A recent case has hopefully clarified a huge issue for so called "derivative assessment" of directors and other person potentially at risk for a corporate taxpayer's tax liability.
Tax & Trade Blog
When a corporation finds itself in the midst of huge potential tax liability, that is often not the end of the story for the various parties involved. Directors may find themselves pursued for civil director’s liability for any taxes, interest or penalties remaining unpaid by the corporation, and directors, officers, employees and other involved parties may also find themselves being pursued by the CRA for possible criminal offences, and being charged criminally pursuant to section 327(1)(c) of the Excise Tax Act (the “ETA”). Criminal charges will generally follow any situation where the CRA is of the view that the corporation by dishonest means, sought to evade payment or remittance of the GST/HST and/or repurposed the funds to serve its own uses. In these instances, the CRA will be looking to the operating minds of the corporation, and any other persons (e.g., directors, officers, employees, agents, aiding and abetting parties) having a hand in the criminal activities (the “Underlying Parties”).
If convicted, the Underlying Parties are subject to their own fines, and could also face both a fine and imprisonment.
While the CRA often has a very low threshold for what it considers “criminal activity”, a recent Nova Scotia Provincial Court (the “NSPC”) decision appears to confirm that a person’s “suspicious conduct” alone may be insufficient to ground a criminal conviction for “tax evasion”.
In Canada, the CRA can often pursue a corporation’s directors for unpaid tax debts of the corporation. But there are certain “pre-conditions” that must be met.
One of these, which rarely gets any attention at all is the requirement that “a certificate for the amount of the liability of the corporation [be] registered in the Federal Court… and execution for that amount [be] returned unsatisfied in whole or in part”: see section 323(2)(a) of the Excise Tax Act (ETA) and section 227.1(2)(a) of the Income Tax Act (ITA).
Historically, the Courts have considered that these provisions do not impose an obligation upon the CRA to make reasonable efforts to search for assets of a corporate debtor; rather, all the CRA needs to do is “act in good faith”: see Barrett (2012 FCA 33).
In Tjelta (2017 TCC 187), the Tax Court of Canada (TCC) was asked to determine what the FCA meant in respect of the CRA’s good faith requirement.
Not much it seems!
A director can defeat personal liability for his/her corporation’s tax debt by establishing that the director’s assessment was made more than two years after he/she has ceased to be a director of the corporation (section 325(5) of the Excise Tax Act (“ETA”); section 227.1(4) of the Income Tax Act). What a director needs to do in order to demonstrate that there was an effective resignation? As discussed in the following cases, an objectively verifiable communication of a resignation to the corporation is required and that any mess up in the requirements of Ontario’s Business Corporations Act (“OBCA”) will affect the efficacy of the resignation. When in doubt, it is advisable for directors to seek legal advice.
The recent FCA decision, Canada v Chriss (2016 FCA 236), underscores the resignation obligations of directors. If directors do not execute their resignations properly and completely, they will remain liable for the actions of the corporation, including director’s liability assessments issued by taxing authorities like the Canada Revenue Agency (“CRA”).
Although section 323 of the Excise Tax Act imposes joint and several liability onto the corporate director for a corporation’s failure to remit GST/HST, this liability is negated if 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.” In order to establish this due diligence defence, a director has to meet a fairly high threshold according to current jurisprudence. The recent decision of Cherniak (2015 TCC 53), suggests that this defence will be very difficult to meet where the corporation assessed was involved in “artificial” transactions.
In light of the inherent risks of serving as director of a corporation, business owner-operators may be tempted to appoint their spouse or family member as the sole director of their corporation, despite the fact that that person may be completely uninvolved with or unknowledgeable about the corporation’s operations. This is primarily done with a view to “creditor-proofing”. However, as the Federal Court of Appeal (FCA) decision of Constantin v. The Queen (2013 FCA 233) illustrates, this strategy is far from invincible when it comes to GST/HST remittances.
As a general rule in tax litigation, the initial onus is on the appellant-taxpayer to “demolish” the Minister’s assumptions that form the basis of the disputed assessment. This initial onus is met where the appellant makes out at least a prima facie case. If this is done, the burden then shifts to the Minister to prove, on a balance of probabilities, that the assumptions were correct. The primary reason for this rule is that the taxpayer generally has the best knowledge of his/her own affairs in a self-reporting tax system.
However, the TCC has held that the initial onus may not be on the taxpayer in the context of so-called “derivative assessments” such as assessments against directors pursuant to director’s liability provisions for underlying corporate assessments (ss. 323 ETA and 227.1 ITA) and against transferees pursuant to non-arm’s length transfer rules for underlying assessments against the transferor (ss. 325 ETA and 160(1) ITA).