Date: 20010204
Docket: 2000-4637-GST-I
BETWEEN:
PAUL FLEURY,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
____________________________________________________________________
For the Appellant: The Appellant himself
Counsel for the Respondent: Mark Heseltine
____________________________________________________________________
Reasons for Judgment
(Delivered orally from the Bench on
June 18, 2001, at Yellowknife, Northwest
Territories)
Mogan J.
[1] The Appellant was assessed as a director
of 923109 N.W.T. Ltd., a company incorporated under the laws of
the Northwest Territories which carried on business under the
name Orca Interior Systems ("Orca" or "the
Company"). It was formed sometime in the early 1990s by
Lloyd Whiteford to carry on the business of painting,
drywalling, taping and perfecting the drywall interiors of
buildings in the construction industry.
[2] From early on, Peter Eccles worked
for Orca only as an employee. He was a knowledgeable drywall man
and he knew the trades people in and around Yellowknife and was
able to get work for Orca. According to the evidence of the
Appellant, Orca was reasonably successful in its beginning and
was making a profit.
[3] The Appellant purchased Lot
33 in an area of Yellowknife called Trail's End. He
registered the lot in his own name with the idea of developing it
by constructing a dwelling and then selling the land and
building. He did not have the resources to get the building
constructed but he knew Orca and some of the people working for
it. The Appellant asked Peter Eccles if he would be interested in
working with the Appellant to help get the building constructed
at Trail's End. Apparently, there was a plan whereby other
properties at Trail's End would be consolidated in some
kind of joint venture.
[4] At that point, Lloyd Whiteford was
finished with Orca and interested in getting out. The Appellant
took over Whiteford's shares with the idea that
Peter Eccles would also become a shareholder and director
and the two of them would own Orca. Exhibit R-2 is a document
filed with the Companies Branch in the Northwest Territories
showing that the Appellant had become a director of Orca by July
19, 1993. He was the sole director as of that date and continued
as the sole director right up until the end of March 1999 when
Orca was dissolved by an Order of the Government of the Northwest
Territories for failure to file annual documents or some similar
reason. In any event, the evidence is that throughout the period
from July 19, 1993 until the end of March 1999, the Appellant was
the only director of Orca.
[5] Orca needed a line of credit with
the bank and, apparently, Eccles was not able to arrange it. The
Appellant, being a successful and well-known accountant in the
City of Yellowknife, obtained the line of credit for Orca, Eccles
then embarked upon more ambitious projects in addition to the
construction of a house on Lot 33 which was owned by the
Appellant.
[6] Around this time (summer 1993),
the Appellant and Eccles brought in Mickey Oakley, another
drywaller from British Columbia who put some capital into Orca
but did not acquire any shares from the Appellant. The idea was
that the Appellant, Mickey Oakley and Peter Eccles, in whatever
proportion, would become shareholders and owners of Orca. The
Appellant was already on the hook as the sole director, and
Oakley put personal money into Orca by mortgaging his house in
British Columbia. Eccles did not have any capital in Orca but he
expected to become a shareholder if things went successfully.
[7] There were contracts obtained,
particularly in the high Arctic, as the Appellant referred to it.
These contracts could be very profitable if they were well
managed but, some time in 1995-1996, certain supplies were
ordered by Orca to be delivered to the high Arctic to satisfy a
contracting job. They were the wrong supplies and they could not
be used. Apparently, it was Orca's fault, and specifically
Peter Eccles' because he was managing the contracts. The
wrong supplies had to be replaced by materials delivered by air
to the Arctic, a costly way of getting building products up
there. By February 1996, Orca had lost about $150,000, mainly
attributable to its work in the high Arctic. It was in desperate
financial circumstances.
[8] At that time, the Appellant could
not persuade either Mickey Oakley or Peter Eccles to become
directors or shareholders of Orca because the company was in such
a weak financial position in 1995-1996 when these losses were
developing. The Appellant could have closed the door on Orca
because he owned all the shares and was the sole director. He
was, however, reluctant to do so because he thought that the
situation could be salvaged. He felt a moral obligation to the
people who lived on Trail's End because they had counted on
the continuation of the development he had started with Lot 33.
He also felt a moral obligation to Mickey Oakley who (although he
had not become a shareholder) had mortgaged his home in British
Columbia to put capital into Orca in the expectation of becoming
a shareholder. Although locking the door on Orca would have been
the most rational decision, the Appellant regarded it as a
heartless one because he felt an obligation to both Mickey Oakley
and the people on Trail's End who were relying on his
development to go through. The Appellant kept the Company
going.
[9] Orca obtained an additional
$50,000 from the bank and the Appellant immediately committed
$25,000 to paying down the goods and services tax liability. This
was confirmed by an accounting statement from Revenue Canada
which specifically showed the payments of $10,000 on February 21,
1995 and $15,000 on June 12, 1995. There is no question that the
Appellant was conscious of the GST liability and taking steps in
June at least to reduce it by committing those two payments of
$10,000 and $15,000.
[10] The fact remains that Orca struggled
and, in February 1997, Eccles who was a strong-minded person
would not permit the Appellant to take control of the Company,
even though the Appellant was the sole shareholder and director.
If the Appellant had attempted to take control, Eccles would have
quit. In that scenario, the Appellant acknowledged that he did
not have the business connections and goodwill in the
construction industry to obtain contracts and get the work done.
Ultimately, Eccles left the job in the Arctic and the Company, in
the words of the Appellant, simply came apart after
February 1997. It was not able to operate and another person
had to be hired to help finish the Trail's End job. That
other person insisted upon getting a piece of the action and so,
when the house was completed on Lot 33 and sold, most of the
proceeds of disposition went to that other person. All Orca got
was an opportunity to pay down some of its debts. There was no
profit available for Orca, no profit available for the Appellant
as the sole shareholder, and he lost money personally on the
Trail's End project. Orca became insolvent and its Charter
was canceled by the Government of the Northwest Territories in
March 1999.
[11] The Company had been assessed for GST
and it was unable to pay. Therefore, the Appellant was assessed
within the two-year period as the sole director of Orca. He faces
a significant vicarious liability for GST under section 323
of the Excise Tax Act in his position as the sole
director. The question is whether the Company's liability on
which the Appellant has been assessed as a director will be
upheld or whether he can be excused from that liability under
subsection 323(3) which is commonly referred to as the due
diligence provision. Subsection 323(1) is the charging section
which makes all the directors of a company jointly and severally
liable for the company's failure to remit certain amounts.
Subsection 323(3) is an escape clause which permits a director to
be excused if he has exercised the degree of care, diligence and
skill to prevent the failure that a reasonably prudent person
would have exercised in comparable circumstances.
323(1) 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) 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.
[12] There are significant facts running
against the Appellant in this case. He is the only director of
the Company. Where there are a number of directors, some may be
"inside directors" intimately connected with the
management of the company; and some may be "outside
directors" not connected with day-to-day management. The
cases decided under this area of the law indicate that an inside
director is more vulnerable than an outside director. When there
is only one director, however, he has to be the inside director.
There is no buffer or shield or protection to the Appellant. He
stands as the only director and, therefore, he is an inside
director.
[13] More is expected of a sophisticated
business person than of a person who has no business skills. In a
particular case, a woman was excused because she became a
director only as the wife of one of the other directors and she
had no business experience. In this appeal, the Appellant not
only was the sole director, but he has been a certified general
accountant for approximately 30 years. He has a successful
accounting practice in Yellowknife with distinguished clients.
Exhibit R-1 is an annual report of a particular client of
the Appellant where the financial statements are a matter of
public record. Therefore, the Appellant must be regarded as a man
with business smarts. He is not an innocent in the world of
business. He is a knowledgeable, sophisticated, intelligent
businessman.
[14] The above two facts run against the
Appellant. He cannot plead innocence or ignorance of business
matters because of his business background. Nor can he claim that
he assumed some other director was looking after the Company
because he was the only director. I refer briefly to the Federal
Court of Appeal decision of Soper v. The Queen, 97 DTC
5407, cited by counsel for the Respondent wherein Robertson J.A,
referred to the character of certain directors and stated at page
5416:
... more is expected of individuals with superior
qualifications (e.g. experienced business-persons).
and further at page 5417:
... inside directors will face a significant hurdle when
arguing that the subjective element of the standard of care
should predominate over its objective aspect.
... the purpose of subsection 227.1(3) is to prevent
failure to make remittances and not to cure the default after the
fact ...
[15] Counsel for the Respondent relied on
the above statements because the Appellant made it clear that he
was conscious of his obligations under the GST legislation. He
stated that he would take one-half of the capital raised from the
bank and commit it to paying down the goods and services tax. He
was acting in good faith. He was doing this, however, at the same
time that liabilities were occurring because Orca was billing its
customers and collecting GST but not remitting the GST collected.
The Appellant was aware of this fact as confirmed by
correspondence in Exhibits R-4 and R-5. Revenue Canada wrote to
Orca at the end of December 1994 and in early January 1995
pointing out that about 12 quarterly returns had not been filed.
The Appellant replied to the letters stating that the situation
was referred to him and that all attempts were being made to
comply within a deadline.
[16] Within that deadline, a number of
returns were filed by Orca (Exhibit R-6), signed by
the Appellant himself. Again, the Appellant had applied himself
to the task because he showed precise computations of the GST
collected by Orca, the input tax credits that it was entitled to
claim on the basis of GST paid to suppliers, and a net tax
payable or a net refund depending on the circumstances. The
Appellant took seriously the warning from Revenue Canada in its
letter of December 1994 and his response of January 1995.
Notwithstanding the seriousness of the situation and that 12
quarterly returns were filed in January 1995, the company
continued to operate for a further 24 months. It moved forward
building up a continuing GST liability until it went out of
business in February 1997.
[17] To demonstrate how conscious the
Appellant was of the problem, he was asked about Peter
Eccles' employment by Orca and explained that when cash got
tight and the Company could not remit the source deductions from
payroll, it simply eliminated the payroll. Eccles was effectively
the only person on salary. His salary arrangement was cancelled
and he became a consultant to the Company. He was paid a gross
amount and was personally responsible for any tax on that amount.
The Company got rid of its payroll to avoid the problem of
unremitted source deductions. That was a prudent thing to do but
the astuteness and prudence demonstrated in taking that step when
applied to the failure to remit the ongoing GST obligation makes
the GST obligation stand out in sharper contrast. It is difficult
for me to find that a director has satisfied the due diligence
test for GST when he could make such a decision with respect to
payroll source deduction and, at the same time, permit the
Company to fail to remit for nine or ten quarterly periods
knowing that GST was being collected from clients to whom Orca
was sending out bills.
[18] There are four individuals involved in
this case. There is the Appellant who was the sole shareholder
and director of Orca since 1993. Peter Eccles was the rainmaker
for Orca, someone who could get the work, manage it, and provide
the standing in the construction business to be able to operate.
Mickey Oakley who was hired because he was a drywaller and
he believed in the Company. He mortgaged his own home in British
Columbia and contributed the proceeds to Orca and lost it. The
uncontradicted evidence of the Appellant is that Mickey Oakley
lost his house which was the family home for him and his wife and
children; a very dramatic event for Oakley. And the fourth person
was Jim Corbett who was the office administrator under
Eccles.
[19] The Appellant, of course, was busy
running an active accounting practice in Yellowknife. He was
asked in cross-examination if he was ever threatened physically
when he went to the offices of Orca and indicated he wanted to
take over the books. He said that there was no such threat.
Eccles was a strong-minded man; he had the goodwill of the
construction industry; he was the person who could win the
contracts which permitted the company to survive. Because Eccles
was strong-minded and important and stubborn, the Appellant had
to handle him with kid gloves. The Appellant could not afford to
fire Eccles. Although the Appellant was the sole director and
shareholder, he was really in the hands of and at the mercy of
the most important employee of the Company. Not an enviable
position.
[20] The Appellant had knowledge week by
week and month by month that the GST returns were not being
filed; GST was not being remitted; and that a failure was taking
place. The burden was on the Appellant, as the only director, to
do something about that. In the more recent decision of the
Federal Court of Appeal in Worrell v. The Queen, 2000 DTC
6593, referred to by counsel for the Respondent, the
directors' appeals were allowed. The appeals of
Mr. Worrell and the other two directors were allowed but,
notwithstanding that, Evans J.A., writing for the majority stated
in paragraph 68 on page 6603:
... 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 occurring. ...
Those are the magic words from subsection 323(1). A director
is not liable for a "failure to remit" under subsection
323(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.
To prevent the failure, action has to be taken. The Federal Court
of Appeal in Worrell, asked whether what the directors did
to prevent the failure met that standard of care, diligence and
skill.
[21] In my view, the Appellant has not met
that standard. He knows too much as a sophisticated businessman.
He was the only director but he permitted compassion to outweigh
business judgment. He knew the default was continuing weekly and
monthly and he could have locked the Company's door. He did
not, however, because he wanted to see if he could salvage the
capital that Oakley had put into the business. He wanted to keep
the Company going to permit this development on Trail's End
because he felt a moral obligation to people who lived there.
Those are compassionate reasons, but a person who is the director
of a corporation cannot take funds that belong to the Crown and
permit them to be used for corporate purposes in the hope and
expectation that things will turn around and that, one day, the
unremitted tax will be paid.
[22] The Federal Court of Appeal also stated
in Worrell at paragraph 73 on page 6604:
... 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.
When the business does not turn around and the Company cannot
remit the delinquent amounts, the directors have not done
anything to prevent the failure. They have consciously permitted
the failure to happen, and all they have done is hope that it
will be remedied at a later date.
[23] In these circumstances, I am obliged to
dismiss the appeal. I do this reluctantly because the Appellant
is obviously an honourable person. He kept this Company going for
what I would call compassionate reasons. He knew that other
people were counting on it, primarily Mr. Oakley who lost his
house in the long run, and the people at Trail's End who
were dependent in part upon this development going through at Lot
33. The fact that the Company went down the drain and the
Appellant lost money along with others is a sad fact,
particularly in a remote city of Canada without the support of
adjoining communities. There are times, however, when a director
has to make the hard and necessary decision to lock the door to
prevent continuing failures to remit amounts to the various
taxing authorities like Revenue Canada for GST.
[24] I recently allowed a GST appeal for
director's liability but, in that case (Gryschuk and
Quon) the directors were assessed for a quarterly payment of
$20,000 (the first and only quarterly which the company had
failed to remit). That circumstance was close to absolute
liability but I allowed their appeals for other collateral
circumstances as well. In this appeal, the liability accumulated
over many, many quarters in an ongoing manner, when the liability
could be seen to be growing. The two situations are so different
that, while I allowed the appeal of the two directors just
referred to, I am obliged to dismiss this appeal and uphold the
assessment.
[25] On closing, I would recommend that the
Appellant ask Revenue Canada to grant him some relief from
interest and penalties which the Minister has discretion to
grant. The Appellant should inform the Minister of any
extenuating circumstances which he thinks would help him.
Signed at Ottawa, Canada, this 4th day of February, 2002.
J.T.C.C.
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