Hans Hilscher v. Her Majesty the Queen, [1995] 1 CTC 2379

Mogan J.T.C.C. (orally):—The appellant is the president and beneficial owner of all the issued shares of Hilscher Meat & Delicatessen Ltd. (referred to herein as the "corporation") carrying on business in Edmonton, Alberta. For the taxation years 1983 and 1984, the appellant reported earnings from the corporation of $6,450 and $6,600 respectively. Following an audit of the corporation and the appellant, the Minister of National Revenue used a statement of comparative net worth to issue reassessments increasing the appellant’s income for 1983 and 1984 by the following respective amounts: $20,005 and $48,025. The Minister also assessed penalties for both years under subsection 163(2) of the Income Tax Act, R.S.C. 1952, c. 148 (am. S.C. 1970-71-72, c. 63) (the "Act"). Because the assessments are based on the net worth statement, the basic issue in this appeal is whether the net worth statement can be sustained or shown to be in error.

The appellant was born and raised in Germany where he had eight years of formal education before apprenticing three years as a meat cutter. He came to Canada in 1968 at the age of 21. He worked in Canada as a meat cutter from 1968 until 1974 when he purchased a small delicatessen meat business for $50,000. He has operated that business ever since. In 1976, he transferred the business to the corporation which he had caused to be formed under the laws of Alberta. It was a retail business with a high volume of small sales to cash customers. In the mid-1980s, the appellant started to develop wholesale customers selling his meat to restaurants and to other commercial establishments but, in the years under appeal, the corporation was still operating a retail business. Around 1978, the corporation purchased a quadruplex (four dwelling units).

The fiscal year of the corporation ends on January 31. For its fiscal years ending in 1983, 1984 and 1985, the corporation reported gross sales of $287,197; $354,853; and $374,646 respectively. The appellant and his corporation did not keep a sales journal, a general ledger or the other books and records of original entry normally required for a business having annual sales in the range of $300,000. There was a cash register in which all sales were recorded but, at the end of each day, the appellant would ordinarily count the cash and then throw away the cash register tape. He would accumulate the cash for several days; pay certain expenses in cash (including the wages of his employees); and from time to time make substantial deposits in certain bank accounts.

The appellant retained a chartered accountant, Robert Nilson, to prepare financial statements for the corporate income tax returns. Mr. Nilson testified and stated that he was provided with certain receipts, cancelled cheques and monthly statements for the corporate bank accounts. He could not recall whether he had copies of the deposit slips or whether he relied on the monthly statements to show the deposits. He did not ask for any cash register tapes because the financial statements were not audited. Mr. Nilson stated that he would have declined the engagement if he had been retained for an audit because there were no accounting records to audit. He acknowledged in cross-examination that his only evidence of corporate revenue was the bank deposits and information obtained orally from the appellant.

Terry Willisko, an investigator employed by Revenue Canada, testified for the respondent. He stated that the files of the appellant and his corporation were screened for audit in early 1987. The audit began in February 1987 but the files were turned over to the special investigation section of Revenue Canada in September 1987 because of the absence of corporate records and the difficulty of conducting a routine audit. He was given the files in late September 1987. The appellant had refused to sign a bank authorization permitting his bank to disclose all account information to Revenue Canada and so Revenue Canada made a demand against the bank. As a result, Mr. Willisko obtained information about a number of accounts at the Canadian Imperial Bank of Commerce (”CIBC”). The corporation maintained a chequing account and a savings account for its quadruplex rental property and a chequing account for its meat and delicatessen business. There was a second savings account No. 6352367 at the CIBC which became very important in the net worth statement because the appellant claims that it was a corporation account but the Minister of National Revenue claims it was the appellant’s personal account. For convenience, this account will be referred to as "No. 367".

In order to succeed in this appeal, counsel for the appellant attacked four items in the net worth statement as errors made by the assessor. Those items are the bank account No. 367, the shareholder loan account in the corporation, an amount of realty tax and a mortgage payment by Dorothea Hantel. Ms. Hantel lived in a common law relationship with the appellant from approximately 1981 to 1991. No. 367 was opened on March 1, 1983 in the names of Hans Hilscher and Dorothea Hantel but only the appellant signed the specimen signature card. Between March 1, 1983 and December 31, 1984, there were 16 deposits and only three withdrawals. The three withdrawals were $20,000 on June 7, 1983; $20,014 on September 2, 1983; and $29,900 on March 1, 1984. The $20,000 which was withdrawn on June 7, 1983 was transferred to the corporation chequing account No. 46-03915 for the meat business and credited to the shareholder loan account as $10,000 from the appellant and $10,000 from Ms. Hantel. The $20,014 which was withdrawn on September 2, 1983 was used to purchase four Canadian dollar drafts each in the amount of $5,000. The appellant testified that he and Ms. Hantel went to Germany in September 1983 to purchase equipment for the corporation’s meat and deli business. This statement appears to be verified by the fact that Mr. Nilson recorded fixed asset additions of $58,262 in the corporation for its fiscal period ending January 31, 1984. The third withdrawal of $29,000 on March 1, 1984 was transferred to the corporation chequing account No. 46-03915 as part of a large deposit ($59,095) on the same date. The whole amount of that deposit was credited to the shareholder loan account.

The appellant makes the following argument to support his claim that No. 367 was a corporation account. It was a mistake on the bank’s part that the account was in the names of the appellant and Ms. Hantel. The only three withdrawals in 1983 and 1984 were either deposited in the corporation chequing account No. 46-03915 or used for corporation purposes (buying equipment in Germany). No. 367 as a savings account for the meat business is comparable to the corporation savings account for its quadruplex. I cannot accept the appellant’s argument because, in my view, the evidence is overwhelming that No. 367 was a personal account of the appellant alone. To begin, No. 367 is in the names of the appellant and Ms. Hantel; and the bank would have taken instructions from the appellant (the only signing person) as to whose name or names should be on the account. The specimen signature card is dated March 1, 1983; it is signed by only the appellant; and the names typed on the card are Hans Hilscher and Dorothea Hantel.

Secondly, although two big withdrawals of $20,000 and $29,000 did go directly to the corporation chequing account, they went as property of the appellant and Ms. Hantel because they were credited to the shareholder loan account. If No. 367 were a corporation bank account, then a transfer of funds from No. 367 to the corporation chequing account could not be recorded as a shareholder advance. Thirdly, the interest of $553.74 earned in No. 367 for 1983 was divided between the appellant and Ms. Hantel and reported 50-50 in their 1983 income tax returns. All of the interest earned in No. 367 during 1984 was reported by the appellant in his 1984 income tax return. Those returns were prepared by Mr. Nilson. The preparation and filing of those returns would have provided an opportunity to inform Mr. Nilson that No. 367 was a corporation account if that was the case. Throughout 1983 and 1984, Mr. Nilson had no idea that the appellant regarded No. 367 as a corporation account if, indeed, the appellant did in fact regard No. 367 as a corporation bank account back in 1983-84.

And fourthly, three separate deposit slips for $12,960 (March 8/83), $2,750 (March 30/83), and $10,000 (September 30/83) are all initialled by the appellant with the notation “Credit account of Hans Hilscher” or "Hilscher & Hantel”. Mr. Willisko testified that he had interviewed the appellant in 1987 but had never heard the appellant claim that No. 367 was a corporation bank account until this appeal commenced. If the appellant’s credibility is involved in determining whether No. 367 belonged to the appellant or to his corporation, I hold against the appellant and find that No. 367 was owned by him personally at all relevant times. I will comment later on credibility.

I turn now to the shareholder loan account. There were two significant credits (1.e. advances) to that account. On March 1, 1984, the amount of $59,095 was deposited in the corporation chequing account No. 46-03915. And on October 29, 1984, the amount of $18,200 was deposited in No. 46-03915. The deposit slip for March 1, 1984 shows the transfer of $29,900 from No. 367 (referred to above) and then lists certain cash as follows:

7x5= $ 35

64x 10= #640

696 x 20 = 13,920

168 x 50 8,400

62 x 100= 6,200

Total $29,195

The appellant could not identify the source of all the currency adding up to $29,195. He stated "it’s probably money that I got from Klaus but I’m not going to swear to it”. Counsel for the appellant suggested in argument that it could be part of an amount $33,300 (converted from 72,000 DM) loaned to the appellant on February 11, 1984 by Klaus Ametsbischler, a friend in Germany. That is a possibility but it does not explain the gap in time between February 11 and March 1 and does not explain why 72,000 DM would be converted into such a wide variety of Canadian currency. I am more inclined to accept the respondent’s argument that the currency was cash taken by the appellant from his corporation meat business to reduce its reported sales. The appellant acknowledged that, as a result of the audit and investigation by Revenue Canada, the corporation was reassessed for its 1984 and 1985 taxation years. In 1984, the Minister of National Revenue added $14,750 as unreported income. In 1985, the Minister added $44,023 as unreported income. The corporation did not appeal from either of those reassessments.

The deposit slip for October 29, 1984 has the plain notation ’’Deposit- Cash” with the amount $18,200 but no indication as to how the cash was allocated in currency of different denominations. In evidence, the appellant could not recall where the $18,200 came from. By Mr. Nilson’s journal entry dated January 31, 1985, these two sums of $59,095 and $18,200 were credited to the shareholder loan account.

Appellant’s counsel argued that, in the circumstances of this case, no property of the corporation had been appropriated by and no benefit had been conferred on the appellant qua shareholder under subsection 15(1) of the Income Tax Act until such time as the appellant withdrew cash from the shareholder loan account. In support of that argument, he cited Robinson v. M.N.R., [1993] 1 C.T.C. 2406, 93 D.T.C. 254. In Robinson, the taxpayer controlled a corporation which was carrying on business. Certain property of the Robinson Co. was sold by an agent in the United Kingdom and the agent sent a cheque for £32,130 payable to Mr. Robinson. When Mr. Robinson deposited the cheque for $64,022 (Can. funds) in the Robinson Co. bank account, the outside accountants for the Robinson Co. er- roneously entered the amount $64,022 as a credit to the shareholder loan account. After the Revenue Canada audit commenced, the accountants informed Revenue Canada that the $64,022 entry was a mistake and that it should be revenue of the Robinson Co. The Minister of National Revenue added the amount $64,022 to Mr. Robinson’s reported income as a shareholder benefit under subsection 15(1). Rowe D.J. allowed the appeal of Mr. Robinson and stated at page 2410 (D.T.C. 257-58):

Subsection 15(1) contemplates an appropriation for the benefit of a shareholder and/or a benefit or advantage conferred on a shareholder by a corporation. The appellant was the sole shareholder of the corporation and must either be responsible for taking unto himself or setting aside for a special purpose something of value from the corporation or, as the directing mind of the corporation, be responsible for the bestowing or granting of a benefit, and at the same time in his personal capacity agree to accept it and adapt it for his own use. Although it is the same mind operating in both instances, the appellant while wearing his shareholder’s hat did nothing consistent with taking, or appropriating a benefit, and, as director and president, when exercising control over the corporation, did not intend to have conferred anything on himself, and as a putative recipient, he was an unwilling and uninformed beneficiary. The accountants, in erroneously recording a transaction, were not acting pursuant to any direction to achieve such an end on behalf of either the corporation or the appellant as a shareholder. Clearly, the record keeping was not in accord with the facts and ran counter to the intent of the appellant at the outset when he undertook to correct an error by depositing into the corporate bank account funds which truly belonged to it. He was discharging his duty as trustee made necessary by the inadvertent act of the payor in making him the payee of the cheque.

In my opinion, the Robinson case is easily distinguished from the appeal herein because (i) the third part cheque was inadvertently made payable to Mr. Robinson; (ii) he attempted to correct that error by depositing it in the Robinson Co. bank account; (iii) the outside accountants made a further error by entering the amount as a credit to the shareholder loan account; (iv) the accountants were not acting on the direction of Mr. Robinson to achieve a benefit for him; and (v) there was no evidence that Mr. Robinson had previously diverted his company’s funds for his own benefit.

In this appeal, the outside accountant Mr. Nilson did in fact act on the direction of Mr. Hilscher when crediting amounts to the shareholder loan account because there were no ordinary books and records to rely on. Also, there is very strong evidence that Mr. Hilscher took cash from the sales of his corporation to deposit in his own account No. 367, and then used those same funds to increase his portion of the shareholder loan account. On the evidence before me (including Mr. Willisko’s testimony about the erratic deposits of cash and cheques over irregular periods of time), I am satisfied that the two significant deposits of $59,095 and $18,200 to the corporation account No. 46-03915 which were credited to the appellant’s shareholder loan account were derived primarily from unreported sales of the corpora- tion. The facts in this appeal are very different from those in the Robinson case. I have no hesitation in finding that the increases in the shareholder loan account as shown in the net worth statement are justified on the evidence before me. Those increases are not an error in the net worth statement.

The third item under attack is the property taxes of $2,445.66 shown as a personal expense of the appellant in 1983. The appellant stated that he thought the amount was too high by about $1,000. The comparable amount for 1984 was $1,698.92. If the property tax amount is reduced, it will assist the appellant because his personal expenses are shown as a positive adjustment to the increase in net worth. Mr. Willisko gave a detailed account of the mortgage payments made to the bank with the portion of those payments allocated for municipal property taxes. In the middle of 1983, there was a change in the portion of the monthly mortgage payment which was allocated to property taxes. I do not know why that change occurred but I am more inclined to accept Mr. Willisko’s detailed analysis of the mortgage account and property taxes than the appellant’s thought that the amount is too high by $1,000. The appellant may have been influenced by the comparable amount for 1984. I will not adjust the property taxes of $2,445.66 for 1983 because the appellant had failed to prove that that amount is wrong.

The fourth and last item under attack in the net worth statement is an amount of money contributed by Dorothea Hantel in 1984 to pay off the mortgage on the house at 355 Wyecliffe which she and the appellant shared as a dwelling. She was called as a witness by the respondent and she identified a cheque dated September 1, 1984 in the amount of $37,806.89 payable to the Canadian Imperial Bank of Commerce Mortgage corporation which was signed by her alone. This is the cheque which paid off the mortgage. There is a dispute concerning the source of the funds to support that cheque. With some leading from respondent’s counsel, Ms. Hantel concluded that the amount of $17,076.89 probably came from a significant decrease of more than $16,000 in her term deposits following August 13, 1984. Her evidence was imprecise concerning the source of the remaining $20,730. It was not proven that the remaining $20,730 came from the funds of Ms. Hantel or from the appellant.

Because the cheque was used to pay off the mortgage on the house at 355 Wyecliffe and the house is part of the appellant’s property (listed among his assets on the net worth statement), any contribution from Ms. Hantel to pay off the mortgage would be an indication of the appellant’s apparent increase in net worth in 1984. In Schedule E to the net worth statement, the respondent has allowed the amount of $17,076.89 as a contribution from Ms. Hantel but the appellant claims that she paid the additional $20,730 referred to above. The appellant could not prove that claim and Ms. Hantel, under questioning by both counsel, could not confirm that the remaining $20,730 came from her own funds. She could only refer vaguely to cash gifts she may have received in June 1984 upon the birth of their daughter and to some funds they may have set aside for a "rainy day". If she had provided the whole amount of $37,076.89 to pay off the mortgage on their home, I should have thought that she would remember the event even ten years later and confirm it. No such confirmation was given. On the evidence before me, I will not adjust the allowance of $17,076.89 on Schedule E to the net worth statement.

In summary, the appellant has failed to prove any errors in the net worth statement except for an adjustment of $1,143.08 in 1984 referred to below.

The appellant also disputes the penalties assessed by the Minister of National Revenue under subsection 163(2) of the Income Tax Act. Those penalties are $1,000.43 for 1983 and $2,981.10 for 1984. The relevant words in subsection 163(2) are:

163(2) Every person who, knowingly, or under circumstances amounting to gross negligence in the carrying out of any duty or obligation imposed by or under this Act, has made or has participated in, assented to or acquiesced in the making of, a false statement or omission in a return...filed or made in respect of a taxation year as required by or under this Act or a regulation, is liable to a penalty of....

Before applying those words, I will consider the effect of my findings with respect to the net worth statement. Firstly, the respondent was required to use a net worth statement to determine the appellant’s income because of the inadequate books and records of the appellant and his corporation. And secondly, the appellant was not able to prove any significant errors in the net worth statement on a balance of probabilities in civil litigation. As a consequence, the appellant’s reported income is increased in 1983 by $20,005 from $6,450 to $26,455 and in 1984 by $46,980 from $6,600 to $53,580. In other words, as a result of the respondent’s audit and investigation, and with little help from the appellant, the appellant’s income for 1983 was increased by more than 300 per cent and his income for 1984 was increased by more than 700 per cent. My words "little help from the appellant" refer to credibility. During Mr. Willisko’s investigation, he questioned the appellant about the number of large unexplained cash deposits. At one time Mr. Willisko was told by the appellant that his mother in Germany had given him three amounts of 25,000 DM, 25,000 DM and 30,000 DM. The appellant even provided Mr. Willisko with a memorandum from his mother (handwritten in German) confirming these cash advances.

Revenue Canada used the provisions of the Canada-West Germany Tax Treaty to have the German tax authorities interview the appellant’s mother. At that interview, she denied giving the appellant any money and stated that she had provided the handwritten memorandum as a favour to him. At the hearing of this appeal, the appellant admitted that the story of obtaining funds from his mother was not true. Not only did the appellant and his corporation fail to keep adequate books and records to comply with subsection 230(1) of the Income Tax Act but, during the audit and investigation, the appellant made an outright attempt to deceive the Revenue Canada officials.

I will uphold the penalties under subsection 163(2) because I find that the appellant "knowingly...made or participated in the making of a false statement or omission" in his income tax returns for 1983 and 1984. He took cash from his corporation to reduce the corporation’s income and did not include that cash as part of his own income. This was an appropriation within the meaning of subsection 15(1) of the Act. The appellant allowed Mr. Nilson to think that No, 367 was his own account until the appeal commenced when he claimed for the first time that No. 367 was a bank account of his corporation. And finally, the appellant had sole control of his corporation and his own affairs and he was the only person from whom Mr. Nilson could obtain the necessary information to prepare the appellant’s income tax returns.

During the hearing of this appeal, the respondent admitted that account No. 9515968 at the CIBC was a savings account of the corporation and was not the appellant’s personal account. This account No. 9515968 had been included among the appellant’s assets in the net worth statement. Omitting account No. 9515968 from the appellant’s assets will reduced his 1984 income (as determined in the reassessment under appeal) by the amount of $1,143.08 from $54,723.46 to $53,580.38.

The appeal for the 1983 taxation year is dismissed. The appeal for the 1984 taxation year is allowed only for the purpose of reducing the appellant’s income by $1,143,08 as described in the preceding paragraph, and making any adjustment to the amount of the penalty which may be required as a result of the small reduction of income. Because the reduction of income for the 1984 taxation year is relatively small (only two per cent of income as determined by reassessment) and because the penalties are upheld, the respondent is entitled to party and party costs.

Appeal dismissed.