (T.C.C.), aff’d 2008 FCA 59, Bremner v. R., [2007]
G.S.T.C. 113 (T.C.C. [Inf.]), and Thibeault c. R., [2006] G.S.T.C. 165
(T.C.C. [Inf.]).
[53] While this principle, that de facto directors
are directors for the purposes of section 227.1, now seems well established, it
has qualifications in terms of making a determination that a person has been
acting as a de facto director for the purposes of section 227.1. One
such limitation suggested in a decision of
Bowman C.J. applies the
reasoning espoused by Noël J.A speaking for the majority of the
Court of Appeal in Wheeliker; namely, for a non de jure director to be
liable under section 227.1 there must be a holding out that the authority and
management responsibilities exercised are being carried out qua
director.
[54] In Scavuzzo
a former director had properly resigned from that office. He remained as
general manager of the Corporation and exercised authority consistent with the
job. The CRA assessed the Appellant as a de facto director of the Corporation.
In allowing the Appellant’s appeal, Chief Justice Bowman stated as follows:
27 I think it will
be apparent that one must be careful about the use of the expression de
facto director. It does not cover as broad a field as is sometimes ascribed
to it. It does not, for example, at least for the purposes of the derivative
liability of directors under the ITA and the ETA cover everyone
who exercises authority in the corporation. It may cover persons who although
elected as directors may not be because of some technical requirement. It may
also include persons who hold themselves out as directors so that third parties
rely upon their authority as directors. That is essentially the principle upon
which Noël J.A. based his conclusion in paragraph 20 of the Wheeliker judgment.
[55] While this suggests that persons who manage
corporations as a function of their office may not be liable under section 227.1
(whether labeled a de facto
director or not)
unless there is a holding out that the exercise of the management function is
qua director, the principle can also be expressed by finding such persons are
not de facto directors for the
purposes of section 227.1. The distinction between the two appears to me to be the
red herring referred to by Létourneau J.A. in his reasons in Wheeliker. However, for the purposes
of this analysis I choose to formulate the principle as latterly expressed;
namely, a person carrying out director-like management duties may not be a de
facto director for the purposes of section 227.1 unless there has been a
holding out that those duties are being carried out in the capacity of a
director or there are other related factors that point to that conclusion.
[56] I believe it is fair to say that Chief Justice Bowman of
this Court (as he is now) expressed the principle in similar terms in Mosier v. R., [2001] G.S.T.C. 124 (T.C.C.).
In that case the CRA assessed the former CEO and President of a bankrupt
corporation. He had been hired by the three directors of the corporation. He
exercised extensive powers over the corporation’s operations and attempted to
turn the company around, ultimately failing. In determining on the facts that the
Appellant was not a de facto director, the current Chief Justice noted:
27 Was the appellant a de facto
director? He was not elected as a director, he held no shares of TRS and he
never held himself out as a director. Indeed the directors, the Esposito
brothers, never represented to anyone that he was a director. He was subject to
the legal control of the duly elected directors, Tony, Sam and Rocco Esposito.
I do not accept that they ever abdicated their position as directors. They did
the sort of thing directors are expected to do -- they appointed senior
management such as the appellant, and they passed a resolution to put the
company into bankruptcy. These are acts of directors in which the appellant did
not participate. Indeed he could not have participated or even purported to
participate in these purely directorial acts. One can conceive of a situation
where the controlling shareholder of a corporation makes all the corporate
decisions and installs puppets as directors. Such a person was the uncle in
Dirienzo and he would have had great difficulty in resisting liability as a
director.
[57] I am attracted to this passage not only because it
reflects the principle that where there is no holding out of director status,
one’s powers and management position do not inevitably create a de facto
directorship, but because it touches on other related factors that support a
finding of the existence of a de facto directorship. One such factor
derives from the observation that a controlling shareholder who appoints a
puppet director can be found liable as a director.
[58] What then of the case where a controlling shareholder
allows an untrustworthy, hostile, conflicted, absentee director to stay on, in
a de jure sense only, as a director while at the same time announcing to
the world that that person was never intended to be a director but rather it
was he, whose actions fall nothing short of holding himself out as having been
the sole director from day one, who was meant to be the de jure director
all along? These are the circumstances of the case at bar. The Appellant acknowledged in
discussions with Mr. Scambellone that the reported first director was never
intended to be the director. Even if her de jure appointment subsisted
until the later change in the Corporate records, that acknowledgement cements
the above scenario that concludes he had to have been the self-appointed de
facto director long before the de jure situation was rectified. Surely there can be no doubt that
the Appellant, in these circumstances, was at all relevant times a de facto
director for the purposes of section 227.1. As such he is liable under section
227.1 subject to the due diligence defence raised.
[59] Before concluding this part of the analysis it is, I
believe, relevant to note that subsection 115(1) of the Business
Corporations Act (Ontario) provides that the duties of a
director are to manage or to supervise the management of the business and
affairs of a corporation. Given this statutory provision, it strikes me as axiomatic
that a self-supervised sole manager of a corporation (the sole officer in this
case is the Appellant: President and signing officer) who answers to, is
directed by, no one and who also is, or without challenge professes to be, the
controlling shareholder, is a de facto director for the purposes of
section 227.1. In such case the management duties performed by the Appellant
are not just director-like duties, they are duties performed, by definition, by
the Appellant qua director. In these circumstances, it hardly seems necessary
to make an express finding that the Appellant held himself out or that the
Corporation held him out as a director. These circumstances relate to, indeed virtually
define, the substantive elements of a de facto directorship. While not
expressed in this way a similar finding was made in Hartrell.
[60] In that case the
Appellant was not formally appointed a director of the corporation at any point.
The only director of record was the incorporating lawyer, who was apparently
unaware that he remained as a director and never participated in the business.
When the business began to perform poorly, the Appellant began to take a more
active role in managing the franchise. In holding the Appellant to be a de
facto director, Paris J. made the following comments:
27 However, in circumstances such as those
in this case, where a corporation operates without having been properly
organized and the only director of record plays no part in running the
corporation, those persons who take it upon themselves to direct the affairs of
the company may be held to be de facto directors, whether or not they
have explicitly represented themselves as directors to any third party. The
essential question is whether those individuals have, in fact, taken on the
role of director of the corporation.
[61] Since the departure
of Ms. Fitzpartick from the scene in the fall of 2000, if not from inception,
the Appellant appointed himself - took it upon himself – to direct the affairs
of the Corporation and carry out the responsibilities of a director. If there
is another director, Ms. Fitzpatrick, the evidence suggests that she played no
role in running the Corporation at least after essentially abandoning the scene
as early as September 2000. Even if her presence before that supports the view
that the formation of the Corporation was not intended to change the structure
of the business from that which it was under Belmont Concord, the Appellant effectively,
voluntarily or otherwise, had assumed total charge over the Corporation and the
management of its affairs by the end of 2000.
The Due Diligence
Defence Applied in Segments
[62] As noted, the
Appellant argued that if I found that the Appellant was a director then the due
diligence defence, if not a complete defence, should apply in a manner that did
not cause him to be responsible for remittance failures during a period that he
was acting diligently. As noted, the argument was to encourage a finding that
there were, in this case, two distinct periods in respect of which the due
diligence defence could be applied, namely: that part of the assessment period
before the spot audit (January 2001 to April 30, 2001); and, the subsequent period
(May 1, 2001 to December 31, 2003). Some emphasis was placed on the period
prior to the spot audit on the basis that a large part of the assessed
liability was said to relate to that earlier period.
[63] I agree that the due
diligence defence can and should be applied in respect of particular periods
where the application of the due diligence defence to a particular period could
give a different result in respect of each period. This conclusion follows
naturally from the charging language of subsection 227.1(1). A person is not
liable under that provision unless that person was a director “at the time the corporation
was required to deduct, withhold, remit or pay” the amounts in issue. For ease
of reference I will refer to this as the “director’s liability period” which is
distinct from the period in respect of which the Corporation failed to make
remittances which I will refer to as the “corporation’s liability period”.
[64] If a corporation’s
liability period was a calendar year and the director assessed was a director
in that year only for the first 4 months of that year, the director’s liability
period would be those first four months. That director could only be assessed
for that period. A good example of this is found in a case cited by the
Appellant, Farrell v. R., [1997] 2 C.T.C. 2934 (T.C.C.) where a director
resigned part way through a corporation’s liability period. Associate Chief
Justice Rip (as he is now) naturally concluded that the director was not liable
for the portion of the amount assessed that the corporation failed to remit
after the date of his resignation. An identical finding would have to be made
if, instead of resigning, the director after the fourth month of the subject
year started doing everything he could to remedy the remittance failures to the
point that, from there on, the circumstances warranted a finding that he had
exercised the necessary degree of care, diligence and skill to relieve him of
liability for the last 8 months of the subject year. Again, the director’s
liability period is less than the corporation’s liability period. Similarly,
where a new director comes on board at a time that there are arrears, partial
remittances made during his term must be credited against his director’s
liability regardless how the corporate liability is dealt with.
[65] Respondent’s counsel’s
argument suggests that the two liabilities must be calculated in a similar
manner. However, the authority he relies on cannot, in my view, support this
position. Respondent’s counsel relies on 464734
Ontario Inc. v. R., 90 D.T.C. 6206
(F.C.T.D.) where Cullen J. relying on debtor/creditor law principles, concluded
that a creditor such as the Respondent can apply payments to any amounts owing
and, further, in the case of late remittance payments, the debtor has no right
to even designate which debt is being paid since the funds owed are not the
debtor’s funds in the first place. They are trust funds held for the Crown.
[66] That case, however, does
not fully canvass the concerns and arguments raised in the instant appeal. A director’s liability under
section 227.1 cannot be governed by ordinary principles of debtor/creditor law.
The debtor/creditor analysis applies only to the corporation and the Crown. How
the CRA applies payments on account of the corporate debt, according to
whatever legal rights or principles it might assert, cannot make a director
liable for more than the charging provision of the Act expressly allows.
That is the principle on which the Appellant relies.
[67] The Appellant argues that if he was a director who
merits the protection of the due diligence defence for the first 4 months of
the assessment period, the arrears in that period are not his responsibility. If,
in turn, he is not protected by the due diligence defence during the
later period, he can only be liable for unremitted amounts relating to that
later period and those have to be calculated net of actual remittances and
payments made in that later period. Applying those remittances and payments
to arrears in the first 4 months to calculate the Corporation’s liability is
fine vis-à-vis the Corporation. However, applying them to arrears
in the first 4 months to calculate his director’s liability under section 227.1
for the later period is another matter. To do that in respect of his personal
liability, in effect, artificially decreases a liability in a period for which
he is not responsible with the result that he is being held liable for a period
for which he is responsible for an amount greater than that expressly imposed
under the Act.
[68] I agree with the Appellant. The issue of a director’s liability cannot be analyzed
in the context of debtor/creditor law. The context requires a different focus.
The focus must be on the responsibility of a watch dog to perform that function
prudently. That focus is better given effect by recognizing that remittances and
other payments made during a period when a director is acting responsibly are
credited firstly against his liabilities that would otherwise arise during that
period. Only excess amounts should be credited to arrears relating to the corporate remittance failures arising before the
director became responsible to be a watch dog on a going forward basis. With
that in mind, it may be appropriate if not necessary to look at remittance
failures in segments or distinct time periods and, depending on the findings of
fact, to apply payments either on a first-incurred first-paid basis or on a
last-incurred first-paid basis in respect of each segment as the circumstances
require.
[69] Accordingly, I will
comment on the application of the due diligence defence in each of the two segments
suggested by the Appellant’s alterative argument.
The Due Diligence Defence
– after the May 2001 Spot Audit
[70] The Appellant
asserts that from the time of the commencement of the spot audit he acted
responsibly and prudently to ensure that the remittance shortfalls revealed by that
audit were being addressed and on that basis I should find that he was acting
diligently and should not be held personally liable for any shortfalls in
required remittances during this period. He wants me to treat his instalment
payments as on account of post April 2000 remittance requirements and rely on
his efforts to see that ongoing remittance obligations were met which he
asserts were largely sufficient to take care of the problem going forward.
[71] The evidence does
not support the Appellant’s contention. There are notable remittance failures
after April 30, 2001. The Appellant has consistently used trust funds to
finance the Corporation’s business. While the record is inadequate and the
Respondent bears some responsibility for this, there is sufficient evidence in
my view to support this conclusion.
[72] The inadequacy of
the record stems from the fact that there is no break down of the remittance
failures at the end of April 2001.
[73] The first assessment
on May 25, 2001 was for some $27,000 (excluding penalties and interest) for the
period January through March 2001. The second assessment on October 12, 2001
was for some $61,000 (excluding penalties and interest) for the period April
through August 2001. That is, in the first 8 months of the 2001 calendar year,
the remittance shortfalls approached some $88,000 while the instalment payments
that started at the end of May 2001 totalled some $23,000 at the end of August
2001. That amounts to a $65,000 shortfall for the first 8 months of 2001
applying the payments against arrears.
[74] The Appellant in
argument suggested that the $65,000 shortfall was the remittance failure for
the 4 pre-audit months January through to the beginning of May 2001. This appears unlikely. The failure
for the first three months was $27,000 and the failure for the next 5 months
was $38,000. All of that could not have been for the month of April. If 20% of it
was in respect of April, (i.e. some $7,600) the pre-audit shortfall for the
first 4 months would be some $34,600. The
remittance shortfall would then be some $29,000 for the 4 month post-audit period
to the end of August 2001. Against those assessed shortfalls there was some
$23,000 in payments made from the end of May to the end of August 2001. If we
apply these payments forward into this 4 month period there is a $6,000
remittance failure for this period following the spot audit. This is not a
large gap but taken together with the balance of the post audit period the picture
does not improve.
[75] The aggregate of all
the assessments was $226,451. Assuming again that the pre-audit short fall was
some $34,600, the post audit assessments would be some $192,000. Total payments
were approximately $137,600. Even taking out penalties and interest for the
post audit period of some $30,000 it
is apparent that the Appellant was not keeping current after the spot audit
even assuming the instalment payments should be credited, from his personal
liability perspective, as on account of current obligations. He was using the
remittance amounts as a source of financing. I see no basis then for the
application of the due diligence defence to apply after the spot audit.
[76] Perhaps more
important than the determination of how close the Corporation was in keeping remittances
current, is the assessment of the conduct of the Appellant. Did the Appellant
exercise the degree of care that a reasonably prudent person would have
exercised? The care he should have demonstrated would have reflected his
respect for what was required of him, namely, to help ensure that the
Corporation treated amounts withheld, set aside and held for the Crown in
trust, as the Crowns’ money. The Appellant, in my view, was resistant to this
duty imposed on persons in his position. Even after the spot audit, he did
nothing more than keep collections at bay. Yes, it can be said that he caused
significant amounts to be paid on account of remittance obligations. However,
it is clear he was making instalment type remittances as seemed to satisfy the
CRA, while knowingly continuing to use withheld amounts to finance operations.
Can he argue that that is what a reasonably prudent business person in comparable
circumstances would do? If the answer to that question is “yes”, the entire
scheme of the trust provisions of the Act will be totally undermined.
[77] While this may seem
harsh in respect of a lay person who has no professional or legal training in
the fine points of ‘remittance’ law, and while I am aware that there is a
subjective element in applying the due diligence defence, I am not satisfied that even a
totally subjective analysis would assist the Appellant. The Appellant had been involved in the family business for some
nineteen years prior to the assessed period and had run the business for
several years prior to the arrival of Ms. Fitzpatrick. In the fall of 2000 he
had his lawyer check with Mr. Fiksel regarding the incorporation of the
Corporation. That is, he had professionals available to assist him. He knew of
and seemed ready to comply with other statutory obligations to other parties in
the construction industry. That his knowledge of the law extends to certain
obligations but not others might be considered rather convenient. In any event,
in my view, finding that the Appellant did not act in a manner consistent with
the degree of diligence, skill and care expected of him, in the position he
occupied, to fulfill remittance requirements is inescapable.
[78] Further, it is
difficult to accept that the Appellant as a tradesman is a person in respect of
whom the liability bar should be lowered. The Appellant was the only person who
could make remittances and he was in fact making them. He had sufficient experience
to execute that role and must accept responsibility for the manner in which he carried
it out. In this regard I note that I have found no reason to adopt the Franck
approach in this case. The Appellant here is somewhat irreverent as to the
trust imposed on remittable funds. They are simply not funds that can be used
to finance a failing business. The CRA’s indulgences and accommodations that
avoid forcing companies into bankruptcy cannot be grounds for estopping it from
resorting to subsequent lawful collections. I am, in effect, suggesting that
the principle in Franck relied on by the Appellant, which was arguably
not the ratio decedendi of that decision, must be applied with caution.
As well, and in any event, I am not satisfied in this case that the Appellant
has met the bar of earnestness, genuineness and sacrifice set in Franck.
The Appellant caused the Corporation to pay out material sums to Ms.
Fitzpartick in the summer and fall of 2000. Large management fees were paid out
of the Corporation in its fiscal 2002 year. Such actions, unexplained, are not
consistent with the application of the principle laid down in Franck.
The remittances and payments made after the spot audit, even if applied
together to current remittance obligations, were knowingly, intentionally,
deficient. The Appellant knowingly misused government trust funds.
The Due Diligence Defence – before
the May 2001 Spot Audit
[79] I have already
concluded that the Appellant was in charge during this period. He has no better
defence here than he has for the later period. Indeed the suggestion that he
could rely on past compliance based largely on relying on Ms. Fitzpatrick’s
role and responsibility offends my overall impression of the evidence. The Appellant
had every reason in the world to distrust everything Ms. Fitzpatrick did. The
Appellant tried to portray himself as a simple tradesman but that is clearly
not the person who took over his father’s company and went along with Ms.
Fitzpatrick’s schemes - under her spell or not. The Appellant presented himself
to me as a businessman quite capable of taking care of the office just as Ms.
Kondrashev said he did since the fall of 2000. At that time he was aware of yet
another piece of Ms. Fitzpatrick’s handy work – her forging Mr. Fiksel’s
signature. Any further reliance on her would be the antithesis of exercising
the care of a reasonably prudent person in comparable circumstances. By his
account, giving her rope would be giving her the tools to hang someone –
including in this case the Appellant himself. While he may have believed he had
limitations (perceived or real) and that he could rely on her to compliment his
own skills, I cannot accept that a reasonably prudent person in this very
circumstance would have relied on her to comply with any regulatory regime. To
do so would be turning a blind eye to her potential to ignore any such regime
as it suited her interests.
[80] A reasonably prudent
person in this or a comparable circumstance would have engaged someone to put
him on the right path from the outset, if in fact he was concerned about the
right path and herein lies one of problems faced by the Appellant, namely, I am
not satisfied that the Appellant was concerned about the right path. Indeed, it
seems he may well have been attracted to Ms. Fitzpatrick in the first place
because of her scheming ways. In these circumstances, it should be clear to any
observer that the Appellant was happy to turn a blind eye to any compliance
issue including one concerning remittance obligations. That is not what a
prudent person in his position would do.
Conclusion
[81] Accordingly, the
analysis of the assessment period in two segments has not assisted the
Appellant. The due diligence defence cannot apply in either segment.
[82] For all these
reasons, the appeal must be dismissed. Costs in the cause go to the Respondent.
Signed at Ottawa, Canada, this 2nd
day of May, 2008.
“J.E. Hershfield”
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