Date: 19990126
Docket: 96-4802-GST-I
BETWEEN:
ASHTON RUTHERFORD HEVENOR,
Appellant
and
HER MAJESTY THE QUEEN,
Respondent.
Appeal heard on November 16, 1998 at London, Ontario by the
Honourable Judge Gerald J. Rip
Reasons for judgment
RIP, J.T.C.C.
[1] Mr. Ashton Rutherford Hevenor, the appellant, appeals from
an assessment issued by the Minister of National Revenue
("Minister") pursuant to section 323 of the Excise
Tax Act ("Act") on the basis that the
appellant was a director of 980250 Ontario Inc.
("Ontario") at all relevant times when the Corporation
failed to remit to the Receiver General for Canada the net tax
for reporting periods required by section 228 of the
Act.
[2] This appeal asks the question whether a taxpayer can be
said to exercise the degree of care, diligence and skill to
prevent a corporation of which he is the sole director from
failing to remit an amount of net tax under Part IX of the
Act that a reasonably prudent person would have exercised
in comparable circumstances when he had a limited education, was
director of Ontario as a convenience to his son, was not involved
in the business or the commercial activity carried on by Ontario,
had no business experience and had no understanding of the
responsibilities of a director.
[3] At time of trial Mr. Hevenor was 64 years of age. He was
born on a family farm in Springfield, Ontario, where he still
resides. He is the third generation of his family to live on this
74 acre farm. He attended a country public school and has a grade
10 education. After high school, he helped his father farm,
worked as a garage mechanic and eventually became a welder and
millwright, all the time living on the farm. He married in 1958
and has three children. Unfortunately, during the past few years
his health has declined and he has had to retire early.
[4] Mr. Hevenor appears to be an honest, hardworking
gentleman. He has no knowledge of accounting and business
practices and, until recently, had no idea of what a corporation
is and what the duties and obligations of corporate directors
are.
[5] Bradley Hevenor ("Bradley") is the
appellant's son. He is now 34 years of age and is a
fourth-year apprentice welder and millwright. Bradley has a grade
11 education.
[6] In 1985, Bradley purchased a pizza business, Pud's
Pizza, in Aylmer, Ontario which he operated until 1989. During
this time the business made normal source deduction remittances
to the Receiver General for Canada. In 1989, Bradley related, a
developer purchased land contiguous to the pizza business and the
developer intended to open a restaurant in the shopping plaza
("Plaza") it intended to develop. To protect his
business, Bradley acquired a Pizza Delite franchise which he
operated from the Plaza. Bradley incorporated a numbered
corporation to operate the Pizza Delite franchise. The company
borrowed $100,000 on a security of a mortgage on the farm owned
by his father.[1]
Bradley and his former wife were the shareholders of the numbered
company. The appellant's accountant, a Mr. Denhander, was the
accountant for Pud's Pizza and a Mr. Robert Deeleebeck was
the accountant for the Pizza Delite business. Both were chartered
accountants.
[7] At first the Pizza Delite business was very busy but after
four months Bradley realized that there was insufficient cash
coming into the business to cover expenses: a franchise fee to
Pizza Delite of 6 percent of revenue, the costs of servicing
the loan secured by the farm, Pizza Delite's investment in
the business of $80,000 and a small business loan with the Royal
Bank of Canada. Rent for the Pizza Delite premises was $4,000 a
month, approximately $19.00 per square foot.
[8] Bradley attempted to obtain a reduction in his rent but
the landlord refused. Eventually, in 1990 or 1991, the Royal Bank
of Canada put the company operating the Pizza Delite business
into receivership. The franchisor of Pizza Delite attempted to
negotiate a settlement with the landlord. In the meantime Bradley
continued to operate the franchise as manager. Eventually the
Pizza Delite franchisor and the Royal Bank agreed to a settlement
but the landlord refused to reduce the rent. Subsequently, a
subsidiary of the landlord successfully negotiated an agreement
with the receiver. The restaurant's name, among other things,
was changed and Bradley was its manager. The restaurant was
operated by a numbered company, the principal shareholder of
which was Norton Builders Ltd. ("Norton"), the
landlord, or a wholly-owned subsidiary of the landlord who owned
the Plaza.
[9] In the meantime, Mr. Hevenor was still short the $100,000
borrowed by the numbered company.
[10] The Plaza itself was not successful. After about thirteen
months, after Norton took over the restaurant, the Plaza's
anchor store closed and other tenants moved out.
[11] Norton did not want to be in the restaurant business and
in early 1992 offered to sell the restaurant to Bradley.
[12] At the time the company carrying on the Pizza Delite
franchise was put into receivership, Bradley and his former wife
were declared bankrupt. However, Bradley stated, when Norton made
the offer to sell the business to him, he had been discharged
from bankruptcy. In any event, Ontario was incorporated by
Bradley to acquire the business from Norton. Bradley testified
that he is under the impression that he was not involved in the
incorporation of the corporation as a director or officer because
of his earlier bankruptcy. Ontario acquired the restaurant for
"about" $95,000.
[13] On incorporation, the only shareholder and director of
Ontario was Mr. Hevenor, the appellant. Mr. Hevenor also
invested $37,000 to pay to Norton on the purchase of the
restaurant; he also signed a note for $66,000. The evidence is
not clear as to whether Mr. Hevenor loaned the $37,000 to Ontario
or paid the money to Norton. Similarly, it is not quite clear to
whom the note was payable.
[14] The restaurant was now called "Pud's Pizza and
Pasta Parlour" ("Pud's"). Mr. Hevenor was not
involved in Pud's operation even though he was the
Ontario's sole director and shareholder and financed the
enterprise. From time to time, he acknowledged, he helped his son
acquire some equipment and also went on some errands to pick-up
some supplies for the restaurant. However, this was an infrequent
and exceptional activity.
[15] Bradley managed Pud's. Bradley was the person who
employed people to work in the business. Bradley was the person
who dealt with Ontario's banker. Bradley was the person to
whom the accountant sent financial statements. Mr. Hevenor
stated he never saw any periodic financial statements although he
may have seen the year-end financial statements.
[16] Bradley was also responsible for making all remittances
and filings with the various government authorities. This
included sending source deductions and Goods and Services taxes
to the Receiver General for Canada. Ontario retained a part-time
bookkeeper to prepare the various forms and documents for Revenue
Canada and other government branches. The bookkeeper prepared the
returns "and if money was available we would pay...",
Bradley testified. He stated that Ontario's accountant was
aware of Ontario's precarious financial situation. Bradley
said he was not aware of his father's liability as a director
pursuant to the Goods and Services Tax ("GST")
provisions of the Excise Tax Act.
[17] I have no doubt that Bradley worked very diligently to
make a go of the business. Unfortunately in 1994 Norton locked
the restaurant's doors and Ontario's lease was
terminated. Ontario was subsequently bankrupt.
[18] At no time was any meeting of shareholders or directors
of Ontario held. This is not strange since Ontario had only one
shareholder and one director.
[19] Bradley said that while Ontario did not pay the GST to
the federal government, Ontario did remit Ontario Retail Sales
Tax. Bradley stated that the GST arrears commenced immediately
upon the start of the business in 1992. He also acknowledged that
not "all source deductions" were remitted by Ontario.
He said he never discussed with his father Ontario's failure
to pay GST. Since his mother was extremely ill he felt he did not
want to burden his father with other problems. Bradley
"felt" he could work his way out of the situation by
himself.
[20] Bradley said that when things were going well, for
example, when the business had a good week, he would inform his
father that things went well that week. But, again, he did not
inform his father when things were not going well. Bradley blames
the failure of the business on the recession that was taking
place in the early 1990s. He said his father realized that when
Ontario acquired the business in 1992 there was a recession, but
his father had faith in him and believed that he was capable of
running a successful restaurant business. His father thought
"I could turn it around". He thinks his father knew
that times were bad but he was not "overly-concerned...he
trusted me...".
[21] Mr. Hevenor stated that other than assisting his son in
incorporating Ontario he had nothing to do with the business
carried on by Ontario or with Ontario itself. He said that he had
no reason to believe that Ontario was not doing well. He said he
was never aware of Ontario's serious financial difficulty. It
was only when he received a letter, dated December 6, 1994, from
Revenue Canada did he first realize there was a problem. This
letter advised him that as a director of Ontario he was
potentially liable for the corporation's defaults in not
remitting GST. He stated that before receiving this letter he was
"not aware of the liability". He stated that he gave
the letter to Bradley who took the letter to lawyers.
[22] Mr. Hevenor explained in cross-examination that
"when the corporation was incorporated, the lawyer
incorporating the company explained very little to me". The
lawyer told him he would have "very little to do". The
lawyer knew, according to Mr. Hevenor, that he had no restaurant
experience. In any event, he did not realize what the lawyer was
trying to explain to him. Mr. Hevenor stated that he
"honestly thought I'd have nothing to do with the
company...that Bradley would operate it...". When Ontario
was incorporated, the lawyer told Mr. Hevenor a corporation
required a director and president and "I was it".
Mr. Hevenor did not ask what his role as director and
president would be and he was not told. He said that he had no
reason to do anything with the company. He never asked to see
financial statements or records of Ontario notwithstanding his
loan to Ontario when it purchased the business from Norton.
[23] Mr. Hevenor did acknowledge that at one time he knew a
monthly payment to the Royal Bank of Canada had not been made. He
said this was "probably within a few months of the company
going down". He stated he asked Bradley if he would be
making payments and Bradley said "he would do what he could
do".
[24] On these facts, then, is Mr. Hevenor liable under section
323 of the Act to pay the amount of tax and interest that
Ontario failed to remit to the Receiver General for Canada in
accordance with section 228 of the Act? Subsection 323(1)
states that:
Where a corporation fails to remit an amount of net tax as
required under subsection 228(2), 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.
However, subsection 323(3) provides that:
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.
[25] Robertson, J.A., in Soper v. The Queen,[2] reviewed in detail the
statutory and common law affecting the responsibilities of
directors. He summarized his findings in respect of subsection
221.1(3) of the Income Tax Act, a provision that mirrors
subsection 323(3) of the Act, at page 5416:
...The standard of care laid down in subsection 227.l(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".
[26] In the appeal at bar, we are presented with a situation
where a father with limited education and no business experience
seeks to assist his son in a business endeavour. He does what
many parents do: he helps fund the business. Perhaps due to an
error by the lawyer who incorporated Ontario and who may not have
realized that a discharged bankrupt is eligible to be a corporate
director, the appellant, almost by default, became Ontario's
sole director. And while the lawyer may have tried to explain to
Mr. Hevenor the duties of a director, it is questionable if he
understood what was being said. All Mr. Hevenor understood was
that he would have nothing to do and he was only helping his
son.
[27] Mr. Hevenor's son ran the business. Mr. Hevenor was
an outside director not at all involved in Ontario's
operations. As far as he was concerned, it was Bradley's
business. He trusted Bradley and had faith in him, whether or not
the faith was merited. Mr. Hevenor was a father, after all.
[28] Bradley would tell Mr. Hevenor when things went well but
was silent when there were problems, and problems there were.
[29] In these circumstances, what could Mr. Hevenor have done
to prevent Ontario's failure to remit? In Soper,
supra, Robertson, J.A., at p.5418, stated:
In my 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. Put differently, it is indeed
incumbent upon an outside director to take positive steps if he
or she knew, or ought to have known, that the corporation could
be experiencing a remittance problem. The typical situation in
which a director is, or ought to have been, apprised of the
possibility of such a problem is where the company is having
financial difficulties...
[30] The fact that a corporation's monthly balance bears a
negative figure, Robertson, J.A., noted, does not necessarily
indicate it is in serious financial difficulty:[3]
...it will be for the Tax Court Judge to determine whether,
based on the financial information or documentation available to
the director, the latter ought to have known that there was a
problem or potential problem with remittances. Whether the
standard of care has been met, now that it has been defined, is
thus predominantly a question of fact to be resolved in light of
the personal knowledge and experience of the director at
issue.
[31] There was no suggestion at trial that even if Mr. Hevenor
had been presented with periodic financial statements, he would
have understood the statements and have realized Ontario's
severe financial situation at the time. No doubt he would have
realized the business was losing money; however, whether this
would have convinced him that Ontario had no hope of success is
another question. The "reasonably prudent person in
comparable circumstances" in subsection 323(3) may be, as
Robertson, J.A. explains in Soper[4], an unskilled
person. "It is correct to distinguish between a
reasonably prudent person and a reasonably skilled
person...". He added, at p. 5415;
...in the event that the reasonably prudent person is
unskilled..., the statute requires only the exercise of a degree
of care which is commensurate with that person's level of
skill...
[32] What Mr. Hevenor did—finance his son's
business—is a common and acceptable practice in Canada.
That he became a director—the sole director—of a
corporation he had absolutely no interest in, except as a
creditor, was due to special circumstances. Had Mr. Hevenor been
more experienced in business, had he even suspected the legal
exposure of a director, or a director's duties and
responsibilities, had he not been blinded by his devotion to his
son, then, perhaps, he may have paid more attention to
Ontario's operations and financial situation. But, then, this
degree of care would be limited by his lack of skill. And these
are all subjective traits Mr. Hevenor shares with other
parents.
[33] The facts at bar are not similar to those in Black v.
The Queen[5].
Mr. Black was not unsophisticated in business matters. And,
unlike Mrs. Hanson,[6] Mr. Hevenor was not directly involved in the
acquisition of the restaurant business. He did not own directly
or indirectly shares in the subject corporation and he did not
participate in decisions. Appeals such as Stuart v.
M.N.R.[7]were decided before Soper, supra.
In my view Mr. Hevenor acted as one would have reasonably
expected him to act when he was made the sole director of
Ontario.
[34] I do not suggest that the mere fact one becomes a
director in a family corporation is sufficient to permit a
director to ignore the affairs of the company. On the contrary, a
director who is a family member in this context has the same
responsibilities as any other director. On the facts before me,
however, Mr. Hevenor was a sole director who was placed in a
situation for which he had no experience or skill.
[35] Therefore, on the facts before me, the appeal is allowed
with costs.
Signed at Ottawa, Canada this 26th day of January 1999.
"Gerald J. Rip"
J.T.C.C.
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