Alan Holley v. Minister of National Revenue, [1989] 2 CTC 2152

Kempo, T.C.J. (orally):—The appeal of Mr. Alan Holley is from the respondent's assessment of a penalty pursuant to subsection 163(2) of the Income Tax Act. The taxation year under appeal was 1984 and the penalty amount was $48,073.87.

The background information and the parties’ respective positions are reflected in the filed pleadings.

Paragraphs 1 to 8 inclusive of the notice of appeal have asserted the following facts:

1. On April 21, 1986, the Minister of National Revenue reassessed the Taxpayer’s 1984 personal income tax return by providing for a penalty of $68,986.02 pursuant to Subsection 163(2) of the Income Tax Act, R.S.C. 1970-71-72, Chapter 63 and amendments thereto. The penalty was assessed as a result of Revenue Canada reassessing at the same time the Taxpayer's taxable income from $112,695.00 to $678,270.00. The Taxpayer filed a notice of objection with respect to the 1984 taxation year on May 30, 1986.

2. The Taxpayer commenced employment with Alberta Walker Wellhead Ltd. (the "Company") in 1979 as Vice-President and General Manager and is currently the President of the Company. The Company changed its name in 1984 to Walker Steel Corporation and has, since its inception, been involved in the business of manufacturing and marketing wellhead equipment.

3. In 1981, the shareholders of the Company were approached by Emco Ltd. ("Emco"), a non-resident controlled company, which desired to enter into serious negotiations to acquire the outstanding shares of the Company. The shareholders of the Company advised Emco that they did not wish to dispose of their interests at that time. The approach by Emco was not in any way solicited by the shareholders of the Company.

4. In 1983, Emco once again approached the shareholders of the Company and, after some negotiation, the parties entered into an agreement whereby Emco would acquire 75% of the outstanding shares of the Company at a price of $42,222.22 per share with the remaining 25% of the outstanding shares to be acquired subsequent to October 31, 1988. The purchase price is to be an amount to be determined based upon the profitability of the Company over the three year period prior to the subsequent date.

5. The Taxpayer at the time of the sale of 75% of the shares of the Company held Thirty Six (36) of the Ninety (90) common shares of the Company which were issued by the Company.

6. The Taxpayer sold Twenty Seven (27) of the Thirty Six (36) common shares that he held in the Company to Emco in 1984 for $1,140,000.00 and retained the balance of the shares subject to the obligation to sell them to Emco in accordance with paragraph 4 above.

7. The Taxpayer in his business accounts for profit on a completed contract basis and, therefore, his experience in this regard, as well as his discussions with various parties led him to believe that the disposition of the shares were not to be reported in his 1984 personal income tax return. The Taxpayer believed the profit on the disposition and, therefore the income tax liability accruing on the gain would be deferred until a disposition of the balance of the shares in 1988.

8. The Taxpayer subsequently determined that such a deferral might not be available. This prompted him to make a voluntary disclosure to the Department of National Revenue on November 12, 1985 wherein he provided details of the disposition of the initial Twenty Seven (27) shares of the Company.

Paragraphs 1 to 4 inclusive of the amended reply to notice of appeal state the following facts:

1. Except as hereinafter expressly admitted, he denies each and every allegation of fact in the Notice of Appeal.

2. He admits paragraphs 2, 3, 4, 5 and 6.

3. With respect to paragraph 1 of the Notice of Appeal he states that the penalty assessed pursuant to subsection 163(2) of the Income Tax Act was $48,073.87 but otherwise admits the remainder of the said paragraph.

4. In reassessing the income tax of the Appellant for his 1984 taxation year and with respect to those matters in issue, he made, inter alia, the following assumptions of fact:

(a) At all material times the Appellant was Vice President and General Manager

of Walker Steel Corporation (hereinafter referred to as the Corporation).

(b) The Corporation was incorporated in 1979 under the name of Alberta Walker Wellhead Ltd. at which time the Appellant acquired,

(i) 10 of the 100 common shares and,

(ii) an option to purchase an additional 26 shares of the Corporation.

(c) In 1983 Emco Ltd. offered to purchase 75% of the Corporation's common shares for a consideration of $42,222.22 per share.

(d) Because of the said offer the Appellant exercised the option referred to in subparagraph 3(b), herein, and purchased 26 common shares of the Corporation for a consideration of $50.00 per share in 1983.

(e) On January 13, 1984 the Appellant sold to Emco Ltd. 27 of his common shares in the Corporation for a total consideration of $1,140,000.00.

(f) In so disposing of the said shares the Appellant realized a taxable capital gain of $565,575.25 calculated as follows:

Proceeds on Sale of Shares	$1,140,000.00
Less: Cost	982.50
Outlays	7,867.00
Capital Gain	$1,131,150.00
Taxable Capital Gain	$ 565,575.25

(g) The Appellant failed to report the said taxable capital gain In his T1 Return of Income for the 1984 taxation year.

(h) The Appellant knowingly, or under circumstances amounting to gross negligence in carrying out of a duty or obligation imposed by or under the Income Tax Act made, participated in, assented to or acquiesced in the understatement of his income in his return of income for his 1984 taxation year as set forth in subparagraph 3(f) as a result of which the taxes that would be payable if computed under subparagraph 163(2)(a)(i) of the Income Tax Act exceed the taxes that would be payable if computed under subparagraph 163(2)(a)(ii) of the said Act by an amount of $192,295.50.

Mr. Brian Rooke gave evidence for the Minister. He was a Revenue Canada employee in the Business Audit Section and while performing an audit of the business affairs of Alberta Walker Wellhead Ltd. he had examined the shareholders' register of the Company. He was then aware of the sale of the shares by the shareholders of the Company and he had asked its comptroller for a copy of the sale contract to ensure that the sale transactions had been reported by the four shareholders. Mr. Rooke then gained the information that the appellant had not reported the sale transaction in his 1984 return of income. All of this was said to have transpired during the summer of 1985.

In the meantime, according to the testimony of Mr. Holley, he had filed his 1984 tax return without reporting the share transaction and by notice of assessment dated July 22, 1985 he was advised that his taxable income was as declared but that, amongst other things of a minor nature, he was assessed a $276 penalty and $72 for interest. By letter dated August 13,1985 he remitted only the tax recalculation and asked for an explanation as to why the penalty and interest were charged. It seems that the penalty was with respect to a purported late filing of the tax return which was not a subject issue in this case.

Mr. Holley’s next response from Revenue Canada was a phone call and a message to call, left at his home, by Mr. Rooke on October 15, 1985. Mr. Holley returned the call the next day. He was told by Mr. Rooke that the Company's 1983 and 1984 years were then under review, that he had noticed a large increase in Mr. Holley's reported 1984 investment and interest income over the previous year and that his inquiry was as to an explanation of the capital source which had produced that income. The reply given by Mr. Holley at that time was that "he must have sold something” but that he was unable to recall at that time what it would have been. At Mr. Rooke's request he agreed that his bank accounts could be examined and that he would look into the matter further and produce any documentation required by way of explanation. Mr. Rooke stated that Mr. Holley had not appeared to be evasive and that he was fully and openly cooperative on the telephone. He was made aware that Mr. Holley would be away for the next week or so but that he would hear back from him on his return.

After his return Mr. Holley consulted Mr. Shephardson, the lawyer involved in the share transaction, on October 17, who immediately referred him to a tax professional. Mr. Tom James was seen the next day and, after being provided with the necessary documentation, he advised the appellant on November 6, 1985 that he (Mr. Holley) was in error in not reporting the transaction and that this mistake should be communicated to Revenue Canada and the tax be paid. Mr. Holley acted on this advice and the appropriate details were disclosed by letter dated November 12, 1985.

Mr. Holley has been actively involved as a major shareholder, director, vice-president and general manager of the Company for the last 30-40 years. His previous background was as a general accountant, but not in taxation matters. He was aware that as of January 31,1971 capital gains were taxable. He had never sought out or used the services of anyone for personal tax purposes but had always prepared and filed his own returns of income without incident. He said that all corporate accounting and fiscal matters were handled by its comptroller and that he was not involved in those complexities.

Mr. Holley's evidence was that he had not consulted anyone with respect to his fiscal liabilities or responsibilities arising out of the share sale transac- tion either before or after its completion. Due to its complexity and his business background he had believed the share gain was reportable and taxable only when the second stage of the sale was fully completed and that he had seen no need for any advice in this respect at any time prior to Mr. Rooke's first contact with him in October of 1985.

On cross-examination Mr. Holley acknowledged that the first stage of the share sale had been fully completed, that he was in receipt of the proceeds of disposition thereof in 1984 and that the second stage of the purchase could not impact on the amount of and entitlement to the proceeds of disposition of the shares sold under the first stage. Somehow or other though Mr. Holley, according to his evidence-in-chief, seemed to feel that the deal would not be finalized until the second stage was completed, that some kind of adjustments remained like, in his words, "an incompleted contract”, and that a profit calculation would be possible only when the complete profit was fully known. Depending on whether the buyer advanced the time of the second closing, the finality would be in either 1989 or 1990.

I am unable to reconcile, in any meaningful manner, the obvious intelligence, general accounting and business experience of Mr. Holley on the one hand with that of his deliberate and conscious decision not to have made any inquiries whatsoever of anyone as to his fiscal responsibilities arising out of this unique and unusual (to him) share sale transaction. The amount received was very large and Mr. Holley was fully aware that what he had received was not liable to any "claw-back" by way of adjustments or otherwise.

Counsel for the Minister has submitted, correctly in my view, that this case was not one of wilful hiding, culpable deceit or outright tax evasion. Rather it involved an omission knowingly and wilfully made in circumstances amounting to gross negligence attracting a civil penalty.

I am fully cognizant that Canadian courts have followed the aged pronouncement of Lord Esher in Tuck & Sons v. Priester (1887), 19 Q.B.D. 629 at 638 that:

If there is a reasonable interpretation which will avoid the penalty in any particular case we must admit that construction. If there are two reasonable constructions we must give the more lenient one.

Accordingly it would appear that the prevailing view is that penal provisions are to be strictly construed in favour of the taxpayer. See: Udell v. M.N.R., [1969] C.T.C. 704; 70 D.T.C. 6019 (Ex. Ct.).

Mr. Justice Strayer in the case of Paul De Graaf v. The Queen, [1985] 1 C.T.C. 374 at 378; 85 D.T.C. 5280 succinctly stated the position of relevance here as follows:

In essence, for a taxpayer to be liable to a penalty under subsection 163(2) he must have been responsible for a misstatement or omission in his return, made by or for him knowingly or through his gross negligence. As I have noted elsewhere, the jurisprudence seems to recognize an element of subjectivity in the application of these tests, even to the point of accepting ignorance of the law as excusing misstatements in income tax returns: see Venne v. The Queen, [1984] C.T.C. 223 at 233-36; 84 D.T.C. 6247 at 6255. It must also be kept in mind, as noted above, that the Minister has the onus of proof in establishing that the requisite state of mind existed to justify the imposition of penalties.

He goes on further to note, at page 379, after reviewing the circumstances of that particular taxpayer, that

He has produced no evidence to suggest that he took any care whatsoever in this regard. He simply insists it was not his intention to evade payment of income tax thereon, but thought it would be payable at some future time. In other words, he does not even say that he was relying on professional advice in failing to report these capital gains as income. Therefore I find that the penalties were properly applied to these two transactions as well.

On the facts of the case at bar I am unable to find that Mr. Holley's omission was predicated on his alleged "mistake of law” because he had wilfully decided against any need to inform himself in this matter as to his fiscal duties and responsibilities.

Wilful blindness by someone capable of acting in a responsible manner is not a matter of “ignorance of the law” in its jurisprudential sense — it can amount to gross negligence in appropriate circumstances, see: Patricio v. The Queen, [1984] C.T.C. 360; 84 D.T.C. 6413 at 6418 (F.C.T.D.).

In circumstances where matters may be complex, unreasonable expectations must not be placed on any taxpayer who can be perceived as having done his reasonable-best in the whole affair. In the case at bar while the situation was unique to the appellant, it was not that overly complex in so far as its basic principles were concerned; and the appellant was no neophyte in the business world of income and taxation. He had readily available to him, if he had just asked, any sort of information of relevance from the other shareholders, the corporate comptroller or the corporate lawyer.

Given all of the circumstances, I cannot help but conclude that the appellant acted with such want of care that it amounted to no care at all and that this is sufficient to justify a finding of gross negligence on his part.

I must now deal with the appellant's reliance on Information Circular 85-1 which was tendered as indicative of Revenue Canada's policy not to prosecute individuals who have filed an incorrect tax return and who subsequently have made a voluntary disclosure pertaining to that return.

Information Circular 85-1 dated March 18, 1985 reads as follows:

INFORMATION CIRCULAR 85-1

March 18, 1985

Voluntary Disclosures

1. Voluntary compliance with Canada’s tax laws by corporations and individuals is a major contributing factor to the efficient administration of the statutory and fiscal responsibilities of Revenue Canada, Taxation. The Department acknowledges the importance of voluntary disclosures by formally adopting a policy of encouraging taxpayers to come forward of their own volition to correct deficiencies in their past reportings or dealings with the Department.

Policy

2. It is the policy of Revenue Canada, Taxation, that any person who has failed to file a return required under any sections of Acts administered by the Department, or who has filed incorrect returns and subsequently makes a voluntary disclosure pertaining to those returns that is substantially complete, will be permitted to settle any liability of tax with statutory interest and late filing penalties. The Department will not prosecute such persons or seek to impose any civil penalties for gross negligence or wilful evasion. The identity of any person making a voluntary disclosure will be held in confidence, as are all matters between the Department and those filing with it.

Policy Application

3. This policy applies to corporations and individuals making voluntary disclosures if the following requirements are met:

(a) Voluntary. A voluntary disclosure must be initiated by the taxpayer since it represents a demonstration of a sincere desire to correct previous reporting deficiencies, it must not result from an audit or investigation being carried out by the Department.

(b) Verification. Each voluntary disclosure should include sufficient detail to enable the verification of the facts.

(c) Incomplete Disclosure. If it is established that the voluntary disclosure was not substantially complete because the taxpayer disclosed only those amounts or areas of fraud which the taxpayer thought the Department would become aware of, or would accept as being complete, the disclosure will not be considered as voluntary but rather as a further attempt to deceive the Department. The disclosure will then be subject to the imposition of a penalty or prosecution or both as the circumstances warrant.

(d) Payment. The taxpayer will be expected to pay the total amount of the tax liability upon disclosure or alternatively to make mutually agreeable arrangements for payment of all amounts due.

(e) Procedure. A voluntary disclosure may be made by contacting a senior official of the nearest district taxation office. A detailed submission will not be required at the first contact, however, that initial contact will be considered the date of the voluntary disclosure.

4. This is a policy of Revenue Canada, Taxation, and will apply only to those statutes for which the Minister of National Revenue, Taxation is responsible.

There was no quarrel advanced by the respondent's counsel that the Department's voluntary disclosure policy was designed to encourage taxpayers who were grossly negligent to correct past filing deficiencies without fear of being assessed civil penalties. However, he submitted, that policy would be applied only in circumstances where the voluntary disclosure had been initiated by the taxpayer and where such disclosure had been made prior to any Departmental audit or investigation. Counsel for the appellant submitted that the appellant should be seen to have been in substantial compliance with this policy as he did disclose the moment he was advised to do so and that his subjective belief that no reporting was necessary continued up to that time.

No argument or authority was submitted by counsel to the effect that the kind of administrative policy noted in the subject information circular would or could supersede the provisions of the Income Tax Act wherein Parliament had legislated that taxpayers are liable to penalties in circumstances where they are grossly negligent in the carrying out of any duty or obligation imposed by or under that Act. What counsel for the appellant appears to be seeking is the assistance of the Court in not only interpreting the words of an administrative statement but also in its enforcement via the appeal mechanisms of the Act. No authority was submitted in this respect either.

On the facts of the case at bar it is to be noted that Mr, Holley had not initiated the voluntary disclosure. He had acted only in a responsive manner. He began to act responsibly in the seeking of advice only after he had been queried as to the capital source of his investment income.

However, even if the facts had been otherwise, I have very serious doubts and reservations concerning matters of enforcement of policy matters where they appear to be in conflict with legislative prescriptives.

Accordingly, and for the reasons given, the appeal is to be dismissed.

Appeal dismissed.