The Estate of Earl Edwards v. The Minister of National Revenue, [1995] 1 CTC 2373

Kempo J.T.C.C. (orally):-This appeal concerns an assessment dated October 19, 1988, which was raised by the Minister of National Revenue pursuant to the director’s liability provisions of the Income Tax Act, R.S.C. 1952, c. 148 (am. S.C. 1970-71-72, c. 63) (the "Act").

The notice of appeal was dated August 7, 1990, the pertinent provisions thereof being paragraphs 1-3 inclusive on the first page and paragraphs 1-3 inclusive on the second page. These six paragraphs read as follows:

1. The appellant, at all material times herein was an officer and director of M L Metal Products Ltd ("M L Metals") and was involved as an employee in its daily operation. M L Metals began experiencing financial difficulties which eventually led to an assignment in bankruptcy in May, 1988. As the appellant became aware of certain liabilities steps were taken to ensure payment was made which often involved advancement of the appellant’s personal funds as evidenced by the $32,897 liability owed by M L Metals to the appellant at the date of bankruptcy.

2. M L Metals employed up to 12 people during the period of assessment and the appellant made every effort to preserve these jobs even to his own personal financial disadvantage. On several occasions the appellant made direct payments to Revenue Canada with personal funds to ensure the continued operation of the business.

3. At the time of the assignment into bankruptcy there remained certain amounts outstanding relating to interest and penalties for late payment of employee deductions. The trustee in bankruptcy then advised the appellant that there would be insufficient funds in the estate to satisfy the claims of Revenue Canada.

1. The appellant acted responsibly and exercised due diligence to prevent the financial deterioration of M L Metals and to ensure payment of employee deductions of the company which were eventually paid in full. The appellant advanced personal funds to M L Metals to be used to meet its obligations resulting in considerable personal expense. The appellant made direct payments to Revenue Canada with personal funds to ensure compliance of M L Metals with employee withholding and remittance requirements.

2. As a director of M L Metals the appellant did all that could be reasonably expected of him to ensure the remittance of source deductions.

3. Pursuant to subsection 227.1.(3) of the Income Tax Act the appellant director exercised the degree of care, diligence and skill to ensure payment that a reasonably prudent person would have exercised in comparable circumstances and therefore should not be held personally responsible under subsection 227.1(1) of the Act for late fees and penalties for overdue remittances required by section 153 of the Act.

The respondent’s reply to the notice of appeal, paragraphs 2-6 read as follows:

2. The respondent admits the facts alleged in the first sentence of paragraph 1 and the first sentence of paragraph 3 and paragraph 4 under the heading, "statement of facts".

3. In assessing the appellant in the amount of $9,415.23, the respondent proceeded, inter alia, upon the following assumptions and findings of fact:

(a) at all material times, the appellant was a director and the Secretary- Treasurer of ML Metals Products Ltd.;

(b) ML Metals Products Ltd was required to remit to the Receiver General of Canada amounts on account of employees’ income tax withheld under subsection 153(1) of the Income Tax Act, income tax withheld pursuant to the Income Tax Act (Ontario), Unemployment Insurance premiums under the Unemployment Insurance Act and Canada Pension Plan contributions under the Canada Pension Plan;

(c) ML Metals Products Ltd. failed to remit the federal tax to which reference is made in paragraph (b) herein to the Receiver General of Canada on or before the 15th of the month following the month to which the source deductions related, contrary to section 108 of the Income Tax Regulations for the months of February, March, July, September and December of 1986, and January, May, June and July of 1987;

(d) over a period of time the principal portion of the remittances described in subparagraph (c) were finally made to the Receiver General of Canada; however interest and penalties in the amount of $9,742.57 relating to these remittances was outstanding as at September 26, 1988;

(e) on May 10, 1988, ML Metals Products Ltd. made an assignment in bankruptcy;

(f) the Receiver General filed a proof of claim with the trustee of the estate of ML Metals Products Ltd. In bankruptcy on May 20, 1988;

(g) as at October 19, 1988 neither ML Metal Products Ltd. nor anyone on its behalf had remitted any amount on account of outstanding interest and penalties relating to the source deductions to which reference is made paragraph 4(b) herein;

(h) as at October 19, 1988 the amount of outstanding interest and penalties relating to source deductions relating to federal income tax was $6,344.36;

(i) the appellant did not exercise the degree of care, diligence and skill that a reasonably prudent person would have exercised in comparable circumstances to prevent the failure of ML Metal Products Ltd. to remit the employee source deductions as well as Canada Pension Plan contributions and Unemployment Insurance premiums to which reference is made herein.

4. The respondent relies, inter alia, upon sections 153 and 227.1 and subsections 227(5), 227(9) and 227(10) of the Income Tax Act, and upon sections 108 and 4300 of the Income Tax Regulations C.R.C. 1978, c.945 ("Regulations").

5. The respondent submits that the appellant has been properly assessed pursuant to subsection 227(10) of the Act as he was a director of ML Metal Products Ltd. at the time that the corporation was required to remit the source deductions described in subparagraph 3(c), above, which it had deducted in accordance with subsection 153(1) of the Act, but had failed to remit to the Receiver General of Canada in a timely fashion contrary to subsection 153(1) of the Act and section 108 of the Regulations. The appellant is, accordingly, jointly and severally liable to pay the sum of $6,344.36 on account of outstanding penalties and interest relating to the federal tax portion of the late remittances described in subparagraph 3(c), above.

6. The respondent submits further that the appellant did not exercise the degree of care, diligence and skill that a reasonably prudent person would have exercised in comparable circumstances to prevent the failure of ML Metal Products Ltd. to remit the employee source deductions.

The appellant died testate on February 6, 1992. According to the appellant’s accountant representative, the estate’s debts exceeded its assets and the sole executor and beneficiary under the. appellant’s will gave him written authority to act on behalf of the estate respecting this appeal. The written authority and photocopy of the will have been filed with the court and the style of cause was ordered to be amended to substitute the named appellant to read "The estate of Earl Edwards, deceased" in place of the name Earl Edwards. Also the Court was satisfied that Mr. Schneider produced satisfactory authority to prosecute this appeal.

At the opening of the trial, respondent’s counsel acknowledged that the withholdings liability amount of $9,415.23 as at October 19, 1988 has since been overpaid and that in this respect there is an amount due by the Minister of National Revenue to the appellant for $901.26. The Court was advised that the appellant made four payments of $1,000 each plus $1,400 and that Mr. Keil, the other director of ML Metal Products Ltd. (’’Metal”), paid $5,000.

Mr. Schneider, an accountant, appeared as agent for the appellant. He assumed responsibility for the conduct of the case and he was the appellant’s sole witness.

A position to be advanced, as I understand it, was that the $5,000 paid by Mr. Keil was intended to be in full and final settlement of the whole matter and therefore the estate was reclaiming the whole of the $5,400 it paid. The letter evidence attempted to be adduced to prove the purported full and final settlement, as alleged, was substantively deficient and of no value or weight, it being wholly in the nature of hearsay for which no exception to the rule would be permitted. Apart from matters relating to expenses, no reasons were advanced as to why Mr. Keil or the author of that letter had not been called to testify. Accordingly no full and final settlement of the liability through Mr. Keil’s efforts has been established.

Mr. Schneider’s testimony with respect to his own conversations with Mr. Edwards respecting the matters in question was received together with what had transpired at a meeting he attended during 1986 or 1987 between Mr. Edwards and Mr. Keil. This meeting was called because of Metal’s difficulties, as had been described to him, and because of Mr. Keil’s purported intransigence in some matters and in furtherance of the hope that he could be retained as Metal’s accountant so as to be of greater assistance to Mr. Edwards. Mr. Keil apparently refused to change accountants.

Mr. Schneider’s testimony, while almost entirely hearsay, was allowed in many material aspects following the hearsay exception guidelines as expressed by the Supreme Court of Canada in the cases of R v. Smith, [1992] 2 S.C.R. 915, 15 C.R. (4th) 133, 75 C.C.C. (3rd) 257, and R v. Seaboyer, [1991] 2 S.C.R. 577, 83 D.L.R. (4th) 193, 66 C.C.C. (3d) 321, respecting necessity, reliability and trustworthiness.

Mr. Edwards was a director of Metal, its secretary treasurer and, in Mr. Schneider’s belief, a 50 per cent shareholder. Apparently Mr. Keil was the other 50 per cent shareholder and its president. No evidence was introduced respecting share voting restrictions, whether shares had been actually issued, respecting corporate bylaws as to any vote-casting privileges in case of a tie, and respecting formal banking’s documents. Accordingly the Court was unable to objectively conclude Mr. Keil enjoyed de jure control or even de facto control of Metal’s affairs.

Mr. Edwards role was said to be in sales which required him to be out of the office frequently. However it appears he was not denied access to Metal’s books and records as he was the one who confirmed arrangements with Revenue Canada’s auditors to come to the business premises and then showed them where all the books and records were kept.

Mr. Schneider said his own dealings with Mr. Edwards caused him to believe he was an honest, forthright, hardworking man and that he did all in his power to ensure that Revenue Canada was paid Metal’s withholdings. However, no evidence was provided respecting any system that was in place to prevent failure to make employee remittances on time, and therefore it remained unknown as to how or why they were not made in a timely basis. It is not enough to assume that just because Mr. Edwards made attempts to pay the defaults that he must have tried to prevent them in the first place. There was no evidence, apart from Mr. Schneider’s subjective conjectures and assumptions, as to any possible fraud on Mr. Keil’s part or that Metal’s financial matters had been inappropriately handled. The accounting advisors of Metal were not called to testify. There was no evidence that Mr. Edwards was previously unaware of his duties and liabilities as a director respecting timely payment of employee withholdings. Indeed, according to Ms. Masters, a collection supervisor with Revenue Canada, these kinds of issues had arisen before.

I accept the position advanced for the appellant that Mr. Edwards did not seek to evade payment respecting the outstanding withholdings and that its payment formed part of an aborted sale of the company. However this does not satisfy subsection 227.1(1) of the Act which speaks of prevention of the default and not curing the default after the fact. In this respect see Ho v. MN.R., [1990] 2 C.T.C. 2623, 91 D.T.C. 76 (T.C.C.), at page 2628 (D.T.C. 80) and Balasubramanian v. M.N.R., [1991] 2 C.T.C. 2812, 91 D.T.C. 1271 (T.C.C.), at page 2816 (D.T.C. 1274). In Charkowy v. M.N.R., [1991] 1 C.T.C. 2095, 91 D.T.C. 284 (T.C.C.), at page 2098 (D.T.C. 286), Judge Mogan had this to say:

Subsection 227.1(3) refers to a director who had "exercised the degree of care, diligence and skill to prevent the failure...." The word "failure" relates back to the liability under subsection 227.1(1) which in these appeals was a failure to remit. The question arises whether such failure is an isolated event like the failure on June 15 to remit source deductions for the month of May, or an ongoing event like the status of being in default from the time when the remittance was required to be made. Cases in this Court like Fraser v. M.N.R., [1987] 1 C.T.C. 2311, 87 D.T.C. 250, and White v. M.N.R., [1990] 2 C.T.C. 2566, 91 D.T.C. 54, indicate that the failure is an isolated event. In the White case, Taylor J. stated at page 2574 (D.T.C. 59):

As I read that subsection, it would seem to me that the direct responsibility of a director — any director — is to prevent the failure (to deduct or remit), not to attempt to rectify or remedy the failure at a point in time subsequent to the failure itself.

If the "failure" in subsection 227.1(3) is an isolated event, then the conduct of a director after that event would in most circumstances be irrelevant. In other words, a director who has not exercised the required degree of care, diligence and skill to prevent the failure cannot bootstrap himself under subsection 227.1(3) by proving how hard he tried after the event to rectify or remedy the default.

Judge Mogan’s observations and conclusions are applicable to the appellant’s situation before me, and I see no reason as to why his approach and analysis is either wrong or ought to be disregarded.

Conclusion

In conclusion then, and for the reasons given, the appellant has failed to establish, on the balance of probabilities, its due diligence position under subsection 227.1(3) of the Act and the appeal is dismissed.

Appeal dismissed.