3 June 2011 Roundtable, 2011-0401821C6 - 2011 STEP Conference-Q1 - Post Wind Up Obligations

Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the CRA.
Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle de l'ARC.

Principal Issues: What obligations would there be on the directors, shareholders, trustees, or beneficiaries (as the case may be), who received part of all of the distribution in the event that the proposed legislation was to be enacted and proclaimed into law, where the corporation or trust had not filed income tax returns on the basis of that law?

Position: It is the CRA's longstanding practice to ask tax payers to file on the basis of proposed legislation, but it is noted that legislation only becomes binding and capable of producing legal effects upon commencement. We have given general comments in relation to trusts and corporations below.

Reasons: Legislation and case law

QUESTION #1 - POST WIND-UP FILING OBLIGATIONS

The Income Tax Act (the "Act") requires a taxpayer to file and pay tax based on the law that is currently in force. We do understand, however, that the Canada Revenue Agency ("CRA") will often encourage taxpayers to file income tax returns on the basis of proposed law.

This issue pertains to the obligations of taxpayers where income tax legislation, containing a retroactive provision is tabled, but has not as yet been proclaimed. The temporal application rules are not clear as to what happens when a corporation or a trust is wound-up subsequent to the legislation being tabled, but prior to its proclamation. The problem that is envisaged is the situation where a complete distribution has been made and the corporation has been wound-up or the trust has been officially terminated.

In such circumstances, what obligation would there be on the directors, shareholders, settlor, trustees, or beneficiaries (as the case may be), who received part or all of the distribution in the event that the proposed legislation was to be enacted and proclaimed into law, where the corporation or trust had not filed income tax returns on the basis of that law?

CRA Response

Proposed Legislation

It is the CRA's longstanding practice to ask taxpayers to file on the basis of proposed legislation. This practice eases both the compliance burden on taxpayers and the administrative burden on the CRA.

This practice is consistent with Parliamentary convention that establishes that tax proposals take effect as soon as the Minister of Finance tables the Notice of Ways and Means Motion.

Upon enactment of a particular amendment, any taxpayers who did not file based on the proposed amendment are expected to take immediate steps to put their affairs in order and, if applicable, pay any taxes and interest owing.

In the event that the Government announces that it will not proceed with these amendments, any taxpayers who have filed based on the proposed amendment are also expected to take immediate steps to put their affairs in order and, if applicable, pay any taxes owing. Where a taxpayer acted reasonably under the circumstances, took immediate steps to put their affairs in order and paid any taxes owing, the CRA will waive penalties and/or interest as appropriate.

Legislation Enacted with Retroactive Effect

Legislation only becomes binding and capable of producing legal effects upon commencement. In this regard, subsection 5(2) of the Interpretation Act (footnote 1) provides that,

If no date of commencement is provided in an Act, the date of commencement of that Act is the date of assent to the Act.

The binding feature of retroactive provisions was addressed in Gustavson Drilling (1964) Ltd. v. M.N.R., (footnote 2) where Dickson J. held that,

The general rule is that statutes are not to be construed as having retrospective operation unless such construction is expressly or by necessary implication required by the language of the Act. (footnote 3)

For the purposes of this discussion, it is assumed that the retroactive legislative provision would, but for the fact that it has not as yet received assent, impose an additional tax burden on the taxpayer. The failure to heed the retroactive commencement date of legislation that has not as yet received assent is not without consequences.

Once the retroactive provision receives assent, it is binding and produces legal effects. There are specific provisions under the Income Tax Act (footnote 4) that address the failure to file income tax returns consistent with the provisions of the Act. The Minister may, pursuant to subsection 152(4), make an assessment, reassessment or additional assessment at any time, subject to such time bars (footnote 5) as may be applicable. Moreover, subsection 152(7) permits the Minister to assess tax payable notwithstanding that no return has been filed.

It should be noted that subsection 152(3) provides that liability for tax is not affected by the fact that no assessment has been made. In this regard, it was held in The Queen v. Simard-Beaudry Inc. (footnote 6) that a tax liability results from the Act, and is created as a result of taxable income, not by an assessment or re-assessment. The liability comes into existence the moment the income is earned. An assessment or reassessment does not create the liability, but is at most a confirmation of its existence. (footnote 7)

Accordingly, the retroactive commencement date gives rise to the liability prior to the wind-up of the corporation or trust notwithstanding that the assessment or reassessment is issued subsequent to the wind-up. Furthermore, the fact that a corporation or trust has been wound-up does not bar the issuance of a notice of assessment. The notice of assessment merely confirms the existence of the pre-existing liability. In the corporate context there is support for this position in the continuation of action provisions of the applicable corporate legislation. For instance, paragraph 226(2)(b) of the Canada Business Corporations Act (footnote 8) provides that,

Notwithstanding the dissolution of a body corporate under this Act,
.....
(b) a civil, criminal or administrative action or proceeding may be brought against the body corporate within two years after its dissolution as if the body corporate had not been dissolved; ...

Similar continuation of action provisions are contained in provincial company legislation. (footnote 9) In this respect, it should be noted that there are a number of cases where it has been held that the issuance of a notice of assessment is an administrative action or proceeding (footnote 10) albeit not a process to enforce a claim. (footnote 11) Accordingly, a notice of assessment can be issued without having to revive the corporation.

It should be noted that where the legal representative of a taxpayer has possession or control over the property of the taxpayer, the legal representative is required pursuant to subsection 159(2) to obtain a clearance certificate before distributing said property. The term "legal representative" is defined in subsection 248(1) to mean,

a trustee in bankruptcy, and assignee, a liquidator, a curator, a receiver of any kind, a trustee, an heir, an administrator, an executor, a liquidator of a succession, a committee or any other like person administering, winding up, controlling or otherwise dealing in a representative or fiduciary capacity with the property that belongs or belonged to, or that is or was held for the benefit of, the taxpayer or taxpayer's estate.

Accordingly, before a corporation or a trust can be wound-up, the person who is responsible for the winding-up and distribution of the property is required to obtain a clearance certificate verifying that all amounts for which the corporation or trust is liable under the Act, and for which that person is or may be liable in the capacity of responsible representative, have been paid or that acceptable security for payment has been provided.

Where the legal representative, other than a trustee in bankruptcy, distributes the property without having obtained a clearance certificate, the legal representative is personally liable to pay under subsection 159(3), to the extent of the property distributed, the amounts which the corporation or trust can reasonably be expected to be liable under the Act at or before the time the distribution is made.

Furthermore, to the extent that the property were to be distributed to a person, who is not dealing at arm's length with the corporation or trust, that person can be held liable under subsection 160(1) for the lesser of the tax payable by the corporation or trust and the amount by which the fair market value of the property exceeds the consideration given for the property. (footnote 12) Section 251 provides the rules for determining whether or not persons deal with each at arm's length.

In summary, where notice is given of proposed legislation having a retroactive effect date, and a legal representative:

(a) does not file in accordance with the proposed legislation;
(b) does not obtain a clearance certificate; and
(c) distributes the property of the taxpayer in the possession or control of the legal representative,

the provisions of subsection 159(3) apply.

Katharine Skulski
June 2-3, 2011
2011-040182

FOOTNOTES

Note to reader: Because of our system requirements, the footnotes contained in the original document are shown below instead:

1 R.S.C. 1985, c. I-21.
2 [1976] C.T.C. 1, 75 DTC 5451 (S.C.C.).
3 Supra, at pp. 6 & 5454 respectively.
4 R.S.C. 1985, c. 1 (5th Supp.), hereinafter referred to as the "Act".
5 See subsections 152(4) & (3.1).
6 71 DTC 5511 (F.C.T.D.).
7 Supra, at p. 5515.
8 R.S.C. 1985, c. C-44.
9 See Business Corporations Act, S.B.C. 2002, c. 57, s. 346(1)(b); Business Corporations Act, R.S.A. 2000, c. B-9, s. 227(2)(b); The Corporations Act, C.C.S.M., c. 225, s. 219(2)(b); An Act Respecting the Legal Publicity of Sole Proprietorships, Partnerships and Legal Persons, R.S.Q., c. P-45, s. 50; Business Corporations Act, S.Q. 2009, c. 52, s. 306; Business Corporations Act, S.N.B. 1981, c. B-9.1, s. 152(2)(b); Companies Act, R.S.N.S. 1989, c. 81, s. 136(3); Companies Act, R.S.P.E.I. 1988, c. C-14, s. 74(3); Corporations Act, R.S.N.L. 1990, c. C-36, s. 355(2)(b); Business Corporations Act, R.S.Y. 2002, c. 20, s. 228(2)(b); Business Corporations Act, S.N.W.T. 1996, c. 19, s. 228(2)(b); and Business Corporations Act, S.N.W.T. 1996, c. 19, s. 228(2)(b), as duplicated for Nunavut by s. 29 of the Nunavut Act, S.C. 1993, c. 28; see also Business Corporations Act, R.S.S. 1978, c. B-10, s. 291; and Business Corporations Act, R.S.O. 1990, c. B.16, s. 242(1)(b).
10 See Dominion of Canada General Insurance Co. v. The Queen, [1984] C.T.C. 190, 84 DTC 6197 (F.C.T.D.); Manago v. M.N.R., [1990] 2 C.T.C. 2459, 90 DTC 1889 (T.C.C.); Larocque v. M.N.R., [1991] 2 C.T.C. 2151, 91 DTC 899 (T.C.C.); Osborne v. M.N.R., [1991] 2 C.T.C. 2756, 91 DTC 1283 (T.C.C.); The Queen v. Leung, [1993] 2 C.T.C. 284, 93 DTC 5467 (F.C.T.D.); Pozzebon v. The Queen, [1998] 3 C.T.C. 2902, 98 DTC 1940 (T.C.C.); and Re Slater Steel Inc. (2004), 6 C.B.R. (5th) 125 (Qc. S.C.).
11 See Pure Spring Co. v. M.N.R., 1946 C.T.C. 169, 2 DTC 844 (Ex. Ct.); Léo Beauchesne Inc. v. The Queen, [1977] C.T.C. 398, 77 DTC 5308 (F.C.T.D.); H.J. Flemming Estate v. M.N.R., [1983] C.T.C. 321, 83 DTC 5329 (F.C.T.D.); and Re Norris (1988), 67 C.B.R. (N.S.) 246 (Ont. S.C. Reg.), aff'd in (1988), 67 C.B.R. (N.S.) 246 at 254 (Ont. S.C), rev'd on other grounds in [1989] 2 C.T.C. 185, 89 DTC 5493 (Ont. C.A.).
12 See Montreuil v. The Queen, [1996] 1 C.T.C. 2182, 95 DTC 138 (T.C.C.).