REASONS
FOR JUDGMENT
Woods J.
I. Overview
[1]
The appellant, Grant Carphin, was assessed on
the ground that he failed to report all commission income that he earned over a
six-year period as a salesman for The Institute of Financial Learning (the “Institute”). It turned out that Mr. Carphin,
perhaps unwittingly, was promoting fraudulent investments in a classic Ponzi
scheme.
[2]
Mr. Carphin maintains that he was unaware of the
fraud and that he was also a victim because he had invested his own funds in
the scheme. Regardless of whether or not this is true, it is not directly
relevant to this appeal.
[3]
For taxation years from 2001 to 2006, Mr.
Carphin was assessed under the Income Tax Act for alleged unreported
commission income and related gross negligence penalties. The amounts that were
added to his income for these years, respectively, are $12,200, $266,401,
$127,347, $243,420, $130,500 and $21,676. The gross negligence penalties
assessed are $491, $34,601, $15,382, $33,258, $16,681 and $2,157, for each year
respectively.
[4]
At the commencement of the hearing, the Crown
informed the Court that one of the items added to Mr. Carphin’s income, in the
amount of $25,187.62, was inadvertently double counted for the 2003 taxation
year. Accordingly, one of these amounts should be removed from income and from
the calculation of gross negligence penalties.
[5]
Some of the participants in the fraudulent
investment scheme, Milos Brost, Gary Sorenson, Steven Kendall and Christopher
Houston, were recently convicted of fraud by courts in Alberta. (See R. v.
Kendall, 2015 ABQB 177 and R. v. Brost and Sorenson, ABQB, Docket
120873872Q2, April 16, 2015.)
[6]
From a 60,000 foot level, it appears that individuals
were lured into becoming members of the Institute on the promise that they
would learn the secret to successful investing. Members would then be enticed
into investing in corporations set up in tax havens which supposedly would earn
extravagant returns from activities such as metal refining.
[7]
The Institute engaged sales agents such as Mr.
Carphin who were given the fancy title of “structurist.” The agents were paid on a commission basis with respect to members that
the agents recruited or that their recruits brought in. It appears that complex
schemes were put in place to keep the commissions offshore.
[8]
It appears that the fraud was large scale and
successfully perpetrated over a long period of time. The scheme involved the incorporation
of a great number of offshore corporations and the participation of several
financial institutions.
[9]
One of the central corporations used in the
fraud was Syndicated Gold Depository S.A. (“SGD”). This entity received
investors’ money for the purpose of being reinvested in a gold refining
corporation. It appears that investors were lured by ridiculously high
investment returns in SGD that would not be reported for Canadian tax purposes.
It also appears that investors’ RRSPs were tapped for the funds. In actuality,
SGD was one of the main entities used to implement the Ponzi scheme.
[10]
The evidence does not reveal how the fraud came
to its inevitable end, but it appears that regulatory and/or tax authorities in
the United States and Canada were on their trail before 2007.
[11]
As a result of documents obtained during criminal
investigations of the main participants in the fraud, the Canada Revenue Agency
(CRA) learned of Mr. Carphin’s role as a sales agent for the Institute. The CRA
then audited Mr. Carphin to determine if all his commissions had been
reported. For this purpose, the CRA searched through a massive number of documents
obtained in the criminal investigations, as well as statements from Canadian
bank accounts owned by Mr. Carphin, his spouse, and a Canadian corporation
owned by them, Van Merlin Consulting Ltd. (“Van Merlin”).
[12]
The CRA auditor concluded that Mr. Carphin had
meticulously reported all commissions that were paid into Canadian bank
accounts and that these were the only commissions reported. The Canadian
amounts were reported on Mr. Carphin’s own tax return or that of Van
Merlin. As for other commissions that were not reported, Mr. Carphin directed these
to be kept outside of Canada.
[13]
The assessments at issue were all issued after
the normal reassessment period for purposes of subsection 152(4) of the Act.
Accordingly, the Crown has the burden to prove misrepresentation of income. It
also has the burden to prove the facts supporting gross negligence penalties.
In light of this, the Crown presented its case first at the hearing.
[14]
By way of background, Mr. Carphin was
self-represented at the hearing and he had very little to say throughout the
two-day proceeding. Mr. Carphin indicated that he was hampered by health
problems; however, he did not seek an adjournment on these grounds.
[15]
Mr. Carphin also informed the Court that he
planned to file for bankruptcy if this appeal is dismissed because that he had
lost everything as a victim of the Ponzi scheme.
II. Issues
to be decided
[16]
Mr. Carphin’s notice of appeal asks for several
types of relief that are not within the jurisdiction of this Court. Mr. Carphin
did not make specific submissions with respect to these at the hearing.
[17]
The Crown’s position on these were not stated in
the Reply. At my request, counsel for the Crown responded to these issues at
the commencement of the hearing, and it is not necessary that I discuss them
further in these reasons.
[18]
The only issue that can be decided by this Court
is whether the assessments issued to Mr. Carphin properly determine the amount
that is payable under the Act. Included in this determination is whether
it is appropriate to assess after the normal reassessment period and whether
the conditions for the imposition of gross negligence penalties are met.
III. Factual
background
A. The evidence
[19]
The Crown’s witnesses consisted of two employees
of the CRA, Michael Weevers and Winnie Lin.
[20]
Mr. Weevers was an investigator with the CRA who
was involved in the criminal investigations mentioned above. Through Mr.
Weevers, the Crown sought to introduce documents that had been obtained as part
of the investigations and were handed over to the CRA audit division to assist
in an audit of Mr. Carphin’s commission income.
[21]
Mr. Weevers was very knowledgeable about the
source of the documents. Some of them had been obtained through Canadian search
warrants and requirements issued to financial institutions. Others were foreign
documents that had been obtained from the U.S. Securities and Exchange
Commission and an international organization of tax authorities, the Joint
International Tax Shelter Information Centre, or JITSIC.
[22]
These documents are critical to the Crown’s case
because the Crown had had very little other evidence. Almost all of the documents
are hearsay, and they need to be both necessary and reliable to be admissible
into evidence.
[23]
During the hearing, I was not able to review the
documents in detail and accordingly the documents were entered into evidence
with the question of necessity and reliability being taken to weight. Based on
a review of the documents after the hearing, I determined that most of them are
sufficiently necessary and reliable that significant weight should be given to
them.
[24]
Mr. Carphin did not object to the introduction
of the documents and on cross-examination he acknowledged the authenticity of documents
that he was aware of.
[25]
On the whole, the necessity of most of the
documents is clear given that the relevant parties were involved in illegal activity
and it would not be feasible to obtain credible evidence from them. As for
reliability, a large portion of the documents appear to be financial records
that were kept in the ordinary course of business, either by the participants
in the fraud or by financial institutions that were involved in handling the
money. On their face, these documents appear to be reliable and I have no
reason to think that they would not be.
[26]
In my view, it is appropriate to give weight to
most of the documents, either because they are necessary and reliable or
because they were verified by Mr. Carphin.
[27]
The second Crown witness was Ms. Lin, who was the
auditor responsible for the assessments. Essentially, Ms. Lin made a
determination of Mr. Carphin’s unreported commission income based on the
above documents, supplemented by information obtained during the audit such as bank
account statements from accounts owned by Mr. Carphin, his spouse and Van Merlin.
[28]
I found Mr. Weevers and Ms. Lin to be credible
witnesses.
[29]
Mr. Carphin testified on his own behalf;
however, his testimony was exceedingly brief. He was subject to a relatively
lengthy cross-examination.
[30]
I found Mr. Carphin’s testimony as a whole to be
vague and evasive, and not at all reliable.
[31]
The evidence does not provide a complete picture
of the scheme or Mr. Carphin’s involvement, which is not surprising since
Mr. Carphin provided almost no testimony in chief and much of the Crown’s
evidence was spotty, having been partially obtained through seizures from
participants in the fraud.
B. Details of the fraud
[32]
A snapshot of the fraudulent scheme has been set
out by the judge who heard the criminal trial of Milos Brost and Gary Sorenson
(ABQB, Docket 120873872Q2, April 16, 2015). Below is an excerpt relating
to two of the charges on which Brost and Sorenson were convicted.
[…]
[4] Sorenson
controlled Merendon Mining Corporation Ltd. and its subsidiaries. Merendon,
through a subsidiary, owned a property in Tegucigalpa, Honduras, which was
being developed as a small sized gold refinery and a jewelry manufacturing
outlet.
[5] Brost
and Sorenson, together with others, set up a company called Syndicated Gold
Depository SA. Each of Brost and Sorenson was a beneficial shareholder of that
company, although they never disclosed that beneficial interest to investors.
[6] Brost
set up a company called Capital Alternatives Incorporated (“Capital
Alternatives”), beneficially owned by him. Capital Alternatives signed up
potential investors into an investment club, which was said to exist to provide
advice on alternate investment strategies to its members. Later, Brost set up
the Institute for Financial Learning (“IFFL”) for a similar expressed purpose.
[7] Brost
trained sales people called “strategists” or “structurists” on presentations to
be made to members of Capital Alternatives and then IFFL, which presentations
were designed to persuade the members into investing through complicated means,
in the offshore company SGD, and later into the company, Base Metals
Corporation LLC (“Base Metals”), also controlled by Brost and Sorenson. The
investors were told that SGD, and later, Base Metals, would lend the invested
money to Merendon or its affiliates. The purpose of the loan was originally
described as refining of gold. A number of false representations were made to
investors, on the instructions of Brost, to induce them to invest. The
investors were told that Merendon would pay SGD/Base Metals, returns of 4% per
month. The returns promised to the investors ranged as high as 3.5% per month.
[8] While
Sorenson did not directly market to investors, he or his agents presented at conferences
for investors, and he presided over tours of the Tegucigalpa refinery, making
representations as to the soundness and security of the investments, and as to
Merendon’s ability to make the interest payments from its operations;
representations that were false.
[9] In
fact, by the direction of both Brost and Sorenson, the monies received from the
investors after payment of various commissions and expenses, were not used for
the purposes described. At no time did Merendon pay the high rates of interest
to SGD for the purported loan to Merendon from SGD. While Merendon did do some
gold refining, it was sporadic, and far less significant than would be required
to justify the amount of the investment and loans, or to pay the interest rates
proposed in the agreements, and promised to investors.
[10] When
investors sought to have some or all of their principal or interest or both
repaid to them, payments were made to those investors from funds raised from
other investors, rather than from any business pursuits. This was a classic
Ponzi scheme, and constituted fraud on the investors. The investors were
provided with monthly statements showing them that their investments were
growing successfully at the interest rates promised to them. The results, on
paper, looked so good that some of the investors who gave evidence were induced
to invest more money. However, the results were on paper only. SGD was not in
fact recovering any of the loan or any interest from Merendon or its
subsidiaries.
[11] The
fraud perpetrated on the investors was complex and required a great deal of
planning. As time went on, and there was insufficient money to repay investors,
additional complex steps, changes and new arrangements were invented in an
effort to assuage the investors and to hide the fraud from them.
[12] Evidence
from Elizabeth Brost was there were 2000 investors in this scheme investing
into either SGD or into Base Metals Corporation LLC. In a recording of June 1,
2007, Brost speaks of there being 3000 investors.
[13] Evidence
from Bill Dallas a Merendon board member, is that he was told by Sorenson that
the amount of Merendon’s debt to SGD was $200 million. In a recording by Owen
Hoffman dated March 16, 2007, Sorenson advises that the debt owed was $124
million. In a recording of October 25, 2008, Brost states that
Sorenson/Merendon received approximately $120 million during the course of this
scheme. No records of the exact amounts invested, but not repaid, were placed
into evidence. Evidence was received that Merendon Mining Corporation Ltd. had
moved its office and records from Canada to Belize.
[14] The
Crown called 7 witnesses who invested in this particular scheme (Driesen,
Goritshnig, Bruns, Williams, Campbell, Goldworthy, Tripodi). In total, those
witnesses gave evidence that they had lost over $800,000 from investing in this
scheme.
[15] Brost
and Sorenson directed that the investments being made were not used for their
express intended purposes. They knew that there was no legitimate business
justifying the significant amount of these loans from SGD to Merendon. They
knew that Merendon was not paying called for interest to SGD; and they knew and
directed that investors who made requests were being repaid, not from the
business pursuits of SGD or Merendon, but instead from the monies contributed
by other investors.
[16] While
it has not been proven where the monies have gone, it is clear the investors
have been defrauded of those monies.
[17] The
above fraud was lengthy in duration, commencing in November, 1999 and carrying
forward until December, 2008. The amounts lost by each investor were
significant amounts, in the 10’s and 100’s of thousands of dollars. Some of the
investors who gave evidence at trial lost virtually all of their life’s
savings.
[…]
IV. Analysis
A. Applicable legal principles
[33]
It is useful to review some of legal principles
that are applicable in this appeal.
[34]
First, as mentioned above the assessments were
all issued after the normal reassessment period had ended. Accordingly, the
Minister is restricted in assessing in accordance with subsections 152(4) and
152(4.01) of the Act. Essentially, the assessed amounts must relate to
fraud or to a misrepresentation due to neglect, carelessness or wilful default.
[35]
The burden of establishing a misrepresentation
or fraud is on the Crown (M.N.R. v. Taylor, 61 D.T.C. 1139 (Ex. Ct.), at p. 1141).
[36]
The burden of proof in statute bar situations
was elaborated on by former Chief Justice Bowman in Biros v. The Queen,
2007 TCC 248, at para. 26. In reasons that make a great deal of sense, the
former Chief Justice concluded that for statute bar purposes the Crown only
needs to prove misrepresentation in respect of a head or source of income.
After that burden has been satisfied, the burden shifts to the taxpayer
regarding the quantum. It is the taxpayer who must show whether the income from
that source was less than the amount assessed.
[37]
As for gross negligence penalties under s.
163(2) of the Act, the test is whether a false statement has been made
in the return either knowingly, or under circumstances amounting to gross
negligence. The penalty is essentially 50 percent of the reduction in tax
reasonably attributable to the false statement.
[38]
The burden of proof with respect to the facts
supporting the penalties is on the Crown (s. 163(3) of the Act).
B. Failure
to report commission income
[39]
The seized documents used to support the
assessments are far from complete and therefore they do not reveal either a
clear or a complete picture of the commission income earned by Mr. Carphin.
[40]
At the outset, I would mention that in the
notice of appeal Mr. Carphin submits that commissions not received by him
should not be included in his income. This is not the correct test. Mr. Carphin
must report and is taxable on commissions that were payable to him or payable at
his direction. In this case, it is clear that Mr. Carphin had the ability to
direct how the commissions were paid.
[41]
I would conclude based on the evidence as a
whole that Mr. Carphin wrongly omitted from his tax returns commission income
that was payable to him or as he directed.
[42]
It does not matter where the unreported
commissions were directed to be paid. As far as the evidence reveals, at least
some of the unreported amounts were directed by Mr. Carphin to be paid to Ciclon
S.A., an offshore corporation owned by Mr. and/or Mrs. Carphin. It appears
that some or all of the funds transferred to Ciclon S.A. were then invested in
SGD. Other commissions were directed by Mr. Carphin to be transferred to non-Canadian
cash cards. The cash cards could be converted to cash or used for purchases.
[43]
The circumstances as a whole strongly suggest
that Mr. Carphin’s failure to report this income was made knowingly. Mr.
Carphin was highly educated, with a masters’ degree in mathematics and
philosophy. He was an experienced businessman with a background in financial
matters. Moreover, Mr. Carphin did not have any credible explanation for not
reporting this income, especially the commissions directed to cash cards. The
only reasonable explanation of the facts is that Mr. Carphin was keeping
significant amounts of commission income out of Canada in order to avoid paying
tax on these amounts. He knew that the commissions were taxable in Canada and
had to be reported on Canadian tax returns.
[44]
I would also comment that the tests do not
require actual knowledge of wrongdoing. Wilful default (s. 152(4) and gross
negligence (s. 163(2)) are sufficient. Without doubt, these requirements are
satisfied.
[45]
As for the amount of commission income that was
unreported, the CRA auditor undertook a thorough analysis of the documents that
she had available and she made an estimate of the unreported commission income
revealed by them. The auditor’s calculations are well-documented and are
reasonable in the circumstances of this case.
[46]
Mr. Carphin made no attempt to dispute these
amounts.
[47]
For completeness, I would mention that the Crown
introduced for information purposes two documents that were not available to
the auditor at the time of the audit and were only reviewed by her shortly
before her testimony (Ex. R-8).
[48]
One of the documents appears to be a complete
statement of amounts invested by Ciclon S.A. in SGD. These amounts are less
than the amounts that the auditor has classified as being related to SGD. (See
Ex. R-5, Schedule 1 which summarizes the amounts assessed.)
[49]
The two documents were made available to Mr.
Carphin at the hearing and were entered into evidence by the Crown only for
information purposes so that Mr. Carphin could testify with respect to them if
he so chose. He did not do so.
[50]
Since these documents were not entered into
evidence for the truth of their contents, it is not appropriate that I consider
them. I would comment, however, that the documents are not inconsistent with
the amounts assessed because the amounts invested by Ciclon S.A. into SGD are
only one piece of the puzzle.
[51]
The conclusion that I have reached in this
appeal is that Mr. Carphin knowingly did not report the income that was
assessed. It is appropriate that the appeal be dismissed, subject to the
concession by the Crown.
[52]
The Crown will be awarded costs in accordance
with the tariff.
Signed
at Toronto, Ontario this 23rd day of June 2015.
“J.M. Woods”
Email this Content