As with have blogged about many times in the past (see here, here, here, and here), one of the most misunderstood areas of the law around corporate directors is the concept of director’s liability for the corporation’s unremitted tax.
Several recent cases in our practice have reminded us of the critical importance of these rules and how all directors can benefit from a refresher of their basic structure.
Director’s Liability in a Nutshell
Section 323 of the Excise Tax Act provides that the directors of a corporation are jointly and severally liable together with the corporation for any amounts of GST/HST which fail to be remitted to the Minister. Functionally identical sections under section 227.1 of the Income Tax Act (which are further read in by sections 83 and 21.1 of the Employment Insurance Act and the Canada Pension Plan, respectively), expand this liability to include income tax as well as other employer source deductions (i.e. EI, and CPP).
Crucially, this liability only attaches to the individuals who were the directors at the time the corporation was required to remit or pay (but failed to do so).
Preconditions for Liability
However, before the CRA can move to assess the directors of a recalcitrant corporation, it must satisfy one of three preconditions. Namely: (1) a certificate for the amount of the corporation's liability has been registered in the Federal Court and execution for that amount has been returned unsatisfied; (2) the corporation has commenced liquidation/dissolution proceedings, or has been dissolved, and a claim for the amount of the corporation's liability has been proved (subject to certain other conditions); or (3) the corporation has made an assignment or a bankruptcy order has been made against it under the Bankruptcy and Insolvency Act and a claim for the amount of the corporation's liability has been proved within six months after the date of the assignment or bankruptcy order. (See ss. 323(2) and 227.1(2) of the ETA and ITA respectively)
Oftentimes, one of these processes will be completed by the CRA as a matter of course, however it should be directly confirmed by the director or their lawyers – otherwise any assessment is invalid.
Provided the assessment of a director is properly made out, there are two common but situational defences that a director can potentially rely on to defeat the assessment:
Two-Year Limitation Period - Per Subsection 323(5) of the ETA (see also 227.1(5) of the ITA), there is a strict, two-year time limit on the CRA’s ability to assess former directors, which begins to run after they cease to hold office as a director. However, this defence sometimes raises issues of when a former director has actually resigned, or if they remain as so called ‘de facto director’ of the corporation despite their resignation. Either issue has the potential to scuttle any defence based on this two-year limitation period.
Due Diligence Defence – Subsection 323(3) of the ETA (see also 227.1(3) of the ITA) provides that a director is not liable for a failure to remit 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”. With this, the onus is on the director to establish that they were duly diligent in preventing the corporation from defaulting on its tax obligations.
The nature of this defence is often misunderstood. Directors will sometimes explain — at length — their actions to rectify the default AFTER the fact. Unfortunately, this is not relevant the defence, which is concerned with the actions the director took to prevent the default prior to it occurring!
The takeaway point is that this is a complicated and developing area of the law, with a lot of recent jurisprudence. Directors will usually need legal advice, and file Notices of Objection, and Notices of Appeal to TCC to vindicate their rights. Business owners should expect more of these assessments post-pandemic, as CRA begins to clamp down on corporations, and issue assessments that some corporations will not be able to deal with — leaving directors liable for the corporate debts.
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