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Transcript
On the Hook: Directors Liability for Corporate
Tax Transgressions
Ryan Morris and Les Chaiet*
Under some circumstances, directors may be held
personally liable for certain tax liabilities of the
corporations they serve. These statutory measures
were largely instituted to deter corporations from
preferring other creditors at the sake of the taxman.
Since remedies against a corporation are generally
limited to the corporation’s assets, a corporation in
financial distress has an incentive to “borrow” from the
taxman by not remitting third party taxes (such as wage
deductions) in order to satisfy other creditor claims.
One way of deterring such behaviour is to influence the
corporation’s directing mind. This article will examine
the scope of a director’s liability for the tax liabilities
of a corporation under certain federal and Ontario
tax statutes (the “Tax Statutes”) and will outline some
strategies for reducing the risk of liability.
Directors Defined
The term “director” is not defined in the Tax Statutes.
The general consensus emanating from the decisions
rendered by the Canadian courts is that an individual,
who has been properly elected and constituted as a
director of a corporation, sufficiently falls within the
scope of the director liability provisions of the Tax
Statutes.1
Even if an individual has not been properly elected
or constituted as a director, an individual can still be
considered a director in fact and be held personally
liable for certain corporate tax debts. 2 However,
Canadian courts have generally acknowledged that
the de facto director doctrine should be applied with
caution, particularly where it imposes liabilities. 3
This acknowledgement is based on the common law
recognition that a director must consent (explicitly or
implicitly) to be a director.
De facto directors typically fall into one of the following
three categories: (i) those who are duly elected but may
lack some qualification under the relevant company
law that disqualifies them from legally being directors;
(ii) former directors whose term of office has expired
but who have continued to act as directors; or (iii) those
who simply assume the role of director without any
pretence of legal qualification.4
Taxation Law • May 2005
The de facto director test looks at whether an individual
has influence to control and direct the management of
a corporation. Mere possession of such authority is not
demonstrative of whether an individual has, in fact,
served as a de facto director. For example, the Tax Court
of Canada has held that in the context of large public
companies, extensive powers are often conferred on
senior officers and yet such powers and responsibilities
do not, in and of themselves, transform such officers
into de facto directors.5 In determining whether
an officer or an employee is a de facto director, the
courts have considered, among other factors, whether
outsiders would assume the person was a director,
whether representations were made by the person and
whether the person participated in directorial acts, such
as signing documents as a director and sitting on the
board of directors.6
Federal Tax Liabilit
Liabilityy
Income Tax Act
Generally, under the director liability provisions in the
Income Tax Act (Canada),7 directors can personally
be held liable for a corporation’s failure to withhold
and remit third-party taxes from certain payments,
including payments of salary and dividend, interest
and rental payments to non-residents.8 In the case of
a failure to withhold, directors may be liable to pay
the amount that should have been withheld, and may
be subject to a penalty of 10 percent (or 20 percent if
the corporation’s failure was made knowingly or under
circumstances amounting to gross negligence) of the
amount that should have been withheld, plus interest.9
In the case of a failure to remit, directors are liable to
pay the unremitted amount, and may be subject to a
penalty of 10 percent (or 20 percent if the corporation’s
failure was made knowingly or under circumstances
amounting to gross negligence) of the amount that
should have been remitted, plus interest.10
Before the CRA can assess directors for the tax liabilities
of the corporation, the CRA must demonstrate its
inability to recover the amounts directly from the
corporation. To demonstrate its inability to recover
the amounts directly from the corporation, the CRA
must generally show that its execution against the
13
corporation was returned unsatisfied, prove a claim
against the corporation in dissolution or liquidation
proceedings, or prove a claim against the corporation
in bankruptcy proceedings.11
It is possible for a person to be subject to director’s
liability for claims that arise after the person is no longer
a director of the corporation. However, no action or
proceeding can be brought against a director if it is
commenced more than two years after the person last
ceased to be a director of the corporation.12
If there is more than one director of a corporation,
the director who absorbs the liability of the claim is
entitled to seek contribution from the other directors
who were liable for the claim.13 Each director may be
assessed for the full amount of the corporation’s tax
liability, but a director who pays an amount towards
this liability is entitled to the same preference in
liquidation, dissolution, or bankruptcy proceedings
against the corporation as would otherwise have been
available to the Crown.14
Another area of possible tax liability may arise in
situations where the director is the legal representative
responsible for liquidating a corporation. A director
who distributes the property of a tax debtor without
a clearance certificate may be personally liable for
certain unpaid tax liabilities to the extent of the value
of the property distributed.15 Therefore, in certain
circumstances, directors may wish to obtain a clearance
certificate before overseeing the distribution of the
assets of a corporation.
In addition to civil liability, directors face possible
criminal liability. Directors who “directed, authorized,
assented to, acquiesced in or participated in” the
commission of any corporate offence under the ITA will
be considered a party to and guilty of the offence.16 A
director convicted of such an offence may be punished
whether or not the corporation has been prosecuted or
convicted.17 A director who fails to file or to make a
required tax return is guilty of an offence and may be
liable to pay a fine between $1,000 and $25,000 and
may face imprisonment for up to one year.18 Directors
may also be held liable for participating in such serious
offences as making false or deceptive statements in
corporate tax documents and tax evasion.19 The penalty
for such offences is a fine of between 50 percent and
200 percent of the amount of the tax that was evaded,
or a fine and imprisonment for up to two years.20
14
Canada Pension Plan and Employment Insurance Act
Directors may also be held jointly and severally liable
for the failure of a corporation to deduct and remit
employee contributions under the Canada Pension
Plan21 and employee premiums under the Employment
Insurance Act.22 Similarly, directors may be held jointly
and severally liable for the failure of a corporation to
remit the employer contributions and premiums under
such statutes.23
The directors of a corporation are jointly and severally
liable with the corporation to pay the required premium
amounts under the CPP and EIA, plus any penalties
and interest. The penalty for failing to make the
proper remittance is 10 percent of the amount that
the corporation should have remitted.24 A 20 percent
penalty applies for subsequent failures that were made
knowingly or under circumstances amounting to gross
negligence.
A director acting as a liquidator of a corporation may
be held personally liable for unpaid premiums and
contributions if he/she fails to obtain a certificate
confirming that all the premium amounts have been
paid.25
The EIA and CPP obligations come with the same
limitation period and contribution protections as
discussed above in the context of the ITA.26
Excise Tax Act
A director of a corporation is liable for the amount of
net goods and services tax (“GST”) assessed under the
Excise Tax Act27 that the corporation has failed to remit.
Where a corporation fails to remit an amount of net
GST, the directors of the corporation at the time the
corporation was required to remit the amount are jointly
and severally liable, together with the corporation, to
pay that amount and any interest thereon.28
A director that participates in a corporation’s failure
to pay, collect, or remit GST is also guilty of an
offence and may be subject to a fine not exceeding
the aggregate of $1,000 and an amount equal to 20
percent of the amount of net GST that should have
been paid, collected, or remitted, along with possible
imprisonment for a term not exceeding six months.29
The obligation imposed on directors is not limited to
exercising the requisite standard of care in ensuring
that GST was remitted. There is also an obligation
Taxation Law • Volume 15, No. 3
to exercise the same standard of care in ensuring that
GST is properly calculated. In the case of a failure to
collect the proper amount of GST, the liability will
be the amount that should have been collected, plus
penalties and interest.30
Due Diligence Defence
A director is not liable for a failure to remit taxes under
the above statutes 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.31 The overarching
question that tax courts ask in analyzing whether a
director’s conduct has been duly diligent is: “what
should the director have done that was not done?”
Robertson J.A. explained the level of conduct that
would satisfy the statutory due diligence requirement
in Soper v. The Queen,32 a 1998 Federal Court of
Appeal decision. Robertson J.A. set out an “objective
subjective” test as the standard of care required by
directors. The test takes into account subjective factors
such as the personal knowledge and background of
the director, as well as the company’s organization,
resources, customs and conduct.
Generally, a director who is experienced in business
and financial matters is likely to be held to a higher
standard of care than a director with no business
acumen or experience, whose presence on the board
of directors reflects nothing more, for example, than a
family connection. There is also an objective element
that is embodied in the reasonably prudent person
language. In assessing the objective reasonableness of
the conduct of a director, the factors to be taken into
account may include the size, nature and complexity
of the business carried on by the corporation and its
customs and practices.
A basic criterion in the objective subjective test is
that a director is required to be aware of the legal
responsibilities and duties associated with the position
and cannot plead ignorance of the rules.33 For example,
it has been stated that an unsophisticated businessperson
in their first directorial position can still be held liable
if they wait until a corporation’s failure to remit before
attempting to take action, as directors are required to
prevent the failure to remit ahead of time.34 However,
courts will examine the equities of the case; where the
directors were volunteers, lacked formal education,35
or were challenged by language barriers,36 courts have
tended to relax the due diligence threshold.
Taxation Law • May 2005
A director has a positive duty to obtain information
or become aware of facts which might lead to the
conclusion that there is, or could be, a potential
problem with remittances. The typical situation in
which a director is, or ought to have been, aware of the
possibility of such a problem is where a corporation is
in financial difficulty.37 A director who is aware of a
corporation’s financial difficulty and who deliberately
decides to finance the corporation’s operations with
unremitted source deductions will likely be unable to
rely on the due diligence defence because the director is
assuming the risk that the corporation will subsequently
be able to make its remittances.38 Therefore, it has
often been held to be insufficient for directors simply
to have carried on business, knowing that a failure
to remit was likely or hoping that the corporation’s
fortunes would revive with an upturn in the economy
or in its market position. However, the Federal Court
of Appeal has recently stated that it is not reasonable
to assume that directors can simply walk away from
the business, abandon all that they have built up and
leave employees and families in the cold; directors are
entitled to pay employees, suppliers and other creditors
in order to keep the business afloat.39
In the absence of grounds for suspicion, it is not
improper for a director to rely on company officials
to honestly perform duties that have been properly
delegated to them. It is the exigencies of business and
the company’s constitution that together determine
whether it is appropriate to delegate a duty. The larger
the business, for instance, the greater the need will be
to delegate.
Whether a director has exercised the requisite due
diligence will, in part, depend on the level of control
that the director has over the corporation’s obligations.
For example, it has been held that zero tolerance
attaches itself to directors whose employment duties
include the responsibility to administer remittance
payments.40 On the flip side, a director who has lost
legal control over the company, for instance, on the
appointment of a receiver-manager, would generally
not be liable to the CRA for company debts that are
incurred subsequently. Some cases have extended
this principle to “soft receivership” situations where
directors have lost de facto control over the company’s
finances.41
The courts have generally placed a higher standard
on inside directors compared to outside directors,
particularly when outside directors reasonably relied
on assurances from the inside directors that the
15
corporation’s tax remittance obligations were being
met. It is not expected that an outside director directly
inquire at the comptroller’s office about withholdings
and remittances.42 This is not to suggest that a director
can adopt an entirely passive approach but only that,
unless there is reason for suspicion, it is permissible
to rely on the day to day corporate managers to be
responsible for tax remittances. For example, an outside
director will generally be liable if he or she ignores what
is transpiring within the corporation and his or her
experience with the people who are responsible for its
day-to-day affairs.
It should be noted that the CRA’s administrative policy,
contrary to general case law, is not to distinguish
between directors, be they passive, nominee, or outside
directors.43 Consequently, an outside director’s lack
of involvement in the affairs of the company may not
absolve them from being assessed by the CRA.
Under the ETA, factors that will be considered by
the courts in determining whether directors meet
the due diligence test include whether the director
delegated the remittance of GST to a competent
and trained bookkeeper,44 whether the bookkeeper
adopted a reliable system for GST remittances,45
whether the director was heavily involved in the
financial operations of the company,46 whether the
director made a conscious decision not to remit GST
and to use those funds to pay other creditors in order
to make the company function,47 whether the director
was a professional,48 and whether there was reasonable
reliance upon a third party charged with ensuring that
all required tax is remitted.49
Ontario Tax Liabilities
Employer Health Tax Act
Any director who “directed, authorized, assented to,
acquiesced in, or participated in” an offence under
the Employer Health Tax Act50 is guilty of the offence
whether or not the corporation has been prosecuted or
convicted.51 Offences include making false or deceptive
statements on any return, statement or document,
actively evading tax payments, deliberately altering or
disposing of tax records or books, and omitting material
facts on statements, records or books. Directors may
generally be liable on conviction to a fine of not less
than the greater of $500 and 25 percent of the amount
of tax that should have been paid and/or imprisonment
for a term of not more than two years.52
16
Corporations Tax Act
Any director who “directed, authorized, assented to,
acquiesced in, or participated in” an offence under the
Corporations Tax Act53 is guilty of an offence whether or
not the corporation has been prosecuted or convicted.54
Offences include failing to deliver a return for a taxation
year, making false or deceptive statements on returns,
making false and deceptive entries or omissions to
material records or books of account and generally
any non-compliance with the CTA. A director may
generally be liable on conviction to a fine of not less
than the greater of $500 and 50 percent of the amount
of tax that should have been paid and/or imprisonment
for a term of not more than two years.55
Retail Sales Tax Act
Under the Retail Sales Tax Act
Act,56 directors are jointly
and severally liable when a corporate vendor fails to
collect or remit sales tax.57 Any director who “directed,
authorized, assented to, acquiesced in or participated
in” an offence under the RSTA is guilty of an offence,
whether or not the corporation has been prosecuted
or convicted.58 A director may be subject to a penalty
equal to the amount of sales tax that the vendor failed
to collect.59 Where the vendor’s failure to collect tax
is attributable to neglect, carelessness, wilful default
or fraud, the director may be subject to an additional
penalty in an amount equal to the greater of $25 or 25
percent of the tax that the vendor failed to collect where
a penalty has already been assessed against the vendor
in respect of the failure to collect, and an amount equal
to the greater of $25 or one and one-quarter times
the amount of tax that the vendor failed to collect
where no penalty has been assessed.60 In the event a
corporation winds up, a director who assumes the role
of liquidator for such corporation becomes personally
liable for the corporation’s tax debts. Specifically, a
person that distributes the property of a tax debtor
without a clearance certificate is liable for the tax debt
of the property distributed.61 A director facing possible
tax liability may rely on a due diligence defence62 and
is further protected by a two-year limitation period
that prevents any assessment being made against the
director more than 2 years after the person last ceased
to be a director of the corporation.63
Reducing the Risk of Director’s Liability
Directors should be proactive in ensuring compliance
with tax statutes. Failure to be proactive in this regard
might result in an unwanted surprise in the form of
Taxation Law • Volume 15, No. 3
personal liability for the tax liabilities of a corporation.
Appropriate delegation, risk management when the
corporation is in financial crisis and active participation
on the board of directors are all methods by which
directors may reduce the risk of personal liability.
* Ryan Morris, McMillan Binch LLP, (416) 865-7180,
[email protected] Les Chaiet, [email protected]
at-Law, McMillan Binch LLP
LLP. The research assistance
of Tina Chun, 2004 Summer Law Student, McMillan
Binch LLP, is gratefully acknowledged
acknowledged.
Delegation
1
Hay v. Canada
Canada, [2004] TCJ No. 29 (TCC) (“Hay”).
Canada v. Corsana
Corsana, [1999] FCJ No. 401 (FCA).
3
S
Supra,
note 1 at para. 29.
4
Re Lo-Line Electric Motors Ltd., [1988] 2 All ER 692,
as cited in Mosier v. The Queen, [2001] TCJ No. 692
(TCC) (“Mosier”).
5
Mosier, ibid
ibid. at para. 28.
6
Hay supra note 1 at para. 31.
Hay,
7
RSC 1985, c. 1 (5th Supp.), as amended (“the
ITA”).
8
ITA, subsection 227.1(1).
9
ITA, subsection 227(8).
10
ITA, subsection 227(9).
11
ITA, subsection 227.1(2). The claim against an
insolvent corporation must be proven within six
months of the date of the liquidation, dissolution,
assignment into bankruptcy or bankruptcy order.
12
ITA, subsection 227.1(4).
13
ITA, subsection 227.1(7).
14
ITA, subsection 227.1(6).
15
ITA, subsection 159(3).
16
ITA, section 242.
17
Ibid
Ibid.
18
ITA, subsection 238(1).
19
ITA, subsection 239(1).
20
Ibid
Ibid.
21
RSC 1985, c. C-8 (the “CPP”).
22
SC 1996, c. 23 (the “EIA”).
23
CPP, section 8-9. Under the CPP, an employer’s
contribution is equal to the contribution that the
employer should have deducted from its employees
wages. EIA, section 68. Under the EIA, the employer
premium is equal to 1.4 times the amount of the
premium that the employer should have deducted from
its employees wages.
24
CPP, subsection 21(7); EIA, subsection 82(9).
25
CPP, subsections 23(5), (5.1); EIA, subsections
86(4), 86(7).
26
CPP, subsection 21.1(2); EIA, subsection 83(2).
27
RSC, 1985, c. E-15 (the “ETA”).
28
Ibid., subsection 323(1).
29
ETA, subsections 329(1)-(2), s. 330.
30
ETA subsection 280(1).
31
ITA, subsection 227.1(3); EIA, subsection 83(2);
CPP, subsection 21.1(2); ETA, subsection 323(3).
32
[1998] 1 FC 124 (FCA) (“Soper
“
“Soper
”
”).
33
Black v. The Queen (1993), 93 DTC 1212 (TCC). A
corollary of the rule is that directors cannot assume a
2
In many instances, it may be sufficient for a director
to delegate the tax remittance functions to managers,
especially if the director is an outside director of a
large corporation. However, it is imperative to ensure
that the accounting function has been entrusted to
someone who is knowledgeable, trained and aware of
the relevant tax laws.
Financial Crisis
Some of the positive steps directors may take when they
become aware of financial difficulty include attempting
to increase the company’s line of credit with its bank,
coming to an arrangement with the bank that would
enable the corporation to make remittances, setting
up controls to account for remittances, asking for
regular reports from the company’s financial officers
on the ongoing use of such controls, and obtaining
confirmation at regular intervals that withholding and
remittance has taken place. A director can also look
to other means of relieving the financial crisis such as
recovering outstanding amounts owing to the company
or seeking new sources of capital.
Ask Questions
Directors should ask for reports on remittances from
financial officers and ask questions during board
meetings. Effective lines of communication between
directors and the corporation’s responsible employees
should always be maintained.
Conclusion
Directors should be aware of the risks they face when
assuming their directorial role and performing their
directorial duties. One such risk is personal liability
for certain tax liabilities of the corporations they
serve. This potential liability arises under numerous
federal and provincial tax statutes, and the penalties
and punishment that attach to such liability can
be extremely harsh. As such, directors should take
proactive steps to become aware of the tax risks they
face as directors and to adopt practices that will reduce
such risks.
Taxation Law • May 2005
17
subservient role and rely on that as a ground to escape
fiduciary duties.
34
Grigg v. Canada (1998), 99 DTC 188 (TCC).
35
Facchini v. Canada (2004) DTC 3677 (TCC).
36
Ibid.
37
Soper supra note 30 at para. 53.
Soper,
38
Ibid.
39
Canada v. McKinnon, [2001] 2 FC 203 (FCA)
(“McKinnon”).
40
Hamilton v. Canada, (2004) DTC 2860 (TCC).
41
Clarke v. Canada, (2000) DTC 6230 (FCTD) at
paras. 20-22. Non-liability in these situations has
been explained both on the ground that the charging
provision assumed that the directors were freely able
to choose whether the company remitted its payroll
deductions and on the ground that the directors lacked
the necessary control over the company’s finances. See
also McKinnon, supra note 37.
42
Soper supra note 30 at para. 52.
Soper,
43
Information Circular No. 89-2R.
44
Lau v. Canada, [2002] TCJ No. 615 (TCC).
45
Ibid.
46
Taillefer v. Canada, [2004] TCJ No. 96 (TCC).
47
Ibid.
48
Ewachnick v. The Queen, [1997] TCJ No. 295
(TCC).
49
Ibid.
50
RSO 1990, c. E.11 (the “EHTA”).
51
EHTA, section 36.
52
EHTA, subsection 31(7).
53
RSO 1990, c. C.40 (the “CTA”).
54
CTA, section 96.
55
CTA, subsection 76(5).
56
RSO 1990, c. R.31 (the “RSTA”).
57
RSTA, subsection 43(1).
58
RSTA, section 42.
59
RSTA, subsection 20(3).
60
RSTA, subsection 20(4).
61
RSTA, subsection 22(6).
62
RSTA, subsection 43(3).
63
RSTA, subsection 43(5).
18
Taxation Law • Volume 15, No. 3