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Guindon: SCC Hears Arguments in Penalty Case

The Supreme Court of Canada heard oral arguments today in the case of Guindon v. The Queen (Docket No. 35519). At issue in the case is the nature of the third-party penalty in section 163.2 of the Income Tax Act.

See our previous post on the case here.

The taxpayer’s factum is available here, and the Crown’s factum is here. In written submissions, the taxpayer argued:

    1. Section 163.2 is an offence provision that attracts the protections of section 11 of the Charter, and
    2. No notice of constitutional question was required.

In response, the Crown argued:

    1. The taxpayer’s failure to file a notice of constitutional question is fatal to the appeal, and
    2. Section 163.2 is not an offence provision.

The seven-member panel was chaired by Justice Rosalie Abella. (Absent were Chief Justice Beverley McLachlin and recently appointed Justice Suzanne Côté.)

Taxpayer’s Arguments

The Appellant first addressed the question of whether notice of a constitutional question was required under section 19.2 of the Tax Court of Canada Act. The Appellant argued that it was not advancing the position that section 163.2 was invalid or inapplicable or inoperable, and thus no notice was required. Further, if notice was required, it had been provided in respect of the Supreme Court proceeding.

This brought a series of pointed questions from Justices Abella and Moldaver, who asked whether the effect of the Appellant’s interpretation would be to “throw out” the third-party penalty regime in section 163.2 because it would become subject to criminal procedural requirements. Further, the Court was unconvinced that providing the notice in respect of the Supreme Court hearing cured the failure to provide the notice in the Tax Court.

In respect of the Wigglesworth test, the Appellant argued that section 163.2 is directed at any person, and therefore it is intended to promote public order rather than to regulate a private sphere of conduct. Further, section 163.2 has a true penal consequence in that the penalty imposed under this section is identical to the penalty that could be imposed under section 239 for criminal tax evasion.

Justice Rothstein asked several questions about how section 163.2 differs from the other penalty provisions in the Act and whether a finding that section 163.2 was an offense would require Parliament to redraft the provision to include language similar to that found in section 239. On this point, Justice Abella returned to the issue of whether the Appellant was in fact seeking to have section 163.2 declared inoperable.

Crown’s Arguments

The Crown’s submissions were generally received with less judicial intervention from the Court.  The Crown began its submissions with a discussion of the issue of notice of constitutional question.  When asked whether the failure to give notice can be cured in subsequent proceedings, counsel for the Crown conceded that it could in certain cases, but that by the time the dispute comes before the Supreme Court, the matter should be fully argued and the evidentiary record should be complete.

The Crown argued that, in this case, the Federal Court of Appeal could have done one of three things, each of which would have been acceptable: (1) it could have said that notice of constitutional question is required, adjourned the proceedings to remedy the failure, and heard arguments on the substantive issue; (2) it could have returned the matter back to the Tax Court to have the notice served and arguments re-heard so that the evidentiary record could be completed at trial; or (3) it could have done what it did in this case, and held that failure to give notice prevented the court from considering whether section 163.2 implicates the Charter. On this point, Crown counsel argued that the Supreme Court should not sanction a practice that makes it better to ask for forgiveness on appeal rather than asking for permission in the Tax Court.

Regarding the substantive issue, Crown counsel argued that since the penalty is computed mathematically, and with specific reference to the amount of tax credits that the individual taxpayers claimed under the Income Tax Act, then the penalty in section 163.2 is a non-discretionary penalty that bears none of the principles of sentencing (e.g., blameworthiness, retribution, denunciation, reparation, etc.).

Crown counsel discussed the facts of the case to show the link between the penalty amount and the underlying income tax at issue.  Interestingly, Crown counsel distinguished this penalty (i.e., the “tax preparer” penalty) from the “tax advisor” penalty in section 163.2, on the basis that the tax advisor penalty takes into account “gross entitlements”, which this particular penalty does not (therefore, it remains to be seen in a future case whether the “tax advisor” penalty in section 163.2 could be treated differently).  In response to questions from Justices Abella and Rothstein, Crown counsel stated that this penalty is not an “outlier”, as counsel for the Appellant suggested, and that the type of stigma attached to this penalty is a different kind of stigma than the one attached to criminal sanctions.

Finally, regarding the issue of quantum, Crown counsel argued that the amount of the penalty was irrelevant to the analysis.  Justices Abella and Rothstein asked whether the analysis would change if the amount was sufficiently enormous.  Crown counsel argued that the analysis turns on whether the penalty is penal in nature, and if the answer is no, then only in extreme cases would the actual amount cause a penalty to be penal.

*     *     *

Following brief submissions made by the intervener, the Court reserved its decision.

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Guindon: SCC Hears Arguments in Penalty Case

Guindon: SCC Hearing Scheduled for December 5, 2014

The highly-anticipated appeal to the Supreme Court of Canada in Guindon v The Queen has been scheduled for hearing on December 5, 2014, and the parties have now filed their factums in the appeal.

For our prior posts on this decision, refer to our summary of the Tax Court decision (2012 TCC 287), our guest blogger’s summary of the Federal Court of Appeal decision (2013 FCA 153), and our summary of the Supreme Court leave application (Docket No. 35519).

The Appellant’s (Ms. Guindon’s) Factum is available here, and the Respondent’s (Crown’s) Factum is here.

The appeal concerns the “third party” penalties under section 163.2 of the Income Tax Act.  In short, the Tax Court found that the penalty imposed under section 163.2 is a criminal penalty, not a civil one, and therefore subject to the protection of (inter alia) section 11 of the Charter of Rights and Freedoms.

The Federal Court of Appeal reversed on the basis that Ms. Guindon did not provide notice of a constitutional question, and thus the Tax Court lacked jurisdiction to make an order on the nature of section 163.2.  In any event, the Federal Court of Appeal also stated that the penalty under section 163.2 was not criminal in nature, and hence, was not subject to Charter protections.

Taxpayer’s Arguments

On appeal to the Supreme Court, Ms. Guindon has framed her appeal as follows: based on the Supreme Court’s decisions in Wigglesworth and Martineau, section 163.2 is an offence provision that attracts the protection of (inter alia) section 11 of the Charter on the basis that section 163.2 is (1) an offence provision “by nature” and (2) an offence provision by virtue of its true “penal consequences”.

In addition, if section 163.2 is an offence provision, then Ms. Guindon argues that her section 11 Charter rights were breached in a manner that cannot be justified under section 1 of the Charter (applying the Oakes test).

Finally, Ms. Guindon asserts that a notice of constitutional question did not need to be filed in this case, since she was not seeking a declaration that section 163.2 was unconstitutional, but was rather merely asserting her Charter rights (and in the alternative, if notice of constitutional question was needed, Ms. Guindon argues that no prejudice resulted to the Crown and the Supreme Court can simply replace the lower court’s decision with its own).

Crown’s Arguments

The Crown, not surprisingly, has focused its primary argument on the fact that no notice of constitutional question was made by the taxpayer.  Accordingly, the Crown argues that the Supreme Court should dismiss the appeal on that basis alone and need not consider the substantive issues.

Alternatively, the Crown argues that section 163.2 is not an offence provision “by nature”, as its objects are purely administrative, the purpose of the penalty is to deter non-compliance under the Income Tax Act, and the process by which to challenge the penalty (i.e., the objection and appeal process under the Act) is not criminal in nature.

Moreover, the Crown asserts that section 163.2 does not impose true “penal consequences”, since (i) prosecution could have resulted in harsher sanctions (including prison time), and (ii) the magnitude of the penalty must be assessed in the context of the malady it intends to remedy (notwithstanding the lack of a penalty “ceiling”).  If the Supreme Court finds that section 163.2 infringes section 11 of the Charter, then the Minister will not seek to uphold it under section 1 of the Charter.

Potential Implications

Regardless of the Supreme Court’s finding on the issue regarding the notice of constitutional question, it would be surprising if the Supreme Court did not consider the substantive issue – it would be puzzling for the Court to grant leave and consider only the preliminary question. Accordingly, even if Ms. Guindon’s appeal fails on technical grounds, we expect the Court to offer much-needed guidance on the nature of section 163.2.

If the Court determines that section 163.2 infringes section 11 of the Charter (regardless of its finding on the “notice” issue), we can expect the Department of Finance may consider amendments to 163.2 (and the parallel provision under the Excise Tax Act) in a manner that takes into account the Supreme Court’s reasons.

The Court’s decision will also have implications for the Excise Tax Act (the “ETA”).  Section 285.1 of the ETA imposes a similar planner/preparer penalty for GST/HST purposes. At the CPA Commodity Tax Symposium in Ottawa (held on September 29 and 30, 2014), the CRA announced that it had recently issued the first penalty under section 285.1 of the ETA.

And for both the ITA and ETA, we expect there may be other potential penalty reassessments issued – or not – depending on the result of the Guindon case.

For these reasons, we eagerly await the hearing on December 5, 2014 and the Court’s subsequent decision.

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Guindon: SCC Hearing Scheduled for December 5, 2014

Galachiuk: TCC Clarifies Due Diligence Defence Under 163(1)‏

Subsection 163(1) of the Income Tax Act (the “Act”) imposes a penalty of 10% on an amount that a taxpayer fails to report in his/her return where there has been a previous failure to report income in any of the three preceding taxation years.

The penalty under subsection 163(1) has been described as “harsh” due to the 10% federal penalty, a potential 10% provincial penalty, and the fact that the penalty may apply even where minimal or no additional tax is owing by the taxpayer (i.e., the tax relating to the unreported amount was withheld at source and remitted to the CRA).

In several cases, the courts have held that a taxpayer that is the subject of a penalty under subsection 163(1) has a due diligence defence. A taxpayer can satisfy the due diligence test in one of two ways: (i) By establishing that he/she made a reasonable mistake of fact (i.e., the taxpayer was mistaken as to a factual situation and the mistake was reasonable), or (ii) by establishing that he/she took reasonable precautions to avoid the event leading to the imposition of the penalty (see Les Résidences Majeau Inc v The Queen (2010 FCA 28)).

Some court decisions on the due diligence defence under subsection 163(1) appear to have reached inconsistent conclusions on the issue of whether the taxpayer’s due diligence must exist in respect of (i) either of the two years in which the failure occurred (see, for example, Franck v. The Queen (2011 TCC 179), Symonds v. The Queen (2011 TCC 274), Chan v. The Queen (2012 TCC 168) , and Norlock v. The Queen (2012 TCC 121)) or (ii) only the year upon which the penalty is imposed (i.e., the second failure) (see, for example, Chendrean v. The Queen (2012 TCC 205), and Chiasson v. The Queen (2014 TCC 158)).

This was the question considered by the Tax Court in Galachiuk v. The Queen (2014 TCC 188). In Galachiuk, the taxpayer failed to report portions of income in two consecutive taxation years: $683 in his 2008 tax return and $436,890 in his 2009 tax return. Given Mr. Galachiuk’s failure to report income on two separate occasions, the Minister imposed a penalty under subsection 163(1).

The taxpayer argued that he had been duly diligent in 2008 because he had taken steps to inform his investment broker and advisors of a change of residence, and had also arranged with Canada Post to have his mail forwarded to his new address. Despite these efforts, one T3 slip had not been forward to or received by the taxpayer. The Crown argued that the fact that some T-slips had the incorrect information should have alerted the taxpayer to the need to take additional steps to ensure he had all of his T-slips for the year.

For 2009, the taxpayer argued that he had received a T4 slip and a T4A slip from his former employer, and had concluded that no additional slips were forthcoming from the former employer and that the two slips he received had included all of the income he had received from the former employer in 2009. The Crown argued that a reasonable person would not have made this mistake in the circumstances.

In respect of the legal test, the Tax Court stated that subsection 163(1) is a harsh provision and the absence of language that would limit the due diligence defence made it clear that Parliament had intended that the defence was available to explain the omission in either year. The Court noted that there was no requirement in the provision that the penalty could only be imposed if the taxpayer had first been reassessed in respect of his/her first failure to report (see such a precondition exists in the language of subsections 162(1) and (2) regarding repeated failures to file returns). Accordingly, the defence can be made out where the taxpayer was duly diligent in respect of either of the failures to report income.

In the present case, the Court stated that the taxpayer had been duly diligent in 2008 because he had taken steps to ensure he received his T-slips, he carefully prepared his 2008 tax return, and the unreported amount was a “tiny portion” of his income for the year. Accordingly, the taxpayer was duly diligent in reporting his income in 2008, and the Court allowed the taxpayer’s appeal and ordered that the CRA reassess to delete the penalty imposed in 2009.

Additionally, the Court went on to consider whether the taxpayer had been duly diligent in 2009. On this issue, the Court concluded that it was not reasonable for the taxpayer to believe that his former employer would issue only one T4A in respect of the various amounts paid to him in the year. Further, there was a material difference between the amounts the taxpayer knew his former employer had paid to him in 2009 and the amount that had appeared on the single T4A slip he received. Accordingly, the taxpayer was not duly diligent in preparing and filing his 2009 return.

Interestingly, the Tax Court noted in a brief comment that it expected that there was a reasonable chance the Crown may appeal the decision to the Federal Court of Appeal in order to obtain clarity on the interpretation of subsection 163(1). As of the publication of this article, no appeal had yet been filed with the Court of Appeal.

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Galachiuk: TCC Clarifies Due Diligence Defence Under 163(1)‏

Roitelman: Fraud and the Due Diligence Defence

In Roitelman v. The Queen (2014 TCC 139), the Tax Court considered whether a director could establish that he had been duly diligent in his attempts to prevent his company’s failure to remit source deductions where he had delegated responsibility for the company’s bookkeeping and tax filings to an employee.

Background

The taxpayer owned an electrical contracting business that focused primarily on commercial and industrial contracting, installations and service work. Initially, the taxpayer personally completed all payroll and remittance filings. As his business expanded, the taxpayer was required to travel more frequently, thus spending less time in his office. Consequently, the taxpayer hired and trained a bookkeeper. He oversaw her work and at the outset ensured remittances were made in a timely fashion. After the employee assumed responsibility for the bookkeeping, the corporation did not remain current in its remittance obligations.  From August 2005 to March 2008, the CRA sent five letters to the corporation regarding repeated failures to remit. From October 2006 to March 2008, the CRA sent seven Notices of Assessment in respect of the unremitted source deductions. The taxpayer did not receive nor was he personally aware of many of these letters and assessments. Later, after the bookkeeper had been dismissed, the taxpayer discovered hidden documents and unsent remittance cheques in various locations in the office.

For 2006 and 2007, the CRA assessed the taxpayer for directors’ liability for unremitted source deductions under subsection 227.1(1) of the Income Tax Act. The taxpayer appealed to the Tax Court and relied on the due diligence defence under subsection 227.1(3) of the ITA.

Tax Court

The Tax Court allowed the appeal. The Court found the taxpayer established a due diligence defence and thus he was not personally liable for the unremitted amounts.

The Court reviewed the key decisions on the issue, and noted that the applicable test from Buckingham v. The Queen (2011 FCA 142) is objective and contemplates the degree of care, diligence and skill exercised by the director in preventing a failure to remit. The Court also cited Balthazard v. The Queen (2011 FCA 331) for the proposition that after-the-fact behavior and corrective measures can be relevant in certain circumstances.

In Roitelman, the Court compared the personal actions of the taxpayer to the reasonably prudent person and emphasized that the director’s interaction with the bookkeeper should not be analyzed on in hindsight but, rather, with a view of the circumstances that existed during the relevant period:

[28] The test does not dictate that the positive steps taken must be effective in ensuring future compliance but only that a director takes those steps and that those steps would be the proactive steps that a reasonably prudent person would have exercised in comparable circumstances.

The Court stated that it was reasonable for the taxpayer to expect his bookkeeper to bring any essential correspondence to his attention, and it was reasonable for him to believe that when he signed remittance cheques that they were being forwarded to the Receiver General. There was no evidence that the taxpayer benefited or intended to benefit in any way from the company’s failure to remit.

Despite his actions (i.e., hiring and training the bookkeeper, delegating responsibility, etc.), the taxpayer was unable to discover or ascertain the extent of the remittance failures. The bookkeeper thwarted his attempts to ensure compliance. The Court held that the taxpayer could not reasonably have known that the bookkeeper would engage in fraudulent and misleading activities.

Roitelman is an interesting case because there are very few decisions in which a taxpayer is able to establish a due diligence defence where he/she delegates responsibility for bookkeeping/remittances and relies on the work of that other person. In Kaur v. The Queen (2013 TTC 227), the Tax Court stated, “… The director’s oversight duties with respect to [remittance obligations] cannot be delegated in their entirety to a subordinate, as was done in the present case.” In Roitelman, the taxpayer had admitted that he relied on “blind faith” that the remittances had been made in a timely fashion. However, the result in Roitelman reminds us that such reliance may still be reasonable where there was deceit and fraud perpetrated on the director by a subordinate.

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Roitelman: Fraud and the Due Diligence Defence

SCC Grants Leave to Appeal in Guindon v. The Queen

The Supreme Court of Canada has granted leave to appeal in Guindon v. The Queen (Docket # 35519).  In this case, the Supreme Court of Canada will consider whether penalties imposed under section 163.2 of the Income Tax Act (Canada) constitute an “offence” within the meaning of s. 11 of the Charter.

The Tax Court found that the penalty imposed under section 163.2 of the Act is a
criminal penalty, not a civil one, and therefore subject to the same constitutional protections as other penal statutes enacted by the federal government.

The Federal Court of Appeal reversed the Tax Court’s ruling, first on the basis that Ms. Guindon had not followed the proper process in challenging section 163.2 by failing to provide notice of a constitutional question, and so the Tax Court lacked the jurisdiction to make the order it did. However, the Federal Court of Appeal considered the merits of the issue in any event, and held that advisor penalty proceedings are not criminal in nature and do not impose “true penal consequences.”

Our previous comments on the decisions are here and here.

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SCC Grants Leave to Appeal in Guindon v. The Queen

Tax Court Upholds Penalties Imposed for False Statements

In Morton v. The Queen (2014 TCC 72), the Tax Court of Canada upheld penalties imposed by the Minister of National Revenue (the “Minister”) under subsection 163(2) of the Income Tax Act (Canada) (the “Act””) despite novel arguments by the taxpayer to the contrary.

In this case, the taxpayer originally filed his income tax returns for the relevant years and paid taxes on the reported income.  After the normal reassessment periods expired, utilizing the taxpayer “fairness” provisions in subsection 152(4.2) of the Act, the taxpayer filed T1 Adjustment Requests containing false information in the form of additional income and expenses that would place the taxpayer in a tax loss position in each year. If the Minister had accepted the adjustments, the taxpayer would have received refunds in excess of $202,000.

However, the taxpayer’s plan did not work out as expected. The Minister not only denied the T1 Adjustment Requests, but also levied penalties in excess of $75,000 pursuant to subsection 163(2) of the Act.  These penalties were the subject of the appeal to the Tax Court.

During testimony, the taxpayer admitted to supplying false information in the T1 Adjustment Requests intentionally, knowingly and without reliance on another person. In defense of his actions the taxpayer claimed that he was under stress due to financial difficulties, a marriage breakdown and loss of access to his business books and records. At trial, the Tax Court found as a matter of fact that the misrepresentations were made fraudulently and rejected the taxpayer’s defense since no documentary evidence could be supplied in respect of the alleged stress.

The remainder of Justice Bocock’s decision contained a thorough analysis of the provisions of subsection 152(4.2) of the Act in the context of levying a penalty pursuant to subsection 163(2) of the Act. Justice Bocock provided the following insights:

  • Even where information is supplied to the Minister outside of the context of filing a return for a particular taxation year, if the taxpayer makes fraudulent misrepresentations sufficient to assess under subparagraph 152(4)(a)(i) of the Act, for instance in requesting that the Minister reopen the taxation year under subsection 152(4.2) of the Act, the Minister may assess penalties for a statute barred year.
  • The penalty provisions in subsection 163(2) of the Act apply even in the absence of the Minister issuing a refund or reassessment that relies upon the incorrect information. The Tax Court found it would be absurd to require the Minister to rely on the fraudulent misrepresentations before levying a penalty; and
  • The meaning of the words “return”, “form”, “certificate”, “statement” and “answer” in subsection 163(2) of the Act should be defined broadly to include documents such as the T1 Adjustment Request. Limiting the application of penalties to prescribed returns and forms ignores the plain text, context and purpose of the Act and would lead to illogical results.

It should come as no surprise that the Tax Court upheld the penalties. Nevertheless, the decision provides an enjoyable and thought provoking analysis of the provisions contained in subsections 152(4.2) and 163(2) of the Act.

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Tax Court Upholds Penalties Imposed for False Statements

Highlights from the Toronto Centre CRA & Professionals Group Breakfast Seminar (Objections and Appeals) – November 6, 2013

On November 6, 2013, at the Toronto Centre Canada Revenue Agency & Professionals Breakfast Seminar, representatives from the CRA provided an update on objections and appeals.

Anne-Marie Levesque, Assistant Commissioner of Appeals, presented these slides and made the following comments:

  • The Appeals Branch reviews objections to assessments from the following branches:
    • Compliance programs (audit)
    • Assessment and benefit services
    • Taxpayer services and debt management (collections)
  • The Appeals Branch will not normally contact an assessing branch unless the assessing position is unclear or pertinent information is missing. If this is the case, the practice of the Appeals Branch is to note this in the file.
  • The Appeals Branch is aware and concerned about the time required to process large files, which may take a few months to assign, and up to a year to resolve.
  • The Appeals Branch manual is available at CRA Reading Rooms. A taxpayer may visit these rooms and ask for a copy, and an appeals officer will provide a copy.
  • The Appeals Branch has been “swamped” by objections in the last 5-8 years, most relating to tax shelters. Historically, the Appeals Branch received 50,000 objections per year, but in recent years has received up to 100,000 objections per year. Currently there is a “significant backlog” of objections in the Appeals Branch’s inventory.
  • The Appeals Branch is distributing certain files to particular offices across the country (i.e., alimony, Disability Tax Credits, Child Care Tax Benefits, GST credits, etc.) to streamline the resolution for less complex objections.
  • Large group files (i.e., tax shelter objections) have been concentrated in the Toronto North Tax Services Office.
  • The Appeals Branch has designated certain offices as industry specialists: forestry in Vancouver; resources in Calgary; insurance, banking and mining in Toronto North; and manufacturing in Montreal.
  • The Appeals Branch has moved away from the practice of granting face-to-face meetings (too expensive and time consuming, requires that objections be assigned to offices located near taxpayer’s home or office). While some files may still require in-person meetings, for most files the appeals officer will not meet with the taxpayer or the taxpayer’s representative. However, the Appeals Branch is committed to communicating with taxpayers and their representatives over the phone and in writing.
  • The Appeals Branch will continue to ask that taxpayers make written submissions. This is to protect the integrity of the decision-making process – both for the Appeals Branch’s internal quality standards and for the purposes of any external review by the Auditor General.
  • Generally, the Appeals Branch is committed to resolving disputes prior to litigation. Taking a file to the Tax Court is the exception and not the rule for the Appeals Branch.
  • The “benefit of the doubt” should go to the taxpayer where there is credible evidence in support of the taxpayer’s version of the facts. If the taxpayer’s version of the facts makes sense and is reasonable, the Appeals Branch may give the taxpayer the benefit of the doubt even in the absence of documentary evidence. However, in such cases, the Appeals Branch expects that the taxpayer will be diligent about maintaining proper documentation to avoid the same problem in the future.
  • The Appeals Branch has had a settlement protocol with the Department of Justice since 2004, which has evolved over time. Recent amendments give Department of Justice counsel additional leeway to resolve low-complexity files without having to obtain instructions from the CRA litigation officer – this would apply to all informal procedure appeals and some general procedure appeals. Conversely, the settlement protocol empowers CRA litigation officers to settle informal procedure appeals without requiring sign-off by the Department of Justice.
  • Historically, the Crown is successful in approximately 85% of appeals to the Tax Court. This rate fluctuates over time, but in the last three months the Crown’s success rate has increased. The increase may be due to the efforts of the CRA and the Department of Justice to settle those appeals that should not go forward to a full hearing.
  • When the Crown loses an appeal in the Tax Court, the reasons for judgment are reviewed by the Adverse Decision Committee, which includes the Assistant Commissioner of the Appeals Branch, Assistant Commissioners from the assessing branches, senior counsel from the Department of Justice, and a senior representative from the Department of Finance. The Committee considers whether there has been an error of law and the chance of success on appeal.
  • The Appeals Branch has initiated a pilot project in British Columbia under which appeals officers will be empowered to consider relief from interest and penalties at the same time they are considering the substantive tax issues on objection. The Appeals Branch is still considering how this process may work, due to the different processes by which these decisions may be appealed by the taxpayer (i.e., appeal to the Tax Court for tax assessments, and judicial review of decisions regarding interest and penalty relief).
  • Auditors are empowered to “waive” interest and penalties before assessing, while appeals officers may “cancel” interest and penalties after assessment.
  • Remission orders under the Financial Administration Act are not dealt with by the Appeals Branch and are granted to taxpayers only in rare circumstances.
  • The Appeals Branch would prefer that taxpayers not appeal to the Tax Court immediately after 90 days have passed from the date of filing the Notice of Objection.

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Highlights from the Toronto Centre CRA & Professionals Group Breakfast Seminar (Objections and Appeals) – November 6, 2013

Too Much Wiggle Room in Wigglesworth? Advisor penalties under Income Tax Act not criminal offences in nature and don’t engage protections under s. 11 of the Charter, says Federal Court of Appeal in Guindon

*This is the first guest post written for the blog. We are honoured to have one of Canada’s leading criminal defence counsel, Brian Heller of Heller Rubel, as the author (with the valued assistance of Graham Jenner).

On June 12, 2013, the Federal Court of Appeal released its decision in Canada v. Guindon (2013 FCA 153).

The court was tasked with examining the nature of advisor penalties, which are sanctions imposed under s. 163.2 of the Income Tax Act on tax planners engaged in “culpable conduct”. At first instance, the Tax Court of Canada (2012 TCC 287) had set aside one such penalty assessed against Ms. Guindon, holding that s. 163.2 created an “offence” within the meaning of s. 11 of the Charter. Consequently, according to the Tax Court, persons assessed under the provision were entitled to s. 11 protections, which apply to persons “charged with an offence”, and include fundamental principles applicable to criminal prosecutions such as the right to be presumed innocent, and the right to be tried within a reasonable time.

The key portion of s. 163.2 reads as follows, and it is easy to see how the Tax Court drew its particular interpretation:

(4) Every person who makes or furnishes, participates in the making of or causes another person to make or furnish a statement that the person knows, or would reasonably be expected to know but for circumstances amounting to culpable conduct, is a false statement that could be used by another person (in subsections (6) and (15) referred to as the “other person”) for a purpose of this Act is liable to a penalty in respect of the false statement.

The Federal Court of Appeal reversed the Tax Court’s ruling, first on the basis that Ms. Guindon had not followed the proper process in challenging s. 163.2, by failing to provide notice of a constitutional question, and so the Tax Court lacked the jurisdiction to make the order it did. However, the Federal Court of Appeal considered the merits of the issue in any event, and held that advisor penalty proceedings are not criminal in nature and do not impose “true penal consequences.”

The Federal Court of Appeal applied the test set down by the Supreme Court of Canada in R. v. Wigglesworth ([1987] 2 S.C.R. 541), which dictates that a provision will engage s. 11 Charter protections if (1) the matter is “by its very nature, intended to promote public order and welfare within a public sphere of activity” rather than being “of an administrative nature instituted for the protection of the public in accordance with the policy of a statute”; or (2) the provision exposes persons to the possibility of a “true penal consequence” such as imprisonment or a fine meant to redress wrong done to society.

The Federal Court of Appeal viewed advisor penalties for the provision of false information as an aspect of the self-compliance that is fundamental to the administration of the tax system. The penalties were not to condemn morally blameworthy conduct, but to ensure that the tax system works properly by maintaining discipline and compliance. Section 163.2 is also, the court observed, distinguishable from the clear offence provisions in the Income Tax Act because it contains only fixed sanctions rather than a range of penalties that allow for the exercise of judicial discretion in sentencing an offender.

The court also rejected Ms. Guindon’s argument that the sheer size of the penalty – in her case a fine of $564,747 – demonstrates the criminal nature of the sanctions, pointing to an array of cases in which very severe penalties were held to be administrative in nature. “Sometimes”, the court commented, “administrative penalties must be large in order to deter conduct detrimental to the administrative scheme and the policies furthered by it.”

If you have difficulty comprehending the distinctions that the Wigglesworth test draws between administrative and criminal provisions, you are not alone. The Federal Court of Appeal acknowledged that the line drawn by the test is “sometimes a fuzzy one”.

That is an understatement. At a time when substantial penalties can be leveled under provisions that appear to be aimed at protecting a public interest (such as the fair and proper administration of the tax system) by deterring culpable conduct, the Wigglesworth test is becoming increasingly difficult to apply. The difficulty is not limited to the sphere of tax law. Just one year ago, in Rowan v. Ontario Securities Commission (2012 ONCA 208), the Court of Appeal for Ontario had to apply the test to administrative monetary penalties (“AMPs”) under the Ontario Securities Act, which carry a maximum fine of $1,000,000. The court held that the specific fines at issue in that case were administrative rather than penal, but held also that s. 11(d) of the Charter limited the authority of the Securities Commission to impose AMPs that did not transgress the barrier from administrative to criminal. In other words, presumably, an overly severe AMP could, in the context of another case, indicate that the Commission had overstepped its regulatory mandate by imposing a truly penal consequence.

Rowan, then, demonstrates the difficulty and unpredictability of determining, under Wigglesworth, whether a specific sanction is penal or administrative. Guindon presents a related, but distinct practical problem: there exist provisions, such as s. 163.2 of the Income Tax Act, which can be described fairly as both intending to promote public order and welfare within a public sphere of activity (a criminal purpose) and intending to protect the public in respect of a policy of a statute (an administrative purpose). While advisor penalties clearly contemplate the promotion of tax policy objectives, they are equally concerned with persons who, through intentional conduct or willful blindness furnish false statements that are contrary to an important public interest. There is real concern raised by this case that a court can easily, using the language of Wigglesworth, justify opposite results. At the cost of certainty and predictability – important principles when constitutional protections are at stake – there is just too much ‘wiggle room’.

The narrow implication of Guindon is that unless the Supreme Court of Canada is called upon and reverses the result, the CRA will not have to govern itself by traditional criminal law standards in assigning culpability and sanctions for advisors. This could well have a chilling effect on the tax planning community. Speaking more broadly however, because advisor penalties straddle the “fuzzy” line between criminal and administrative law, Guindon is an ideal case for the Supreme Court of Canada to confront the practical unworkabilities of the Wigglesworth test.

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Too Much Wiggle Room in Wigglesworth? Advisor penalties under Income Tax Act not criminal offences in nature and don’t engage protections under s. 11 of the Charter, says Federal Court of Appeal in Guindon

Sales of condominium units under audit by Canada Revenue Agency

A Canada Revenue Agency (“CRA”) audit initiative is targeting taxpayers who have recently sold condominium units they did not occupy or occupied for only a short period of time (the “CRA Condo Project”).

The CRA is reassessing some of these dispositions on the basis that the condo was sold in the course of business, treating the profit as income (instead of capital gains) and, in some cases, assessing gross negligence penalties under subsection 163(2) of the Income Tax Act. In doing so, the CRA may be incorrectly reassessing some taxpayers whose gains are legitimate capital gains and that may be subject to the principal residence exemption (click here for a discussion of the principal residence exemption).

Consider this example. A taxpayer signs a pre-construction purchase agreement for a condo in 2007.  In 2009, the unit was completed and occupied by the taxpayer, before the entire development was finished and registered in land titles.  Land titles registration occurs in 2010, but shortly thereafter the taxpayer sells the condo for a profit.  Ordinarily, one would conclude the condo was held on account of capital and the gain would be at least partially exempt from tax on the basis that condo was the taxpayer’s principal residence.  The CRA may be inclined to reassess on the basis that land title records show the taxpayer on title for only a short time, as though the taxpayer had intended to merely “flip” the condo rather than reside in it.

This assessing position may be incorrect because the buyer of a condo does not appear on title until the entire condominium development is registered.  In fact, several years can pass from the date of signing the purchase agreement to occupancy to land titles registration – and, accordingly, the taxpayer’s actual length of ownership will not be apparent from the land title records.

This type of situation could cause serious problems for some taxpayers. If a taxpayer is audited and subject to reassessment on the basis that their entire gain should be taxed as income, the taxpayer will need to gather evidence and formulate arguments in time to respond to an audit proposal letter within 30 days, or file a Notice of Objection within 90 days of the date of a reassessment.

Taxpayers could respond to such a reassessment by providing evidence that they acquired the condo with the intent that it would be their residence, and that the subsequent sale was due to a change in life circumstances.  Taxpayers may wish to gather the following evidence to support such claims:

  • Purchase and sales agreements;
  • Letter or certificates granting permission to occupy the condo;
  • Proof of occupancy, such as utility bills, bank statements, CRA notices, identification (such as a driver’s license) showing the condo as a residence; or
  • Evidence of a change in life circumstances which caused the condo to no longer be a suitable residence, including:
    • Marriage or birth certificates;
    • A change of employer or enrollment in education that required relocation; or
    • Evidence showing the taxpayer cared for a sick or infirm relative, or had a disability that precluded using a condo as a residence.

Taxpayers should be prepared to provide reasonable explanations for any gaps in the evidence.  If a taxpayer wishes to explore how best to respond in the circumstances, they should consult with an experienced tax practitioner.

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Sales of condominium units under audit by Canada Revenue Agency

Canada Revenue Agency Toronto Centre Tax Services Office Describes Current Audit Issues

At today’s Canada Revenue Agency Toronto Centre Tax Professionals Group Breakfast Seminar (November 14, 2012), the CRA provided an update on a number of current audit issues.

The CRA was represented by Sal Tringali, Regional Technical Advisor of Aggressive Tax Planning, and James McNamara, Manager of International Taxation and Aggressive Tax Planning Audit Division from the Toronto Centre Tax Services Office. The discussion was moderated by Jacques Bernier (Baker McKenzie LLP) and Rachel Gervais (BDO Canada LLP).

The audit issues highlighted by the panel included the following:

GST/HST

  1. Recapture input tax credit
  2. ITC allocation % – mixed supplies
  3. Financial services
  4. Imported supplies
  5. Reinsurance/loading
  6. Loyalty reward points
  7. VDP – Related parties

Income Tax

  1. Artificial capital losses
  2. Loss trading
  3. Surplus strips
  4. Offshore bank accounts held by individuals
  5. Donation arrangements
  6. International transactions
  7. S. 85 rollovers
  8. RRSP appropriations
  9. Tax-free savings accounts (TFSA)

Additionally, the CRA made the following comments:

    • The CRA’s access to/requests for accountants’ working papers remains a “hot topic”. Generally speaking, the CRA will first ask the taxpayer for information/documents, after which the CRA may request information/documents from the taxpayer’s accountants. The CRA’s objective is to perform high-quality audits, and access to complete information is required to do so.
    • The CRA reminded taxpayers of its recent announcement that the CRA will not assess a taxpayer’s return where the taxpayer has claimed a charitable donation and the alleged gift is made as part of a donation arrangement. The delay in assessing the return could be two years or more (see Jamie Golombek’s recent article on the subject).
    • The CRA has appealed the Tax Court’s decision in Guindon v. The Queen to the Federal Court of Appeal. In light of the Tax Court’s decision, the CRA is currently considering its options in respect of the assessment of third party penalties.
    • The CRA has considered the application of third party penalties in 185 cases. In 71 of those cases the penalty was applied, resulting in the imposition of $79 million of penalties. In 50 cases the penalty was not applied, and 64 cases are ongoing.
    • The CRA will continue to revoke e-file privileges where a tax preparer is subject to a penalty, even where a penalty against a single tax preparer may result in the revocation for his or her entire firm.
    • The CRA referred to the recent Supreme Court decision in GlaxoSmithKline v. The Queen and stated that it intends to follow the new OECD guidelines on transfer pricing and the hierarchy of pricing methods. The CRA said that it did not expect to release any formal communication to the public on this issue, but Information Circular IC 87-2R “International Transfer Pricing” may be updated to reflect this position.

UPDATE: After the seminar, the CRA informed us that it intends to follow the guidance in the recently updated OECD Guidelines and will be issuing a Transfer Pricing Memoranda (TPM) on the matter to the public. This TPM will reflect a recently released internal Communique on the same subject and will be made available in the near future.

    • The CRA clarified that Tax Earned By Audit (“TEBA”) remains a metric for measuring ”tax at risk”, but it is not used to measure the performance of an auditor. Rather, the CRA measures the performance of auditors based on six major elements: (i) planning the audit, (ii) conducting the audit, (iii) applying the appropriate legislation/policy, (iv) the end product of the audit, (v) professionalism in the audit, and (vi) timeliness of completion of the audit.
    • The CRA plans to convene face-to-face meetings with approximately 160 large businesses (i.e., annual sales over $250 million) as part of the CRA’s large business audit project. The CRA will continue to risk-assess all large businesses/entities annually.
    • The CRA intends to clear a backlog of approximately 1,300 audit files so that it may assess the most recent taxation year and the immediately preceding taxation year for most businesses by 2015-16.
    • The CRA reiterated that issues that arise during the audit process should be raised with the auditor, after which it may be appropriate to involve the auditor’s team leader. If the issue cannot be resolved at that level, it would be appropriate to raise the issue with the auditor’s manager or the assistant director of audit at the particular TSO.

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Canada Revenue Agency Toronto Centre Tax Services Office Describes Current Audit Issues