Cassels v. The Queen, docket 1999-2627-GST-G

Date: 20011009

Docket: 1999-2627-GST-G

BETWEEN:

JAMES I. CASSELS,

Appellant,

and

HER MAJESTY THE QUEEN,

Respondent.

Reasonsfor Judgment

Rowe, D.J.T.C.C.

[1]            The appellant appeals from decisions issued by the Minister of National Revenue (the "Minister") dated March 8, 1999 confirming earlier assessments issued pursuant to subsection 323(1) of the Excise Tax Act (the "Act") in respect of the failure of Reed's China (Northgate) Ltd. (Northgate), Reed's China Southgate Ltd. (Southgate) and Reed's China (West Edmonton) Ltd. (West Edmonton) to remit Goods and Services Tax (GST) pursuant to subsection 228(2) of the Act. Since the appellant was - at all material times - the only Director and sole shareholder in the corporations and was actively involved in the management of said corporations carrying on retail business in Edmonton, Alberta, the Minister chose to hold the appellant personally liable for the outstanding tax as calculated in paragraph 15 of the Reply to the Notice of Appeal (Reply). Counsel for the parties advised the Court there was no dispute with the amounts at issue and agreed the following documents would be entered as exhibits:

                Exhibit A-1 - Audit Report re: Southgate - prepared by Wendy Pierce for period 91/01/01/ to 93/09/30.

Exhibit A-2 - Book of Documents entitled Examination for Discovery Documents, tabbed 1-44, inclusive, of which the appellant relied on the documents found at tabs 3, 11, 12, 22, 23 and 40. The respondent relied on the document found at tab 9.

Exhibit A-3 - Photocopies of cheques issued by Revenue Canada to Southgate and to Reed's China Manulife Ltd.

Exhibit R- 1 - Audit Allocation Download Information - dated July 28, 1993 - pertaining to Southgate.

Exhibit R- 2 - Audit Allocation Download Information - dated July 28, 1993 - pertaining to Northwood [sic].

Exhibit R -3 - Audit Allocation Download Information - dated May 25, 1993 - pertaining to West Edmonton.

Exhibit R -4 - Statement of Account (Goods and Services Tax) pertaining to Southgate (dated 2001-06-19).

Exhibit R-5 - Statement of Account (Goods and Services Tax) pertaining to Northgate (dated 2001-06-19).

Exhibit R-6 - Statement of Account (Good and Services Tax) pertaining to West Edmonton (dated 2001-01-19).

[2]            James Ian Cassels testified he resides in Victoria, British Columbia and is employed as a salesman. After high school, he started working in a restaurant and then became employed as a salesman in a men's clothing store. In 1981, he opened his own retail store - selling gifts and china - in downtown Victoria. In 1990, an old family-owned company - Reed's China - from Edmonton, Alberta contacted him with an offer to take over two of the stores - Northgate and West Edmonton - situated in the large malls bearing the same names. Cassels stated he decided to undertake the venture and used the Victoria store to inject approximately $250,000 in inventory in order to place the Edmonton outlets into a position where they could be viable after which ongoing sales - generated in each location - would be utilized to make further purchases of inventory, as required. Later, another store - Southgate - was opened in Southgate Mall in Edmonton. The stores were open for business 12 hours a day, 7 days a week and sold linens, flatware, and gifts. Each outlet was owned and operated by a separate corporation and was supervised by a manager. Two managers had worked for Reed's China prior to Cassels assuming control of the business. A General Manager was responsible for overseeing the operation of all three stores. Cassels maintained his principal residence in Victoria and worked in the business there but travelled to Edmonton every two weeks throughout the year except for busy seasons when he went there every week in order to attend to matters concerning those retail outlets. The General Manager had been employed by the Bay - in Calgary - prior to his employment with the Cassels group of companies and the local managers earned a base salary of $20,000 together with certain incentives which could double that amount. In Victoria, there were bookkeepers employed to handle the recording of transactions arising from the operation of the three businesses in Edmonton and a firm of Chartered Accountants in Victoria was retained by Cassels to prepare the necessary financial statements and tax returns. Later, a comptroller was hired to oversee the financial accounting requirements of the various businesses. In Edmonton, each manager prepared a daily tabulation of sales and these were reported monthly to the Victoria office together with appropriate documents to keep track of inventory. Each corporation - operating a store - maintained its own bank account and the bookkeepers prepared cheques and presented them to Cassels for payment. During this period, Cassels stated he worked between 80-100 hours a week as he had also opened a store in Red Deer, Alberta and would travel there - by car - after flying to Edmonton. While in Alberta, he held meetings with the managers where various business procedures were discussed but they were well trained in areas of sales and service and preparing sales reports. The General Manager was capable of ordering inventory and each store manager would place - with him - a request for certain merchandise. When GST provisions came into effect, all stores operated by his corporations were registered and he obtained as much information as possible by way of booklets, manuals and in obtaining advice from bookkeepers. He had to oversee the purchase of new cash registers to record the tax and, since the Province of Alberta had never had any tax on consumer purchases, the sales staff had to be trained on the methods utilized to collect the GST. His employees were provided with a 1-800 number to obtain clarification from appropriate officials at Revenue Canada in the event they encountered a problem. A GST audit was performed in respect of the stores and only minor adjustments were required. Later, another audit was performed and there had been an adjustment concerning the purchase of cash registers when he had claimed an Input Tax Credit (ITC) on five of the units when only one was eligible. There was also the matter of export sales - by the Edmonton stores - to customers residing outside of Canada - generally in the United States - not being subject to GST. Cassels stated he was familiar with this aspect of the tax collection regime since the export sales of the Victoria store amounted to between 20-40% of total sales volume. An assessment was issued - on April 18, 1994 - following the audit and Cassels directed an objection be filed - Exhibit A-2 - tab 12 - but it was confirmed by Notice of Decision - Exhibit A-2 - tab 11 - dated May 18, 1995. It concerned the store at Northgate but the objection was incorrectly filed in the name of Reed's China (Northwood) Ltd. Following receipt of the decision, Cassels stated he was not well versed in the intricacies of tax law relating to GST and - in any event - the financial position of the relevant corporations was such that it was not practical to pursue litigation to contest the matter since other assessments had been issued against Southgate and West Edmonton. Cassels stated he spoke with a collector from Revenue Canada and arranged a method of repayment whereby each store would pay the sum of $3,000 per month on the arrears together with current remittances in accordance with existing filing requirements. This method was adhered to until sales began to decline and the previous level of repayment could no longer be maintained. After the audit and resulting assessments, Cassels stated the staff in all stores were trained in proper methods of recording different transactions - including those involving a deposit on certain types of purchases - some of which - in the past - had not always been subject to the correct GST treatment by the clerks. In addition, some employees had forgotten to collect GST on items which were being purchased on a lay away plan whereby a buyer made a series of payments until the purchase price was finally paid in full. Cassels referred to the audit report - Exhibit A-1 - covering the period from January 1, 1991 to September 30, 1993, wherein the auditor had outlined certain procedures that required some clarification but - overall - had found few areas of concern. Cassels stated he attempted to comply with all aspects of GST in connection with the various business outlets for which he was responsible. In 1993, the Cassels group of companies was operating 5 stores in Edmonton, three in the malls at Northgate, Southgate and West Edmonton, one store in Manulife Centre and another in Red Deer. In total, annual gross sales were in excess of $4,000,000. From time to time, Cassels stated he met with collectors from Revenue Canada in Victoria and spoke to various individuals at Revenue Canada on a regular basis concerning the GST arrears. He found the interest and penalties "just kept adding up" and decided to seek advice from the corporate accountants concerning the financial state of the overall business operations conducted through the various corporations owned and controlled by him. He was informed the businesses should be wound up and - through that process - all outstanding GST could be paid - in full - because Revenue Canada would have priority over all other creditors. The Victoria corporation owned by Cassels had initially injected the sum of $250,000 into the stores in Alberta and had taken a first charge on chattels but - ultimately - recovered only $4,000 following the liquidation of those entities. At the time of undertaking the winding up of the corporations, Cassels acknowledged the trade creditors and suppliers would not be paid in full but the numbers indicated there would be no difficulty in paying the debt to Revenue Canada. Between 1991 and 1992, sales at Northgate had increased but the revenue went towards building inventory and advertising costs were high with the result that a loss could still result even though sales volume was rising. Of the five stores in Alberta, three went into formal receivership and two merely closed the doors. The separate Victoria corporation continued to operate. In the statements prepared by the accountants, Cassels indicated the GST portion was not readily apparent and for the first 10 or 11 months of operation the stores were obtaining rebates. As matters progressed, he used his personal sources of credit in order to inject the sum of $50,000 into the businesses and he took out only $60,000 - in salary - over the course of 4 years, a sum he calculated to be substantially less than minimum wage. Cassels stated he relied on the advice of his consultants that the inventory was sufficient to retire the GST debt even by selling the stock in the stores at greatly reduced prices during the course of the liquidation process. Unfortunately, that desired result was not achieved and the fees and charges incurred by the liquidators, trustee, receiver and accountants amounted to more than $100,000. One of the banks on which post-dated cheques had been drawn in favour of the Receiver General to pay off the GST arrears decided to close the account and the cheques were returned without being cleared. Cassels referred to the Statements of Account - Exhibits R-4, R-5 and R-6 - in which the substantial payments on arrears had been recorded. Counsel for the appellant referred him to paragraph 19 of the Reply and Cassels agreed the assumptions relied upon by the Minister were correct except for subparagraph 19(k) in the sense that a substantial amount of product was sold to tourists at the West Edmonton store since it was a popular tourist destination and those sales - for export - would not attract GST. Naturally, he disagreed with the assumptions at subparagraphs 19(w) and 19(x) which, instead of being assumptions of fact, purported to be a declaration of a conclusion - in law - which is - in fact - the whole point of the within appeal. The assumptions are as follows:

a)              The facts as stated and admitted, supra.

b)             Northgate was incorporated pursuant to the laws of Alberta on July 24, 1990.

c)              Northgate was located in Northwood Mall in Edmonton, Alberta, and sometimes referred to as "Reed's China (Northwood) Ltd.".

d)             Southgate was incorporated pursuant to the laws of Alberta on March 7, 1991.

e)              West Edmonton was incorporated pursuant to the laws of Alberta on July 24, 1990.

f)              The Businesses were retail china and gift shops.

g)             At all material times, the Appellant was the sole director and 100 percent shareholder of the Businesses and was actively involved in the management of the Businesses.

h)             At all material times, the Appellant resided in British Columbia and visited the Businesses periodically.

i)               The Businesses were Goods and Services Tax ("GST") registrants for the purposes of the Act.

j)               The Businesses were required to file GST returns on a quarterly basis and at all material times, collected or were required to collect GST on their taxable supplies.

k)              All or substantially all of the Businesses' supplies for the relevant period were taxable at the rate of 7 percent.

l)               The Businesses were required to remit net tax with respect to GST collected pursuant to subsection 228(2) of the Act but failed to remit such tax as required.

m)             on November 30, 1995, Southgate made an assignment into bankruptcy.

n)             On December 1, 1995, Northgate and West Edmonton made an assignment into bankruptcy.

o)             On January 24, 1996, the Minister filed a Proof of Claim with respect to Southgate in the amount of $34,011.97, comprised of net tax in the amount of $24,318.17, interest in the amount of $4,792.33, and penalties in the amount of $4,901.47.

p)             On January 25, 1996, the Minister filed a Proof of Claim with respect to Northgate in the amount of $47,421.76, comprised of net tax in the amount of $41,006.49, interest in the amount of $3,254.18, and penalties in the amount of $3,161.09.

q)             On January 25, 1996, the Minister filed a Proof of Claim with respect to West Edmonton in the amount of $46,600.39, comrpised of net tax in the amount of $33,596.26, interest in the amount of $6,532.31, and penalties in the amount of $6,471.82.

r)              Between April 14, 1994, and January 2, 1998, the Minister recovered a portion of the net tax owed by the Business, resulting in the outstanding balances calculated in paragraph 15 of this Reply.

s)              Northgate was struck from the Alberta Corporate Register on October 15, 1998.

t)              Southgate was struck from the Alberta Corporate Register on September 1, 1997.

u)             West Edmonton was struck from the Alberta Corporate Register on October 15, 1998.

v)             The Appellant was aware of the Businesses' obligation to remit net tax.

w)             The Appellant knew or ought reasonably to have known of any accounting problems at the Businesses and of their failure to remit net tax as required.

x)              The Appellant did not exercise the degree of care, diligence, and skill that a reasonably prudent person would have exercised in comparable circumstances to prevent the Businesses' failure to remit net tax under the Act.

[3]            In cross-examination, James Cassels stated he is 45 years old, has finished Grade 12 but had not pursued any post-secondary education except for sales training courses. He stated he was not well acquainted with computers but was certainly capable of using a calculator. In 1981, he incorporated a company to operate a retail store - Limited Edition - in Victoria and that business did not cease operations until 1999. At one point, he operated three other retail stores - through a separate corporation for each store - including a clothing outlet and two of these were still in operation when he undertook the business expansion in Alberta. He was always the sole Director and shareholder in the incorporated entities. When be began operating Limited Edition - together with a satellite version of that outlet - he still maintained his full-time job but - in 1984 - decided to leave his employment and worked full time thereafter as a general overseer of the retail operations and was responsible for reviewing monthly reports. At one point, his group of companies was operating 12 separate retail outlets as well as selling product through a mail-order division. At all times, he was the sole signing authority for any particular corporation involved in operating a specific business. He was aware the auditor - Wendy Pierce - in her report - Exhibit A-1 - had allowed only 3% of sales as being attributable to exports on the basis of an average to be applied to the Southgate stores but - in his view - that was not accurate since West Edmonton sales to tourists were higher than any other stores, even though Southgate and Northgate also included foreign visitors among their customers. Cassels agreed that - as noted on page 2, paragraph D - of the audit report he had not calculated any percentage of export sales to be submitted to the auditor for consideration as an alternative prior to the assessment being issued. The store managers handled day-to-day operations and were responsible for record-keeping concerning sales and for making all bank deposits. The relevant information was then forwarded to the office in Victoria. Cassels stated he was spending between 8 and 16 days a month in Alberta. The clerks in the stores all had a Grade 12 education - at least - and were paid minimum wage which - at the commencement of his business operations in Edmonton - was approximately $5.00 per hour. All sales, paid-outs and deposits were recorded in a General Ledger. Cash register tapes, monthly sales reports and other relevant information were provided to the Victoria Head Office where the appellant worked together with one or two bookkeepers and - in later years - a comptroller. One bookkeeper was taking courses leading to an accounting designation and another was very experienced after having worked for various businesses over the years. Cassels stated he reviewed material sent to him including the amount of GST collected. At the end of the year, an accounting firm would prepare income tax returns and financial statements. The GST returns were prepared and filed by the bookkeepers using numbers provided by managers of the various stores, taken from the cash register tapes. However, in some instances during the early stages, the three Edmonton stores were not collecting GST on certain transactions so the tapes would not reflect the absence of that tax within a certain stated total. The managers of a store were able to pay out expenses of a minor nature from store receipts. Between 1991 and mid-1993, the Edmonton stores were - generally - receiving GST rebates following the filing of quarterly returns. Southgate did not commence operations until 1992. The Manulife and Red Deer stores were not included in the audit but Southgate had been an expensive store to open and to stock with merchandise but the other businesses were doing well and sales had been increasing since 1990. Counsel for the respondent referred the appellant to the financial statement for West Edmonton - Exhibit A-2, tab 9 - which indicated sales were $493,671 in 1991 and purchases were in the sum of $510,762. In 1992, sales were in the sum of $666,394 and purchases amounted to $424,303. Most of the expenses - excluding wages - would be the subject of an ITC and - in 1992 - amounted to nearly $200,000. Cassels pointed out the maximum amount of GST that could be owing at the end of the year would be 7% of $40,000 representing the difference between the GST collected on taxable sales minus the relevant ITCs accumulated during the year. Similarly, the financial statement for Northgate - Exhibit A-2, tab 22 - would support the view that there would be - at most - only 7% owing on the sum of $25,000 but he agreed he had not performed this sort of calculation when he received the statements. He was aware the corporations owned 5 vehicles which were used by employees and understood this would have an impact on GST in relation to a taxable benefit having been provided to them. During the course of three years, the three stores were assessed as owing approximately $65,000 as a consequence of having made sales in excess of $5 million. Cassels stated he would compare sales figures with those shown on the GST returns and it was reasonable - in his view - to have been receiving rebates since there were large purchases of inventory during early stages of operation of each store as it was being established and stocked. Counsel referred the appellant to Exhibits R-1, R-2 and R-3, the tax return history of Southgate, Northwood [sic] - actually Northgate - and West Edmonton, respectively. Cassels stated he had not been aware of the fact that when sales (supplies) were greater than purchases, a rebate had been claimed on the GST return. He knew that all of the sales were not subject to GST since some large sales - amounting to $15,000 on once occasion - were for export and would not attract tax. He assumed the till tapes were correct and the returns had been prepared properly but he did not specifically undertake any calculations by way of verification. Various assessments were issued by the Minister for the period between January 1, 1991 and September 30, 1993. Northgate was assessed the sum of $22,249.50, Southgate owed $21,145.92 and the amount payable by West Edmonton was in the sum of $25,286.52. With the addition of interest and penalties - by April 15, 1994 - the amount owed by the three stores was in excess of $80,000 and that total debt became the subject of an arrangement whereby the corporations would provide post-dated cheques amounting to $3,000 per specified payment period in order to eliminate the arrears. At the same time, reporting errors were pointed out to the store managers, GST reporting was done in a timely manner and payments were made on the arrears until it became impossible to keep up the promised amounts in the face of declining sales. For the assessment covering the period ending September 30, 1993, according to the Statement of Account - Exhibit R-6 - West Edmonton paid approximately $23,000 towards arrears as well as filing the required ongoing returns and making the remittances, as calculated therein. The Statement of Account - Exhibit R-4 - pertaining to Southgate indicated 7 cheques were issued in repayment of arrears but 4 were rejected by the bank with the result that only $6,000 was paid on the outstanding balance. Cassels stated that subsequent to September 30, 1993, the returns for the next five reporting periods showed ITCs in the same amount as GST collected on sales due to the transfer of stock between stores as part of a simplified accounting mechanism in relation to payment of that tax. The Northgate store paid approximately $6,000 towards the arrears and 4 cheques - each in the sum of $3,000 - were rejected by the bank. Cassels was referred to the schedules contained at paragraph 15 of the Reply pertaining to Northgate, Southgate and West Edmonton where it is demonstrated that from April 1, 1994 until September 30, 1995, Northgate was reporting the net tax due but was not actually remitting it, while Southgate and West Edmonton - although filing the required returns when due - did not remit any current tax after October 1, 1993 until operations ceased following the reporting period of September 30, 1995. Cassels explained that there were several factors which led to the inability to remit the net GST since the stores were attempting to pay off the arrears from a previous period and there was a downturn in the retail economy. Counsel pointed out to Cassels that the combined business operations - in Edmonton - retained more than $62,000 in GST that should have been remitted during that period, as indicated by the GST returns.

[4]            In re-examination, James Cassels stated he had not been aware that the auditor had attempted to contact him concerning his point regarding an allowance for additional export sales. At one point, he inquired into the costs of having audits done for each corporation and discovered the fee would be more than $10,000 per company per year. He always provided financial material concerning the operation of the businesses to the accounting firm. In the early stages of the Alberta operation, he was there every week and later on when he realized the situation was not going to improve, sought expert advice on the best manner by which to pay off the outstanding amount of GST and then followed the course of proceeding to liquidation and receivership of the various retail outlets owned by the particular corporations.

[5]            Allan Tocher testified he has been employed as a Resource Officer by Canadian Customs and Revenue Agency (CCRA) - since 1996 - and is familiar with the appellant's file since he was a Collections Officer in 1997 and - recently - was involved as a Complex Case Officer. He was aware a desk audit of Reed's China stores had been undertaken - in 1991 - as it had been triggered by a credit return. The resulting procedure carried out by CCRA involved an examination of books and records to verify the ITCs upon which the request for a credit - pursuant to the return being filed - was based. Tocher stated the auditor works from the GST returns and the audit was completed in April, 1991, following the filing of the first return. In accordance with usual practice, the audits on the three Edmonton retail stores would have occupied about one hour of the auditor's time.

[6]            In cross-examination, Allan Tocher stated he had never spoken to the auditor but had reviewed notes taken by him.

[7]            Counsel for the appellant submitted that when one is considering the matter of personal liability of an appellant by virtue of having been a Director of a corporation in default of paying tax, it must be kept in mind there is no obligation on any director to serve as a guarantor with respect to that debt. Counsel referred to evidence establishing that proper procedures had been in place during the course of the period covered by an initial audit and that the introduction of GST occurred shortly before the beginning of the period relevant to the within appeal and the stores in Alberta were involved in collecting a sales tax for the first time in the history of that province. When an assessment was issued by the Minister, counsel pointed out that the appellant filed a specific objection concerning the amount due but after the Minister issued a confirmation of said assessment, the appellant had elected to accept its validity and thereafter entered into an arrangement with Revenue Canada (as it then was) to pay the arrears. Counsel outlined the steps taken by the appellant - in good faith and acting on expert advice - to liquidate the inventory and place the stores in receivership so the outstanding GST could be paid in full and to take into account there was no preference given to suppliers as opposed to meeting the commitment to Revenue Canada in the winding-up operations. The main flaw in the plan was the excessive costs - nearly $100,000 - consumed by those professionals involved in the liquidation process. In addition, counsel submitted the fact the appellant injected $50,000 of his personal funds into the Edmonton operation while taking out only $60,000 in salary over the course of 4 years was indicative of his desire to sustain the businesses and the Victoria corporation - of which the appellant was the sole shareholder - invested the sum of $250,000 into the stores and received only $4,000 following the closing out of those outlets.

[8]            Counsel for the respondent submitted there was no allegation that the appellant was dishonest or grossly negligent. However, counsel stated the evidence disclosed the appellant had neglected to undertake rudimentary calculations based on sales and ITCs - as reported on the GST returns - which would have revealed that a particular store was not entitled to a rebate of tax. In counsel's view of the matter, the appellant should have taken extra precautions to ensure the sales staff in Alberta were properly trained in collecting the new sales tax and a review of the GST returns and the financial statements would have confirmed that - in 1993 -certain amounts were due to Revenue Canada rather than any of the stores being entitled to rebates. Since the appellant was a highly experienced businessman and the sole shareholder and Director in the various corporations, counsel submitted he had not fully discharged his statutory obligation and had - instead - elected to pay certain accounts rather than to remit the GST together with the returns - as filed - so that the stores were not only failing to maintain the payment schedule on arrears - as promised - but were incurring new arrears by failing to remit current amounts due with each quarterly GST return, as disclosed by the table set out in paragraph 15 of the Reply.

[9]            The issue in the within appeal is whether the appellant is liable under subsection 323(1) of the Act in the amounts stated in the Reply for the failure of Northgate, Southgate and West Edmonton, respectively, to remit net tax for the period from July 1, 1993, to September 30, 1995, as required by subsection 228(2) of the Act. The relevant provisions of the Act are as follows:

323(1) Liability of directors - Where a corporation fails to remit an amount of net tax as required under subsection 228(2) or (2.3), the directors of the corporation at the time the corporation was required to remit the amount are jointly and severally liable, together with the corporation, to pay that amount and any interest thereon or penalties relating thereto.

               

323(3) Diligence - 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.

[10]          The decision of the Federal Court of Appeal in Soper v. The Queen, 97 DTC 5407 dealt extensively with the matter of directors' personal liability for a corporation's unremitted source deductions for income tax. The wording of that provision of the Income Tax Act under consideration - subsection 227.1(3) - is identical to that of subsection 323(3) of the Act relevant to the within appeal. In the course of his judgment, Roberston J.A. reviewed the legislative history and framework of the provisions concerning personal liability of directors together with the standard of care as illustrated by the jurisprudence in this field. At page 5416 and following, Robertson J.A. stated:

This is a convenient place to summarize my findings in respect of subsection 227.1(3) of the Income Tax Act. 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".

V. ANALYSIS

There are far too many cases dealing with section 227.1 of the Act. One way to appreciate the breadth of the extant law is to categorize the relevant cases. That task has, in fact, already been accomplished in large part by some of the commentators: see e.g. Moskowitz, supra at 556-66; see also R.L. Campbell, "Directors' Liability for Unremitted Employee Deductions" (1933) 14 Advocates' Q. 453.

For example, in some instances the relevant issue will be whether an individual was in fact or in law a director at the relevant time for purposes of imposing personal liability or whether that individual ceased to hold office by operation of a valid resignation. In other cases, such as those involving bankruptcy and receivership, the central issue will be de jure control. Yet another cluster of cases, including situations in which a dominant director is able to limit others' influence over corporate affairs, will deal with de facto control. I intend to focus on the category of cases respecting the distinction between inside and outside directors since that line of authority is the most pertinent to this appeal.

At the outset, I wish to emphasize that in adopting this analytical approach I am not suggesting that liability is dependent simply upon whether a person is classified as an inside as opposed to an outside director. Rather, that characterization is simply the starting point of my analysis. At the same time, however, it is difficult to deny that inside directors, meaning those involved in the day-to-day management of the company and who influence the conduct of its business affairs, will have the most difficulty in establishing the due diligence defence. For such individuals, it will be a challenge to argue convincingly that, despite their daily role in corporate management, they lacked business acumen to the extent that that factor should overtake the assumption that they did know, or ought to have known, of both remittance requirements and any problem in this regard. In short, inside directors will face a significant hurdle when arguing that the subjective element of the standard of care should predominate over its objective aspect.

In some instances, it is easy to see why inside directors have been held liable. Such is true in respect of Barnett, supra, the first case which dealt with the due diligence defence. In that case the taxpayer, as director and sole shareholder of the company, hired a comptroller. When the latter informed the taxpayer that the company was short of cash, the taxpayer instructed that the business' key suppliers should be paid first. In these circumstances, the Tax Court dismissed the taxpayer's appeal from the Minister's assessment which held the taxpayer personally liable for the source deductions withheld but not remitted. Equally understandable is the imposition of liability in the following cases involving inside directors: Quantz v. M.N.R., 88 DTC 1201 (T.C.C.); and Beutler v. M.N.R., 88 DTC 1286 (T.C.C.).

[11]          In the within appeal, it is difficult to imagine a more experienced businessman than the appellant. He had been involved in operating his own retail business since 1981 and - at one point - had a dozen separate retail businesses being carried out through various corporations all wholly owned and directed by him. In terms of being an inside director, he was about as far inside as one could get. As a result, the bar - for him - is set relatively high in relation to other directors that may otherwise fulfil different roles under varying circumstances, as discussed in Soper, supra.

[12]          In the case of Ann Drover v. The Queen, [1998] G.S.T.C. 45, the Federal Court of Appeal held that the obligation imposed on directors is not limited to ensuring that the GST - as calculated - is remitted but found there is also an obligation to exercise the same standard in order to ensure the amount of GST is properly calculated in the first place. As Robertson, J.A. noted, at p. 45-4:

               

...Carelessness in calculation is as unacceptable as carelessness in remittance. The obligation to properly calculate GST flows from subsec. 228(1) of the Excise Tax Act which reads as follows:

228.(1) Calculation of net tax - Every person who is required to file a return under this Division shall in the return calculate the net tax of the person for the reporting period for which the return is required to be filed.

[13]          At p. 45-5 - Robertson J.A. continued:

Utilizing the language adopted in Soper, the issue in the present case may be recast as follows: Did the taxpayer exercise the required standard of care as to ensure that Conestoga did not fail in its obligation to properly calculate and remit GST to the Receiver General? Having regard to the surrounding circumstances and the taxpayer's business experience and acumen should she have been aware that there was a problem with respect to the proper calculation of GST? Correlatively, if the taxpayer knew or ought to have known that there was a problem with respect to its proper calculation, did she exercise the requisite standard of care in ensuring that the problem was resolved? Though the taxpayer was an "inside director" (involved in the day to day operation of the business) it is evident that other persons, including an accountant, were responsible for calculating and remitting all taxes. I should add that no evidence was drawn to this Court's attention in support of the understanding that the taxpayer was actually aware of a problem with respect to the proper calculation of GST.

[14]          In the Drover appeal, the matter was referred back to the Tax Court to consider certain aspects of a due diligence defence not raised earlier by the appellant due to some confusion arising from a partial settlement of the issues.

               

[15]          In the case of A.G. of Canada et al. v. McKinnon et al., 2000 DTC 6593. the Federal Court of Appeal considered the matter of directors' personal liability for unremitted source deductions and GST. Apart from the usual considerations pertaining to the issue of due diligence, there was also the matter of the directors' loss of de facto control arising from the corporation's bank deciding - suddenly - to reduce the line of credit and to dishonour cheques made payable to the Receiver General for source deductions.

[16]          Following a thorough review of existing jurisprudence arising from similar fact situations, at page 6603 - and following - of his judgment, Evans J.A stated:

In my opinion, it is essential to keep in mind the relevant question in this appeal: did the directors exercise due diligence to prevent the company's failure to remit? This is not necessarily the same as asking whether it was reasonable from a business point of view for the directors to continue to operate the business. In order to avail themselves of the defence provided by subsection 227.1(3) directors must normally have taken positive steps which, if successful, could have prevented the company's failure to remit from occuring. The question then is whether what the directors did to prevent the failure meets the standard of the care, diligence and skill that would have been exercised by a reasonably prudent person in comparable circumstances.

It will normally not be sufficient for the directors simply to have carried on the business, knowing that a failure to remit was likely but hoping that the company's fortunes would revive with an upturn in the economy or in their market position. In such circumstances directors will generally be held to have assumed the risk that the company will subsequently be able to make its remittances. Taxpayers are not required involuntarily to underwrite this risk, no matter how reasonable it may have been from a business perspective for the directors to have continued the business without doing anything to prevent future failures to remit.

This point was recently made in Ruffo v. R., [1998] 2 C.T.C. 2203 (T.C.C.), affirmed by this Court on April 13, 2000 (A-429-97), where Lamarre Proulx, J.T.C.C. stated at paragraph [20]:

I am of the opinion that the case law of the Court is consistent on the diligence that the director of a corporation must show to avoid the liability prescribed in subsection 227.1(3) of the Act. It is the diligence that is concerned with preventing the failure that can, in many instances, differ from the diligence that the director must exercise toward the corporation.

She went on to cite with approval the following statements by Rip, J.T.C.C. in Merson v. R., 89 DTC 22, where he said (at page 28):

The prudence required by subsection 227.1(3) in the exercise of care diligence and skill is different from that required by a director performing his duties, under corporate law, notwithstanding that subsection 227.1(3) and subsection 122(1)(b) of the Canadian Business Corporations Act, for example, both use identical words. The exercise of care, diligence and skill by the director contemplated by subsection 227.1(3) is not founded on the director's obligation to the corporation; it is based on one of the corporation's obligations under the Act and the failure of the corporation to fulfil such obligation. A director who manages a business is expected to take risks to increase the profitability of the business and the duties of care, diligence and skill are measured by this expectation. The degree of prudence required by subsection 227.1(3) leaves no room for risk.

I do not understand Rip, J.T.C.C.'s statement that the "degree of prudence required by subsection 227.1(3) leaves no room for risk" to mean that section 227.1 imposes strict liability on directors whose company ultimately proves to be unable to make good defaults in its remittances. Such a view would clearly be contrary to subsection 227.1(3), which only becomes relevant when Revenue Canada is unable to recover the money that the company ought to have remitted.

Rather, I take him to have meant that, if directors decide to continue the business in the expectation that the company will turn around and will be able to make good its remittance defaults after they have occurred, if the company nonetheless fails without paying its tax debts, it is no defence for the directors to say that the risk that they took would have been taken by a reasonable person. The subsection 227.1(3) defence only applies if it can be demonstrated that the directors exercised the care, diligence and skill that a reasonably prudent business person in comparable circumstances would have exercised to prevent a future default.

Whether directors have exercised due diligence to prevent such failures from occurring has both a legal and a factual aspect. As matter of law, the liability of a director for unremitted source deductions and G.S.T. does not crystallise until the conditions prescribed by subsection 227.1(2) have been satisfied. Moreover, if the remittances are made in full, albeit late, the directors will not be liable for the company's previous failure to remit.

However, the fact that, before crystallisation, the liability of the director is inchoate is not incompatible with a finding that there was a failure to remit when no remittance was made on the date prescribed in the relevant legislation as the date when the remittance was due. Thus, for example, subsection 108(1) of the Income Tax Regulations, C.R.C. 1978, c. 945 provides that amounts deducted from employees' wages in a month pursuant to subsection 153(1) of the Act shall be remitted to the Receiver General on or before the 15^th day of the following month.

Accordingly, in my view, the directors of Abel could not have obtained the benefit of subsection 227.1(3) on the basis of an assertion that they had continued the business, reasonably relying on Mr. Humphrey's advice that it could be turned around in eighteen months' time by which time the economy should have improved. Even if the company successfully positioned itself to take advantage of the economic upturn and became profitable, it would only have become able to discharge its accrued liability and to prevent future failures to remit. Following this advice could not have prevented any failures to remit that occured prior the revival of the company's fortunes, even if the advice had proved to be correct.

Given the limitations placed upon them by the bank's de facto control of the company's finances, I am satisfied that, on the facts of this case, the directors exercised the degree of care, diligence and skill to prevent failures to remit that would have been shown by a reasonably prudent person in comparable circumstances. That Ms. McKinnon continued to prepare remittance cheques, admittedly without a realistic hope that the bank would honour them all, also indicates that the directors were not unmindful of the company's debt to Revenue Canada....

[17]          In McKinnon, supra, the bank had closely supervised the operations of the corporation for several months and had increased the line of credit to permit the employees and essential suppliers to be paid. However, the financial institution chose to dishonour cheques that had been issued for source deductions even though that matter had been raised with the bank by the directors without any firm agreement having been made in that regard.

[18]          It is important to bear in mind the difference between directors' liability arising from a failure to remit source deductions for income tax, employment insurance premiums and Canada Pension Plan contributions and a breach of duty in remitting the required amount of GST together with the appropriate return for the reporting period. Even though the withholding of source deductions is a notional concept - as discussed by Robertson J.A. in Soper, supra - and employers do not actually set aside those funds every time a pay cheque is issued, the regulations made pursuant to the Income Tax Act require - as a minimum - that the funds withheld must be remitted by the 15th of the month following the end of the month in which the deductions were taken. As a result, it soon becomes apparent that the employer is in a serious financial position when those funds - belonging to the employees and subject to a trust in favour of Her Majesty in right of Canada - cannot be remitted to the Receiver General. Unless the failure is due to a temporary glitch in the financial machine of a business, capable of rectification within a reasonable period, then the ongoing ill health of the entity is going to be compounded and the arrears will accumulate. In that situation, the directors of a corporation will know - or certainly ought to know - relatively quickly that there is trouble - not looming on the horizon - but squarely in front of their faces. They know or ought to know that something will have to be done to prevent any further failure to remit the amount due by way of source deductions which - after all - is not the corporation's money and those funds must not be used to gamble in the course of efforts designed solely to maintain the life of the ailing business without concern for the debt owing for said deductions. If the corporation's bank, suppliers and shareholders do not believe in the viability of the business, then why should the Receiver General or the employees - whose source deductions are being used to prop up the continuing operation - be cast in the role of unrequited saviours or - more likely - as instruments by which to postpone the inevitable demise of the enterprise. However, with GST, some small businesses have a reporting period of one year and the actual remittance may be due some months after that annual cut-off date. As a result, within that year the ITCs may be in excess of the amount collected on sales. If one were to choose a date mid-point in the reporting period, the owner/manager of the corporation carrying on business may have attended several trade shows and acquired a huge amount of inventory on which GST is payable when payments are made to the suppliers. Then, sales of that product occur over an extended period of time and nearly all business expenses - except wages and salaries - will be the subject of ITCs. The ability of a person serving as a director to prevent the failure of a corporation to remit GST - if and when eventually payable on the basis of tax collected exceeding the ITCs - will lie in having established a system to properly record collection of tax and to have machinery in place within the context of a well-managed business to prepare and file the appropriate GST return - in which the relevant numbers are accurately calculated - and to then remit the sum due, if required. By comparison, direct provincial sales taxes do not feature an equivalent to ITCs, so there will be no set-off against tax collected from consumers and the sum received from consumers as sales tax is generally required to be remitted to the provincial equivalent of the Receiver General within 15 or 20 days of the month following the particular collection period. In that instance - much like source deductions - a director of a corporation involved in the day-to-day operations of the business will be put on notice fairly soon that there is a severe problem in the cash flow. The point of the GST regime - particularly concerning retail businesses - was to provide a system of ITCs so that during a start-up period of a business or during a rapid expansion, it would be normal for purchases and expenses to exceed sales so that rebates would be forthcoming until the point of profitability was reached and the sales revenue was sufficient to overwhelm the other expenses, including cost of goods. On occasion, during the course of one of these type of appeals involving directors' liability, counsel for the Minister will inquire of an appellant whether or not the directors of a corporation undertook steps to ensure that the GST was held in a separate account. The response to that is invariably a resounding "No", probably because at many points during the year that business was actually entitled to a rebate had a calculation been made on the spot. An appropriate response might be to make inquiries of the Minister in order to determine if reasonable steps had been taken to ensure the presence - at all times material - of sufficient funds within the vast expanse of the federal vaults in order to honour any rebate that would be due and payable to that registrant. Originally, new registrants were automatically assigned quarterly filing but under subparagraph 245(2)(a)(ii) of the Act that period is now an annual filing, probably as a consequence of recognizing the ebb and flow of collected tax versus accumulated ITCs within a business year. In addition, the reporting periods of many small businesses - upon consent - were changed from the original quarterly reporting to an annual basis. In the within appeal, the corporations in the Cassels group were reporting on a quarterly basis due to the high volume of sales. An examination of Exhibits R-1, R-2 and R-3 - described as Audit Allocation Download Information sheets - illustrates that between 1991 and some point in 1993, the corporations were entitled to GST rebates because purchases exceeded the sales (taxable supplies) made during the reporting period. There was also the matter of export sales being made to persons living outside of Canada and these - while zero-rated - are still required to be included into the category provided for reporting the amount of taxable sales for the relevant period. The appellant testified he had been convinced that the number of sales and the dollar amount of exports from West Edmonton had not been properly taken into account during the audit process. He filed a Notice of Objection but did not - later - follow up with the auditor by providing an alternate set of numbers based on hard sales data nor did he appeal the decision issued by the Minister confirming the various assessments. Instead, he elected to enter into an arrangement with the officials in the collection department to reduce the arrears in accordance with a particular schedule so that the GST debts of each of the three corporations operating the retail stores could be retired in full. An integral part of the arrangement was that the ongoing quarterly remittances - if required - would be made in accordance with the return, as filed. Not only did the repayment arrangement fall into arrears but the ongoing GST was not remitted by the various corporations, as disclosed by the tables set forth in paragraph 15 of the Reply. From April 1, 1994 to September 30, 1995, Northgate collected - but did not remit - GST so that - with penalties and interest - the sum of $46,262.75 was owing to the Receiver General. During the period between October 1, 1993 and September 30, 1995, Southgate collected GST but did not remit any tax - at all - so that it ended up owing the sum of $33,180.70. The store - West Edmonton - did not remit any GST during that same period and owed the sum of $38,192.59.             

[19]          The appellant testified he sought expert advice and was informed that the liquidation of the stores would provide sufficient revenue to pay off the entire debt owing to Revenue Canada. Unfortunately, that process took longer than planned, the retail economy in Edmonton was in a downturn and the expenses involved with the overall process of liquidation, receivership and winding-up of the corporations were significantly higher than anticipated. The result was a shortfall in the amount of money available to be applied on the outstanding GST debt. This denouement is not - at all - in the same category as those situations where a receiver or a bank refuses to honour remittances on a regular basis - without any input from the tax debtor - while choosing to prefer other creditors. In the within appeal, certain cheques were dishonoured and then replaced by the particular corporation in an ongoing effort to pay down the first amount of accumulated arrears arising from initial assessments.

[20]          In my view of the evidence, subsequent to September 30, 1993, the appellant chose - as sole directing mind of the various corporations - to refrain from remitting the GST which was properly due and to use those funds for business purposes. To make matters worse, the original amount of arrears was no longer being retired, as promised. There was no evidence before me that there was a plan in place to rectify the situation at any point prior to deciding to throw in the towel. Retention of monies due to the Receiver General - in an effort to stay afloat - will usually turn out to be a slippery lifeline. It was completely obvious to the appellant that the remittances were not being made and, in permitting that failure to occur, he was not exercising the degree of care, diligence and skill one would expect from a reasonably prudent person - possessing an equivalent degree of business experience and acumen - under similar circumstances.

[21]          The period prior to September 30, 1993 falls into a different category. The stores were being expanded and the collection of GST - beginning January, 1991 - while new to all Canadian retailers was particularly a novelty in Alberta where there had never been any form of direct sales tax. The staff, although trained in GST matters, made several errors, specifically in reporting export sales, lay-away plans, and other deposits. The appellant ensured all stores had in place a reporting system for sales and the well-trained managers - two of whom had worked for the former family-owned business - were capable people. There was a General Manager residing in Edmonton and - later - a comptroller in Victoria. The Head Office was in Victoria and the appellant had retained the services of two experienced bookkeepers and was also consulting on a regular basis, as required, with his firm of Chartered Accountants. He reviewed the sales figures, GST returns and the financial statements for the years, 1991, 1992 and 1993. The financial statement for Northgate - for the year ending July 31, 1992 - indicated sales were in the sum of $554,743 but purchases amounted to $341,564 and other expenses - excluding wages - were an additional $186,000. The net loss of the corporation was in the sum of $21,361. The appellant considered that a small - but still significant - part of the revenue reported as sales was comprised of exports on which no GST was collectible because those sales were zero-rated. In my view of the evidence, it is fair to state that the assessments ultimately issued on April 18, 1994 to Northgate and Southgate and on April 14, 1994 to West Edmonton, were somewhat of a surprise to the appellant who - until the completion of the preceding audit - had no reason to believe there had been a problem within his fairly well-oiled and sophisticated business machine as it related to GST collection and reporting. He had put into place all of the necessary components in order to comply with the requirements of GST, including making accessible to staff the various pamphlets and encouraging them to utilize the 1-800 Help Line. One must remember that directors are required to act in a manner consistent with a reasonably prudent person in comparable circumstances. The duty to be perfect has not yet been included in the legislation and - again - it must be stated that the appellant was not a guarantor charged with ensuring that whatever deficiencies might occur during the course of the operation of his businesses would be made good by him in his personal capacity. For the period before September 30, 1993, I find the appellant sufficiently discharged his obligation pursuant to the relevant provision of the Excise Tax Act and he should not be fixed with any personal liability for the failure of the corporations to remit GST under the prevailing circumstances.

[22]          As noted earlier, the circumstances referred to above all changed when - thereafter - the failure to remit GST occurred - on a regular, deliberate basis - following the audit during which the appellant had been made fully aware of the duties and responsibilities flowing from the intricacies of the Act and his need to document the exact amount and nature of the sales-for-export rather than basing his perception on intuition or anecdotal evidence from store managers. For that period following September 30, 1993, the assessments of the Minister fixing the appellant with personal liability for the failure of the named corporations to remit GST are absolutely correct and must stand.

[23]          As a result of the foregoing analysis, I hereby allow the appeal and refer the assessments back to the Minister for reconsideration and reassessment on the following basis:

that the appellant is not personally liable under subsection 323(1) of the Excise Tax Act for the failure of Northgate, Southgate and West Edmonton, respectively, to remit tax for the period beginning prior to July 1, 1993 and extending through to September 30, 1993.

[24]          The appellant is not entitled to costs because the amount in dispute was in excess of $7,000.00 for the purposes of section 18.3009 of the Tax Court of Canada Act.

Signed at Sidney, British Columbia, this 9th day of October 2001.

"D.W. Rowe"

D.J.T.C.C.

COURT FILE NO.:                                                 1999-2627(GST)G

STYLE OF CAUSE:                                               James I. Cassels and H.M.Q.

PLACE OF HEARING:                                         Victoria, British Columbia

DATE OF HEARING:                                           June 22, 2001

REASONS FOR JUDGMENT BY:      the Honourable Deputy Judge D.W. Rowe

DATE OF JUDGMENT:                                       October 9, 2001

APPEARANCES:

Counsel for the Appellant: George Jones

Counsel for the Respondent:              Eric Douglas

COUNSEL OF RECORD:

For the Appellant:                

Name:                                George Jones

Firm:                  Jones Emery Hargreaves

                                          Victoria, British Columbia

For the Respondent:                             Morris Rosenberg

                                                                                Deputy Attorney General of Canada

                                                                                                Ottawa, Canada

1999-2627(GST)G

BETWEEN:

JAMES I. CASSELS,

Appellant,

and

HER MAJESTY THE QUEEN,

Respondent.

Appeal heard on June 22, 2001 at Victoria, British Columbia, by

the Honourable Deputy Judge D.W. Rowe

Appearances

Counsel for the Appellant:                    George Jones

Counsel for the Respondent:                Eric Douglas

JUDGMENT

          The appeal from the assessments made under the Excise Tax Act, notices of which are dated January 2, 1997 and bear numbers 32882, 32883 and 32884, is allowed, without costs, and the assessments are referred back to the Minister of National Revenue for reconsideration and reassessment in accordance with the attached Reasons for Judgment.

Signed at Sidney, British Columbia, this 9th day of October 2001.

"D.W. Rowe"

D.J.T.C.C.