Date: 20000630
Dockets: 98-9304-GST-I; 98-9362-IT-I
BETWEEN:
GERARD POWER,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
Reasons for Judgment
BOWIE J.T.C.C.
[1] The Appellant has been assessed under section 227.1 of the Income Tax Act (the ITA) for the unremitted withholding tax deducted from the paycheques of employees of Vinegar Hill Enterprises Inc. (VHE), and under section 323 of the Excise Tax Act (the ETA) for the unremitted goods and services tax (GST) owing by VHE at the time it ceased operations. He appeals against both of those assessments. There is no dispute about the quantum of the liability of VHE to the Crown under each of the two statutes. The only issue raised in these appeals is whether Mr. Power exercised due diligence in his capacity as a director of VHE, and is thus entitled to the benefit of the relieving provisions of subsections 227.1(3) of the ITA and 323(3) of the ETA. Those two subsections are cast in virtually identical terms, as follows:
Income Tax Act
227.1(1) Where a corporation has failed to deduct or withhold an amount as required by subsection 135(3) or section 153 or 215, has failed to remit such an amount or has failed to pay an amount of tax for a taxation year as required under Part VII or VIII, the directors of the corporation at the time the corporation was required to deduct, withhold, remit or pay the amount are jointly and severally liable, together with the corporation, to pay that amount and any interest or penalties relating thereto.
...
227.1(3) A director is not liable for a failure under subsection (1) 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.
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Excise Tax Act
323(1) Where a corporation fails to remit an amount of net tax as required under subsection 228(2) or (2.3), 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 or penalties relating thereto.
...
323(3) A director of a corporation is not liable for a failure under subsection (1) 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.
[2] Beginning in November 1988, the Appellant's sister Sheila Power manufactured coats and other apparel for sale. She operated the business as a sole proprietorship under the name "Sheila's Sewing Shop" at Clarke's Beach, Newfoundland. Sheila Power did not testify, but from the evidence of the Appellant and his wife it is clear that she had little business acumen. Her business was not a success, and it ended with her bankruptcy in late 1992. Undeterred, she resolved to try again in the same type of business. She found that she could only obtain financing from Enterprise Newfoundland and Labrador (ENL), a government agency assisting small businesses, if her brother joined her in a corporate venture of which he would be the sole shareholder and director. He agreed to do this for her, and VHE was incorporated. The Appellant was the sole shareholder and the sole director, and he provided a loan guarantee to ENL in the amount of $20,000. VHE purchased the equipment that had belonged to Sheila's Sewing Shop, and ENL provided a loan for other equipment and working capital.
[3] The Appellant is employed on a full time basis as a drilling engineer on oil rigs. During the period with which these appeals are concerned, late 1992 to 1994, he worked primarily in Vietnam, and in the countries of the former Soviet Union. Typically he was outside Canada for four to six weeks at a time, returning for two to three weeks before leaving again. According to Exhibit A-1, he spent 247 days out of the country in 1993, and 228 days in 1994. When he was outside Canada he was, for practical purposes, incommunicado. The best he could hope for was one telephone call to Canada each week when he was in Vietnam. From the other destinations, communication was virtually impossible.
[4] The new business, VHE, was operated with Sheila Power in the role of the primary manager. Paragraphs 7 and 8 of each Notice of Appeal reads as follows:
7. At all relevant times, the Appellant was employed as an independent contractor for oil companies drilling oil wells throughout the globe. All day to day decisions were left to the management of VHE, being Sheila Power, who in effect was the sole operator of the company.
8. The Appellant had limited involvement with the company as Sheila Power resisted any interference by Mr. Power in the company's operations. Ms. Power managed all day to day operations.
A manager, Jeff Atkinson, had been hired at the outset because he had some business experience, and some recognition in the community of Clarke's Beach and the surrounding area. He worked as general manager of operations, and Sheila Power as production manager. From time to time, there were between three and six employees engaged in production work. After only a few weeks, Jeff Atkinson resigned, and after some delay a recent graduate, Angela Connelly, was hired as the manager. The Appellant said in his evidence that from the outset his main concern was that the withholdings for income tax and GST should be remitted as the statutes required. No doubt he had some concerns about his loan guarantee as well. Due to his absence from the country, however, he was not in a position to exercise close supervision or control over the operation of the business. In fact, as we shall see, he exercised very little supervision and virtually no control.
[5] When the Appellant returned to Newfoundland between his jobs abroad he visited the company's operations at Clarke's Beach, some 100 kilometres from St. John's, at least once before leaving the country again. What he found on these visits to Clarke's Beach must have been discouraging for him. As I have said, Jeff Atkinson left the business after only a few weeks. His first replacement quit before reporting for work, and only then was Angela Connolly hired. The business was in financial difficulty from the very beginning, and the Appellant testified that he saw lots of problems when he visited the operation. He testified that he concerned himself on these visits with whether the statutory remissions under the ITA and the ETA had been made, and to that end he would look through the company cheque book, if he was able to find it. Sometimes it was at the company's office, and sometimes it was not. He testified that there was no comprehensive set of books that he could look at, but rather there were, as he put it, "scattered bits of paper all about the office". When he questioned his sister about making the necessary remittances, she replied on some occasions that there was no money with which to pay them, and on other occasions she replied that the payments had been or would be made, and that he need not worry about them.
[6] From the beginning, business was poor. Sales were lower than expectations, and Sheila Power had undertaken to complete some unfilled orders of Sheila's Sewing Shop for which she had previously been paid, but had not delivered. The result was that the company was doing work on these orders with no prospect of revenue from them.
[7] The Appellant testified that he had never talked to Angela Connolly, and that he could not tell from the books and records whether Revenue Canada had been paid or not. His relations with his sister clearly deteriorated very rapidly to the point where he was unable to deal with her at all. He said in his evidence that he saw lots of problems when he visited Clarke's Beach, but did not know how to deal with them, and that he did nothing other than ask his sister to make the necessary payments to Revenue Canada. From time to time he saw letters from Revenue Canada concerning the accounts, and in 1993 he talked to someone at Riverside Accounting, the firm which prepared the first set of financial statements for the business. He had no recollection of the substance of that conversation, however. In cross-examination, he testified that he knew by late 1993 that the income tax withholdings and GST were being paid late, but he did nothing about that, other than to obtain yet another reassurance from his sister that they would be paid.
[8] While the Appellant was out of the country at the end of March 1994, his wife, Karen Kennedy, received a copy of a letter dated March 17, 1994, from W.J. Morrissey, a chartered accountant in St. John's, addressed to Ken Martin of the Atlantic Canada Opportunities Agency, one of the government agencies that supported VHE financially. The letter is some four pages long, and it details very significant financial problems of VHE. Among other things, it indicates that the normal bookkeeping functions were not being carried out, and that payments to the Receiver General for GST and income tax withheld had fallen into arrears to the extent of slightly more than $5,000. At pages 3 and 4 the following appears:
Management
Sheila Power continues to run the company without any input whatsoever from the company's shareholder, Mr. Tony Power [the Appellant Gerard Power]. I am growing increasingly frustrated and uncomfortable knowing that Sheila is making decisions which could adversely affect Mr. Tony Power (an example being the use of statutory obligations as working capital), as long as he continues to be the sole shareholder.
A management team was supposed to be developed which has not happened to date. To my knowledge Mr. Power has not attempted to contact Sheila Power to find out what is happening with his company, and Sheila continues to make decisions which can affect him. If the company has any chance whatsoever of becoming successful the company's primary shareholder has to take an active interest in the affairs of the company, or sell his interest to another individual who will. The company's management (Sheila Power) and the owner (Tony Power) should set aside their differences and immediately discuss what can be done to accomplish this.
Mr. Martin also expressed concern that the company was using the arrears of income tax withheld and GST as what he called "a very unhealthy form of working capital".
[9] At this point, with her husband away for five weeks in May and June, Karen Kennedy took charge of the situation. She spoke by telephone with Sheila Power, who told her that the income tax and GST remittances had been paid. She checked, and found that this was true. She still had concerns about the working capital situation, however, and met with Angela Connolly to review the situation. Subsequently, she received a telephone call from Angela, who told her that there was no production taking place, and that Sheila Power was "out of control". In July, Karen Kennedy met with Sheila Power and Mr. Morrissey to review matters. She tried to include officials of ENL in this meeting, but they refused to be involved in a meeting with Sheila Power. Ms. Kennedy said in her evidence that by the end of the summer she was convinced that Sheila Power could not be believed when she said the financial situation was under control. She asked Mr. Morrissey to prepare financial statements, which he did, and those were reviewed at a meeting on September 19, 1994. These statements showed that on July 31, 1994 the GST arrears were $2,313, and the withholding tax arrears were $6,102. As a result of this information, Karen Kennedy took steps to freeze the assets of the business, and then shut it down on September 28, 1994.
[10] The Appellant's position is that he should not be considered an inside director, and that his opportunity to exercise supervision and control over the business was minimal due to his extended absences from the country, and the fact that he is not an experienced business person. He relies on the facts that he explained to his sister the importance of making the payments for income tax withholdings and GST on time, and that repeatedly requested her to do so. Finally, he relies upon the steps taken by Karen Kennedy after she received the copy of Mr. Morrissey's letter at the end of March 1994. He also relies heavily on the fact that he made at least one, and sometimes more than one, trip to Clarke's Beach to visit the premises of VHE on each occasion that he returned from overseas to St. John's.
[11] In my view, the Appellant's obligations as the sole director of VHE were not satisfied by these efforts. The extent of the Appellant's obligations must be considered in the whole context of the business. The Appellant knew that his sister had recently become bankrupt in exactly the same business. This, and the requirement of ENL that he be the shareholder and director of the company as a condition of extending financing to her, should have put him on notice that she required more than cursory supervision in running business affairs. Under cross-examination, he said that as early as 1993 it was evident to him that VHE's record keeping was in "shambles" and that the books were not kept up to date.
[12] The Appellant knew at the time that VHE was incorporated that his overseas travel schedule would make it difficult for him to exercise effective control. I do not accept the contention that this is a circumstance which excuses failure on his part to exercise control over his sister's operations. His absences were foreseeable from the outset, and combined with the obvious need for considerable supervision of Sheila Power, they are more in the nature of wilful blindness than an exculpatory circumstance. Before the end of 1993, the Appellant was aware that payments for GST and income tax withholdings were in arrears. It was foreseeable that, with inadequate sales levels, this would recur. The Appellant should have taken steps then to remedy the situation. However, the only action he took was his repeated requests to his sister to make the payments. In my view that was insufficient, and he was not justified in relying on her vague assurances, given the history of business failure and the chronic cash flow problems.
[13] The Appellant could have prevented the repetition of the failures to remit withholding tax and GST by putting Karen Kennedy, or some other responsible person, in charge of the company's bank account when he first became aware of the problem in 1993. Although he was out of the country much of the time, he was present in St. John's from December 19, 1993 to January 15, 1994. He should have put some controls in place then. He also was in St. John's between April 30 and May 13, 1994, from June 24 to July 15, 1994 and from August 18 to September 9, 1994. During any of these time periods he could have insisted on seeing a financial plan to deal with the working problem, and appointed a responsible financial overseer to implement it. Instead, he chose to ignore the problem. No doubt it would have been distasteful for him to apply such measures to what he and sister both viewed as "her business". That, however, was the position that the Appellant had put himself in when he agreed to be the sole shareholder and director of VHE to accommodate her. When Karen Kennedy took steps to shut the business down in August and September 1994, she was locking the barn door after the horse had left. By that time, the Appellant had irretrievably failed to carry out his statutory obligations to the Crown.
[14] The appeals are dismissed.
Signed at Ottawa, Canada, this 30th day of June, 2000.
"E.A. Bowie"
J.T.C.C.