Date: 20020619
Docket: 2001-3708-GST-I
BETWEEN:
KELVIN ARMSTRONG,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
____________________________________________________________________
Counsel for the Appellant: George F. Jones, Q.C.
Counsel for the Respondent: Nadine Taylor
___________________________________________________________________
Reasons
for Judgment
(Delivered orally from the Bench on April 26, 2002, at Victoria,
British Columbia)
Bowie J.
[1]
Mr. Armstrong brings this appeal from an assessment made by the
Minister of National Revenue (the Minister) under section 323 of
the Excise Tax Act (the Act), which is sometimes
colloquially known as the director's liability provision.
He is assessed as a director of a company called Oak Meadow
Estates Ltd. (Oak Meadows). Although a number of issues were
raised in the Notice of Appeal, the only one pursued by the
Appellant at trial was his claim that he is entitled to the
benefit of the saving provision found in subsection 323(3),
sometimes known as the due diligence clause:
323(3)
A director of a corporation 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.
[2]
There has been a considerable amount of jurisprudence developed
around the concept of the standard of care to be applied to a
director under subsection (3), and its counterpart in the
Income Tax Act, subsection 227.1(3). However, for present
purposes, it is sufficient to say that the standard is neither
totally subjective nor totally objective, and it is a standard
which varies along a continuum depending upon the particular
circumstances of the director concerned, and in particular that
director's level of business experience and sophistication,
and also the degree to which the director is involved in the
day-to-day activities of the company. A distinction is made
between inside directors, who have a high degree of involvement
in the day-to-day activities and outside directors, who have a
much lesser standard of care.
[3]
The Appellant has had an extensive career in business during the
20 years or so prior to the events giving rise to this appeal. He
owned and managed a Ford dealership in the City of Victoria for
some 20 years, prior to which he had some experience in banking.
In 1992, while still operating the Ford dealership, he and a Mr.
Videlin went into business together to develop a townhouse/
condominium project. For that purpose they formed the company,
Oak Meadows. They were equal partners, each owning half the
shares, and each being a director. There were, so far as I know,
no other directors. They shared the responsibility of managing
the company's activities between them. Mr. Videlin had
experience in construction and, as I understand it, he took
charge of the side of the business that saw to the physical
development and construction. Mr. Armstrong's contribution
was to invest money and also to provide accounting and
bookkeeping services, which he did through the person of one Mr.
Nelson.
[4]
Mr. Nelson is a certified general accountant and a long-time,
well-regarded and trusted employee of Mr. Armstrong's Ford
dealership. Mr. Nelson was given the task of keeping the books
for Oak Meadows, and seeing to such things as the payment of
bills, the filing of GST returns and similar financial duties.
Cheques were required to be signed by both Mr. Armstrong and
Mr. Videlin. Mr. Nelson, as I understand it, prepared the
cheques for their signatures. Oak Meadows built a condominium
project, which was successful and profitable. After that it
embarked on another project as a 50/25/25 partnership with two
other partners. This project was carried out through a
corporation called Meares Street Homes Ltd. (Meares), 50% of
whose shares were owned by Oak Meadows.
[5]
Again, Mr. Nelson did the bookkeeping and the other financial
work, including the filing of GST returns for the company. It was
agreed amongst the partners that the profits of Meares would be
paid out to its shareholders at year-end as management
fees. This was done on two separate occasions, at the fiscal
year-end of Meares for each of 1995 and 1996. Fifty percent of
the profits were paid to Oak Meadows. On these occasions no steps
were taken by Mr. Nelson to record a liability for GST. GST
should have been exigible in respect of the management services
provided by Oak Meadows to Meares. Oak Meadows should have
collected this GST from Meares along with its management fees,
and should have remitted it to the Receiver General. None of this
is disputed.
[6]
It does not appear, however, that any liability for GST was
recorded by Meares. Certainly it was never paid. I have no doubt
that the failure to record the GST liability and to ensure that
it was paid was, in the first instance at least, a failure by Mr.
Nelson to carry out his duties properly. There is certainly no
basis in the evidence to conclude that Mr. Armstrong, or anyone
else, was making any deliberate attempts to evade the payment of
GST. Indeed, as Mr. Jones pointed out more than once in the
course of his submissions, had Meares paid the GST to Oak Meadows
and Oak Meadows remitted it to the Receiver General as should
have been done, then Meares could have applied for, and
presumably received, an input tax credit for the full amount of
the tax paid.
[7]
Mr. Nelson was not called to give evidence, but the evidence
before me leads to the conclusion that the immediate cause of the
default was his negligence as to this item. It was part of his
duties, as described by the Appellant in his evidence, to see
that Oak Meadows collected and remitted the GST in respect of
those management services. It was also part of his duties to see
that Meares paid it, and then made the appropriate claim for an
input tax credit.
[8]
There is another substantial item which forms part of the
assessment against Oak Meadows. This arose directly out of the
winding up of that company. By mid-1998 the relationship between
the Appellant and Mr. Videlin had deteriorated considerably. The
Appellant described a situation in which there were continuing
requirements to provide additional funding to Oak Meadows, and in
which he responded to those requirements for funding, while Mr.
Videlin did not. Mr. Videlin took the position that he was unable
to provide further funds to the company. Whatever the reason, the
decision was taken to wind up the company, and at that time there
remained unsold two condominium units from the company's
last project. Mr. Armstrong and Mr. Videlin decided that each of
them would purchase one of those units, not to live in
themselves, but apparently for the use of a relative.
[9]
A lawyer by the name of Ron Hunter acted for the company, for the
Appellant, and for Mr. Videlin in these two transactions. Mr.
Armstrong purchased his unit, and in doing so he paid the GST
that was exigible on the supply to him of the unit. That was, as
the Act requires, collected by Oak Meadows from him at the
time of the closing of the sale and remitted to the Receiver
General. Mr. Armstrong apparently assumed, wrongly as it turned
out, that Mr. Videlin would do the same. For reasons that do not
appear from the evidence before me, Mr. Hunter, acting for
Oak Meadows on this transaction, did not collect the GST that
should have been paid by Mr. Videlin at the time of closing. As
Mr. Hunter was not called to give evidence, there is no
explanation before me of the reason for that. Nor was Mr. Videlin
called to give evidence; I was told that he now lives in the
United States.
[10]
Soon after the closing of these two transactions on July 2, 1998,
Oak Meadows was voluntarily dissolved and struck off the register
of companies pursuant to section 258 of the Company Act.
There is virtually no evidence before me beyond that which I have
already recited as to the details of the winding up. I do not
know, for example, if there was any distribution of assets to
either the Appellant or Mr. Videlin. I do not know if other than
the debt for GST, which is in issue here, there were other
creditors left unpaid. But I do know, as it appears from the
assumptions of the Minister that are pleaded in the Reply and not
challenged in the evidence, that Oak Meadows was assessed for
outstanding GST, penalty and tax, the details of which appear in
several lengthy schedules to the Reply filed.
[11]
It is sufficient for present purposes to know that the GST
assessment consisted of the amount not paid in respect of the
management fees, some $16,520, that unpaid in respect of the
supply of a condominium unit to Mr. Videlin, some $8,831,
and an additional amount of approximately $400 apparently
resulting from the company's day-to-day operations prior to
its dissolution. According to the schedule, the unpaid tax
totaled $26,692, and penalties of $7,395 were also assessed
against the company. No objection to this assessment was filed by
the company, nor of course was an appeal taken, with the result
that the assessment became final and binding in respect of the
company pursuant to provisions of subsection 299(3) of the
Act. In due course the requisite certificate was filed in
the Federal Court of Canada under section 323, and a writ of
execution was put in the hands of the sheriff, and returned
nulla bona on November 29, 2000. On September 26, 2000,
apparently on application of the Respondent, Oak Meadows was
restored to the register under the Company Act, with the
effect that it was deemed by that Act to have continued in
existence throughout. On December 18, 2000, the outstanding debt
for GST penalty and tax amounted to $39,419.89, and the Minister
assessed the Appellant for that amount under section 323 of
the Act.
[12]
As I said at the outset, the only issue before me is that of due
diligence. There is no question that the Appellant is a very
experienced and well-educated businessperson. He was also one of
only two shareholders, an equal partner in the business, and the
partner whose role included the financial management of the
affairs of the company, which was carried out for the company by
his employee, Mr. Nelson. There can be no question, and I
did not understand Mr. Jones to take issue with this, that
the standard of care applicable in the present case is at the
highest end of the range. Mr. Jones did argue that the standard
of care should be tempered by the fact that in so far as the GST
on the management fees was concerned, the liability did not cause
a loss to the Crown, as there would have been an equal claim for
an input tax credit had the tax been paid.
[13]
Whatever sympathies it may raise, in my view this is not a factor
that I can take into account. The liability of a director under
section 323 is fixed by the amount of the company's
liability. That amount is in turn fixed by the assessment, from
which no relief was ever sought by the company. Any claims for an
input tax credit would of course belong not to Mr. Armstrong, but
to the recipient of the management services, Meares. It does not
diminish the liability of either Oak Meadows or its directors to
say that Meares might have claimed and received an input tax
credit, nor does it affect the standard of diligence that Mr.
Armstrong was bound to apply. That is fixed by section 323 of the
Act, and the cases decided under that section.
[14]
Was the standard of care met in the present case? I do not
believe that it was. It is clear from the cases that any director
must take positive steps to discharge his or her obligations if
there is reason to believe that default in payment of tax is
imminent on the company's part. In the case of an inside
director, and particularly a sophisticated and experience inside
director, the duty is considerably higher. I am not aware of any
decided case such as the present, where the liability for tax
existed at the time that the company underwent a voluntary
dissolution. It seems obvious to me, however, that upon a
voluntary dissolution taking place, an inside director (and
probably any director) has a high obligation to make specific
inquiries of the person who has been exercising day-to-day
responsibility for the bookkeeping and bill paying functions as
to the potential liabilities to all and any creditors, and in
particular the taxing authority.
[15]
The Appellant's position as to due diligence was that he
put the bookkeeping function in the hands of Mr. Nelson, who is
an experienced accountant with a CGA designation, and that,
together with the retainer of a Mr. Fitzgerald, FCA to
prepare year-end statements, was sufficient to discharge his duty
under subsection (3). I disagree.
[16]
Dealing first with the role of Mr. Fitzgerald, he gave evidence
in the course of which he stated that his retainer was what he
called a computational engagement. This he explained as being an
engagement to prepare year-end statements, and to prepare and
file income tax returns, based on information given to him by the
company. In the present case, that information was furnished to
him by Mr. Nelson. Mr. Fitzgerald did not look behind this
information, nor was it any part of the function for which he was
engaged to do so. In particular, he did not look into whether
there were obligations not apparent on the face of the
company's books, nor did he bring those which were apparent
to the attention of management. None of this was within his
retainer.
[17]
I have no doubt that Mr. Fitzgerald is a very capable accountant,
but his retainer on this limited basis each year would not
contribute one iota to the discharge of the duty of diligence
owed by Mr. Armstrong. Nor can that duty be said to be discharged
by simply ensuring that the day-to-day bookkeeping and bill
paying has been assigned to a competent accountant. If that were
the case, there would be little onus on any director under the
provisions of section 323, or its equivalent provision in the
Income Tax Act. The duty of diligence must involve some
measure of oversight in every case, and it assuredly does where
the director is an inside director and highly qualified. In my
view, that duty becomes highly specific upon a voluntary
liquidation, when the company's assets are to be
distributed. Any residual assets are, of course, divided among
the shareholders, and it is obvious that this can only be done
after all obligations have been paid. If there is a distribution
of assets while creditors remain unpaid then that distribution is
to the advantage of the shareholders, and to the disadvantage of
the creditors. Mr. Armstrong was a 50% shareholder as well as a
director. I have no way of knowing from the evidence before me
whether Mr. Armstrong was enriched by any distribution of assets
in his favour in this case. It may have happened, or it may not.
He did not choose to give any evidence as to that.
[18]
I do find, however, that Mr. Armstrong had a duty to find out, by
specific inquiry at the time the charter was surrendered, the
state of payment of debts, including taxes. There was no evidence
before me that suggested that he had made any such inquiry at
that time, and the appeal is therefore dismissed.
Signed at Ottawa, Canada, this 19th day of June, 2002.
"E.A. Bowie"
J.T.C.C.
COURT FILE
NO.:
2001-3708(GST)I
STYLE OF
CAUSE:
Kelvin D. Armstrong and
Her Majesty the Queen
PLACE OF
HEARING:
Toronto, Ontario
DATE OF
HEARING:
April 22, 2002
REASONS FOR JUDGMENT
BY: The Honourable Judge E.A.
Bowie
DATE OF
JUDGMENT:
April 29, 2002
APPEARANCES:
Counsel for the Appellant: George F.
Jones, Q.C.
Counsel for the
Respondent:
Nadine Taylor
COUNSEL OF RECORD:
For the
Appellant:
Name:
George F. Jones, Q.C.
Firm:
Jones Emery
For the
Respondent:
Morris Rosenberg
Deputy Attorney General of Canada
Ottawa, Canada
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