Date: 19990119
Docket: 97-2625-IT-G
BETWEEN:
KEVIN T. HAGON,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
Reasons for judgment
BOWIE, J.T.C.C.
[1] The Appellant has been reassessed for income tax for the
taxation years 1989, 1991 and 1992. The Minister of National
Revenue (the Minister) contends that the Appellant did not
disclose all of his income when filing his returns for those
years. In addition to the amounts added to income, the
reassessments include penalties levied under subsection 163(2) of
the Income Tax Act for each of the years in question.
These penalties were assessed on the basis that the Appellant
failed to disclose certain amounts of income in each of the
years, and that he did so fraudulently, knowingly, or at least in
circumstances which amount to gross negligence on his part. The
Respondent has also pleaded in the Reply that if the penalties
are not warranted under subsection 163(2) then the penalties for
1991 and 1992 are justified under subsection 163(1), because the
Appellant was convicted of failing to report a part of his income
for the year 1989.
[2] The Appellant, during the years in question, was engaged
in a business with his brother Jeff under the name G & H
Cabinets. During 1989 they and one other individual were equal
partners. At the end of 1989, the Appellant and his brother
bought out the other partner. The business was incorporated at
the beginning of 1990 under the name G & H Cabinets Ltd., and
they continued to operate it on the basis of equal ownership.
[3] The Appellant's position with respect to the
assessments is that he was the person concerned with the
operational aspects of the business, and that his brother was
responsible for the financial side. The business consisted of
making, selling and installing kitchen cabinets. The Appellant
was in charge of the shop where these were produced, and he went
out to the locations where they were being installed to do that
work. Other than making the bank deposits from time to time, he
says that he was not involved in the finances at all, and that he
knew nothing of the way in which the books were kept, at least
until after the business became bankrupt in or about 1994.
[4] The original assessment of the Appellant for 1989 was
dated April 6, 1990. It was based on the Appellant's declared
income, consisting of $785.76 in family allowance payments,
$12,555 in unemployment insurance benefits, and investment income
of $188.14, to which the Minister added $1,000 in employment
income which the Appellant received from Rato Enterprises Inc.
(Rato) for work that he did for that firm. The Appellant did not
dispute at the hearing that he had in fact received this amount
from Rato; he explained its non-inclusion on the basis that he
did not have a T4 form from Rato, and that he therefore
inadvertently failed to disclose it to his tax preparer. The
reassessment for 1989 from which the appeal is brought is dated
October 27, 1994. The Respondent therefore has the onus of
proving that the Appellant had, for that year, made a
misrepresentation which can be attributed to neglect,
carelessness, wilful default, or fraud.[1] The Minister also has the onus of
proving that the Appellant either knowingly, or through gross
negligence, understated his income for all three years, in order
to establish that the Appellant is liable to the penalties
assessed. To meet the onus in respect of these matters, counsel
for the Respondent called the Appellant as a witness. She also
called Mr. Matthew Talbot, who worked for the company in 1989. He
later opened his own renovation business, and became a customer
of G & H Cabinets Ltd. Mr. Robert Schell, an
investigator employed by Revenue Canada, also gave evidence for
the Respondent.
[5] I did not find the Appellant to be a reliable witness. He
admitted during the hearing that he had collected unemployment
insurance benefits in 1989 while working 16 hours a day; he
did not report the fact that he had worked to the unemployment
authorities. He was confronted during his evidence with an
application for a loan which he had completed and submitted to
the Westminster Credit Union, in which he claimed to have a net
income of $3,800 per month, at a time when he declared a gross
income of about $10,000 annually. He testified that he had
deliberately overstated his income to the credit union to improve
his prospects of getting the loan. As will appear, I think it
more likely that he was telling the truth to the credit union,
and not to the Minister of National Revenue. He offered an
unconvincing explanation of how he could support his family on
the income he declared during the years in issue, based upon
rental income which he said he received. At first he referred to
rental income paid to him by his mother; later in his evidence it
became rental income received from both his mother and the tenant
of a basement apartment. The Appellant has a grade nine
education, and I believe him when he says that he did not have
much understanding of accounting. However, I also believe that he
was quite willing to give whatever evidence he felt would be to
his advantage. Where his evidence is self-serving and
uncorroborated, I do not accept it.
[6] There are other difficulties in reconstructing the
financial affairs of the business. The Appellant's brother
Jeff is now living in England, and so was not available to give
evidence. The financial records of the business, both as a
partnership in 1989 and later after it was incorporated, were
kept, it appears, in a most haphazard way. There do not appear to
have been any proper books of account. Once a month the bank
deposit slips, cheque stubs and other original vouchers were
turned over to a bookkeeping firm, which seems to have maintained
some records. These disappeared, I was told, before the trustee
in bankruptcy could obtain them. Their disappearance was not
explained in the evidence before me. Mr. Schell did have
access to some records during the investigation that he
conducted, and I admitted the extracts that he took from them
into evidence. They provide at least a partial picture as to how
the company conducted its affairs. Unaudited statements for the
partnership were prepared for the year 1989, and these too were
entered in evidence.
[7] I pause here to deal with the Crown's plea of issue
estoppel. In February 1995, Robert Schell swore an information in
the Provincial Court of British Columbia which charged the
Appellant and his brother with various violations of the
Income Tax Act. There were ten counts in all. Two were
against the brothers jointly, and there were four separate counts
against each.
[8] No certificate of conviction was entered in evidence, but
Mr. Schell and the Appellant both testified that the Appellant
was convicted on count eight. That count charged him with making
a false statement in his 1989 income tax return, and
specifically, with stating that his taxable income was
$13,528.90, and thereby failing to report additional income in
the amount of $10,759.50. The conviction on this count came about
in the following way. After two days of trial, the Court
dismissed two of the counts against the Appellant. At that point
there were discussions between the Crown and the Appellant's
lawyer, and a bargained plea of guilty was entered to count
eight, not for the full amount charged, but for the lesser amount
of $7,134.51. This is the Appellant's share of the
partnership profit as indicated by the unaudited statements for
1989. The Appellant was then convicted in accordance with the
guilty plea, and the other counts against him were abandoned by
the Crown. It is this conviction that the Crown contends raises
an issue estoppel against the Appellant.
[9] It is well settled that a conviction under the Income
Tax Act may, in proper circumstances, give rise to an
estoppel in later civil proceedings under the Act:
Van Rooy v. M.N.R.[2] In the present case there is no problem of
identity of issue, as there was in Van Rooy; the
conviction was as to the amount of $7,134.51, which is not all,
but is an identifiable part, of the income added by the
reassessment under appeal for 1989.
[10] Nevertheless, it is my view that this is not a proper
case in which to permit an estoppel to be raised. The evidence
shows that the conviction arises out of a plea bargain, a process
in which there is necessarily some give and take on both sides.
This is the sort of circumstance that Blair J.A. had in mind in
the Del Core[3] case, where he said of a conviction in criminal
proceedings that:[4]
... such evidence constitutes prima facie and not
conclusive proof of the fact of guilt in civil proceedings. The
prior conviction must of course be relevant to the subsequent
proceedings. Its weight and significance will depend on the
circumstances of each case. ...
He then went on to point out that the effect of a conviction
may be mitigated by explanation of the circumstances surrounding
the conviction.
[11] In the present case, the fact that the conviction arose
out of a guilty plea which was part of a plea bargain is
significant. There may have been very sound practical reasons
other than guilt that motivated the plea. Counsel has not
referred me to any authority dealing with the effect to be given
to a bargained plea of guilty, and absent such authority, I am
not inclined to find that the Appellant is estopped in this
case.
[12] I turn now to the evidence relating to the alleged
failure to report income. From the evidence available, it appears
that the revenue of the business was not all recorded in the
books during 1989, 1991 and 1992. The evidence establishes that
on a number of occasions, payments for goods and services
supplied by the business were made in cash to Jeff Hagon. This
cash was subsequently deposited to the business bank account, but
it was described not as sales, but as loans advanced by the two
brothers to the business. This description was placed on the
deposit slips by Jeff Hagon, and as a result, the bookkeeper
recorded what were in reality sales as advances made to the
business by the Appellant and his brother. Drawings made by them
were then recorded as being debits to their loan accounts,[5] rather than to
salaries.
[13] The Appellant was adamant in his evidence that this was
being done by his brother without his knowledge, and that he
cannot be held responsible for it. He also gave evidence that on
a number of occasions, how many is not certain, he took out
mortgages against the homes that he lived in during this period
to provide funds to keep the business afloat. These, he said, he
turned over to his brother. Beyond that, he had no specific
knowledge of the amounts, the dates, or the disposition of the
proceeds of these loans.
[14] I am satisfied on the evidence that the Appellant did in
fact fail to declare his true income when he filed his 1989 tax
return. The financial statements of the partnership show a
partnership income of $21,403.51, attributable equally to the
Appellant, his brother, and the third partner. The
Appellant's share is $7,134.51.
[15] In addition, the evidence of Mr. Talbot establishes that
there was a further $7,250 which was paid in cash to Jeff Hagon
by one Max Anderson, who carried on business as Newport Concrete,
for goods sold or work done by the partnership during the year
1989 which should have been, but was not, recorded as sales
during that year. Instead, it was recorded as being advanced to
the business by the brothers. This resulted in the understatement
of the income of the partnership in that amount. The
Appellant's share of the undeclared income arising from this
item is $3,625, for a total of $10,759.50 undeclared income from
the business in 1989, over and above the $1,000 in earnings from
Rato, which was included in the original assessment, although not
declared.
[16] The Appellant did not declare any income from the
business in 1989. I do not accept his explanation that he did not
know that he had any to declare. He admitted during his evidence
that he received cash from the business from time to time. He
minimized the amount. He said that it was "small amounts a
couple of times". He said small amounts meant $700 to
$1,000. I find that the amounts he received in cash were more
frequent than that. He testified that he was working
16 hours per week on the production side of the business at
that time. I do not believe that he would be content to take only
$1,400 or $2,000 out of the business in cash to support himself,
his wife and two children for all of 1989. I find that the
Minister has discharged the onus of showing that the Appellant
was at least neglectful in understating his income for 1989 by
the full amount of $10,759.50 added by the reassessment. I shall
return to the issue of the penalty assessed for 1989.
[17] I turn now to the years 1991 and 1992. The Appellant was
reassessed for 1991 to include in his income $6,350 over and
above that which he had declared. The evidence establishes to my
complete satisfaction that Matthew Talbot, who by 1991 had left
the employ of the company and became a customer of it, paid a
total of $12,700 in cash to Jeff Hagon for goods supplied to him
by the company, and that this cash was not recorded as sales in
the company's accounts. Instead, it was later deposited to
the company's account at the bank, with the notation on the
deposit slip that it represented an amount loaned to the company
by the Appellant and his brother. The inevitable result was that
the bookkeeper recorded the amounts as shareholder loans. By this
subterfuge, the company was made to confer a benefit on each of
the Appellant and his brother, in the amount of $6,350: see
Kennedy v. M.N.R.[6] This benefit was not declared by the Appellant
in filing his return for 1991.
[18] The reassessment for 1992 added $16,517.50 to the
Appellant's income. This is one half of the total amount of
$33,035, which is the sum of five amounts paid by customers of
the company in cash and, by the same subterfuge that I have
described above, recorded in the company's accounts as loans
from the Appellant and his brother, rather than as sales. Not
only did the Appellant fail to displace the assumptions made by
the Minister in respect of these amounts, but the evidence of Mr.
Schell, based upon his review of such few records as he was able
to gain access to, confirms those assumptions. I find that a
benefit was conferred on the Appellant in 1992, as assessed, and
that it was not declared by him.
[19] I turn now to the question of the penalties assessed for
the three years under appeal.
[20] In reassessing the Appellant, the Minister has levied
penalties of $924.38 for 1989, $135.99 for 1991 and $1,056.06 for
1992, all under subsection 163(2) of the Act. That
subsection reads as follows:
163(2) Every person who, knowingly, or under circumstances
amounting to gross negligence in the carrying out of any duty or
obligation imposed by or under this Act, has made or has
participated in, assented to or acquiesced in the making of, a
false statement or omission in a return, form, certificate,
statement or answer (in this section referred to as a
‘return’) filed or made in respect of a taxation year
as required by or under this Act or a regulation, is liable to a
penalty of the greater of $100 and 50% of the aggregate of
(a) the amount, if any, by which
(i) the amount, if any, by which
(A) the tax for the year that would be payable by him under
this Act
exceeds
(B) the amount that would be deemed by subsection 120(2) to
have been paid on account of his tax for the year
if his taxable income for the year were computed by adding to
the taxable income reported by him in his return for the year
that portion of his understatement of income for the year that is
reasonably attributable to the false statement or omission and if
his tax payable for the year were computed by subtracting from
the deductions from the tax otherwise payable by him for the year
such portion of any such deduction as may reasonably be
attributable to the false statement or omission
exceeds
(ii) the amount, if any, by which
(A) the tax for the year that would have been payable by him
under this Act
exceeds
(B) the amount that would have been deemed by
subsection 120(2) to have been paid on account of his tax
for the year
had his tax payable for the year been assessed on the basis of
the information provided in his return for the year,
(b) the amount, if any, by which
(i) the amount that would be deemed by subsection 122.2(1) to
be paid for the year by him or, where he is a supporting person
of an eligible child of an individual for the year (within the
meaning assigned by subsection 122.2(2)) and resided with the
individual at the end of the year, by that individual, as the
case may be, if that amount were calculated by reference to the
information provided in the return filed for the year pursuant to
that subsection
exceeds
(ii) the amount that is deemed by subsection 122.2(1) to be
paid for the year by him or the individual referred to in
subparagraph (i), as the case may be,
(c.1) (Repealed by 1990, c.45, S. 51(1).)
(c) the amount, if any, by which
(i) the aggregate of all amounts each of which is an amount
that would be deemed by subsection 122.5 to be paid by that
person during a month specified for the year or, where that
person is a qualified relation of an individual for the year
(within the meaning assigned by subsection 122.5(1)), by that
individual, as the case may be, if that aggregate were calculated
by reference to the information provided in the prescribed form
filed for the year under subsection 122.5
exceeds
(ii) the aggregate of all amounts each of which is an amount
that is deemed under section 122.5 to be paid by that person or
that qualified relation during a month specified for the year,
and
(d) the amount, if any, by which
(i) the amount that would be deemed by subsection 127.1(1) to
be paid for the year by him if that amount were calculated by
reference to the information provided in the return or form filed
for the year pursuant to that subsection
exceeds
(ii) the amount that is deemed by subsection 127.1(1) to be
paid for the year by him.
The essential ingredients, so far as they apply here, are a
false statement in the income tax return for the year, and that
the false statement be made knowingly, or as a result of gross
negligence on the part of the taxpayer. I have already found that
the Appellant made the false statements alleged. The remaining
issue is whether he did so knowingly, or as a result of gross
negligence.
[21] So far as 1989 is concerned, I find that the Appellant
made the false statement knowingly, insofar as the income from
Rato is concerned. He knew very well that he had worked for and
been paid by that company during the year. I believe that he
thought that because he had not received a T4 form from Rato he
could omit that income from his return. The remaining
understatement for 1989 is in two parts. I find that the
Appellant knew very well that he had received payments from the
company, and at the least this knowledge was such as to require
that he make some inquiry as to the finances of the business
before filing a return certifying that he had no income from it
during the year. There were statements available by the end of
January 1990 which, had he made the inquiry, would have revealed
the income in the amount of $7,134.51 in respect of which he was
later convicted.
[22] The remainder of the undeclared income for 1989, and that
for 1991 and 1992, is the result of the scheme to disguise sales
revenues as loan advances, or for 1989 more accurately capital
contributed. He maintained in his evidence that he paid no
attention to the writing on the deposit slips. He said that it
was all being done by his brother without his knowledge, and that
he had neither the time nor the financial acumen to find out
about it. He simply trusted his brother. I think it unlikely that
he had no idea what was going on. The Appellant took the deposits
of these amounts to the bank on numerous occasions. It seems
incredible that he would not have read the notations on the
deposit slips, and then inquired of his brother why the amounts
were being treated as loans. Certainly, he did from time to time
advance amounts to the business, which he raised by way of
mortgages on his house. He must have known, though, that the sums
he was depositing did not come from those loans. Neither the
timing nor the amounts would have coincided.
[23] Significantly, Mr. Schell was able to compare the amounts
which were credited to the Appellant's loan account and his
drawings for the years 1990, 1991, and 1992. There is a high
correlation between the amounts that were deposited under the
guise of loans to the company, and the amounts of his drawings
during those years. I have no doubt that the Appellant's
brother was the author of the scheme. However, these factors lead
me to believe that the Appellant had good reason to suspect that
things were not being done as they should be, and that inquiry on
his part might bring him knowledge that he did not wish to
have.
[24] In the criminal law, wilful blindness equates to
knowledge sufficient to establish mens rea.[7] The test to be applied
was set out there by Sopinka J.:[8]
A finding of wilful blindness involves an affirmative answer
to the question: Did the accused shut his eyes because he knew or
strongly suspected that looking would fix him with knowledge?
In my view, the answer to that question in the present case is
affirmative.
[25] The Crown pleaded in the alternative that the Appellant
is liable in any event to penalties for the years 1991 and 1992
under subsection 163(1). It reads:
163(1) Every person who
(a) fails to report an amount required to be included
in computing the person's income in a return filed under
section 150 for a taxation year, and
(b) had failed to report an amount required to be so
included in any return filed under section 150 for any of the
three preceding taxation years
is liable to a penalty equal to 10% of the amount described in
paragraph (a), except where the person is liable to a
penalty under subsection (2) in respect of that amount.
There is no question that the Appellant failed to report an
amount in 1989. 1991 and 1992 are both within three years of
1989. If I were wrong in my conclusion as to the penalties under
subsection 163(2) for 1991 and 1992, the Appellant would
nevertheless be liable under subsection 163(1). For both years
the 10% penalty under subsection (1) is greater than the
penalties which were assessed under subsection (2). The
appeals of the penalties for those two years must therefore fail,
regardless of the Appellant's state of mind or degree of
negligence.
[26] The appeals are dismissed, with costs.
Signed at Ottawa, Canada, this 19th day of January, 1999.
"E.A. Bowie"
J.T.C.C.
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