Stevan: Welcome, everyone, to our seventh session of our Tax Dispute Resolution Monthly Updates. Please note that our next session will be on June 28 so please be looking for an invitation for that. Being lawyers we, of course again, need to start with our disclaimer. While you can take a moment to read this, the essential message is that these webinars cover the topics presents, only generally, and are not intended to provide legal advice since very situation is different and the law is always changing. In terms of speakers today, my name is Stevan Novoselac and I serve as the co-Leader of Gowling WLG Tax Dispute Resolution practice in Canada. I'm joined today by Pierre Alary and Dan Misutka. Pierre specializes in resolving tax disputes, along with transfer pricing issues, and works out of our Ottawa office. Dan is a recent addition to our Tax Dispute Resolution team and practices out of our Calgary office. Although despite that I heard him say he's an Edmonton fan, where he grew up. He's a senior tax litigation specialist, having started his career as a Federal prosecutor and transitioned into a role as a tax litigation counsel for the Minister of National Revenue. Then since going into private practice in 2004 he's resolved all kinds of tax disputes on behalf of taxpayers. As we mentioned at our previous webinars, we launched these sessions internally, initially, for our firm's National Tax Practice group over 6 years ago to present new CRA policies, legislation and case law in the area, and now that we've expanded them to an external audience we're pleased to see that others are finding them helpful as well, to stay up to date with current developments in tax dispute resolution. Please fee free to submit topics you'd like us to discuss at future webinars and also please feel free to submit questions throughout with the question feature, that I'm sure everyone's familiar with, and depending on our timing we'll try to answer your questions at the end of this session. If not, then we'll respond to you directly. We're again aiming to wrap up today by no later than 12:30. Please note that a copy of today's slides will be available online afterwards.
In terms of topics for today we have the following three. Number one, recent CRA audits of TFSAs, case studies which Pierre is going to present. Second, CRAs broad collection powers and options for taxpayer responses to CRA enforcement, which Dan will be discussing, and thirdly, jeopardy orders a case study which I'll be covering. So, Pierre, with that please go ahead and tell us about TFSA audits.
Pierre: Thanks, Stevan. Canadians can take advantage of various registered plans offered by the Government of Canada, including registered retirement savings plans and tax free savings accounts. Taxpayers are generally aware that we have contribution limits which restrict how much we can invest in our RRSPs and TFSAs. There are other restrictions placed on these registered plans which taxpayers are likely not as familiar with. Notably, taxpayers must ensure that the investments contributed to such plans are qualified investments, as set out in the Income Tax Act and its regulations. Most securities listed on a designated stock exchange, such as shares of corporations, are considered qualified investments. However, in some cases, Income Tax Act could deem certain shares of a corporation to be a prohibited investment. A prohibited investment is generally an investment to which the plans controlling individual is closely connected. The Income Tax Act imposes two special and potentially onerous taxes when a registered plan holds a prohibited investment. First, there is a 50% tax on the value of the investment, which is refundable in certain circumstances. Second, a 100% tax on any income, or capital gain, derived from the investment. We refer to this 100% tax as an advantage tax as it essentially taxes 100% of any income, or gain, or advantage you made from the investment. A prohibited investment can include a share of a corporation with which the controlling individual of the registered plan does not deal at arms length. This criteria was the subject of the first case study I will be discussing today.
In a recent audit conducted by the CRA, the controlling individual of a TFSA received a letter from the CRA, which proposed to assess the controlling individual on the basis that incorporation shares contributed to his TFSA, or a prohibited investment. The individual in this case was a director of the corporation and the CRA argued that because the individual was a director he did not deal at arms length with the corporation. However, it is a question of fact whether a corporate director deals at arms length with the corporation, and the following facts were highlighted as being relevant in the present case. The corporation is a publicly traded company on a Canadian exchange. The individual was one of six independent members of the corporations board of directors. He was not at any time an officer of the corporation. His role as a board member required only approximately 25 hours of his time per year, and finally, he held much less than 1% of the corporations common shares. The Tax Court of Canada considered the question of whether a corporate director was dealing at arms length with the corporation, in both Gestion Yvan Drouin Inc. versus the Queen and Del Grande versus the Queen. In Gestion Yvan Drouin the Court held that it did not believe that in the absence of other special circumstances, the fact that a taxpayer was at once a shareholder, a director and an officer of a corporation necessarily means that there was a defacto non-arms length relationship between the taxpayer and the corporation. The Court referenced Justice Bauman's decision in Del Grande where he found that a shareholder, director and officer of a corporation, holding 25% of the common shares of that corporation, was not defacto dealing with the corporation other than at arms length. The appellant in Del Grande was clearly dealing with a corporation of which he was a director, at closer proximity than the individual was dealing with a corporation in our case study. Given that the appellant in Del Grande was found to be dealing at arms length with the corporation, this would support a determination that the individual in our case study was certainly dealing at arms length with the corporation. Consequently, the individuals investment of the corporation shares in his TFSA should not be considered a prohibited investment. When presented with these arguments the auditor withdrew his proposal and closed the file.
In another recent case study the taxpayer encountered two separate issues relating to investments in his TFSA. The first relates to the provision in the Income Tax Act which prohibits individuals from contributing shares of a corporation to their registered plan, if they own 10% or more of the capital stock of that corporation. In our case the taxpayer was assessed because he contributed shares of a corporation, of which he owned just slightly more than 10%, at the time of the contribution. Now this could be tricky because a shareholder's share ownership may have fluctuated without the shareholder actually knowing. The second issue relates to warrants that the taxpayer contributed to his TFSA. When it comes to warrants the value of the warrant at the time it is contributed to the TFSA is not as easily quantifiable as if you contribute shares of a publicly traded company. You need to undertake the valuation of the warrants, which the taxpayer did in this case. As mentioned earlier, there are limits to how much we can contribute to our TFSAs, therefore it is important that the value of the warrants not exceed the taxpayers contribution limit. This can become an issue if the CRA later conducts an audit and disagrees with your valuation of the warrants, which was the case here in our case study. In the case of this taxpayer, the CRA proposed to assess both the refundable tax, which is equal to 50% of the value of the investment, and the 100% advantage tax for both the contribution of shares and warrants. However, with respect to the 50% refundable tax, this tax is refundable if the taxpayer disposes of the investment before the end of the following calendar year, and if it is reasonable to consider that the controlling individual knew, or ought to have known at the time the property was acquired, that it was, or would become, prohibitive investments or that he would not have known. So in this case, upon receipt of the taxpayer's submissions, the CRA auditor agreed to refund 50% tax relating to both the shares and the warrants. However, this left the issue of the advantage tax of 100%. With respect to the valuation of the warrants, this is the type of issue that can be the subject of a notice of objection, since the taxpayer in this case strongly believed that his valuation of the warrants was representative of their fair market value. As per the advantage tax relating to the shares, there is no question here that the taxpayer held more than 10% of the corporation shares, which is in excess of the 10% threshold. Therefore this is not really a good case for notice of objection. However, section 27.06 of the Income Tax Act provides that the Minister may exercise her discretion to waive any refundable tax, or advantage tax, assessed under section 207 if she considers it just and equitable to do so based on the circumstances, including whether the tax arose as a consequence of a reasonable error. A situation where the taxpayer unknowingly held only slightly more than 10% of the corporation shares seems like a case where the Minister may find it just and equitable to waive the tax. Therefore the taxpayer has filed a submission to the Minister requesting that advantage taxes, relating to both the shares and warrants, be waived. This is in addition to the notice of objection that the taxpayer intends to file for the advantage tax relating to the warrants.
The takeaway from these case studies is that the complex provisions of the Income Tax Act, relating to the registered plans, can lead to contentious tax disputes for taxpayers in a variety of ways. As we saw with the first case study, these complex rules can also be confusing for auditors and may lead to mistaken proposed adjustments. The silver lining in all this is that the Income Tax Act provides taxpayers with a few opportunities to waive these onerous taxes if certain conditions are met. Notably that the tax arose as a consequence of a reasonable error. With that, I will pass it over to Dan, who will be discussing CRAs broad collection powers.
Speaker3 Morning, everybody. Thank you very much for listening to our presentation. I'm going to speak and give an overview of certain pertinent powers relating to CRAs ability to collect the liability produced by assessments, even when those assessments are under a dispute. As well as some key considerations that you or your client ought to know about in relation to CRA administrative policy. The presentation might seem basic on some level, to some of you at least, but nevertheless it's always a good idea to pay attention for the potential for the CRA to enforce the collection of assessed liabilities, and in the end, to be aware of the key legal requirements and administrative practices in this area that can assist.
Disputing an assessment, everybody knows, there are short timelines that you have to meet in order to get your objection, your notice of appeal in. Generally, when you intend to dispute an assessment, the focus is on ensuring that the objection or notice of appeal is filed. But nevertheless it's always important to pay attention as well to the fact that there is an outstanding liability as a result of this assessment, and whether you need to do anything about that, or whether there's a danger that the CRA will do something about that. There are a couple of competing principles as concerns Income Tax Act assessments, at least, related to CRAs collection powers. First of all subsection 152(8) deems an assessment to be valid and binding even where there is an error, defect or omission in the assessment, or proceeding under the Act. In other words, even though you are disputing an assessment, it remains a lawfully binding assessment while the dispute is underway. However, at least under the Income Tax Act, there is a concept of a collection commencement day that is described in subsection 225.1(1.1) which is generally the day that the CRA is permitted to take collections in respect of a tax assessment. The collection day mirrors the time in which taxpayer has to file an objection. Therefore even though the liability is deemed valid and lawful while you dispute it, at least as concerns income tax assessments, there are some restrictions on CRAs ability to enforce the collection of that liability.
After you file an objection, and in the event that the objection is not successful but you wish to appeal to the Tax Court of Canada, subsection (3) of section 225.1 maintains the collection restrictions in place until the appeal is decided or withdrawn. The simple point in the slide is also that under the Excise Tax Act there isn't a similar concept. So GST assessments are collectible, whether or not they're subject to objection or appeal. This is one area where engagement with the CRA collections division is particularly appropriate and the fact that you have a matter of dispute is obviously a relevant factor to bear at mind. CRA collection officers have discretion, under their collections policy, to not enforce a GST assessment while that assessment is under dispute. Always consider whether or not you have the ability to paydown an assessment, even if you are disputing it, as otherwise interest will continue to accrue and there's no guarantee, and in many cases you will not entirely be successful on an objection, so to the extent you are not successful there will be some level of accrued interest that would otherwise have been a lower amount if you had paid down the assessment right away. To the extent you are successful, taxpayers will of course earn interest on refunds paid, as a result of a successful dispute of an assessment. The last point at the end of this slide is that I did have one example. One client, situation where the client had come to us having failed to object within the 90 day period, but was still able to apply for an extension of that time. It was granted an extension but after the 90 day period expires, and CRA collections was on the scene, seizing funds from that client's bank account. So again as just a reminder of the important timing considerations. That not only apply to the bringing of an objection but to ensuring collection action is not undertaken.
Stevan will speak in more detail about jeopardy assessments, as soon as I'm finished speaking this morning, but I just wanted to mention that there is the ability of the CRA to bring an application for a jeopardy order in relation to income tax assessments, if they can satisfy a Superior Court Judge that the collection of that assessment is in jeopardy. Of course, collection restrictions do not entirely apply to large corporations, which are required to pay half the amount in dispute, whether or not an assessment is under dispute.
Finally, other things to be aware of is the fact that there's potential for corporate directors to become personally liable for income tax, or source deduction liabilities of their corporation, or GST liabilities of the corporation. Generally the common response to such a proposed assessment, or an assessment, is to demonstrate that a director has been duly diligent. Though there are statutory requirements as well, including the requirement for the Minister to bring such an assessment within a 2 year period after a taxpayer ceases to become a director of a corporation. I've set a recent example of that in fact, for a client where the CRA did not act in time. They were only focused on whether the clients were duly diligent or not, and in the meantime didn't notice that the directors had in fact resigned, or even asked about it. So always check to make sure the statutory requirements, for bringing a section assessment, are met. CRA collection enforcement is governed by administrative practices and there are a number of publications on this. It's always important, particularly when you're going to get into the weeds with the CRA, to review those policies. The other point to be aware of is, especially as concerns GST assessment, proactive with communication with the CRA collections division is always key, to help ensure that your client is not surprised to learn that CRA has taken some collection steps such as freezing a bank account. So keeping the CRA aware of the fact that a matter is under dispute, advising them of the strength of their dispute, advising them of the progress of that dispute, can all help to help ensure that the CRA doesn't step in and try to enforce collection of a liability that is under dispute. The other point on the slide that I mention here, some cases taxpayers will not even be aware of the fact that an assessment has been issued until the collections division is on the scene. In such cases you always want to check if the taxpayer was in fact sent the reassessment, as they're required to be under the Act, and in some cases even though CRA has considered that an assessment has been issued more than the time required to object, or even to apply to extend the time to object, if you can demonstrate that in fact that assessment was not sent to the taxpayer you can sometimes open up the ability for them to dispute the assessment and bring about collections restrictions, at least as concerns income tax reassessments.
I wanted to mention, because this is a very good illustration of the influence of CRA administrative practices in this area, there was a study undertaken by the taxpayer ombudsman who issued a report in 2019. It was a very interesting discussion of the CRA practices, the timeline by which CRA will communicate and proceed to get more aggressive with taxpayers, as concerns the collection of liabilities. The report was prompted by complaints from taxpayers that CRA was taken collection steps without them receiving adequate notice of their intention to do so. What I thought was notable in the discussion was a distinction between acceptable payment arrangements and binding payment arrangements. Which the concept of binding payment arrangements with CRA collections division is not found in any of the published CRA policy manuals that I've ever reviewed. It's something that only tax services offices and members of the tax service office collections division can enter into with taxpayers. So the point of the matter is, especially where there's a matter of dispute and you want to enter into a payment arrangement with respect to a matter that's not under dispute or with respect to a GST assessment, probe to ensure that the CRA is going to honour the arrangement, and probe that there's no lack of communication as to whether a taxpayer believes there's an acceptable arrangement in place, but as far as the CRA is concerned there is not and then the next thing you know that taxpayer's bank accounts are frozen.
The key takeaway points, in my view, is always be aware of the fact that an assessment is subject to possible collection enforcement while it is under dispute. Always ensure that you and your client know how and when the CRA can enforce collection of unpaid tax liabilities and what their policy statements are in that regard, and don't be afraid to step in and tell the CRA that they cannot do something, because there is a matter under dispute, or they cannot take a particular collection step because the matter is under dispute. CRA collections officers can be very aggressive. They don't always pay attention to the line, in my humble experience, and having the assistance of legal counsel is sometimes a very important consideration. So those are the points that I wanted to bring home and dealing with jeopardy orders, as I alluded to, Stevan is going to present a case study.
Stevan: Thanks, Dan. So as I mentioned, our third topic today is jeopardy orders, and this is an important part of the CRAs collections arsenal that Dan took us through. So for this topic I'll first discuss some general considerations, then a recent case study, and finally provide a quick practice tip. In terms of general considerations, again as Dan had mentioned, a jeopardy order permits the CRA to take immediate collection action despite the usual stay on collections. It's an ex parte application which means that only counsel for the CRA appears in court, without the taxpayer being represented, or even notified of the application. In the application record counsel for the CRA is required to make full and frank disclosure of all relevant and material facts. Essentially the Minister must persuade the court that there are reasonable grounds that collection would be jeopardized by any delay. So here are some factors that the courts will consider. Reasonable grounds to believe that there was fraud. Taxpayer liquidated or transferred assets. An attempt to evade tax liabilities. Whether the assets could lessen in value, or even deteriorate or even perish, and the amount of the debt relative to the income and expenses of the taxpayer.
This next slide sets out the burden of proof that the court applies. Essentially, it's important to know that it's a lower burden of proof then what is usually done, which is the balance of probabilities. So all that I'll need to demonstrate is an incredible evidence of a serious possibility that the granting of the delay would jeopardize the collection. So that's a lower burden that the Minister.
So now for the case study. The sole issue on the application before the court in this case was whether an order should be made permitting collection actions, forthwith, for the income tax debt of the respondent to the application. Now I'm going to run through the facts in some detail, and as you'll hear, they're quite egregious. Just over 6 months after being incorporated the respondent made six Canada Emergency Rent Subsidies, or CERS claims, with the CRA. As you'll likely be aware, CERS was a Federal run subsidy program to provide emergency financial resistance as a result of COVID to commercial tenants. The respondent's claims were for rent subsidies for four properties the respondent said it rented for industrial purposes. In response to these claims they got over $480,000.00 from the CRA. Those funds were deposited into a single bank account. The bank apparently became suspicious and its fraud deterrence department made inquiries, raised concerns and placed a temporary restriction on the account. As a result of these inquiries, the CRA sought additional information from the respondent, including asking for copies of the lease agreements. The CRA then contacted each of the ostensible landlords and they all said the respondent was not a tenant. Unsurprisingly the CRA issued notices denying the six claims. The evidence also showed that the bank account was opened only 1 week before the sole deposit was paid, but this one deposit was for the total amount of the six CERS claims, and that there were no other significant transactions in the account. Next searches reveal that the respondent owned no real estate or motor vehicles. But wait, there's more. The respondent made no tax filings for corporate income tax, payroll remittance, HST or T4 information, or any records or filings for employees, if there were any. It had also not completed its required annual corporate filings for 2020 and 2021. Finally, aside from that one CERS deposit, the CRA had no further information about any assets or any business activity of the respondent. So it appeared the only thing this company ever did was to get that money from the CRA.
Now as you may have predicted by this point, the court found there were reasonable grounds to believe the collection of the CERS claims would be jeopardized by a delay and, in what could be considered an understatement, the Minister's position that the CERS claims were not authentic and the court held that this was amply supported by the record. The evidence also showed that upon request by the respondent, the bank had no legal basis to refuse to release the funds to the respondent. So in other words, the temporary restriction that had been placed on the account by the bank did not necessarily stop the respondent from liquidating or transferring the funds. So the court was accordingly convinced and issued a jeopardy order to allow for immediate collection of the amount.
So now for the practice tip. In a case where the taxpayer is concerned that the CRA may be getting ready to seek a jeopardy order, it can be worthwhile to proactively provide a submission letter to the CRAs collections officer, detailing all of the facts that would form a basis to oppose granting a jeopardy order as well as including in the letter an express request that it could be put before the court as part of any application seeking a jeopardy order, and because it's an ex parte application, as I had mentioned earlier, the Minister has a positive obligation to make full and frank disclosure of all the relevant and material facts relating to the application. So in the right case this can be an effective way to ensure the taxpayer's position is put before the court as compelling as possible. So I hope that's been a helpful discussion of some of the issues relating to jeopardy orders.
We do have a moment for questions. There's a question that it looks like it's directed for Dan. What if you have a client that runs a business, is faced with a significant new GST reassessment and you believe is clearly in error, but the CRAs collections division is pressuring the client for payment on the reassessment, which is causing the client immediate cash flow concerns, can you suggest some ideas for how to assist this client in dealing with CRA collections?
Speaker3 This is one of those areas that I actually find actually common in relation to GST assessments or reassessments, particularly as concerns certain concepts that CRA has wrongly applied, and it seems to be clear to everybody but the CRA GST auditor, that they have wrongly applied those. Next thing you know this taxpayer's faced with all kinds of demands and issues. It takes time to get an assessment in place. So this is one of those areas where you really have to proactive. Getting the collections officer on the phone. Getting the team leader of the collections officer on the phone and making sure they're aware of the fact that, at the end of the day there's some very compelling reasons to dispute this reassessment. There's a very probable case that the reassessment will be overturned, and in the meantime, if you carry on with your collections enforcement you have the potential to do real damage to this taxpayer's business, immediate damage, while this dispute is being carried out. So it is one of those areas where proactive conduct is important, and involving the assistance of your advisor in demonstrating to the CRA that the dispute is likely to be overturned, would be key.
Stevan: Alright. So there's another question that I'll address. It relates to jeopardy orders. According to case law is the threshold low for the CRA to get a jeopardy order? So a jeopardy order is intended to be an extraordinary remedy. The normal rule is that there's a stay on collections, as we mentioned, and so in that sense it is a higher standard. But as I mentioned, the burden proof that the court uses in deciding jeopardy order applications is a lower one, than what is normally used in litigation. That does make it a little bit easier. Also, as I mentioned in terms of threshold, the only evidence that's before the court is brought on behalf of the CRA. Typically an affidavit sworn by the CRA auditor. So the taxpayer doesn't have any opportunity, at that hearing at least, to present any other facts that the taxpayer may feel would be contrary what's being put forward by the CRA. Those are some considerations relating to that question.
Alright, I think we've gone past about a minute or two past our time today. So I appreciate everyone's patience. I hope everyone has enjoyed today's session. Please don't miss our next session which will be, as I mentioned, on June 28 and if you could take a moment to scan this QR code, and complete a short survey for us, we find that very helpful in terms of formulating topics for presentation, and other questions that have been posed we will, as I mentioned, be back to you directly. Thank you, again, very much for your attention and for your time today. Hope you found it helpful. Have a great rest of your day. Thanks again.