Date: 20000419
Dockets: 1999-2182-IT-I; 1999-2184-IT-I
BETWEEN:
DALE HOLMES, BEVERLY HOLMES,
Appellants,
and
HER MAJESTY THE QUEEN,
Respondent,
Reasons for Judgment
Bowman, A.C.J.
[1] These appeals were heard together. They involve
assessments of Mr. and Mrs. Holmes under section 227.1
of the Income Tax Act.
[2] Under subsection 227.1(1) of the Act where a
corporation has failed to deduct and withhold taxes on wages and
salaries paid to employees, or has failed to remit them to the
Receiver General, the directors are jointly and severally liable
with the corporation for the amount the corporation has failed to
deduct, withhold, remit or pay together with related interest and
penalties.
[3] A director is not liable for a corporation's failure
under subsection 227.1(1) where the director
exercised the degree of care, diligence and skill to prevent
the failure that a reasonably prudent person would have exercised
in comparable circumstances.[1]
[4] On January 27, 1998 the Minister of National Revenue
assessed each of the two appellants for $19,921.55. The liability
is joint and several and the amount assessed included amounts
payable under subsection 227.1(1) of the Income Tax
Act, section 38 of the Ontario Income Tax Act,
section 22.1 of the Canada Pension Plan and
subsection 54(2) of the Unemployment Insurance Act.
The Canada Pension Plan ("CPP") and the
Unemployment Insurance Act
("UI Act") permit the assessment of
corporate directors for failure by the corporation under the
corresponding provisions of those acts. The same defences are
available to directors as under the Income Tax Act and
there is a right of appeal. This court has no jurisdiction over
assessments of tax under the provincial act. Under
section 22 of the Ontario Income Tax Act,
section 165 of the federal act applies, with the result that
a notice of objection filed under the federal Income Tax
Act is a valid objection for provincial purposes. However an
appeal to the court beyond that level requires the filing of a
notice of appeal to the Ontario Court which has a certain limited
jurisdiction, including, specifically, a director's liability
under section 38 of the Ontario act, which corresponds to
section 227.1 of the federal act. I note that the
notifications of confirmation refer only to the federal
assessments of income tax. The result of this is that any
variation in the federal assessments of tax can be automatically
reflected in a varied assessment of provincial tax by the
Minister of National Revenue acting in the capacity of agent for
the provincial Minister.
[5] So far as the CPP and UI (or EI)
assessments are concerned the situation is a little complex.
Subsection 54(1) of the UI Act corresponds to
subsection 227.1(1) and subsections 227(2) to (7) of
the Income Tax Act apply, mutatis mutandis. A
director has the same rights as an employer under
subsection 54(3). One of those rights is the right under
subsection 61(2) to request a reconsideration of an
assessment and a right of appeal to the Tax Court of Canada under
section 70. The same statutory regime applies under
sections 83, 92 and 103 of the Employment Insurance
Act and under section 21.1, subsection 27(2) and
section 28 of the CPP.
[6] No form is prescribed for an appeal to the Minister for
reconsideration of an assessment under subsection 61(2) of
the UI Act and I should think that a notice of objection
to an assessment that purports in one document to assess tax
under three federal statutes would be sufficient compliance with
the three statutes particularly where, as here, the notice of
objection refers to the assessment by date and number. The same
is true of a notice of appeal to this court. I note that
Joyal J. in a trial de novo from a judgment of
Rip J. held that a piece of paper emanating from the
Department of National Revenue listing four statutes and one
global amount was a valid notice of assessment (The Queen v.
Leung, 93 DTC 5467).
[7] If the Minister can fulfil his statutory obligation under
four statutes to notify a taxpayer of his assessments with one
piece of paper it would be unconscionable if the taxpayer could
not likewise notify the Minister of his objection to the
assessments and of his appeal by sending a single notice of
objection or appeal. Although under the rules of this court there
are prescribed forms for appealing from an EI assessment
or CPP assessment, under section 32 of the
Interpretation Act substantial compliance is sufficient.
Otherwise the objection and appeal process under these omnibus
assessments could become a minefield for the unwary.
[8] Before I leave these procedural questions one further
rather technical point should be mentioned. Under
section 169 of the Income Tax Act where the taxpayer
has served a notice of objection, an appeal may be taken to the
court 90 days after confirmation or reassessment or
90 days after serving the notice of objection if the
Minister has not responded by way of reassessment or
confirmation. No similar right to appeal is conferred under
section 70 of the UI Act or section 28 of
the CPP where the Minister has failed to respond to the
appeal. Since the notice of confirmation refers to the omnibus
assessment, even though it does not mention the UI Act or
the CPP, it is evident that the assessments under all
three federal acts have been confirmed.
[9] I turn now to the question whether the appellants have met
what has come to be called the "due diligence" test
under subsection 227.1(3). This provision has been the
subject of a great deal of litigation in this court. The most
recent decision of the Federal Court of Appeal of which I am
aware is Soper v. R., [1997] 3 C.T.C. 242, which
sets out in some detail the tests to be applied under
subsection 227.1(3).
[10] Essentially, however, whether a director meets the test
under subsection 227.1(3) is a question of fact.
[11] It is obvious from the many cases that have been decided
under section 227.1 of the Income Tax Act and the
corresponding section of the Excise Tax Act,
section 323, that each case must be decided on its own
facts, and no single factor predominates, nor can one test apply
that fits all circumstances. For example, we know from
Soper that although inside directors may find it more
difficult to meet the due diligence test than outside directors,
not every inside director will be found liable. Similarly, a
director may not escape liability under section 227.1 by
remaining wilfully blind to a deteriorating financial condition
in a corporation, or by claiming ignorance of his or her
obligations as a director. However, directors have been held not
liable for a corporation's failure to remit source deductions
where economically it was impossible to ensure that the required
remittances be made (Fancy v. M.N.R.,
88 DTC 1641) or where the directors were completely
excluded from the affairs of the corporation by an autocratic and
domineering owner of all of the shares of the corporation
(Fitzgerald et al. v. The Queen,
92 DTC 1019).
[12] Here the appellants were the sole directors and
shareholders of a corporation, Dale Holmes Ltd., which operated a
grocery store in Bridgenorth, Ontario under the name Dales
Freshmart from August 24, 1977 to November 20, 1993,
under franchise from National Grocers Co. Ltd. They fell behind
with payroll remittances in 1992 but in the course of the year
1993 according to the schedule attached to the replies to the
notices of appeal, they made up the shortfall.
[13] Paragraph 6(f) sets out the following assumption on
which the assessment was based.
f) for the periods January 28, 1993, July 28, 1993,
November 18, 1993 and May 26, 1995, the Corporation
failed to remit source deductions from the said payroll account
in amounts as set out in Appendix A attached.
(A date is not a period. These appear to be the dates upon
which the remittances for moneys withheld for the prior period
had to be made.)
[14] This assumption is simply wrong as a basis for the
assessment. There was a failure to remit tax (federal and
provincial), and CPP and UI premiums, on
January 28, 1993 but this was paid off over the year. The
same is true of July 28, 1993. The amount that the
corporation failed to remit on that date was paid off in August
of 1993.
[15] The respondent's own schedule shows that the failure
to remit upon which the assessment was based did not occur until
November 18, 1993. At that point National Grocers had come
in and taken over the store and the corporation ceased
operations. Between the time of the payment to the employees of
wages net of withholding and the time the remittance of the
withholding was due the corporation was stripped of its power to
effect the remittance. The corporation paid its employees but it
could not afford to pay the withholding amounts. It simply did
not have the money to do so and the manner in which National
Grocers controlled the most minute details of its business made
it impossible for it to pay the Government of Canada. This was
not a case of paying the employees, withholding tax and
CPP and UI premiums and using that amount for other
corporate purposes. It was a case of paying the employees and
having nothing left for any other purpose. At the time the
deficiency arose National Grocers was completely in control of
the business. There was nothing either the corporation or its
directors could have done. The alternative would have been to
breach the corporation's legal obligation to the
employees.
[16] The impossible situation in which the corporation and the
appellants found themselves is set out at tab 6 of
exhibit R-1.
However, due to the competitive nature of our business, the
fact that we were bound by a Franchise Agreement, that we
operating with an overdraft, and that over the years our
Franchisor (National Grocers) had, gradually, taken control of
our business affairs and by 1992 the Recession hit us hard and
cash-flow was severely affected.
Our position at this point in time was to keep our Business
going, even though we were slipping behind in three areas, with
our Franchisor and main supplier, the Bank, in maintaining our
line of credit and keeping our direct suppliers paid, as well as
our responsibilities to Gov't agencies, not to mention
keeping up with utility payments (hydro heat and telephone).
Because we were getting behind with our account with National
Grocers (the Franchisor) they, without warning, in June of 1992
put us on C.O.D. with all of our direct suppliers. This meant
that while we were still paying for goods delivered prior to
C.O.D. notification, we had to find the cash to pay for current
direct deliveries which frustrated our cashflow situation to an
amount of approx. $30,000.00.
At the end of 1992, we were in arrears with Revenue Canada and
had lost $98,000.00 for the year. In January of 1993 Revenue
Canada did a payroll audit and with interest and penalty we owed
$25,475.28.
By July of 1993, we paid the $25,475.28 in tax arrears, at the
rate of $500.00 per week from January 1993 to April 30 1993 and
$1,400.00 from May 7 1993 to the end of June, without
default as well we kept up with current payments.
...
By October without National's help I felt that we would
finish the year while still in the red but not as bad as 1992 had
been, for one thing, while we had gotten behind with Revenue
Canada there would be no problem catching up by the end of 1993,
and without a $25,000.00 pay back in 1994, 1994 should be a
turn-around year.
On Tuesday [Nov. 16] morning a representative from National
Grocers entered our store and handed me an eviction notice giving
me until Sat Nov 20 1993 to leave the premises. This came as a
complete surprise and put me in a very difficult position since
the terms of this notice were very specific. As you will note all
shipping lanes were closed, meaning that no further deliveries of
goods would be shipped, not even Produce while we were expected
to function as normal.
Bridgenorth, being a small community, word travels very
quickly and that particular week was no exception and business
suffered as a result. As well all doors of support closed very
quickly. The Bank of course refused to honour all outstanding
cheques. Deposits were made up of cheques only given to us by our
customers, cash on the other hand was used to buy Produce, to pay
direct suppliers (perishables only) and other expenses including
Payroll.
[17] I set out in Cloutier et al. v. M.N.R.,
93 DTC 544 (at pages 545-6), my approach in these
cases.
The question therefore becomes one of fact and the court must
to the extent possible attempt to determine what a reasonably
prudent person ought to have done and could have done at the time
in comparable circumstances. Attempts by courts to conjure up the
hypothetical reasonable person have not always been an
unqualified success. Tests have been developed, refined and
repeated in order to give the process the appearance of
rationality and objectivity but ultimately the judge deciding the
matter must apply his own concepts of common sense and fairness.
It is easy to be wise in retrospect and the court must endeavour
to avoid asking the question "What would I have done,
knowing what I know now?" It is not that sort of ex post
facto judgement that is required here. Many judgement calls
that turn out in retrospect to have been wrong would not have
been made if the person making them had the benefit of hindsight
at the time.
Section 227.1 is an example. That section imposes a
standard of care on directors that requires reasonable prudence
and skill in ensuring that the money raised through the SRTC
program be in fact used for scientific research or else that the
Part VIII tax be paid either out of the money so raised or
otherwise. In determining whether that standard has been met one
must ask whether, in light of the facts that existed at the time
that were known or ought to have been known by the director, and
in light of the alternatives that were open to that director, did
he or she choose an alternative that a reasonably prudent person
would, in the circumstances, have chosen and which it was
reasonable to expect would have resulted in the satisfaction of
the tax liability. That the alternative chosen was the wrong one
is not determinative. In cases of this sort of failure to satisfy
the Part VIII liability usually results either from the
making of a wrong choice in good faith, or from deliberate
default or wilful blindness on the part of the director.
[18] I find as a fact that there is nothing that Mr. and
Mrs. Holmes could reasonably have done to prevent the
failure. They struck me as decent, honourable people who did all
they could to ensure that the corporate obligations were
fulfilled, but the economic circumstances rendered that
impossible.
[19] Counsel for the respondent argued that in November of
1993 when they knew the business was going to be closed down by
National Grocers they could have paid the Department of National
Revenue but chose not to do so. This is simply wrong as a matter
of fact. They could not have done so and they had no choice.
[20] Counsel for the respondent suggested three things that he
says the appellants could have done.
(a) Better internal control. Internal control had nothing to
do with the problems here. The difficulty here did not come about
through inadvertence. It came about through economic
circumstances beyond the appellants' control and through an
extremely restrictive relationship with the franchisor who, among
other things, insisted on receiving blank signed cheques for
supplies in advance.
(b) Setting aside cash for the government. As is abundantly
clear from the evidence this was impossible.
(c) Getting an enforceable undertaking from the bank to honour
all cheques to the Government of Canada. This interesting
suggestion, while it deserves full marks for imaginativeness,
must exist in some Alice-in-Wonderland country of benign banking
practices with which I am unfamiliar.
[21] As I noted above Mr. and Mrs. Holmes are honourable
and decent people whose corporation has run into difficulties
that are beyond their control. They have had no trouble with
payroll deductions for over fifteen years. In the circumstances
that prevailed in 1993 there is nothing that they could
reasonably have done to ensure that the Government of Canada be
paid the amount claimed under these assessments.
[22] The appeals are allowed and the assessments under
section 227.1 are vacated.
[23] The appellants are entitled to their costs, if any.
Signed at Ottawa, Canada, this 19th day of April 2000.
"D.G.H. Bowman"
A.C.J.
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