Date: 20020419
Docket: 2001-1327-IT-I
BETWEEN:
SHELDON WISEMAN,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
Reasonsfor
Judgment
Lamarre, J.T.C.C.
[1]
This is an appeal from an assessment dated January 14, 2000 that
was made by the Minister of National Revenue
("Minister") pursuant to section 227.1 of the Income
Tax Act ("Act") in respect of unremitted
income tax deductions, interest and penalties payable by Lacewood
Studios Ltd. ("Lacewood Studios"), a corporation that
was incorporated under the Ontario Business Corporations
Act on March 25, 1993 and was owned by Lacewood Television
Productions Inc. ("LTPI"). These two corporations were
part of a group of corporations ("Lacewood Group"), all
of them owned by the appellant and his wife, that were involved
in the media and film animation industry. The appellant was the
sole director, and also the president, treasurer and secretary,
of each of the corporations in the Lacewood Group, which were
petitioned into bankruptcy on May 9, 1997.
[2]
For the period from March 16, 1997 to April 30, 1997, Lacewood
Studios failed to remit federal income tax to the Receiver
General, hence the assessment under appeal, for a total amount of
$15,522.52. At the hearing, counsel for the respondent
acknowledged that this amount should be reduced by $1,883.75
because an amount of $170.28 was not established by a proof of
claim as required by paragraph 227.1(2)(c) of the
Act, while the balance of $1,713.47 related to amounts not
remitted during the post-bankruptcy period. The total amount at
issue is therefore $13,638.77.
[3]
The appellant is challenging the assessment on two grounds. He
first alleges that no action or proceeding to recover any amount
payable by him under subsection 227.1(1) was commenced within two
years after he last ceased to be a director of Lacewood Studios,
as required by subsection 227.1(4) of the Act. The
appellant claims that he resigned as a director of Lacewood
Studios between May 1997, when the corporation was petitioned
into bankruptcy, and July 1997, when it was put into
receivership. The Minister assessed the appellant by a notice of
assessment dated January 14, 2000, which was more than two years
after he ceased to be a director of the corporation. The Minister
responds that the appellant never ceased to be a director of
Lacewood Studios and that, therefore, the limitation period
provided for in subsection 227.1(4) never started to
run.
[4]
In the alternative, the appellant relies on subsection 227.1(3)
and submits that he is not liable for a failure under subsection
227.1(1) because he exercised the degree of care, diligence and
skill to prevent the failure that a reasonably prudent person
would have exercised in comparable circumstances. The respondent
takes issue on this point.
Legislative Provisions
SECTION 153: Withholding.
(1) Every person paying at any time in a taxation
year
(a) salary, wages or other remuneration, other than
amounts described in subsection 212(5.1),
. . .
shall deduct or withhold from the payment the amount
determined in accordance with prescribed rules and shall, at the
prescribed time, remit that amount to the Receiver General on
account of the payee's tax for the year under this Part or
Part XI.3, as the case may be, and, where at that prescribed time
the person is a prescribed person, the remittance shall be made
to the account of the Receiver General at a designated financial
institution.
SECTION 227.1: Liability of directors for failure to
deduct.
(1) Where a corporation has failed to deduct or withhold an
amount as required by subsection 135(3) or section 153 or 215,
has failed to remit such an amount or has failed to pay an amount
of tax for a taxation year as required under Part VII or VIII,
the directors of the corporation at the time the corporation was
required to deduct, withhold, remit or pay the amount are jointly
and severally liable, together with the corporation, to pay that
amount and any interest or penalties relating thereto.
4227.1(2)3
(2) Limitations on liability. A director is not liable
under subsection (1), unless
(a) a certificate for the amount of the
corporation's liability referred to in that subsection has
been registered in the Federal Court under section 223 and
execution for that amount has been returned unsatisfied in whole
or in part;
(b) the corporation has commenced liquidation or
dissolution proceedings or has been dissolved and a claim for the
amount of the corporation's liability referred to in that
subsection has been proved within six months after the earlier of
the date of commencement of the proceedings and the date of
dissolution; or
(c) the corporation has made an assignment or a
receiving order has been made against it under the Bankruptcy
and Insolvency Act and a claim for the amount of the
corporation's liability referred to in that subsection has
been proved within six months after the date of the assignment or
receiving order.
4227.1(3)3
(3) Idem. 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.
4227.1(4)3
(4) Limitation period. No action or proceedings to recover
any amount payable by a director of a corporation under
subsection (1) shall be commenced more than two years after the
director last ceased to be a director of that corporation.
Facts
[5]
On April 17, 1995, LTPI entered into a consulting agreement with
the Lacewood Group's international distributor, Paragon
Entertainment Corporation ("Paragon"), a publicly
traded corporation in Toronto, pursuant to which a
joint-venture corporation called Lacewood Animation
Productions Inc. ("LAPI"), in which the two partners
held equal shares, was created to undertake all the activities of
the Lacewood Group. Under that agreement, Paragon was to advance
working capital to cover the general and administrative expenses
incurred by LTPI for LAPI, and those advances were to be repaid
by LTPI or LAPI out of excess earnings, if any. A senior
financial executive was retained to manage the day-to-day
financial operations of both entities with respect to projects
undertaken under the consulting agreement. The financial
executive's responsibilities included the establishment and
maintenance of separate bank accounts for every LTPI production
connected with the consulting agreement, and the maintenance of
proper reporting procedures of a financial nature. The financial
executive had co-signing authority with the appellant for
everything related to those projects.
[6]
According to the appellant's testimony, that senior financial
executive was appointed by Paragon. His name was Steve Jarosz and
he was the vice-president of finance at Paragon. From that time,
he started interacting on a regular basis with the bookkeeping
department of the Lacewood Group, its staff and the appellant. In
the appellant's words, a cash-flow deficiency was created by
the new activity undertaken by Paragon, which was funding the
gross operational requirements on a weekly or bi-weekly
basis.
[7]
In the fall of 1996, Paragon showed its interest in becoming a
part owner of the entire Lacewood Group. From that moment,
according to the appellant's testimony, although there was no
official change, the Lacewood Group's bookkeeping staff
started to report to Steve Jarosz for day-to-day financial
matters.
[8]
According to the appellant, an agreement was worked out by the
end of 1996 (although the agreement was not filed in evidence)
under which Paragon intended to become the owner of 75 per cent
of the Lacewood Group; the appellant and his wife would have kept
only 25 per cent. After that, Paragon sent people to the Lacewood
Group's facilities in Ottawa to photocopy all its files. The
appellant testified that the people from Paragon started from
that moment to act as if they were in control of the Lacewood
Group even though no deal had been closed yet. At the same time,
Paragon prepared an offering memorandum relating to the offer and
sale of special warrants of Paragon to the public in order to
raise approximately $10,000,000. One of the purposes of the
offering memorandum, as indicated therein (see Exhibit A-3 at
pages 3-4), was for Paragon to raise funds to acquire all the
assets of LAPI and certain assets of related entities
thereof.
[9]
In this context, Paragon analyzed the Lacewood Group's
operations and addressed some financial issues related thereto.
In a letter sent by Richard Borchiver, the president of
Paragon, to the appellant on March 19, 1997 (Exhibit A-2), Mr.
Borchiver stated that there were several problems relating to
Lacewood's operations and he indicated that he had some
concerns with the non-viability of the current business
plan. Mr. Borchiver addressed the question of Lacewood's
substantial debts and liabilities. He suggested that he and the
appellant "work together to establish pre-approved
parameters for production for future deals" and that a
system of cheque signing and daily approvals be instituted for
all productions and corporate matters. By the same token, he
expressed his will to discuss the proper governance of these
important business matters with the appellant and Jonathan Slan,
Paragon's chief executive officer, every two weeks.
[10] In
cross-examination, the appellant explained that Mr. Borchiver was
speaking in that letter (Exhibit A-2) of the non-viability of the
plan initially proposed by Paragon in relation to Lacewood's
projected activities should Paragon acquire an interest in the
Lacewood Group. He acknowledged however that the Lacewood
Group's operations subsequent to the joint venture agreement
with Paragon were unsustainable without injections of working
capital from Paragon. With respect to the specific financial
issues raised by Mr. Borchiver (in relation to
Lacewood's substantial debts), the appellant commented that
those issues did not stand in the way of closing the deal with
Paragon. In his view, Paragon was only seeking information and
details to find out how and in which period their investment in
the Lacewood Group would be recouped. With respect to Mr.
Borchiver's request to implement a system by which cheques
would be approved regularly, the appellant stated that this was a
normal request since Paragon was advancing working capital to the
Lacewood Group.
[11] Finally,
Paragon was able to raise approximately $10,000,000 through its
public offering by the end of March 1997. Nevertheless, it never
closed the deal with the Lacewood Group. Instead, in the
appellant's words, Paragon resorted to bankruptcy proceedings
to take over the Lacewood Group (including Lacewood Studios,
which was owned by LTPI). According to the appellant's
testimony, this move took him completely by surprise.
[12] In 1996,
Lacewood Studios employed approximately 50 employees. In 1997,
there was a significant decline in the number of employees to
approximately 27. The appellant testified that a separate trust
account was never set up for source deductions from the
employees' salaries. He acknowledged that, although Paragon
was advancing the funds in that period, the cheques were still
issued by the Lacewood Group and he had to sign them to give his
approval, too. Although the appellant signed each and every
cheque drawn from Lacewood Studios' account, and verified
each of them to ensure that it was properly authorized, he could
not recall signing cheques made out to the Receiver General for
source deductions in March and April 1997.
[13] The
appellant explained that when Paragon became involved in the
Lacewood Group in 1995, and even more so at the end of 1996 when
it was planning to acquire 75 per cent of the Lacewood Group, it
took over control of the Lacewood Group. It is worth saying here
that Lacewood Studios had been operating since 1993 and that the
appellant had always overviewed and controlled the management and
finances of the Lacewood Group since its inception. When Paragon
came into the picture, it deposited sufficient funds in
Lacewood's account on a weekly basis to cover gross
operational requirements, including all remittances of source
deductions to the Receiver General. The appellant therefore
assumed and expected that the control put in place under
Paragon's jurisdiction would ensure that cheques were
remitted properly with respect to source deductions. It was in
fact always done properly up until mid-March 1997, at which point
Lacewood Studios failed to remit the source deductions for three
periods in a row (from mid-March 1997 to the end of April
1997).
[14] The
appellant said that during the period when Paragon was in
control, he was provided with cash flow statements and cheque
registers (which included the cheques for remittances to the
government) and that it did not come to his attention that the
source deduction remittances were not made in March and April
1997. Nothing occurred that was out of the ordinary or that
appeared different so as to make him suspect that this was
happening. He testified that Paragon controlled the financial
management of the Lacewood Group and that he was excluded from
that control. Paragon was the source of cash financing, its board
of directors was prestigious and the Lacewood Group was at its
mercy. In his view, he could have done no more to prevent the
failure to make the remittances than what a reasonably prudent
person would have done in the circumstances.
I)
First argument: Limitation period under subsection 227.1(4)
of the Act
[15]
Subsection 227.1(4) provides that no action or proceedings under
subsection 227.1(1) for recovery of an amount payable by a
director may be commenced more than two years after the director
last ceased to be a director of the corporation. The question
here is when, if ever, the appellant last ceased to be a director
of Lacewood Studios.
[16] It is
necessary to look at the applicable incorporating legislation to
determine whether a director has ceased to be a director even
though a trustee in bankruptcy has assumed control of the
bankrupt company. (See The Queen v. Kalef, 96 DTC
6132.)
[17] In the
instant case, Lacewood Studios was incorporated under the
Ontario Business Corporations Act. Its relevant provisions
read as follows:
SECTION 121
When director ceases to hold office
121.—(1) A director of a corporation ceases to hold office
when he or she,
(a) dies or, subject to subsection 119 (2), resigns;
(b) is removed in accordance with section 122; or
(c) becomes disqualified under subsection 118 (1).
Idem
(2) A resignation of a director becomes effective at the time a
written resignation is received by the corporation or at the time
specified in the resignation, whichever is later. R.S.O. 1990, c.
B.16, s. 121.
[18] The
appellant testified that he sent a letter of resignation to
Paragon at a certain date between May 1997 and July 1997. He
testified that he sent the letter to Paragon because it was
exercising de facto control over the Lacewood Group at the
time. He did not want to send the letter to himself, as he was
the sole director. He added that he submitted his resignation
after the petition in bankruptcy was filed, in the hope that
Paragon would reconsider its position. The appellant further
claimed that his copy of the letter of resignation was lost when
the receiver-manager, Deloitte & Touche, took possession of
the Lacewood Group's files in July 1997.
[19] The
respondent filed, as Exhibit R-4, a letter from the appellant
dated September 21, 1999 in which, at paragraph 10, the appellant
stated that, "[a]s a result of Paragon's actions,
Deloitte & Touche was appointed Receiver/Manager of the
company on or about May 9, 1997, at which time I resigned as an
Officer and Director of the company". In his testimony, the
appellant said that he had resigned after May 9, 1997. He said
that there was confusion in relation to the date shown in
Exhibit R-4 due to the fact that a court order
delivered in July 1997 made the bankruptcy effective on a
retroactive basis to May 9, 1997. Although the appellant claimed
that he was still acting as a director for the Lacewood Group
after May 9, 1997, he asserted that he must have resigned
before it was put into receivership in July 1997.
[20] The
respondent also filed the statement of affairs of Lacewood
Studios dated August 8, 1997 (see Exhibit R-5). On the second
page of this document, the appellant purported to certify the
accuracy of the statement of affairs under oath in his capacity
as president of Lacewood Studios. The respondent also filed, as
Exhibit R-6, a letter dated December 10, 1997 that was sent by
the appellant to Mr. Saunders at Deloitte & Touche. By
this document, the appellant purported to resign as officer and
director of various companies of the Lacewood Group, not
including Lacewood Studios. Mr. Saunders, a trustee in bankruptcy
employed by Deloitte & Touche, testified at trial that, to
his knowledge, this letter to him from the appellant dated
December 10, 1997 was the only letter of resignation the
appellant sent.
[21] Thus, the
appellant's version was contradictory, as pointed out above
by the respondent, and no evidence other than the appellant's
own self-serving testimony was presented to support the
credibility of the appellant's claim that he had ceased to be
a director of Lacewood Studios in the period between May and July
1997.[1] The
appellant is a lawyer and Exhibit R-6 demonstrates that he is
well aware of the proper method for delivering a resignation
letter. Based on the above, as well as on the rule in
Kalef, supra, the appellant has failed to show that
he ceased at any time to be a director of that corporation
pursuant to section 121 of the Ontario Business Corporations
Act. Therefore, the limitation period provided for in
subsection 227.1(4) never started to run.
II)
Second argument: Due diligence
[22]
Subsection 227.1(3) provides that a director will not be liable
under subsection 227.1(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". The standard of care, diligence and skill
required by subsection 227.1(3) was defined as follows by
Robertson J.A. in Soper v. The Queen, 97 DTC 5407
(F.C.A.) at page 5416:
. . . 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 conduct. 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".
[23]
Specifically, with respect to the duty to act, Robertson J.
stated at page 5418 that in his view:
. . . the positive duty to act arises where a director obtains
information, or becomes aware of facts, which might lead one to
conclude that there is, or could reasonably be, a potential
problem with remittances.
[24] In the
present case, the appellant is a professional with significant
business acumen. It has been held that a person who is
experienced in business and financial matters is likely to be
held to a higher standard than a person with no business
experience. (See Smith v. The Queen, 2001 DTC 5226
(F.C.A.) at paragraph 10.)
[25] Although
the appellant testified that he was under the impression that
Paragon was exercising de facto control over the Lacewood
Group, which I do not find to be substantiated by the documentary
evidence, this would not be sufficient to discharge the appellant
from his responsibilities as a director. Indeed, it was stated in
A.G. of Canada et al. v. McKinnon et al., 2000 DTC 6593,
that even if "a bank exercises control over the cheques
written by a company, [this does not mean that] the directors are
not vicariously liable for source deductions not remitted to
Revenue Canada" (paragraph 51).
[26] In the
instant case, the appellant was still active in the Lacewood
Group at the time of the failure to remit source deductions. Even
though Paragon had been advancing working capital to the Lacewood
Group over the preceding two years and was supervising the
Lacewood Group's operations, the appellant not only stayed on
as a director, but had to approve and sign all cheques drawn from
the Lacewood account. Furthermore, it is clear from the letter
sent by Mr. Borchiver, Paragon's president, in March
1997 (Exhibit A-2) that the appellant was to be included on a
regular basis in discussions on decisions to be taken in relation
to the operations of the Lacewood Group. It is difficult in the
circumstances for the appellant to argue that he was excluded by
Paragon from management and financial decisions relating to the
Lacewood Group of corporations, which he still owned.
[27] The
appellant testified that he relied on Paragon to manage the
Lacewood Group's operations. But in order to escape liability
as a director, he had to show that he took positive action to
prevent the failure. As a co-signer of cheques, he ought to have
noticed that no cheque was made to the Receiver General in the
middle of March 1997, as the remittances were always made on a
bi-monthly basis. The same can be said for the month of
April 1997.
[28] I agree
with respondent's counsel that the control of the
company's finances by a third party, if there was in fact
control, did not absolve the appellant, as a director of Lacewood
Studios, of the duty to remain informed as to the financial
condition of the company and to act, as regards its financial
obligations, in accordance with the Act.
[29] In my
view, it was possible for the appellant to suspect that the
corporation had failed to remit the source deductions in
accordance with the Act, and he failed to exercise
adequate control over the obligations of Lacewood Studios. A
reasonable person in the same situation with the same degree of
knowledge and experience would in my view have acted
otherwise.
[30] For these
reasons, the appeal is allowed and the assessment is referred
back to the Minister for reconsideration and reassessment, but
only to take into account the amounts conceded by the respondent
that are mentioned in paragraph 2 of the present
reasons.
Signed at Ottawa, Canada, this 19th day of April 2002.
"Lucie Lamarre"
J.T.C.C.
COURT FILE
NO.:
2001-1327(IT)I
STYLE OF
CAUSE:
Sheldon Wiseman v. The Queen
PLACE OF
HEARING:
Ottawa, Ontario
DATE OF
HEARING:
December 14, 2001
REASONS FOR JUDGMENT BY: The
Honourable Judge Lucie Lamarre
DATE OF
JUDGMENT:
April 19, 2002
APPEARANCES:
Counsel for the Appellant: Harold J. Feder
Counsel for the
Respondent:
Rosemary Fincham
COUNSEL OF RECORD:
For the
Appellant:
Name:
Harold J. Feder
Firm:
BrazeauSeller LLP
For the
Respondent:
Morris Rosenberg
Deputy Attorney General of Canada
Ottawa, Canada
2001-1327(IT)I
BETWEEN:
SHELDON WISEMAN,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
Appeal heard on December 14, 2001, at Ottawa,
Ontario, by
the Honourable Judge Lucie Lamarre
Appearances
Counsel for the
Appellant:
Harold J. Feder
Counsel for the
Respondent:
Rosemary Fincham
JUDGMENT
The
appeal from the assessment made under section 227.1 of the
Income Tax Act, notice of which is dated January 14, 2000
and bears number 06031, is allowed, without costs, and the
assessment is referred back to the Minister of National Revenue
for reconsideration and reassessment, but only to take into
account the amounts conceded by the respondent, on the basis that
the appellant is jointly and severally liable, together with
Lacewood Studios Inc., to pay an amount of $13,638.77.
Signed at Ottawa, Canada, this 19th day of April 2002.
J.T.C.C.
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