Koenig v. R., [1997] 2 CTC 3077

Archambault T.CJ.:

Mr. Daniel J. Koenig is appealing an assessment of interest by the Minister of National Revenue (Minister) with respect to unpaid taxes under the Income Tax Act (Act) regarding the 1994 taxation year.

In computing interest on the outstanding tax liability for the 1994 taxation year (1994 tax liability), the Minister did not take into account a sum of money that he owed to Mr. Koenig as a result of an overpayment of taxes made by Mr. Koenig in respect of the 1993 taxation year (1993 overpayment) and this despite the fact that Mr. Koenig had, on May 1, 1995, instructed the Minister to apply this overpayment to the 1994 tax liability. Mr. Koenig contends that it is grossly unfair that the Minister should compute his interest on a year by year basis without taking into account money owing to him by the Minister for a previous taxation year.

The facts

Mr. Koenig, who is a sociology professor, filed on May 2, 1994, an incomplete tax return for the 1993 taxation year. He advised the Minister that he would be filing a more complete one shortly thereafter. He included a cheque for $5,000.00 although he did not know what his tax liability was for that taxation year. On August 5, 1994, the Minister issued an assessment based on the information available on file and issued a refund of $4,920.87 to Mr. Koenig.

On May 1, 1995, Mr. Koenig filed an amended tax return for 1993 in which he claimed additional business losses. He also instructed the Minister to apply the refund that would result from such amended tax return towards the 1994 tax liability. On the same day, Mr. Koenig also filed his tax return for the 1994 taxation year. On June 15, 1995, the Minister issued an initial assessment respecting the 1994 taxation year showing a refund of $2,738.43 which was applied to the 1995 installment account.

On August 15, 1995, the Minister reassessed Mr. Koenig for the 1994 taxation year, increasing his tax liability by an amount of $5,779.34. This represented a reversal of the refund of $2,738.43 together with a tax increase of $3,040.91. The Minister also assessed interest in the amount of $159.00, consisting of $102.31, computed by reference to the sum of $3,040.91 for the period from April 30, 1995 to August 15, 1995, and $56.69 owing as a result of the reversal of the initial refund of $2,738.43.

On the same day, namely August 15, 1995, the Minister issued a new reassessment for 1993 resulting in a refund of tax of $3,972.80 (an amount less than anticipated by Mr. Koenig) and a credit of interest of $435.36 for the period from June 14, 1994 [1] to August 15, 1995, for a total of $4,408.16. The Minister applied, on August 15, 1996, this sum of $4,408.16 against the 1994 tax liability of $3,040.91 and the interest thereon ($102.31). The excess of $1,264.94 ($4,408.16 - $3,040.91 - $102.31) was paid to Mr. Koenig on September 22, 1995 together with $14.57 in interest for the period from August 15, 1995 to September 22, 1995, representing a total of $1,279.51 ($1,264.94 + $14.57).

On October 23, 1995, the Minister issued a new reassessment for the 1994 taxation year. He reduced the amount of the non-refundable tax credit that Mr. Koenig was entitled to and this resulted in an increase in tax of $206.90 and in interest of $11.55. The total amount of interest charged to Mr. Koenig with respect to the 1994 taxation year represents an amount of $113.86 ($102.31 + $11.55), being the interest on the unpaid taxes of $3,040.91 assessed on August 15, 1995 and $206.90 assessed on October 23, 1995.

The taxpayer’s position

Mr. Koenig argues that up to September 22, 1995, when he received a refund of $1,279.51, he did not owe any money to the Minister. Indeed, if we combine immediately before that time the two taxation years 1993 and 1994, Mr. Koenig had overpaid his taxes by an amount of $724.99 ($3,972.80 - $3,040.91 - $206.90). Therefore, the only interest that he should owe the Minister would be on the unpaid taxes of $206.90 for the period from September 22, 1995, the date on which the Minister refunded the sum of $1,279.51, to sometime after October 23, 1995, when payment of the then outstanding 1994 tax liability was made. It is, in Mr. Koenig’s own words, “totally unfair” that he should be assessed interest on the unpaid 1994 tax liability without taking into account the 1993 overpayment. All the more so, he adds, if one considers that he would have to pay taxes on the amount of interest that was credited to his account and used to pay his tax liability for 1994, while the interest payable by Mr. Koenig to the Minister for 1994 would not be deductible in computing his income.

The Minister’s position

The Minister contends that the computation of interest has to be done on a year by year basis and in isolation from any other taxation year. In support of this interpretation, counsel for the Minister raises three main arguments.

First, counsel for the Minister relies on Section 164 of the Act dealing with the refund of overpayments. Pursuant to subsection 164(1) of the Act, the Minister refunds any overpayment “for the year” only on or after mailing of the Notice of Assessment “for the year”. Subsection 164(1) reads as follows:

164(1) If the return of a taxpayer’s income for a taxation year has been made within 3 years from the end of the year, the Minister

(a) may...

(ii) on or after mailing the notice of assessment for the year, refund without application therefor, any overpayment for the year, to the extent that the overpayment was not refunded pursuant to subparagraph (i); and

(b) shall, with all due dispatch, make the refund referred to in subparagraph (a)(ii) after mailing the notice of assessment if application therefor has been made in writing by the taxpayer within the period determined under paragraph 152(4)(6) or (c), as the case may be, within which the Minister may reassess tax payable by the taxpayer for the year.

Counsel’s second argument is based on the wording of the charging provision with regard to interest in subsection 161(1) of the Act, which reads as follows :

161(1) Where at any time after the day on or before which a taxpayer is required to pay the remainder of the taxpayer’s tax payable under this Part for a taxation year (or would be so required if a remainder of such tax were payable),

(a) the total of the taxpayer’s taxes payable under this Part and Parts 1.3, VI and VL 1 for the year

exceeds

(b) the total of all amounts each of which is an amount paid at or before that time on account of the taxpayer's tax payable and applied as at that time by the Minister against the taxpayer's liability for an amount payable under this Part or Part 1.3, VI or VI. 1 for the year,

the taxpayer shall pay to the Receiver General interest at the prescribed rate on the excess, computed for the period during which that excess is outstanding.

Counsel insisted that interest is computed by reference to the amount of tax owing with respect to “a [particular] taxation year”. To determine the amount owing, the Minister has to take into account all amounts paid by the taxpayer on account of the taxpayer’s tax payable “for the year” and applied “as at that time” by the Minister. The rate of interest is applicable on the net amount owing to the Minister. Counsel claims that “for the year” modifies both the amount paid and the amount applied by the Minister. In this particular case, the Minister applied the 1993 overpayment to the 1994 tax liability only as of August 15, 1995. Therefore, Mr. Koenig was responsible for the interest as computed by the Minister on the 1994 tax liability for the period starting on May 1, 1994, and ending, with respect to the amount of $3.040.91, on August 15, 1995, and with respect to the additional amount of $206.90, on October 23, 1995.

Thirdly, subsection 164(3) of the Act requires the Minister to pay interest on the refund of an overpayment for a period starting 45 days after the “balance-due date”, in this case April 30, 1994, and ending on the day that the amount is refunded, repaid or applied. In counsel’s view, the Minister was required to pay interest to Mr. Koenig from June 14, 1994 (45 days after April 30, 1994) to August 15, 1995 (the date that the Minister applied the refund of the 1993 overpayment to the 1994 tax liability). If I were to accept the position of the taxpayer, he would in effect be getting the benefit of interest twice. First, he would be entitled to interest on his refund for the period from June 14, 1994 to August 15, 1995, and second, the refund would also be set off against his tax liability for the period from May 1, 1995 to August 15, 1995.

Analysis

I believe that this appeal can be solved by answering the following two questions: Did the instructions given by Mr. Koenig on May 1, 1995 to apply the 1993 overpayment to the payment of the 1994 tax liability amount to a payment of taxes on that date? When should the Minister have applied this overpayment against the 1994 tax liability? It should be remembered that pursuant to the charging provision with regard to interest in subsection 161(1) of the Act, interest is to be computed by reference to the net unpaid taxes (described as the “excess” in that subsection), that is, the amount by which the aggregate of all taxes payable for a particular year exceeds any amount paid on account of the taxpayer’s tax payable and applied by the Minister against the tax liability for the year.

In this particular case, the Minister had had the enjoyment of Mr. Koenig’s money ($3,972.80) since May, 1994. On May 1, 1995, the 1994 unpaid tax liability amounted to $3,247.81 ($3,040.91 + $206.90) which was less than the amount of the 1993 overpayment. On that day, the taxpayer instructed the Minister to apply the 1993 overpayment towards the 1994 tax liability. For the Minister, this would be better than awaiting a payment cheque since he already had the money in his possession. I think it is clear that payment occurred on May 1, 1995, in the same way that the Minister accepts as payment the cheques that many Canadian taxpayers send to him with their tax returns on the last day of April.

Once it is determined that payment occurred on May 1, 1995 on account of Mr. Koenig’s 1994 tax liability and that this payment was applied as of that date, then there is no problem in applying or interpreting the various provisions of the Act.

The second issue is whether the Minister can ignore the instructions of a taxpayer to use the overpayment for one year to pay the tax liability for a following year, thereby delaying for several months (here until August 15, 1995) the application of the payment. In this particular case, I think it was totally unreasonable of the Minister to take three and a half months to give effect to Mr. Koenig’s instructions. He could have applied the overpayment as of May 1, 1995, and, in my view, should have done so, especially when one considers that the rate of interest charged by the Minister is higher than that paid by him to taxpayers.

Counsel for the Minister brought to the attention of the Court two decisions in which this Court seems, in her opinion, to have taken opposite views on this issue. These two cases are George v. R, (1993), 93 D.T.C. 312 (T.C.C.), a judgment by Judge Lamarre Proulx, and Smith v. Minister of National Revenue, (1990), 91 D.T.C. 526 (T.C.C.), a judgment by Judge Margeson. I believe that my conclusion in this appeal is consistent with these two decisions.

Contrary to the claims of the Minister’s counsel, a careful review of the facts of each case reveals no contradiction between them. In George, no instructions were given by the taxpayer to allocate the overpayment of taxes for one year to another particular year. That issue was only raised before the Court. After having reviewed the jurisprudence and the doctrine on this issue, Judge Lamarre Proulx concluded that no right of set-off existed against the Crown. In particular, she cited the old decision in Fortier v. Langelier, (1895), 5 Que. Q.B. 107 (Que. Q.B.), at page 113, where Justice Wurtele said:

So whether we consider the question from the standpoint of our public administrative law or from that of our private civil law, we must arrive at the conclusion that compensation does not take place between a debt due to the government for a direct personal tax and a debt due by the government to a person owing such a tax, and therefore that there is error in the interlocutory judgment rejecting the appellant’s answer in law and in the final judgment admitting the compensation set up by the respondent and dismissing the appellant’s action.

In this appeal, we are not dealing with a situation of compensation by operation of the law. We are dealing with a taxpayer who gave specific instructions with respect to the use of an overpayment that he is entitled in law to have refunded to him. So the George case does not apply here.

In Smith, the taxpayer had instructed the Minister to apply the overpayment of tax for a taxation year against the tax liability of a following taxation year. These instructions were given by a letter dated May 18, 1988 and received by the Minister on May 25, 1988, requesting that a 1987 overpayment be applied towards his 1988 installment account. At page 528, Judge Margeson agreed that an allocation by the taxpayer was required. However, in cases where an allocation was made, he saw nothing in the Act which prevented the Minister from giving a credit for interest when the taxpayer’s funds were already in the Minister’s possession. In Smith, Judge Margeson concluded that the Minister had not acted reasonably in allocating the overpayment to the 1988 tax installments. He concluded that the taxpayer had acted reasonably in providing a formula enabling the Minister to allocate a specific amount to the 1988 taxation year.

With respect to the argument based on subsection 164(3) of the Act, it is important to note that the Minister must pay interest on an overpayment until it is refunded to a taxpayer or applied towards a tax liability of the taxpayer. Here, subsection 164(3) of the Act is applicable to the 1993 over- payment up to May 1, 1995 and thereafter to the extent that the overpayment exceeds the 1994 tax liability as determined by the August 15, 1995 reassessment. Therefore, Mr. Koenig does not enjoy a benefit twice, as claimed by the Minister’s counsel.

For greater certainty, I would add that Mr. Koenig is liable for interest in respect of the amount of tax owing as a result of the October 23, 1995 reassessment. The reassessment for the 1994 taxation year is referred back to the Minister for reconsideration and reassessment on the basis that in computing interest pursuant to subsection 161(1) of the Act, the 1993 overpayment shall be applied towards the 1994 tax liability (as determined by the August 15, 1995 reassessment) as of May 1, 1995.

For these reasons, Mr. Koenig’s appeal is allowed.

Appeal allowed.