Richard v. R., [1998] 2 C.T.C. 3176

Lamarre Proulx T.C.J.:

1 These are appeals, heard under the informal procedure, from reassessments made using the net worth method for 1989, 1990 and 1991.

2 The issues concern the accuracy of the calculation of the net worth difference and the imposition of penalties pursuant to s. 163(2) of the Income Tax Act (“the Act”) for each of the years on appeal.

3 By initial notices of reassessment dated February 28, 1994 the Minister of National Revenue (“the Minister”) added certain sums to the computation of the appellant's income. Following representations made by the appellant's representative, the Minister again reassessed on March 21, 1996. The Minister assessed in accordance with the numbers arrived at by the appellant's representative for 1989 and 1990. For 1991 the Minister also assessed in accordance with the numbers arrived at by the appellant's representative except for a large negative amount entered under the heading “Marielle cash - petty cash”. This negative result was in the amount of $27,700.

4 In her notice of appeal the appellant admitted that additional income should be added to her income for the two years 1989 and 1990. So far as the computation of income is concerned, therefore, only 1991 would be involved. I use the conditional here because the balance sheets prepared by the Department of National Revenue appeals officer (“the appeals officer”) for purposes of calculating the net worth difference (this calculation of the difference and the balance sheets for 1988 to 1991 form Exhibit I-1) incorporated, as I have just said, the results of the account arrived at by the appellant's representative, the title of which was “cash account”. The appeals officer accepted the information for 1989 and 1990 but rejected it for 1991. I would assume that the appeals officer accepted the appellant's representative's information because the totals in that information were extremely close to the Department's totals for those years. The total amount of the assets and liabilities differed only slightly. However, if the appeals officer had accepted the negative result of the cash account for 1991 this would have meant that in that year the appellant had no income to report, as the net worth difference showed the sum of $28,142.

5 This is the table of additional income and penalties:

[TRANSLATION]

Year	Additional income assessed in 1994	Additional income assessed in 1996	Penalties
1989	$20,947	$17,522	$ 852.05
1990	$18,090	$25,093	$1,875.98
1991	$45,902	$28,142	$1,346.27

6 The appellant's representative said, first, that he had used the net worth method in preparing the balance sheets filed as No. I-3, which the appeals officer used in arriving at the reassessments dated March 21, 1996. Second, he also said he had used supporting documentation to prepare these balance sheets and the documentation not used to support the amounts of assets and liabilities in the balance sheets was left in the account.

7 At the hearing it was impossible to determine the exact nature of this account, either from the appellant's representative or the appeals officer, who had in any case accepted the information for two years and who referred, to explain its nature, to the explanations given by the appellant's representative. After reading the transcript, I think the best definition is that given by the appellant's representative when he said “it is not a real account, it is a working account”. As I understand it, it is a list of all the appellant's banking or cash transactions. This account was filed as Exhibit A-4.

8 For 1991 the appellant's representative wished to reduce the appellant's income computed by the net worth method by relying on the negative result of the account of $27,700.14 (Exhibit I-4). This negative balance came primarily from two large amounts, $20,000 and $30,000, described as reimbursements. I quote here the reasons given by Frank Falbo for his refusal, at p. 40 of the transcript:

[TRANSLATION]

So the only point not accepted was the cash account: instead of putting it as negative by $27,700 it was put at zero on the balance sheet in 91 because there was no supporting documentation to indicate the source of funds for the $20,000, the $30,000, or even the other transactions that took place throughout the year, because they were cash transactions.

...because by putting it as negative that meant that someone loaned her $27,700 in cash.

9 The appeals officer explained that he could not reduce the net worth result of these amounts without knowing the source of the funds. The appellant's representative said that it was not possible to determine the source of these funds. As a possible explanation he indicated that Marc Langlois, the appellant's husband, could have contributed part of it. The appeals officer said that he had already taken into account a contribution of $4,000 by Mr. Langlois for 1990 and that there was no evidence of any further contribution. The appellant's representative asked Marc Langlois to testify regarding his contribution to the expenses of the household. His testimony did not shed any more light on the issue.

10 In his testimony the appellant's representative gave a description of the appellant's affairs, and I quote from pp. 45 and 46 of the transcript:

[TRANSLATION]

ANDRÉ HÉRARD: I may be able to answer that. What you have to understand in that case is that the figures you are seeing are, if you like, the proceeds of a business, a small jewellery business.

ANDRÉ HÉRARD: The other part you see in all the financial statements, the balance sheets that you see, it is three rental buildings, and all this was combined together in 16 different bank accounts. So the tables you see — all that — that is all personal and corporate assets which were all combined into a single presentation. That will perhaps indicate to you that there were monies which went out of the company, which went into the rental income, which were personal, and so on — that is what caused so much ... which gave you both grey hair.

ANDRÉ HÉRARD: No, the rental income buildings, that was personal, that was personal property belonging to Ms. Richard, and the company, it was incorporated. The problem was that Ms. Richard used both her personal accounts and company accounts for the commercial activities of the company as well as personal activities. Sometimes she drew from a property account to pay something for the company, sometimes she took something from the company account to pay something personal, and so on.

11 Frank Falbo explained at pp. 51, 52 and 53 of the transcript why he upheld the assessment of penalties under s. 163(2) of the Act:

[TRANSLATION]

A. In another letter of November 23, 95, which is reproduced with the appeal related to the penalty for 91, at p. 2 of the appeal, paragraph two, Mr. Hérard notes:

The case of The Queen v. Columbia Enterprises, 83 D.T.C. 5247, reversing the Federal Court Trial Division, 81 DTC 5133, and the Trial [ sic] Review Board, 78 DTC 1763, illustrates the attributing of gross negligence by his accountant who, like that of Ms. Richard, told him what to do, what to sign, often signed tax returns for Ms. Richard without obtaining authority from her.

I found this somewhat strange because I looked at the signature on the tax return for each year and then the signatures received in various items of correspondence and found no difference in these signatures: they were identical.

Then, I also considered the size of the net worth difference I had arrived at, based on the balance sheets submitted by Mr. Hérard on December 4, 95. The total difference was $70,757 for the three years 89, 90 and 91 — each year — well, you can ... it was $17, 522 in 89, in 90 it was $25,093 and in 91 it was $28,142.

Then I also considered that there was no supporting documentation to indicate the source of the funds in the cash account. I even checked the penalty report prepared by the investigator. When he began his audit, he was told there was only ... well, Ms. Richard had only six bank accounts, yet he was able to locate sixteen.

So, taking all these facts into account, I think there was enough evidence to uphold the 163(2) penalty.

12 My analysis will look first at the computation of the appellant's income for the three years in question.

• L'impôt sur le revenu au Canada, éléments fondamentaux, Dussault and Ratti, Les éditions Revue de Droit, Université de Sherbrooke, 1990:

  [TRANSLATION]

  14.3.4 Arbitrary assessment

  Finally, s. 152(7) I.T.A. authorizes the Minister to make an assessment where the taxpayer has filed no return or regardless of the information provided in one. The result is the making of an “arbitrary” assessment: as he is unable to determine a taxpayer's income accurately, the Minister reconstitutes it by tracing the fluctuations in his property and the expenditures made by him. An arbitrary assessment is usually based on the net worth method, which consists of determining the increase in a taxpayer's capital (assets over liabilities) during a given period and adding current expenses during that period. Various tax-exempt amounts are deducted from the result so obtained, such as gifts, legacies, windfalls and the untaxable portion of capital gains made, as well as income already reported, if any. The balance represents the additional income which is the subject of the “arbitrary” assessment.

14 In The Fundamentals of Canadian Income Tax, Fifth Edition, Vern Krishna, Carswell, at pp. 298, 1089 and 1090:

A net worth assessment is usually issued by Revenue Canada when a taxpayer does not file a return or, in some cases, when Revenue does not accept the taxpayer's figures. The theoretical principle underlying the calculation of income using the net worth basis is simple: Income is equal to the difference between a taxpayer's wealth at the beginning and at the end of a year, plus any amount consumed by the taxpayer during the year.

(g) Net Worth Assessments

The Minister is not bound to accept the taxpayer's income tax return. He or she may assess the amount of tax payable using whatever method is appropriate in the circumstances. The Minister may even issue an “arbitrary” or “net worth” assessment.

(i) When Used

The Minister generally uses an arbitrary assessment where the taxpayer refuses to file a tax return, files a return that is grossly inaccurate, or does not furnish any evidentiary support or documentation to allow verification of the return. Notwithstanding that an assessment is “arbitrary”, it must disclose the basis on which it is formulated.

(ii) Method Applied

The Minister is not statutorily constrained in the manner in which he or she arrives at an arbitrary assessment. In most cases, however, the Minister uses the “net worth” method. This method involves determining the taxpayer's worth at the beginning and at the end of the taxation years in question. Income for the period is calculated by adding the taxpayer's non-deductible expenditures to the increase in his or her “net worth” and deducting therefrom any appreciation in the value of his or her capital assets. Having determined the total increase in the taxpayer's “net worth” between two points in time, the Minister allocates, equally or otherwise, the estimated net income between the taxation years in question.

15 I consider that by incorporating the cash account information for 1989 and 1990 there was a confusion of kind, that is, a confusion between the net worth method of computing income and the receipts and disbursements method. The cash account information should not have been accepted for 1989 and 1990 any more than it was accepted for 1991. This was not an account recording the appellant's liquid assets, as the heading given by the appeals officer in computing the appellant's assets would suggest (Exhibit I-1): “cash - petty cash”. It had nothing to do with that. In fact, it had nothing at all to do with accounting. The appeals officer could not explain how the appellant's representative's cash account formed part of the net worth computation. As previously mentioned, the appeals officer placed the results of the account in his balance sheet under the heading “cash - petty cash”, which was not in any way the nature of this “working” account used by the appellant's representative. Accordingly, the appellant's net worth income for 1989 and 1990 should be reduced by these additions for those years, namely $5,428.76 for 1989 and $4,223.65 for 1990.

16 So far as the computation of the appellant's income for 1991 is concerned, for the same reasons the negative amounts totalling $50,000 described as reimbursements and entered in the “cash account” cannot be included in the appellant's net worth computation. Thus, the computation of income for 1991 was correctly made.

17 The appellant's representative's defence to the penalties was that the appellant was a victim of bad work by the accountant. He relied on the Federal Court of Appeal's judgment in R. v. Columbia Enterprises Ltd. (1983), 83 D.T.C. 5247 (Fed. C.A.), a decision of this Court in Johnson v. R. (1993), 94 D.T.C. 1009 (T.C.C.), Glass v. R. (1994), 94 D.T.C. 1091 (T.C.C.)and Magliaro v. Minister of National Revenue, 80 D.T.C. 1287 (T.C.C.). Those decisions do not allow the taxpayer to excuse his gross negligence by attributing it to the accountant. The Federal Court of Appeal's judgment in Columbia Enterprises Ltd. concerned a company. The Court held that the accountant's actions bound the company which had selected him as its accountant and left him free to act without a requirement of subsequent approval. According to that Court, the reasoning given by Cattanach J. in Udell v. Minister of National Revenue (1970), 70 D.T.C. 6020 (Can. Ex. Ct.), could not be applied to that case. In Udell a farmer who had kept his books properly had nonetheless made a substantial omission in reporting his income. He explained to the Court that he relied entirely on his accountant and believed that the lower income resulted from depreciation taken on the capital cost of his capital equipment. The Court accepted his explanation that he did not intend to make an incorrect tax return.

18 Section 163(2) and (3) of the Act reads as follows:

(2) False statements or omissions. Every person who, knowingly, or under circumstances amounting to gross negligence in the carrying out of any duty or obligation imposed by or under this Act, has made or has participated in, assented to or acquiesced in the making of, a false statement or omission in a return, form, certificate, statement or answer (in this section referred to as a “return”) filed or made in respect of a taxation year as required by or under this Act or a regulation, is liable to a penalty of the greater of $100 and 50% of the total of ...

(3) Burden of proof in respect of penalties. Where, in any appeal under this Act, any penalty assessed by the Minister under this section is in issue, the burden of establishing the facts justifying the assessment of the penalty is on the Minister.

19 Section 163(3) of the Act requires that proof of facts justifying imposition of the penalty be presented by the Minister. The appellant was not present. She therefore did not testify and was not called by the respondent to testify. However, her testimony was not essential to establish guilty intent, as circumstantial proof suffices: see Boileau v. Minister of National Revenue, 89 D.T.C. 247, at 250. In the instant case the appellant admitted in her Notice of Appeal having omitted to include in her income for 1989 and 1990 respective amounts of $17,522 and $25,142. Further, the appellant's representative noted the deplorable state of the bookkeeping. These admissions as to unreported income and non-existent bookkeeping lead the Court to conclude that the appellant, in circumstances amounting to gross negligence, made the alleged omissions in her income tax returns for the three years at issue.

20 The appeals for 1989 and 1990 are allowed to deduct the respective amounts of $5,428.76 and $4,223.65 and the amounts of the penalties will be varied accordingly. The assessments remain unchanged in all other respects. The appeal for 1991 is dismissed.