Citation: 2010TCC105
Date: 20100222
Docket: 2009-1608(IT)I
BETWEEN:
THOMAS E. HARLAND,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent,
Docket: 2009-1609(IT)I
BETWEEN:
HARLAND ASSOCIATES 02 INC.,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
REASONS FOR JUDGMENT
V.A. Miller, J.
[1]
These appeals were
heard on common evidence. The Appellants have appealed the reassessment of
their 2005 and 2006 taxation years. The fiscal year end for Harland Associates
02 Inc. is February 28.
[2]
The issues raised in
the pleadings were as follows:
THOMAS E. HARLAND (Harland)
a)
Whether benefits in the amount of $34,579 and
$23,675 had been conferred on Harland by Harland Associates 02 Inc. in 2005 and
2006 respectively;
b)
Whether a taxable dividend in the amount of
$108,045 was properly included in Harland’s income in 2005;
c)
Whether the rental losses – the expenses
associated with Harland’s personal residence in 2005 and 2006 – were incurred
for the purpose of gaining or producing income from business or property;
d)
In the alternative, if the rental losses were
incurred for the purpose of gaining or producing income from business or
property, whether the expenses relating to furniture, household items and
renovations were capital expenditures; and,
e) Whether Harland is liable for gross negligence penalties in
respect of the shareholder benefits.
HARLAND
ASSOCIATES 02 INC. (the Corporation)
a)
Whether the Corporation’s income was
over-reported by $2,000 in 2006;
b) Whether the Corporation is liable for gross negligence
penalties with respect to the shareholder benefits.
[3]
The Appellants were
represented by Cleve Myers, a chartered accountant. At the commencement of the
hearing, Mr. Myers informed the court that the only issues which were being
contested were the calculation of the taxable dividend that was included in
Harland’s income in 2005 and the imposition of subsection 163(2) penalties for
Harland and the Corporation in 2005 and 2006. Mr. Myers stated:
…We've chosen all along not to
contest the re-assessment of the specific amounts that were denied as expenses
to the company and therefore added to shareholders' appropriation to Mr.
Harland's account.
The reason
for not pursuing that was not an admission that we agreed with the
re-assessment. It was simply expediency. There wasn't, from Mr. Harland's
point of view, a large gain in expending an amount for somebody like me to go
through everything with what he could gain in return.
He just thought it would be better to pay the tax on that but he chose
not to admit to the penalties and he wanted to pursue that.
Dividends
[4]
In his income tax
return for the 2005 taxation year, Harland reported that he had received a
taxable dividend of $86,435.96. At the initial assessment stage, the Minister
of National Revenue (the Minister) reclassified this amount as “other income”.
No explanation for this reclassification was ever given to Harland or for that
matter, to the court.
[5]
Harland requested the
Canada Revenue Agency (“CRA”) to change the amount of $86,435.96 from “other
income” to taxable dividends and he requested a dividend tax credit.
[6]
In reassessing Harland,
the Minister assumed that the Corporation had paid Harland a dividend of
$86,435.96 and that he had failed to gross it up when he reported it on his
2005 income tax return. The Minister included a taxable dividend of $108,044.95
in Harland’s income.
[7]
Sherwyn MacArthur, a
business tax auditor with the CRA, gave evidence on behalf of the Respondent.
He explained his reason for concluding that the dividend reported by Harland
was not grossed up. He stated that it is a normal procedure for most
corporations to distribute dividends at the end of its fiscal year when it
knows how much money it has available for distribution. In such a scenario, the
corporation normally pays the dividends within six months of its fiscal year
end. With this in mind and the fact that the Corporation and Harland had
different year ends, Mr. MacArthur stated that he reviewed the Corporation’s
income tax returns for 2004, 2005, 2006, 2007 and 2008 to ascertain the amount
of dividends that it reported was paid in each of these fiscal years. He also
reviewed Harland’s income tax returns for 2004, 2005, 2006 and 2007 to
ascertain the amount of taxable dividends that he reported. Mr. MacArthur
concluded that the dividends in the amount of $86,435.96 were not grossed up
but were cash dividends.
[8]
Harland was able to
show that the Minister’s assumption was incorrect. However, I do not totally
agree with Harland’s calculation of the dividends that he received in 2005. In
order to compute his dividends, Harland deducted various amounts from the draws
($139,551) which he received from the Corporation in 2005. One of these amounts
($13,100) was allegedly for an expense incurred by the Corporation for the
business use of Harland’s boat. Subparagraph 18(1)(l)(i) of the Income
Tax Act explicitly denies the Corporation a deduction for the use or
maintenance of a boat. That subparagraph reads as follows:
18. (1) General
limitations -- In computing the income of a taxpayer from a business or property
no deduction shall be made in respect of
(l) use of recreational facilities and club dues -- an outlay or expense made or incurred by the
taxpayer after 1971,
(i) for the use
or maintenance of property that is a yacht, a camp, a lodge or a golf course or
facility, unless the taxpayer made or incurred the outlay or expense in the
ordinary course of the taxpayer's business of providing the property for hire
or reward, or
[9]
Using the calculations
given by Harland in exhibit A-3, I conclude that in 2005, Harland received a
cash dividend of $82,248 which is a taxable dividend of $102,810.
Gross Negligence Penalties
[10]
The courts have
interpreted gross negligence to involve greater neglect than a failure to use
reasonable care. They have held that it involves negligence which is tantamount
to intentional acting or indifference as to whether or not the law is complied
with[1].
[11]
Harland is very well
educated and is an experienced businessman. He is an engineer. He had operated
a former business under the name of Harland Associates from the early 1970’s
until 1997. He had the Corporation incorporated in 2002 and he is its President
and sole shareholder.
[12]
Harland disputed the
gross negligence penalty on the basis that he had both a bookkeeper and an
accountant who prepared the records for the Corporation. He stated that his
bookkeeper made the journal entries and his accountant reviewed the entries and
made several adjusting entries. It was his position that he had a system in
place to keep proper records and that he did not knowingly make a false
statement in either his income tax returns or those of the Corporation.
[13]
I have concluded that
the penalties were appropriate in this case. The evidence disclosed that,
during the relevant period, Harland used his personal credit cards for both
personal and business purposes. His secretary, who was also his bookkeeper,
used his monthly credit card statements and the bank statements to enter
amounts in the Corporation’s records. There was no evidence that Harland ever
reviewed the entries made by his secretary/bookkeeper. These records were forwarded
to the external accountants at year end. They completed a trial balance,
adjusting entries and prepared the corporate tax returns for Harland’s
approval. Harland prepared his own income tax returns.
[14]
Harland had the
Corporation pay the following personal expenses:
|
YEAR
|
PERSONAL CREDIT
CARDS
|
MEALS
|
BOAT
|
TOTAL
|
|
2005
|
$19,000
|
$3,994
|
$11,585
|
$34,579
|
|
2006
|
$7,751
|
$2,824
|
$13,100
|
$23,675
|
[15]
In 2005, the amount of
$19,000 represented the total payments made to Harland’s credit cards. In 2006,
the amount of $7,751 was the interest charges and fees incurred on the credit
cards.
[16]
These personal expenses
of Harland, which were paid by the Corporation, represented 17.7% and 44.6% of
the Corporation’s taxable income in 2005 and 2006 respectively.
[17]
Harland demonstrated a
level of indifference tantamount to intention. The appeal is allowed on the
basis that in 2005, Harland received a taxable dividend in the amount of
$102,810. In all other respects, the appeals are dismissed.
Signed at Ottawa, Canada, this 22nd day of February 2010.
“V.A. Miller”
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