Clarke v. Canada, docket T-492-96

Date: 20000331

BETWEEN:

Docket: T-492-96

     Donald I. Clarke

Plaintiff

     - and -

     Her Majesty the Queen

Defendant

Docket: T-493-96

     Clarence J. Dwyer

Plaintiff

     - and -

     Her Majesty the Queen

Defendant

Docket: T-494-96

     Fraser H. Edison

Plaintiff

     - and -

     Her Majesty the Queen

Defendant

     Reasons for Judgments

MacKAY J.

These are three appeals, one by each plaintiff taxpayer, from a judgment of the Tax Court of Canada,¹ which allowed in part the appeal of each taxpayer but maintained their basic assessment under subsection 227.1(1) of the Income Tax Act¹ (the "Act"). These appeals concern similar facts, they were heard together on common evidence including testimony of one plaintiff, Mr. Dwyer, which was agreed to be evidence in all three appeals to this Court, as it had been in the Tax Court.

Each of the plaintiffs was a director of a corporation that failed to remit source deductions required under section 153 of the Act in respect of wages paid to employees. The company went into bankruptcy in March 1988, and subsequently, in the fall of 1989 the directors were assessed pursuant to subsection 227.1(1) as jointly liable with the corporation for the amounts not remitted, in taxation years 1984 to 1988, for interest and for penalties. The assessments were objected to and subsequently appealed.

As a result of the plaintiffs' appeals to the Tax Court, they were each reassessed by notice dated September 25, 1995. Earlier assessments were reduced. The plaintiffs say that it is unclear whether their respective reassessments were reduced by the amounts that reflected payments made to Revenue Canada by the company's receiver-manager or later trustee, in accord with the directions of Rip T.C.J., or an amount originally assessed for unremitted source deductions due for payment in mid-February 1988, all of which were conceded to be appropriately excluded by statements of the defendant's counsel before the Tax Court. The September 1995 reassessments are the basis of the appeals de novo before this Court pursuant to provisions of the Act which preserved an appeal of a decision of the Tax Court of Canada to the Federal Court, Trial Division for appeals from assessments initiated prior to 1991.

The Issues

The appeals raise four issues, the last of which is evidentiary and procedural. The issues are as follows:

(i) whether the plaintiffs had sufficient control over the company during the period of "soft receivership", from January 1985 or February 15, 1985 to August 5, 1985, to render them liable for any unremitted source deductions payable for that period;

(ii) if the plaintiffs were liable for unremitted source deductions at any period, did they exercise the degree of care, diligence and skill to prevent the failure to remit source deductions that a reasonably prudent person would have exercised in comparable circumstances? If they had so done, in accord with s-s. 227.1(3) of the Act, they were not liable for the company's failure to remit; and

(iii) whether the plaintiffs were liable for unremitted source deductions due and payable after February 5, 1988, the date of the appointment of a receiver-manager, and, in particular, an amount unremitted in October 1987 which was only identified by an audit in March 1988, and the amounts outstanding in February 1988 under two promissory notes, dated August 5, 1985, given to National Revenue which agreed to defer payments due for source deductions unremitted as at June 30, 1985 (a date specified in the plaintiffs' statement of claim and not disputed by the defence).

(iv) The final issue, ultimately not of great significance for this case, concerns the effect of a Notice to Admit documents which expires during a hearing without any response by objection to the notice.

The Facts

Messrs. Clarke, Dwyer and Edison were directors of Easteel Industries (1984) Limited ("the company"), a corporation based at St. John's, Newfoundland, from 1984 to 1988. In 1984, the three plaintiffs took over the company, which manufactured metal goods and fabricated structural steel, anticipating that it could be very successful in the construction boom that was expected to accompany the exploitation of oil reserves off the coast of Newfoundland. Mr. Dwyer, who gave evidence at the hearing of these appeals, was the president and the managing director of the company through the period in question. The remaining plaintiffs were also investors and active directors, and all three were involved in the regular operations of the business.

The anticipated boom did not arrive as soon as expected, and the company experienced difficulties. These difficulties came to a head when in January 1985, the company's main creditor and banker, the Mercantile Bank of Canada (the "bank"), requested certain information regarding the financial position of the company. At the bank's request, Thorne Riddell, chartered accountants of Halifax, was engaged by the company on January 14, 1985 to report to the bank on the company's operations and financial status. Meanwhile, the company had fallen behind in remitting taxes withheld as source deductions from employees' wages. A cheque written to the Receiver General of Canada on January 15, 1985, was returned by the bank for insufficient funds. This cheque was the company's payment to the Minister of National Revenue for taxes withheld from the December 1994 salaries paid to the company's employees.

According to the testimony of both Mr. Dwyer and Mr. Brian Vallis, who, at the time, was involved for Thorne Riddell, the accounting firm made a detailed recommendation to the bank. Among the options considered was bankruptcy and immediate liquidation of the company's assets. This was not recommended by Thorne Riddell. Its report concluded that the company had potential if it could restructure and turn itself around, working out its financial problems. The bank accepted the report and placed the company in what was called a "soft receivership". Thorne Riddell Inc., as represented by Mr. Vallis, was engaged by the bank to protect its interests at the company. A letter dated February 15, 1985 from Thorne Riddell setting out the terms of the arrangement was sent to Mr. Dwyer, specifying, in part:

As you are aware, your firm's banker, The Mercantile Bank of Canada, has requested that Thorne Riddell Inc. act on their behalf for the specific purpose of overseeing and monitoring the orderly liquidation of the current assets and surplus equipment of your company. Our mandate requires we act in a quasi management capacity in consultation with your firm's senior management and, in this regard, our intention is to liaise closely with yourself for the majority of management decisions.

Our understanding of the bank's mandate is that we are to maintain close control of all aspects of receipts and disbursements, sales, purchases, and other general management activities.

The letter then set out in considerable detail the obligations of management to inform, and to work with, Thorne Riddell which essentially was to have the final say in all operations, including accounts receivable, sale of inventory and of equipment, contracts, purchases, payables and payments, personnel, changes in and forecasting of operations. Included was a particular term concerning accounts that were payable from before Thorne Riddell's appointment, as follows:

Thorne Riddell Inc. and management will agree upon any payments to be made on pre February 14, 1985 payables, if any. All cheques and payments of accounts payable or other services to be purchased on a cash basis will be approved by Thorne Riddell Inc. prior to their release.

The Thorne Riddell representative on site had ultimate control over the payments to be made by the company, and the company's cheque book was taken into Thorne Riddell's custody. In addition, the bank ultimately had control over which cheques it would honour.

According to the testimony of Mr. Vallis, the representative of Thorne Riddell on site, after February 15, he had ultimate control of the business. The existing management was kept on in order to provide expertise in the metal and structural steel business, but Thorne Riddell had oversight of receipts, disbursements and assets. Mr. Vallis and Mr. Dwyer worked side-by-side to streamline operations with hopes of salvaging the business for the benefit of its creditors, in particular, the bank, with protection of its interests the primary goal of Thorne Riddell and Mr. Vallis.

In addition to the bank, there were a number of other creditors, including suppliers. The government of Newfoundland, and Revenue Canada for unremitted source deductions, were preferred creditors. According to the testimony at the hearing, both the bank and the company were concerned that in early 1985 any of the creditors could petition the company into bankruptcy. It was the bank's intention that the company be operated so as to protect the outstanding debt to the bank and maximise its recovery. Substantial efforts were made by Mr. Vallis and by Mr. Dwyer to discuss with creditors possible arrangements for the company to work out its financial difficulties. A proposal was then made to the unsecured creditors in accord with the Bankruptcy Act as it then applied. Those creditors approved, and with no objection by the bank as a secured creditor or by the preferred creditors, i.e. National Revenue and the Government of Newfoundland, the proposal was approved by the Newfoundland Supreme Court on August 6, 1985.

Before that proposal was put to the creditors, Revenue Canada agreed that the debt from before February 14, 1985 would be paid in installments according to the terms of two promissory notes, both dated August 5, 1985, each of which is entitled "Non Interest Bearing Promissory Note". The first note, labelled exhibit P-9 at the hearing, includes the company's promise to pay the sum of $81,764.78 in equal monthly instalments of $2,271.25, beginning with payment on July 1, 1987. The second note, exhibit P-10, promises payment of a similar sum of $81,764.78, on demand on or after July 1, 1988. That second note was appended to a detailed agreement which provided that in case of bankruptcy, Revenue Canada would rely on its status as a preferred creditor to recover the amounts owing. It must be remembered that the promissory notes to Revenue Canada related only to the amounts owing from before February 14, 1985. For the period after that date, Revenue Canada expected the monthly payments for source deductions to be paid on time and in full. This did not always prove to be the case.

The company met its obligations to unsecured creditors under the 1985 proposal, but it continued to experience financial difficulties. Moreover, the company had experienced difficult labour problems, which came to a head with a strike of the employees in June of 1987. Management tried to carry on by operating the business themselves and then by hiring replacement workers. During this period, the company experienced more difficulties. In late 1987 it was not awarded an important contract at Memorial University, and the financial pressures on the company increased. After the strike began, the company did not keep up to date in payment of current remittances to Revenue Canada and for a time the payments on the first promissory note were also in arrears.

At the end of September, 1987 Revenue Canada and the company entered into an agreement to deal with the remittances due, but not paid since the strike began. As was then agreed, within one month the company brought its accounts up to date for the current arrears and for amounts due and payable in respect of the first promissory note. Remittances for the period of September 1987 through December of that year were paid, but it was later discovered in an audit conducted by Revenue Canada in March 1988, that there was a shortfall for the taxation year of 1987 in the amount of $38,132.36, ultimately traced to the month of October 1987.

Early in 1988, with the strike lingering on and the company's prospects not improving, the bank acted under its security instrument and appointed a receiver-manager on February 5, 1988. At that time, the receiver-manager assumed full control of the company and the directors no longer had any control.

More than eighteen months after the bankruptcy, the plaintiffs received a notice of assessment dated November 21, 1989, on the ground that the directors were jointly and severally liable with the company for source deductions from the employees' payroll prior to the bankruptcy of the company, which had not been remitted to Revenue Canada. The plaintiffs objected to the assessment.

Following confirmation of the assessment, the plaintiffs appealed and a trial was held before Mr. Justice Rip of the Tax Court in April 1995. On the first day of the hearing, counsel for the Minister informed the plaintiffs and the Court that the amount owing by the directors under the assessment was to be reduced on two grounds. The first reduction represented the amount of source deductions not remitted for January 1988 ($36,432.54), an amount not payable until February 15, 1988, after the receiver-manager had been appointed. The second reduction reflects two amounts paid to Revenue Canada by the receiver-manager or by the trustee in bankruptcy, on behalf of the company. These two amounts were $43,887.03 and $40,336.57 respectively.

Justice Rip of the Tax Court allowed the appeals of the plaintiffs but only insofar as the receiver-manager and the trustee in bankruptcy had made payments, on the amounts claimed as outstanding, after the assessment had issued. Thus the plaintiffs remained liable for the unremitted source deductions not then paid. The matter was remitted to the minister for reassessment. Further notices of reassessment were then issued on September 25, 1995, and the taxes and penalties then assessed, amounting to $108,121.52, were paid as required under the Act. The plaintiffs then appealed that assessment, and insofar as it may reflect the judgment of Rip T.C.J. the appeal is from his judgment. The appeal is by trial de novo.

Analysis

Liability of the former directors for unremitted source deductions

Under subsection 227.1(1) of the Act directors of companies are liable for unremitted source deductions from wages or salaries of employees of a company in the following terms:

227.1(1) Where a corporation has failed to deduct or withhold an amount as required by subsection 135(3) or section 153 or 215, has failed to remit such an amount or has failed to pay an amount of tax for a taxation year as required under Part VII or VIII, the directors of the corporation at the time the corporation was required to deduct, withhold, remit or pay the amount are jointly and severally liable, together with the corporation, to pay that amount and any interest or penalties relating thereto.

227.1(1) Lorsqu'une société a omis de déduire ou de retenir une somme, tel que prévu au paragraphe 135(3) ou à l'article 153 ou 215, ou a omis de remettre cette somme ou a omis de payer un montant d'impôt en vertu de la partie VII ou VIII pour une année d'imposition, les administrateurs de la société, au moment où celle-ci était tenue de déduire, de retenir, de verser ou de payer la somme, sont solidairement responsables, avec la société, du paiement de cette somme, y compris les intérêts et les pénalités s'y rapportant.

Subsection (3) contains a defence available to directors who would otherwise be liable under subsection (1), in the following terms:

(3) A director is not liable for a failure under subsection (1) where the director exercised the degree of care, diligence and skill to prevent the failure that a reasonably prudent person would have exercised in comparable circumstances.

(3) Un administrateur n'est pas responsable de l'omission visée au paragraphe (1) lorsqu'il a agi avec le degré de soin, de diligence ou d'habileté pour prévenir le manquement qu'une personne raisonnablement prudente aurait exercé dans des circonstances comparables.

Between the parties there was no agreement about the amounts owing by the company to Revenue Canada, but there is no debate that some source deductions, required to be made from employees' wages were not remitted. The amounts claimed by the defendant span the critical last years of the company. The first phase is the period before February 15, 1985 when the company was placed in soft receivership by the bank. Within that period, up to January 14, 1985 the company operated freely, under direction of its directors, including the plaintiffs. From January 14 to February 14, the company continued operating under direction of its own directors, with Mr. Vallis of Thorne Riddell on site conducting a "look see" at the company's operations in order to report to the bank. From February 15 to August 5, 1985 the company operated with Vallis on site exercising substantial control of the company's affairs but with assistance of the directors. From August 5, 1985 to February 5, 1988 the company was operated exclusively by its directors, but after the latter date the directors' responsibility was assumed by the receiver-manager named by the bank.

For their part, the directors argue that they should not be held liable for unremitted source deductions for essentially three reasons. First, they argue that they exercised the degree of skill, care and diligence anticipated in subsection 227.1(3) of the Act to absolve them of any liability. Second, they argue that during the appointment of the "soft receiver", they were no longer in control of the company in the manner usually exercised by directors, and following the appointment of the receiver-manager in February 1988 the directors no longer had capacity to manage the company, pursuant to section 161 of the Newfoundland Corporations Act.² They urge that they cannot be held responsible for any payments due after that date. Third, it is urged that an amount, discovered by audit in March 1988, to have been unremitted for October 1987, and the amounts outstanding on the promissory notes payable to Revenue Canada, were amounts only payable after February 5, 1988 when the receiver-manger was appointed, and thereafter the directors were not responsible for the operations.

The Effect of the Soft Receivership on the Liability of the Plaintiffs for Unremitted Source Deductions

Based on the evidence presented before me, I am persuaded that the appointment of Thorne Riddell as a "soft receiver" from February 15 to August 5, 1985 absolves the plaintiffs of liability for any failure to remit source deductions required to be remitted in that period. It was the testimony of Mr. Vallis that acting as the soft receiver he had ultimate control over the cheque books of the company and that the bank had the final say over which cheques and payments made by the company would be honoured. The directors were not ousted or stripped of all their duties to the company, indeed Mr. Vallis testified that the directors were kept on in order to keep the company as a going concern. Their expertise was essential to keeping and maintaining the company's customers, for continuing its operations and for developing, and persuading creditors to accept, the proposal which permitted the company to continue in 1985. There was no evidence about segmenting the management responsibilities. The directors were not restricted to only working on business development plans and supervising the fulfilment of contract obligations, they continued to be involved in the financial operations of the company. When negotiations were entered into with Revenue Canada, the directors were present. Mr. Dwyer's testimony was that the directors retained signing authority for cheques, even though they had to be cleared or countersigned by Thorne Riddell before they were issued.

While the directors continued to be actively involved in the company's operations the terms of the "soft receivership" made it quite clear, in my opinion, that ultimate responsibility in all key financial decisions was Thorne Riddell's, acting to protect the interests of the bank, not of the company or its shareholders or other creditors, even if the plan to permit the company to work out of its financial difficulties with support from other creditors also served their interests. By its letter of February 15, 1985 to Easteel, Thorne Riddell Inc. stipulated, inter alia , that it would pick up and open all mail addressed to Easteel and deposit all cheques received, it would give prior approval to all correspondence addressed to debtors, it would consider with management the sale, to be undertaken only with approval of Thorne Riddell Inc., of any excess inventory or excess equipment, and purchase orders for any further inventory required its prior approval, as would the granting of any credit to new customers, all purchase orders, all cheques and payments of accounts payable or for services to be purchased on a cash basis; and all changes in employee complement or in corporate operations, e.g. in marketing or production, required prior approval of Thorne Riddell Inc.

In the absence of direct evidence on the point, I infer that the period of "soft receivership" extended to August 6, 1985 when the company's proposal to creditors was approved by the Newfoundland Supreme Court. Thereafter, while the proposal provided that Touche Ross would serve as trustee for creditors, the duties of the trustee were different from those of Thorne Riddell Inc. from February 15 to August 6, 1985, the duties were no longer owed exclusively to the bank, and they did not provide for involvement of the trustee in the day to day operations of the company, as I understand the arrangements under the Court approved proposal.

During the period of the soft receivership, it was Mr. Vallis' testimony that Thorne Riddell was allowing payroll remittances. It is clear that any cheques for debts owing from the period before February 15, 1985 were not being allowed. These debts were the basis for and the principal subject of the proposal accepted by creditors in August 1985. The amounts owing to Revenue Canada for the period before February15, 1985 were the subject of the two promissory notes executed by the company in favour of Revenue Canada in August 1985. Those notes related to all amounts outstanding as unremitted source deductions owed as at June 30, 1985, as the plaintiffs set out by statement of claim, which is not denied. Insofar as those notes reflected unpaid source deductions for January 1985, which were not required to be remitted until on or after February 15, 1985, or for the months of February to June 1985, the plaintiffs are not liable as directors since, in my opinion, in that period they did not fully and freely exercise the authority for the company's operations.

On the evidence, I conclude that in the period of the soft receivership, from February 15, 1985 to August 6, 1985, the directors did not have the freedom to manage the company that was essential for their liability under subsection 227.1(1) for any source deductions that were unremitted during this period. As Mr. Justice Addy said in Robitaille v. The Queen,³ "The exercise of freedom of choice on the part of the director is essential in order to establish personal liability."

The Receiver-Manager, 1988, and the Plaintiffs' Liability

As for the situation following the appointment of the receiver-manager on February 5, 1988, I conclude that the plaintiffs, as directors of the company, cannot be held liable for any amounts reflecting source deductions required to be made from the payroll of employees and not required to be remitted to Revenue Canada until after February 5, 1988. For example, deductions from pay for January 1987 were required to be remitted by February 15, 1987 and they were not remitted before the directors were effectively replaced on February 5 by the appointment of a receiver-manager. The plaintiffs cannot be liable under s-s. 227(1) for the January deductions not remitted. Under the Corporations Act⁴ of Newfoundland, a director means "...a person occupying in a body corporate the position of director by whatever name that person is called...", and s. 161 provides that:

Where a receiver-manager is appointed by a court or under an instrument, the powers of the directors of the corporation that the receiver-manager is authorized to exercise may not be exercised by the directors until the receiver-manager is discharged.

In this case the directors exercised no authority within the company after the appointment of the receiver-manager on February 5, 1988. Upon arrival at Easteel's premises of the newly appointed receiver-manager on that day, Mr. Dwyer turned over his keys to the premises. He left the company's operations, as did the other directors, to the receiver-manager. In March 1988 the company was petitioned into bankruptcy.

In my opinion, the plaintiffs are not liable as directors pursuant to s-s. 227.1(1) of the Act for source deductions payable but not remitted, during the period February 15 to August 5, 1985, or until after February 5, 1988. At all other times, prior to January 14, 1985, from that day until February 14 while Thorne Riddell's review of the company's operations, undertaken for the bank, was underway, and after the proposal was accepted by creditors, and approved by the Newfoundland Court on August 6, 1985, until February 5, 1988 the directors had full responsibility for Easteel's operations, and subject to consideration of the plaintiffs' arguments, as directors they were liable under s-s. 227.1(1) for unremitted source deductions.

The defence of due diligence

For much of the time relevant to the claims of the defendant for assessed taxes as directors of Easteel, the plaintiffs were active, inside directors with sufficient freedom to manage the company's affairs that they would be jointly liable with the company under s-s. 227.1(1) of the Act, unless they be found to have exercised due diligence to avoid the failure to remit source deductions.

The leading case on the defence of "due diligence" to liability under section 227.1 is Soper v. The Queen⁵, decided by the Federal Court of Appeal. In this case, Mr. Justice Robertson sets out an "objective-subjective" test for the standard of care required by directors:

This is a convenient place to summarize my findings in respect of subsection 227.1(3) of the Income Tax Act. The standard of care laid down in subsection 227.1(3) of the Act is inherently flexible. Rather than treating directors as a homogeneous group of professionals whose conduct is governed by a single, unchanging standard, that provision embraces a subjective element which takes into account the personal knowledge and background of the director, as well as his or her corporate circumstances in the form of, inter alia, the company's organization, resources, customs and conduct. Thus, for example, more is expected of individuals with superior qualifications (e.g. experienced business-persons).

The standard of care set out in subsection 227.1(3) of the Act is, therefore, not purely objective. Nor is it purely subjective. It is not enough for a director to say he or she did his or her best, for that is an invocation of the purely subjective standard. Equally clear is that honesty is not enough. However, the standard is not a professional one. Nor is it the negligence law standard that governs these cases. Rather, the Act contains both objective elements -- embodied in the reasonable person language -- and subjective elements -- inherent in individual considerations like 'skill' and the idea of 'comparable circumstances'. Accordingly, the standard can be properly described as 'objective subjective'.

The subjective portion of the standard of care takes into account the unique qualifications of the individual directors. This means that more is expected of those who have superior qualifications, experience or expertise. The case also contained a discussion of the impact of whether or not the director is an "inside director" or an "outside director". The former is a director who has involvement in the day-to-day operations of the business and the latter is a director who is not so involved.

I am not persuaded by the evidence that the directors of the company exercised the "degree of care, diligence and skill to prevent the failure that a reasonably prudent person would have exercised in comparable circumstances". There are a number of reasons for reaching this conclusion, mainly based on the testimony of Mr. Dwyer at the hearing. The plaintiffs all were inside directors. Mr. Dwyer, the president and managing director, is a lawyer, and he admitted familiarity with the rules regarding remitting source deductions, and for liability if deductions were not forwarded. He was an experienced business person, as were the other plaintiffs. These factors increase the standard of what is required of them under the Act .

A major factor in this case is that the directors did not take sufficient affirmative measures to ensure that the current remittances were paid on time and in full. When the cheque dated January 15, 1985 was not honoured by the bank, the directors were already aware of the financial difficulties of Easteel. That incident, and the debt owing after mid-January 1985 to Revenue Canada, should have prompted the directors to ensure a more rigorous arrangement to avoid any further failure to remit deductions. Mr. Dwyer in his testimony reported that he relied upon employees of the company to ensure that the proper amounts were remitted in full and on time. In normal circumstances, where remittances have been properly made, that might be sufficient. Yet, particularly in a situation where cash flow is obviously precarious and where directors are involved in the daily struggle of keeping the company afloat, a director cannot absolve him or herself of responsibility by saying that remittances were someone else's responsibility and that he simply relied on others to do the accounting.

The directors apparently kept the defendant informed of the circumstances of the business throughout this time, but this does not mean that they were diligent about remittances of source deductions. While Revenue Canada was brought onside in support of the proposal for creditors, and agreed to defer payments to it in accord with the promissory notes, the company did not consistently meet its commitment of submitting current remittances in full and on time. Often, it appears, Revenue Canada had to call to remind the company that a remittance was due. Regular contact with Revenue Canada and repeated assurances that current remittances would be made in full and on time should have resulted in timely remittances. Yet, particularly after the strike began in June 1987, monthly remittances, and payments under the first promissory note fell behind. I conclude that the directors did not perform their duties with the degree of care, diligence and skill required for a defence against liability under s-s. 227.1(3) of the Act. Therefore, the plaintiffs are jointly and severally liable, together with the company, for unremitted source deductions which were required to be remitted while they were directors of the company acting with the measure of freedom that entailed responsibility for the company's operations, that is, for the period up to February 14, 1985 and for the period from August 6, 1985 to February 5, 1988.

I turn to specific amounts, apparently once included in the series of assessments of tax liability of the plaintiffs for unremitted source deductions. First, there are two items apparently excluded from the claim by counsel for the defendant when this matter was before the Tax Court, or excluded by direction of Rip T.C.J. As he held, the liability of the directors should reflect, and should be reduced by, any payments made by the receiver-manager or the trustee to the defendant in respect of source deductions that were previously not remitted by the Company. These payments, in amounts of $43,887.03 and $40,336.57, were made on behalf of the company. It is clear from the Act that directors are only responsible for source deductions required, that are not paid as required or thereafter by or on behalf of the company to Revenue Canada. Further, as earlier noted, the plaintiffs are not liable as directors for any amount of source deductions not remitted for January 1988, said to be an amount including penalties and interest, of $36,432.54, which was payable only after the receiver-manager assumed full responsibility for Easteel's operations. I mention these amounts because it is not clear that they were excluded by the Minister in the reassessment of September 25, 1995. If they were not so excluded, they should be.

Two other amounts, thought by plaintiffs to be included within the reassessment of September 25, 1995, it is urged by them, should be omitted from any assessment. The first is an amount, shown as $35,530.70 in Schedule I, and as $17,822.35 in Schedule II to the Statement of Defence, and as $17,822.35 in Exhibit "A" provided by the Minister with the reassessment of September 25, 1995. Most of the amount in issue resulted from an audit by Revenue Canada in March 1988, after the appointment of the receiver-manager. It is urged that since the amount due was only discovered by audit after the directors were replaced by the receiver-manager in February 1988, the directors were not liable for payment of this amount.

The second amount is the total of outstanding payments under the two promissory notes, as at February 4, 1988 the day before the receiver-manager was appointed. Those outstanding amounts, the plaintiffs urge, were not due under the notes until after they ceased to have responsibility as directors. It is the plaintiffs' position that Revenue Canada entered into the arrangements for the promissory notes as part of a commercial arrangement, fully apprised of the financial difficulties of the company, and that it agreed to defer the company's liability for unremitted source deductions and to accept payments as provided by the promissory notes.

However the law ordinarily applicable to the relations between creditor and debtor may relate to these two claims, that is, in relation to the shortfall in remittance for October 1987 identified by the March 1988 audit, and in relation to amounts outstanding under the promissory notes, the liability of the plaintiffs to the defendant for source deductions not remitted in a timely manner arises under s-s. 227.1(1) of the Act. To repeat that provision in part, it is:

227.1(1) Where a corporation has failed to deduct or withhold an amount as required by ... section 153 ..., has failed to remit such an amount ..., the directors of the corporation at the time the corporation was required to ... remit or pay the amount are jointly and severally liable, together with the corporation, to pay that amount and any interest or penalties relating thereto.

227.1(1) Lorsqu'une société a omis de déduire ou de retenir une somme, tel que prévu ... à l'article 153 ..., ou a omis de remettre cette somme ou a omis de payer un montant ... les administrateurs de la société, au moment où celle-ci était tenue ... de verser ou de payer la somme, sont solidairement responsables, avec la société, du paiement de cette somme, y compris les intérêts et les pénalités s'y rapportant.

In my opinion, the statute makes clear that the liability of the directors arises at the time the corporation failed to remit the source deductions, as required under s. 153 of the Act. Thus, liability in relation to amounts not remitted prior to February 14, 1985, which were not subsequently paid, payment of which was deferred under the two promissory notes, continued from the dates the corporation failed to remit the amounts required. The effect of the agreement and payments under the promissory notes was to postpone demand for payment by Revenue Canada in accord with the terms of the agreement between Easteel and Revenue Canada. Those terms included provisions that the second note, the demand note, for more than $81,000 "will not be called until July 1, 1988 except in the event of this Company's bankruptcy"; that if payments were not made as required, the "Demand Note will be called and all amounts owing will be immediately due and payable", and that if the company were adjudged bankrupt "Revenue Canada will file a proof of claim in the usual manner and will be relying on its status as a preferred creditor". The promissory notes did not constitute a transaction separate from the liability of the plaintiffs under the Act and there was no agreement to waive or vary the claim of Revenue Canada to tax assessed under s-s. 227(1) of the Act.

The statute similarly applies to the claim of the defendant insofar as it includes an amount not remitted by Easteel for source deductions required in October 1987, which is said to have been identified by the department's audit in March 1988. The liability of the directors arose when Easteel failed to remit the appropriate amount for source deductions for October 1987, presumably by November 15, 1987 when the directors were fully responsible for the company's operations. Identification of the shortfall in the remittance for October 1987, by the March 1988 audit, has no bearing on the plaintiffs' liability for the amount not remitted for October 1987, under s-s. 227.1(1) of the Act.

Effect of the Notice to Admit documents

A preliminary procedural issue arose in the course of the hearing. It was dealt with summarily then, but counsel urged that it be considered in my written reasons. The background is that counsel for the plaintiffs served a Notice to Admit documents on the defendant, pursuant to Rules 255 and 256 of the Federal Court Rules, 1998⁶. The relevant Rules provide:

255. A party may, after pleadings have been closed, request that another party admit a fact or the authenticity of a document by serving a request to admit, in Form 255, on that party.	255. Une partie peut, après clôture des actes de procédure, demander à une autre partie de reconnaître la véracité d'un fait ou l'authenticité d'un document en lui signifiant une demande à cet effet selon la formule 255.
256. A party who is served with a request to admit is deemed to admit a fact or the authenticity of a document set out in the request to admit unless that party serves a response to the request in Form 256 within 20 days after its service and denies the admission, setting out the grounds for the denial.	256. La partie qui reçoit signification d'une demande de reconnaissance est réputée reconnaître la véracité du fait ou l'authenticité du document qui en fait l'objet, sauf si elle signifie une dénégation établie selon la formule 256, avec motifs à l'appui, dans les 20 jours suivant la signification.

In this case, the Notice to Admit, in Form 255, was served so that the twenty day period set out in Rule 256 expired after the first day of the hearing without the defendant having denied the admission. Counsel for the plaintiffs then gave notice to the Court at the close of the plaintiffs' evidence that he intended to use in oral argument, documents provided to the plaintiffs by Revenue Canada that were listed in the plaintiffs' Notice to Admit. Counsel urged that:

The Notice to Admit expired as of the close of business yesterday, there was no response so as of today those documents are authenticated and the facts contained therein are admitted.

Counsel for the defendant objected, particularly to the contention that the facts contained in the documents are deemed to be admitted by the expiration of the notice period. He also objected that a Notice to Admit that expires in the midst of a hearing is not a proper Notice to Admit. In the course of argument on the issue, counsel for the defendant did state to the Court that the documents were authentic, but did not make any representations regarding the facts contained in them other than they ought not to be deemed to be admitted.

While the Rules are silent on the point, in fairness a Notice to Admit should be served more than twenty days in advance of a hearing, if at all possible. If this is not done, the notice does not raise an issue of trial by surprise, since the notice directs attention to the facts or the documents to which it relates. In this case the hearing was two days. Only on the second day, after the notice had expired, did the plaintiffs seek to rely on the documents as authentic, and facts in some of them as admitted, since the defendant had not objected after receiving the notice.

When something is deemed admitted by operation of the Rules, in the ordinary course that should be settled before the beginning of the hearing. Yet the Rules are designed to dispense with the sometimes onerous and inefficient requirement in the law of evidence that, in trials, each document be authenticated by testimony unless it is admitted by agreement, or pursuant to Rules 255 and 256. I would not foreclose the possibility of a deemed admission under the Rules in a case where a Notice to Admit does not expire before commencement of trial. In that event the presiding judge, in light of Rule 3,⁷ should exercise his or her discretion to deal with situations not specifically provided for under Rules 255 and 256. Perhaps the most significant factor to be considered is whether the party who has not responded to the notice is prejudiced by the deemed admission under the Rules. Here the documents in question were provided to the plaintiffs by the defendant, their authenticity was admitted at the hearing, and no prejudice would result to the defendant if the documents as described in the Notice to Admit, were to be admitted. On that basis I determined at the hearing that effect should be given in this case to the plaintiffs' notice, to which no response was made, pursuant to Rule 256.

Rules 255 and 256 in the 1998 Rules are functionally similar to the former Rule 468 and to Rules 146 and 147 of the General Rules and Orders of the Exchequer Court. Noël J., then of the Exchequer Court, discussed that Court's Rules in Hazeldean Farm Company Limited v. Minister of National Revenue,⁸ in the following terms:

When a document has been admitted pursuant to a notice under Rule 146, the party may tender the document as having been so admitted. Documents, plans or schedules related to the facts the other party is called upon to admit and mentioned therein or mentioned in the qualifications to the facts admitted which counsel requesting the admissions of facts is also prepared to accept, should also be tendered as admitted. In such a case, the document should not be proven by a witness as such proof unnecessarily increases the costs.

It appears that a primary purpose behind the Rules in question is to save both the Court and litigants the time and expense involved in proving the authenticity of documents or in proving facts. In a document-intensive action, where numerous documents are offered as evidence, authored by a large number of people, the cost of proving individual documents could be significant if there is no agreement to admit their authenticity. That is reflected in the current Rule 400(3)(j), where the Court may consider "the failure of a party to admit anything that should have been admitted" in calculating an award of costs.

In this case the plaintiffs seek to rely upon two documents produced to them by Revenue Canada, and upon facts in those that are said by the plaintiffs to constitute admissions against interest. The first is a statement contained in a report prepared in the department concerning the plaintiffs' objection to assessments, which statement notes that "for the months of October, November and December of 1987 remittances were made on time together with the $2,271.25 remittance on the promissory notes. A subsequent payroll audit established that only a portion of October 1987 remittance was remitted...." That statement, it is urged, supports the facts as alleged by the plaintiffs in their statements of claim, and confirms that any failure to remit source deductions for October to December 1987 was discovered and traced to October 1987 only by audit after the receiver-manager was appointed.

The second admission against interest relied upon by the plaintiffs appears in another document, a report by James Noseworthy Limited to the first meeting of creditors of Easteel Industries (1984) Limited in 1988, which refers to the company filing a proposal pursuant to the Bankruptcy Act on May 17, 1985, the terms of which were subsequently met, to permit the company to continue and avoid bankruptcy at that time. Implicitly, that statement supports the plaintiffs' contention that in March 1988, when the bank filed a petition for a receiving order, leading to the bankruptcy of Easteel, that was not as a result of failure of the 1985 proposal, the terms of which were met by the company, at least for the unsecured creditors concerned.

A document that is admitted to be authentic may be considered by the Court as long as there are no other evidentiary objections to the document or to its contents. Weight and relevance are to be determined by the Court relying on general evidentiary principles. In this case, the two documents of concern to the plaintiffs, both included in their Notice to Admit, were admitted, as were the facts contained in those documents, that were urged by the plaintiffs to be admissions against interest. In my view there is no prejudice to the defendant by the admission of those documents, the authenticity of which was admitted, or of the facts said to be admissions against interest.

Conclusion

It is my conclusion that at the times the plaintiffs were responsible as directors for the operations of Easteel they did not exercise the care, diligence and skill to prevent the failure to remit source deductions that a reasonably prudent person would have exercised in comparable circumstances, and thus the requirements for a defence under s-s. 227.1(3) are not here met. They are liable, joint and severally, with the company, to Revenue Canada for unremitted source deductions required to be remitted prior to February 15, 1985 and in the period of August 6, 1985 to February 5, 1988. I find that the plaintiffs, as former directors do not have any liability for source deductions not remitted in the period February 15, 1985 to August 5, 1985, or thereafter for any deduction not required to be remitted until after February 5, 1988. After the latter date, the plaintiffs were not responsible as directors for operations of Easteel and I have found they did not have freedom as directors that resulted in responsibility for the company's operations in the earlier period, from February 15 to August 15, 1985.

In my opinion, the promissory notes provided by the company to the defendant, and the agreement relating to them, did not eliminate the directors' liability for the amounts unpaid in accord with those notes. That liability arose in accord with s-s. 227.1(1) before February 14, 1985, when Easteel failed to remit required source deductions as required by s. 153. It is urged for the plaintiffs that liability is not important where it is agreed to postpone payment, as was here done in accord with the promissory notes. But the liability arising under s. 227.1 continued despite the promissory notes. The fact that outstanding amounts not paid on the notes were due after the appointment of the receiver-manager does not exempt the directors from liability for those amounts, less any subsequent payments by the receiver or the trustee in bankruptcy on account of outstanding amounts.

Because argument in this case concerned liability for specific amounts which are not readily traced in the record or the evidence submitted at trial, I allow the plaintiffs' actions and refer the reassessment back to the Minister of National Revenue to reconsider, and to reassess the plaintiffs' liability for tax, or to confirm the reassessment of September 25, 1995 if that is appropriate, for amounts required to be, but not, remitted by Easteel as source deductions under s. 153 before February 14, 1985, and in the period from August 6, 1985 to February 5, 1988 less any payments made in relation to the promissory note that provided for monthly payments commencing July 1, 1987, and less any amounts paid after February 5, 1988, by the receiver-manager or the trustee in bankruptcy in relation to the amounts outstanding at the latter date for source deductions unremitted.

With respect to particular amounts referred to in evidence and argument, in my opinion,

a) the assessment of the plaintiffs for liability pursuant to s-s. 227.1(1) should include

i) amounts required to be remitted, as source deductions, and required to be paid prior to February 15, 1985, together with assessed penalties and interest, payment of which was deferred in accord with the two promissory notes of August 5, 1985 less any amounts paid in accord with the terms of the promissory note which provided for payment of monthly installments from July 1, 1987; and

ii) any amount required to be remitted as source deductions, but not remitted, in the period from August 6, 1985 to February 5, 1988, including any amount required to be remitted but not remitted for October 1987 which was identified by Revenue Canada by audit in March 1988.

b) The assessment of the plaintiffs should not include any amount required to be remitted by the company for January 1985, which was not payable before February 15, 1985, or any amount required to be remitted, but not remitted, in the period of February 15 to August 5, 1985, or, finally, any amount paid by the receiver-manager or the trustee in bankruptcy of the company after February 5, 1988, in respect of the company's indebtedness at February 5, 1988 for unremitted source deductions.

Since it is not possible to determine from the evidence as presented or from argument what amounts for unremitted source deductions payable within the time periods when the plaintiffs as directors were responsible for the company's operations, as indicated, I allow the plaintiffs' actions and refer the matter back for reassessment by the Minister of National Revenue. Any reassessment, or confirmation of the reassessment of September 25, 1995 should be accompanied by an explanation of its grounds with relation to the periods when the plaintiffs were fully responsible, as directors, for operation of the company.

In the circumstances, Judgments go, with costs to the plaintiffs on the usual party and party basis. Even if the reassessment of September 25, 1995 should be confirmed, and properly explained, in my view the plaintiffs should have their costs of this proceeding, for without appropriate explanation relating to the plaintiffs' expressed concerns, this appeal was inevitable, if only to have appropriate explanation of the amount claimed under the reassessment.

A separate Judgment is filed on each of Court files T-492-96, T-493-96 and T-494-96, in respect of each of the plaintiffs, and a copy of these Reasons is directed to be filed on each of those files.

(signed) W. Andrew MacKay

JUDGE

OTTAWA, Ontario

March 31, 2000

__________________

¹      Edison v. Canada (Minister of National Revenue), [1995] 2 C.T.C. 2470, [1995] T.C.J. No. 667 (T.C.C.).

^{2 1}      R.S.C. 1952, c. 148 as amended.

^{3 2}      S.N. 1986, c. 12.

^{4 3}      (1990), 90 D.T.C. 6059 at 6063 (F.C.T.D.).

^{5 4}      S.N. 1986, c. 12.

^{6 5}      (1997), 97 D.T.C. 5407 (F.C.A.)

^{7 6}      SOR/98-106.

^{8 7}      Rule 3 provides guidance on the interpretation of the Federal Court Rules, 1998:

3. These Rules shall be interpreted and applied so as to secure the just, most expeditious and least expensive determination of every proceeding on its merits.

3. Les présentes règles sont interprétées et appliquées de façon à permettre d'apporter une solution au litige qui soit juste et la plus expéditive et économique possible.

⁹      (1966), 66 D.T.C. 5397 (Ex.Ct.).