Raymond Kirby and the Estate of Daniel Lee v. Minister of National Revenue, [1991] 2 CTC 2639, 91 DTC 1453

Teskey, T.C.J.:—The appellant appeals an assessment, made pursuant to subsection 227.1(1) of the Income Tax Act, R.S.C. 1952, c. 148 (am. S.C. 1970-71-72, c. 63) (the "Act") on February 8, 1989.

Issues

The issues herein are:

(1) did the appellant exercise the degree of care, diligence and skill to prevent the failure that a reasonably prudent person would have exercised in comparable circumstances? (a subsection 227.1(3) defence)

(2) if the Court finds that the appellant has failed to establish a subsection 227.1(3) defence in regards to part or all of the assessed amount, is the assessment incomplete by reason of the notice being incomplete on the face of it? (a Leung v. M.N.R. defence, [1991] 2 C.T.C. 2268; 91 D.T.C. 1020) and

(3) if the Court finds that the assessment is incomplete by reason of the notice being incomplete on the face of it, can the respondent complete the assessment in his reply to notice of appeal or with a combination of his reply and the evidence given at the trial?

Agreement

At the conclusion of the trial, it was agreed that the evidence herein would apply to the appeal of the Estate of Daniel Lee, appeal No. 90-2533(IT). Facts

The appellant is 65 years old with a grade 12 education. He describes himself as an accountant. He qualified for the designation C.P.A. When this designation was discontinued, he was given the C.A. designation pursuant to applicable grandfather clauses. He joined Reliance Fish Co. Ltd. (Reliance) in 1974 as its general accountant and became a director. The company processed and distributed frozen and fresh fish.

There were only two directors, namely the appellant and Daniel Lee (Lee). They ran the company. Except for 1985, Reliance lost money each year since 1975 when Lee took over the company. If it had not received injections of capital from Lee over the years, it would have failed sooner. Over the years, Lee injected some $2,700,000 into Reliance. Between January 1987 and November 16, 1987, Lee injected into Reliance $329,000.

During the relevant period, the receptionist-stenographer would make up the pay book for each of the employees (approximately 35) which would summarize the gross pay, the net pay and the required deductions for income tax, Canada Pension Plan and unemployment insurance. There was only one required deduction for income tax which covered both the federal and provincial income taxes.

The appellant would check a sample of all calculations to confirm the amounts were correct. The employees were paid twice a month. On each pay day, one cheque would be drawn on the firm's general bank account for the total net payroll and deposited into a payroll account and cheques would then be issued on the payroll account to each employee. Each month, a cheque drawn of the firm's general bank account for the total deductions for the preceding month would be drawn, all remittance forms completed and either mailed to Revenue Canada on the 12th day of the month or delivered to the bank on the 15th day of the month. This remittance would be for the previous month's deductions. If the 15th fell on a Sunday and the remittance had not been previously paid, it would then be delivered to the bank on the Monday.

On Monday, November 16, 1987, the bank manager and the accounts manager attended at Reliance's office and advised Lee and the appellant that their loan was being called and had to be paid in full. This was confirmed in writing by the bank's solicitor the next day. Reliance on that day was indebted to the bank for its full line of operating credit of $450,000 and interest of $3,846.57. The bank, as well as holding the usual security documents, held an assignment of all book debts.

Reliance had used up its full line of credit, and has been using bank money for all purposes for some considerable time. The respondent proved, through the evidence of Shafik Keshavjee, one of its auditors, that Reliance shorted Revenue Canada $8,000 in March and $2,500 in April of 1987. These shortages were paid in full in May of 1987. Reliance again shorted Revenue Canada of $2,000, $3,000, $3,246.21 and $4,207.41 for the months of June, July, August and September of 1987. In November, a remittance of $18,362.30 was made; $12,908.98 was applied as payment in full of the October deductions and the overpayment of $5,453.32 was applied towards the arrears for the preceding months. The auditor found Reliance’s books, records and calculations to be correct. The Court can only conclude that the shortages were deliberate.

The employees had all been paid their net wages for the first half of November on Friday the 13th. Nothing was done with the deductions as the normal practice would be to pay them from the general account on the 15th of December.

As a result of the bank's demands, all employees were let go except one salesperson and two freezer attendants. These people were kept on to sell the existing stock. From November 16, 1987, the bank controlled the account and allowed only pre-approved cheques to be honoured.

In November, the bank paid itself $68,921.87 out of Reliance's general account. On November 30, 1987, Reliance entered into an agreement with the bank wherein Coopers & Lybrand were appointed as a monitor. The same bank arrangement prevailed. Reliance did not pay the employee deductions for November or December 1987 as the bank would not honour the cheques. All business was terminated in December of 1987 and Reliance made an assignment in bankruptcy on May 4, 1987.

The notice of assessment delivered to the appellant dated February 8, 1989 reads:

The liability under subsection 227.1(1) of the Income Tax Act, Section 40.1 of the Income Tax Act of British Columbia, Section 68.1 of the Unemployment Insurance Act, and Section 22.1 of the Canada Pension Plan for $40,612.90 being the amount of the unpaid deductions, interest and penalties payable by Reliance Fish Co. Ltd. with respect to Notice of Assessment dated February 1,1988.

The respondent never supplied nor attempted to supply further particulars to Lee or the appellant prior to the notice of appeal. A copy of the notice of assessment to Reliance dated February 1, 1988 to Reliance was never produced either to Lee or the appellant until the trial (Exhibit R-4).

The respondent in his reply to the notice of appeal relied upon many assumed facts; the three relevant facts to this appeal are (h), (k) and (I) which read:

(h) on May 17, 1988, the Respondent assessed Reliance in respect of the unremitted employee payroll source deductions for November and December, 1987, in a total amount of $40,612.90;

(k) the amount of employee payroll source deduction for federal income tax which Reliance failed to remit and which the Respondent proved in the bankruptcy of Reliance was $23,432.74;

(l) interest on the said $23,432.74 amount of unremitted federal income tax to the date of the assessment against the Appellant is not less than $650.52, and the penalty imposed thereon pursuant to Subsection 227(9) of the Income Tax Act is $2,336.86 and

Thus, it was not until the reply was filed that the appellant knew the amount of the federal income tax portion of the assessment. From the evidence of the auditor given at trial, the appellant learned that there was no assessment under section 68.1 of the Unemployment Insurance Act, R.S.C. 1985, U-1 and section 22.1 of the Canada Pension Act, R.S.C. 1985, C-8. Also, it was only at the trial that the appellant learned that subparagraph (h) reproduced above was wrong and that the assessment besides being for November and December of 1987 was also for shortages for the months of June, July, August and September of 1987.

The unremitted source deductions fall into three categories; that is:

Firstly: Those that apply to the period prior to November 1, 1987.

Secondly: Those that apply to the period November 1, 1987 to November 13, 1987.

Thirdly: Those that apply to the period after November 16, 1987.

In regards to a paragraph 227.1(3) defence to the firstly described deduction, there is no defence. Both Lee and the appellant knew that the full amount of the deductions had not been paid and nothing was done to prevent the failure.

I am satisfied that both Lee and the appellant knew on Friday, November 13, 1987, that the full line of credit with the bank had been used in full and had been for some considerable time. They were paying the employees with bank money. The bank owned the accounts receivable and the company was losing money and was on shaky ground. With this knowledge, they were playing with fire when the employees were paid and Revenue Canada was not. Additionally, from not being paid that same day, no moneys were set aside into a separate trust account for Revenue Canada. The appellant and Lee knew the loan could be called at any time. The fact that Reliance's payroll system and payment of deduction are similar to numerous companies across Canada is irrelevant. The question is, what was done to prevent this failure? In this instance nothing.

In regards to the last set of deductions, the Court is satisfied that the bank had control and there was nothing either Lee nor the appellant could do short of paying the deductions out of their own pocket. Therefore, they are relieved of this liability.

Having decided that the appellant does not have a paragraph 227.1(3) defence to the first two categories of unremitted source deductions, the Court must look at the next issue.

I accept and adopt the decision of Rip, T.C.J. in Leung, supra, and find that herein there was supplementary information required to clarify the assessment, the information being not only the breakdown of the liability being assessed but included the periods over which the liability applies and the amounts. Thus, the assessment at the time the notice of confirmation was sent to the appellant as a result of his objection was not complete.

It is clear that an assessment stands until challenged by a taxpayer. An incomplete assessment is voidable, not void ab initio. The way a taxpayer challenges the assessment is by way of appeal and if not challenged by way of appeal, the assessment will stand. Lornport Investments Ltd. v. Canada, [1991] 1 C.T.C. 57; 91 D.T.C. 5044.

This leaves the Court to determine the third and final issue; namely, can the required supplementary information be supplied in the reply to the notice of appeal and if the information in the reply is in error, can it be rectified by evidence at the trial in these circumstances to complete the assessment. I think not. I am satisfied that once a notice of confirmation is delivered to a taxpayer in response to a 227(10) assessment, it is too late to complete the assessment.

The remedy available to the Minister after confirmation if the 227(10) assessment is incomplete, is to reassess provided the applicable limitation periods have not expired.

In coming to this conclusion, the Court considered subsections 152(3) and 152(8) and section 166. These provisions are commonly referred to as the curative provisions of the Act. Defects in notices of assessments fall into two classifications; namely, one of form as opposed to one of substance. A defect as to form is protected by these curative provisions.

Defects in form were dealt with by Cullen, J. of the Federal Court-Trial Division (F.C.T.D.) in Canada v. Riendeau, [1990] 1 C.T.C. 141; 90 D.T.C. 6076 and by the Federal Court of Appeal (F.C.A.) when it dismissed an appeal from Cullen, J.'s decision, ([1991] 2 C.T.C. 64; 91 D.T.C. 5416) and in Stephens Estate v. The Queen, [1987] 1 C.T.C. 88; 87 D.T.C. 5024.

Rouleau, J. of the F.C.T.D. in Guaranty Properties Ltd. v. The Queen, [1987] 1 C.T.C. 242; 87 D.T.C. 5124 dealt with an error that he described as a "substantive error". He said in conclusion under the heading “Curative provisions" at page 252 (D.T.C. 5133):

The curative provisions of the Income Tax Act will not assist the defendant in this case. It is clear from the facts that a number of errors have plagued the defendant throughout this matter. The auditor who should have been made aware of the amalgation was not advised and, by the time this was discovered and matters rectified, the time limit prescribed by statute for reassessing Dixie's 1976 taxation year had expired. Equity alone would prevent the use of curative provisions such as those contained within the Income Tax Act to correct a substantive error of this nature. I am of the opinion that the legislation does not contemplate the amendment of a reassessment after the expiry of a limitation period.

The Honourable L.J. Cardin, the Chairman of the Tax Review Board, as he then was, dealt with an amended reply in Klie v. M.N.R., [1979] C.T.C. 2262; 79 D.T.C. 254. He said at age 2274 (D.T.C. 257): “In my view, the Amended Reply cannot be considered as, or have the effect of, an assessment or a reassessment regardless of what it may contain.”

These decisions are different from the consideration Joyal, J. of the F.C.T.D. had before him in First Fund Genesis Corporation v. Canada, [1990] 2 C.T.C. 24; 90 D.T.C. 6337.

There is a duty upon the Minister to disclose to the taxpayer the basis and the reason for his assessment. In Johnston v. M.N.R., [1948] S.C.R. 486; [1948] C.T.C. 195; 3 D.T.C. 1182. Mr. Justice Rand of the Supreme Court of Canada (S.C.C.) stated at page 203 (D.T.C. 1183): “It must, of course, be assumed that the Crown, as is its duty, has fully disclosed to the taxpayer the precise findings of facts and rulings of law which have given rise to the controversy."

Collier, J. in Smerchanski v. M.N.R., [1972] C.T.C. 117; 72 D.T.C. 6117 said: "Under the Income Tax Act, there is no requirement that the Minister must give particulars of any assessment or reassessment."

The Federal Court of Appeal, [1974] C.T.C. 241; 74 D.T.C. 6197 and the Supreme Court of Canada, [1976] C.T.C. 488; 76 D.T.C. 6247 both without commenting on this statement made by Collier, J. affirmed his judgment. This comment is obiter because of his holding that the taxpayer's agreement therein not to demand particulars, was valid.

I also adopt the words of my brother Judge Rip in Wallace v. M.N.R., [1991] 2 C.T.C. 2341; 91 D.T.C. 1134. Wallace received a notice of assessment similar to Leung's. After Wallace filed a notice of appeal to this Court, the respondent made a motion to quash the appeal on the basis that the Court lacked jurisdiction as the records showed that no amount of income tax (federal) interest or penalties was assessed. Judge Rip in obiter said in his reasons when he granted the application (at page 2344 (D.T.C. 1136-37)):

The respondent's motion has served to illustrate the difficulty and confusion a taxpayer may experience on receipt of a notice of assessment for a single sum of money which, the respondent informs the taxpayer, is a liability under several statutes. When Mr. Wallace filed his appeals it was through no fault of his that he did not know what he was being assessed. As I indicated in Leung, in communicating with taxpayers, the respondent has an obligation to ensure that such communication is unambiguous and capable of being understood by the average taxpayer.

It is believed that the missing required information was prejudicial to the appellant and would lead to confusion. These deficiencies are so substantial that the assessment could not be cured in this manner. Without knowing [in] what months the defaults occurred, it is impossible for a solicitor to properly advise an assessed director client. This also applies to the amounts involved pursuant to the various statutes. What the Minister did in his reply and produced by sworn testimony, is give evidence of what he did, but it does not complete the assessment. It must be remembered that this is not the usual type of tax case where the facts are usually within the full knowledge of the taxpayer. Herein the Minister when making his assessment against Reliance did so after a full audit of Reliance was completed. Thus, he had full knowledge of all the relevant facts, whereas the directors may or may not have [had] full knowledge of the necessary facts to allow a solicitor to properly advise.

In addition, on the strength of Chairman Cardin's statement in Klie, supra, and Rouleau, J.’s statement in Guaranty Properties Ltd., supra, the reply to notice of appeal (which is dated December 1990) is beyond the two-year limitation period provided for in paragraph 227.1(4). Herein, both the appellant and Lee ceased to have control of Reliance as directors when Reliance made the assignment in bankruptcy on May 4, 1987. On the basis of Perri v. M.N.R., [1990] 1 C.T.C. 2071; 89 D.T.C. 723 the limitation period against the appellant and Lee expired on May 5, 1989. The Minister was attempting to do indirectly in his reply what he could not do directly, that is, issue a reassessment.

For the above reasons, the appeal is allowed, with costs, on a party to party basis up to the conclusion of trial and all costs thereafter on a solicitor client basis and the assessment is vacated.

The reasons for awarding solicitor and client costs for work performed after the conclusion of the trial was that the respondent's counsel referred the Court to three recent decisions of this Court, one by Associate Chief Judge Christie and two by Judge Kempo. He advised the Court Leung was argued and cited in these cases. This proved inaccurate. Counsel for the respondent did not have copies of these three cases. He then was given two weeks to obtain the copies together with information on two recent decisions of Judge Bonner and submit argument based on these five cases. Counsel for the respondent then proceeded to re-argue the entire case in writing and did not refer at all to the five recent decisions of this Court. Argument should have ceased at the conclusion of the trial. Advocate for the appellant should not have had to spend any time on this appeal after the conclusion of argument on September 27,1991. All time and effort spent on this appeal after that date must be on a solicitor and client basis as his client has been put to needless expense.

Appeal allowed.