Posocco v. R., [1998] 1 CTC 2877

Lamarre Proulx T.C.J.:

The Appellant is appealing, by way of the informal procedure, an assessment bearing number 06439 and dated October 27, 1995. The assessment was made pursuant to section 227.1 of the Income Tax Act (the “Act”) which provides that where a corporation has failed, with respect to the salary of its employees, to deduct and remit the amount of tax as required by section 153 of the Act, the directors of that corporation are jointly and severally liable to pay these amounts.

To counter this liability, subsection 227.1(3) of the Act provides for a defence of due diligence for a director who has taken reasonable care to prevent the failure. This paragraph reads as follows:

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.

At the onset of the hearing, there was a preliminary motion made by counsel for the Appellant to adjourn the hearing because in counsel’s view, one of the issues was the alleged fraud of the Appellant’s partner and it would be prejudicial to the Appellant to proceed without the required documentation. The Appellant thought that he had these documents at his home but after a search the day before the hearing, he was unable to find the documents and believed that these documents were with another lawyer engaged in a civil suit on his behalf. Counsel for the Respondent opposed the motion on the basis that the Appellant had sufficient time to gather the proper evidence, if he had acted with the diligence of a reasonable person between the date of the notice of hearing on July 31, 1997, and the date set for hearing.

The motion was denied on the ground that it was tardy, being made on the morning of the hearing and that there was no indication that the Appellant had acted with diligence in searching for this documentation.

The Reply to the Notice of Appeal states that Cambryan Homes Ltd. (the “Corporation”) had not remitted source deductions comprising of federal income taxes, in the following amounts: $8,597.34 as of March 24, 1992; $406.42 as of July 21, 1992; $1,333.35 as of March 9, 1994; and $44.89 as of May 25, 1994.

There was some dispute concerning the amount of the source deductions that have not been remitted. After having reviewed the evidence, counsel for both parties agreed that the amount of unremitted source deductions should be reduced by $1,133.35, the amount mentioned for March 9, 1994. Consequently, the appeal is allowed for that part.

In his testimony, the Appellant explained that he and a Mr. Franco Simone were the only two shareholders and directors of the Corporation in the years 1989 to 1991. The Corporation was involved in construction activities. The Appellant was its president and Mr. Simone, its secretarytreasurer. The Appellant testified that he was involved in the operational aspect of the Corporation while his partner was involved in the office management. However, the signature of the two directors was needed for the issuance of cheques. The Appellant’s testimony is that his partner withdrew from the Corporation’s activities at the end of 1991, except for the signature of cheques. As shown previously, it is for the year 1991 that the. amount of unpaid source deductions is the highest.

The Appellant produced Exhibit A-1, a summary of loans receivable and payable prepared from the books and records of the Corporation and of Cambryan Construction on August 12, 1993 by a firm of accountants. The summary has lumped the two corporations together and in this regard, it is difficult to understand its usefulness in this instant case. The summary of loans receivable shows that loans in very high amounts had been made to the Appellant’s partner personally and to some of the latter’s corporations. As well, it shows that one loan was made to Mr. Loris Posocco, about whom we will hear later. The summary of loans payable shows that the Appellant made loans to the Corporation and to Cambryan Construction. The purpose of the Appellant producing this document was to sustain his allegation that his partner had acted fraudulently and misappropriated corporate funds.

The Appellant testified that he had done what was necessary to prevent the failure to remit the source deductions by hiring a bookkeeper, whom he would have kept until 1994. On the other hand, the Appellant also testified that he did not know about the failure to remit the deductions until 1994. He testified that he was not aware of an audit conducted by Revenue Canada in August 1992. The notice of this audit is evidenced by Exhibit R-2. He said that he only became aware of the problem in January 1994, when another notice of audit was given (Exhibit R-3). There was a further notice given for February 7, 1994 (Exhibit R-4).

On August 2, 1995, a letter was sent to the Appellant by Revenue Canada informing him that the Corporation owed source deductions and that, as a director of this Corporation, he may be held liable to pay these amounts (Exhibit R-6). A similar letter would have been sent to another person, Mr. Loris Posocco, whose lawyer, Robert R. Jason (the same lawyer representing the Appellant in the instant case) responded by letter dated September 7, 1995 (Exhibit R-7). The relevant portions read as follows:

Re: Cambryan Homes Ltd., Account No. AXC216862, Mr. Loris Posocco

Your letter of August 2, 1995 has been referred to me. I wish to confirm to you that Mr. Posocco has not been a director of Cambryan Homes since October, 1989. J enclose a copy of the Special Notice filed on February 10, 1993. This discloses that the sole director of the corporation was Mr. Claudio Posocco. There are no other directors shown as there were no other directors. As Mr. Loris Posocco was not a director of the corporation, he has not taken in any actions and, therefore, is not liable for any alleged unremitted source deductions of Cambrian Homes Ltd.

If you have other information to the contrary, I would be pleased to discuss this with you further that no arbitrary action is taken. (Emphasis added)

The special notices referred to in this letter, show indeed that, in 1993, the only director was the Appellant.

Counsel for the Appellant submitted that the Appellant had fulfilled his obligation of due diligence in relying on his co-director in 1991 and on a competent bookkeeper. It is the fraudulent conduct of the Appellant’s partner that had misled the Appellant who had no reason not to trust him.

Counsel for the Appellant referred to a decision of the Federal Court of Appeal in Soper v. R. (1997), 97 D.T.C. 5407 (Fed. C.A.), and more particularly to the words of Robertson, J.A. at pages 5416, 5417 and 5419, the following portions of which I quote:

… 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 con- duct. 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.”

Of course, not all inside directors have been held liable. The Tax Court has refused to impose liability on an inside director in cases where he or she is an innocent party who has been misled or deceived by co-directors: see Bianco v. M.N.R., 91 DTC 1370 (T.C.C.); Edmondson v. M.N.R., 88 DTC 1542 (T.C.C.); Shindie v. M.N.R., 95 DTC 5502 (F.C.T.D.); and Snow v. M.N.R., 91 DTC 832 (T.C.C.). There are also other examples of an inside director being exonerated: see Fitzgerald et al. v. M.N.R., 92 DTC 1019 (T.C.C.).

In each case it will be for the Tax Court Judge to determine whether, based on the financial information or documentation available to the director, the latter ought to have known that there was a problem or potential problem with remittances. Whether the standard of care has been met, now that it has been defined, is thus predominantly a question of fact to be resolved in light of the personal knowledge and experience of the director at issue.

Counsel for the Appellant also referred to Edmondson v. Minister of National Revenue [(1988), 88 D.T.C. 1542 (T.C.C.)] and Snow v, Minister of National Revenue [(1991), 91 D.T.C. 832 (T.C.C.)], (supra) in which there was evidence of a director deceiving the respective Appellants in that the source deductions had been remitted, These appeals were allowed by reason of the fraudulent behaviour.

Counsel for the Respondent referred to two decisions of this Court, Fraser (Trustee of) v, Minister of National Revenue (1987), 87 D.T.C. 250 (T.C.C.) and Quantz v. Minister of National Revenue (1988), 88 D.T.C. 1201 (T.C.C.), She submitted that the Appellant provided no evidence of any measures taken by him as president of the Corporation to ensure that the source deductions be properly remitted, She also submitted that a negative inference should be drawn from the fact that neither the bookkeeper, nor the partner were subpoenaed to testify.

My analysis of the evidence is that it is clearly lacking in all respect. Throughout the hearing, the Appellant’s testimony was evasive and impre- cise. There was no documentary evidence except to the tendering of one exhibit that was scarcely relevant and there were no witnesses other than the Appellant. The Appellant’s testimony concerning his role as a director was to say that he was primarily involved in the Corporation’s operations, that the co-director of the time was the one in charge of the office management and that he had no reason not to trust this person.

A statement such as this does not suffice. It has to be proven and even at a higher degree in circumstances, where a director is the corporation’s president, where he owns 50% of the corporation’s share and where each cheque issued by the corporation has to be bear his signature.

In response to the care, a director needs to take to ensure that source deductions are remitted, the Appellant simply stated that he had hired a competent bookkeeper. The bookkeeper did not testify to say from whom he or she was getting his or her instructions and how it happened that the source deductions were not remitted. Bookkeeping may be properly done and still source deductions not remitted if instructions are given to pay those last or hold their payment.

It is impossible to believe that the Appellant would not have been aware before 1994 that the payment of the source deductions was not made, when he and the other director had to sign the cheques. There were no allegations and no evidence that the appropriate cheques were signed and after, misappropriated.

Counsel for the Appellant wanted to rely primarily on the ground that the Appelant had been misled. The nature of the alleged fraudulent acts has not been explained nor how these fraudulent acts had misled the Appellant. As the Appellant remained the only director since 1991, there is no reason why he would not have had in his possession all the Corporation’s papers needed to prove his allegations of fraudulent acts and how they have misled him.

In conclusion, there is no evidence before me that the Appellant has exercised the degree of care, diligence and skill to prevent the failure to remit the source deductions contemplated by paragraph 227.1(3) of the Act nor that he has been misled. The appeal is allowed in part with respect to the amount mentioned at paragraph 6 of these reasons. In all other aspects, it fails.

Appeal dismissed.