Date: 20010202
Docket: 1999-638-IT-G
BETWEEN:
LAWRENCE E. POWELL,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
Reasons for Judgment
Campbell, J.
[1] The Minister of National Revenue issued a notice of reassessment on July 14, 1997 which reassessed the Appellant's income tax liability by:
(a) including an unreported bonus of $9,727.00 in 1992;
(b) including unreported shareholder's benefit of $61,642.00 in 1992;
(c) including unreported consulting fees of $100,000.00 in 1993; and
(d) assessing penalties on the foregoing amounts pursuant to subsection 163(2) of the Income Tax Act.
[2] I am therefore dealing with the Appellant's 1992 and 1993 taxation years.
Facts
[3] The Appellant in 1992 and 1993 was a self-employed consulting engineer who was involved with a number of companies. The three companies relevant to these appeals are:
- L.E. Powell Properties Ltd. ("L.E.P.")
- G.R.L. Properties Limited ("G.R.L.")
- Powell Company Limited ("Powell Company")
[4] L.E.P. was incorporated in 1969 with three shareholders: the Appellant, his spouse and their lawyer, each holding one share. The directors' register was introduced into evidence showing the Appellant as a shareholder and director. This register had never been updated since 1969 and I therefore place no reliance on that record as to the present state of the company. However the Appellant's evidence was to the effect that he and his wife were directors of L.E.P. in 1992 and 1993. L.E.P. was incorporated to pursue real estate consulting and land development. In the relevant years, this company did real estate consulting work exclusively for G.R.L. According to the Appellant's evidence, L.E.P. had maintained no bank account for years. Since it could not negotiate cheques, money due to the company from G.R.L. was credited through a shareholder loan account set up on the books of G.R.L. The Appellant testified that he was the registered agent within the Province to act on behalf of L.E.P.
[5] G.R.L. was incorporated according to the Appellant's evidence "in more recent years". The shareholders of G.R.L. and their shareholdings were as follows:
Appellant, Lawrence Powell 1
G. Royce Hefler 1
George MacKenzie 2,500
L.E. Powell Properties Ltd. (L.E.P.) 2,499
Woodfibre Logging Ltd. 2,499
The directors of this company were the Appellant, G. Royce Hefler and George MacKenzie. The Appellant was the secretary treasurer of G.R.L. The company was incorporated to tender on one specific project, that is, the rock abutments for the Halifax/Dartmouth bridges. The company did not get the tender and was left owning real estate.
[6] After G.R.L. unsuccessfully tendered on the Halifax/Dartmouth bridge project, it attempted to subdivide the property which it had purchased to supply rock for the project. L.E.P. was employed to provide the consulting work to design this subdivision for the sale of lots. This avenue was thwarted when public hearings were held and approvals could not be obtained for subdividing. The land was eventually sold.
[7] The Powell Company was incorporated in New Brunswick to complete one specific project and that was to construct a floating deck for the fertilizer plant at Hopewell Cape. This project was completed. The Appellant's evidence was that this company did consulting work for many individuals. The Appellant was, by his evidence, in control of this company. The evidence was that L.E.P. owed approximately $200,000.00 to the Powell Company.
[8] The Appellant was a shareholder in these companies. The companies had intermingled business dealings with each other. According to the Appellant's evidence there were inter-company transfers from L.E.P. and Powell Company to G.R.L. and from Powell Company to L.E.P. A shareholder loan account established at G.R.L. showed various journal entries where amounts were debited and credited at different times.
[9] The Minister stated in the Reply to the Notice of Appeal that a dividend, declared in 1992 by G.R.L., a portion of which was payable to L.E.P., was not paid directly to L.E.P., but instead was credited through a shareholder loan account.
[10] The Minister reassessed the portion paid to L.E.P. and considered it a shareholder benefit under subsection 15(1) as it was credited through this account. The Minister concluded that this account belonged solely to the Appellant. As a result, the Minister argued that the Appellant had received a benefit in his capacity as shareholder of L.E.P. in the amount of $61,642.00, which he did not report.
[11] The Respondent's evidence was based primarily on the Minister's view that a shareholder loan account existed on G.R.L.'s books for the benefit of the Appellant only. It is clear that the amount of $61,642.00 was a dividend owed to L.E.P. A document entitled "Analysis of Directors' and/or Shareholders' accounts" of G.R.L., year ending March 1, 1992, shows total dividends of $61,666.67 credited through this account. The heading of this document referred to both Larry E. Powell (the Appellant) and L.E. Powell Properties Ltd. Mr. Flemming, the Appellant's current accountant, gave evidence that such an account may be set up in an individual's name for simplicity where an individual as well as his company has dealings with G.R.L. One shareholder loan account on G.R.L.'s books would then reflect G.R.L.'s dealings with both the Appellant and L.E.P. I do not accept the characterization placed on this account by the Respondent. Firstly, it was referenced to both names on G.R.L.'s working paper, secondly the account was obviously used for both as a T5 was issued to L.E.P and the Appellant for a dividend and thirdly, journal entries on G.R.L.'s ledger sheets confirm credits were made to both corporate shareholders, L.E.P. and Woodfibre Logging Ltd. through shareholder loan accounts in the individual shareholder's names. I find there is sufficient evidence that the account was used by G.R.L. for more than dealings with the Appellant alone.
[12] Who then received the benefit of the dividends? There are in evidence, cheques totalling some $61,000.00 payable to the Appellant personally and deposited to the Powell Company, the third corporate entity in this scenario. The Appellant stated that these amounts were used by L.E.P. to offset a debt of several hundred thousand dollars owed by L.E.P. to the Powell Company. All of these cheques were deposited to the Powell Company account on behalf of L.E.P. to offset its debt. There is no evidence that the monies ended up in the Appellant's hands or in his personal bank account.
[13] In 1992, according to the Reply, G.R.L. showed a bonus in the amount of $9,727.00 payable to the Appellant. This amount arose through the auditor's analysis of the shareholders' loan account with G.R.L. His working paper which was entered as part of Exhibit A-1, the joint book of documents, began with the opening balance of a March 1, 1991 on G.R.L.'s shareholder loan account and reconstructed what he thought occurred with this account in respect to credits and debits. This balance was then compared to G.R.L.'s book balance. By comparison there was a discrepancy, part of it attributable to the L.E.P. dividend of $61,642.00 and the balance of this discrepancy according to the appeals officer, Agi Dorken, was labelled by the auditor as a bonus of $9,727.00. The auditor's working paper and his correspondence with accompanying schedule of May 14, 1996 to the Appellant confirmed that to the auditor the "discrepancy appears to have been recorded by the company as bonuses". The Appellant's accountant stated that the auditor appeared not to know what this discrepancy was and "assumed" it was a bonus. The evidence of both the Appellant and his accountant was that this amount was never paid to the Appellant.
[14] In 1993, G.R.L. credited consulting fees of $100,000.00 to an account referred to by the Appellant as a shareholder loan account. According to Agi Dorken's evidence this credit reduced the Appellant's indebtedness to G.R.L., as the consulting fees in 1993 were payable to the Appellant personally.
[15] The Minister's inclusion of these three amounts in computing the Appellant's income in 1992 and 1993 was based primarily on the assumption that the shareholder loan account belonged exclusively to the Appellant and that any amounts recorded through this account reflected the Appellant's personal dealings with G.R.L. None of these amounts were reported as income by the Appellant. I agree with Bowman J's comments in Ed Sinclair Constructions & Supplies Ltd. et al v. M.N.R., 92 DTC 1163 where he states at page 1169:
...A mere bookkeeping entry in a loan account by itself does not constitute a taxable event unless there is something more, such as receipt.
[16] The main problem in this case was one of reconstruction, as no corporate records were kept by the Appellant in respect to any of the numerous companies in which he was the majority shareholder. Mr. Flemming was engaged by the Appellant in 1997 to prepare unaudited financial statements for L.E.P. and the Powell Company based on information available, which included deposit slips, bank records, cancelled cheques and the Appellant's recollection of events. No tax returns were filed by these companies. The Appellant argued that at the end of the day there were more expenses than there was revenue, regardless of inter-company transactions. Therefore the Appellant felt the companies did not need to file corporate returns unless Revenue Canada made a request.
[17] The Appellant argued that this shareholder loan account reflected business transactions and dealings of both the Appellant and L.E.P. with G.R.L. According to the evidence of Mr. Flemming, the shareholder loan account was a "term ... used for any transaction with a shareholder or the shareholder's company". The Appellant stated that even if L.E.P. did have a bank account, the funds would probably have gone to him personally through this account as he was continuing a practice started early on by a previous G.R.L. accountant. Mr. Flemming stated that "G.R.L. advanced money in Mr. Powell's name because that's the name they used, which was deposited in the Powell Company ... because L.E. Properties Limited didn't have a bank account".
[18] The pleadings by both the Appellant and the Respondent were totally inadequate such that the issues were not clearly defined. By consent of the parties it was eventually agreed that I would be deciding the following four issues:
(1) whether the Appellant received a taxable benefit from L.E.P. as the result of a dividend declared by G.R.L. and payable to L.E.P. in the amount of $61,642.00 in 1992;
(2) whether the Appellant received the sum of $9,727.00 from G.R.L. in 1992 as a bonus or otherwise as income;
(3) whether the Appellant received consulting fees of $100,000.00 from G.R.L. in 1993; and
(4) whether the Appellant should be assessed gross negligence penalties for failing to report the above amounts as income in 1992 and 1993.
The Amount of $9,727.00:
[19] The Reply referred to this amount as both a bonus and consulting fee. It may have been indicative of the state of confusion in which counsel for the Respondent approached the entire subject matter of this hearing. This amount arose from an apparent discrepancy on the books but was not a specific item within the shareholder's account. It is clear from the facts that it was the auditor who labelled this discrepancy a "bonus". The Minister, relying on the assumption that this amount was a bonus paid to the Appellant, included it as income to him Appellant pursuant to paragraph 6(1)(c) of the Income Tax Act.
[20] The facts indicated that the Appellant never received this amount in his capacity as director of G.R.L. or in any other capacity. I accept his evidence. There was no evidence to show that any of the other directors of G.R.L. received such an amount as a bonus. In my view if this was a director's bonus, then the other directors would have similarly received one, and if they had not, would certainly have made sure they did.
[21] The only discrepancy that I see is in the auditor's analysis of this amount. He tagged an amount as a bonus without any factual basis to support such a conclusion. There were no records to support this. After a review of G.R.L.'s books and in particular the shareholder loan account, the auditor simply attributed a discrepancy to a bonus. This discrepancy may have arisen because the auditor appeared to have prepared his analysis on a calendar year and not a fiscal year end. There was no other basis for this conclusion and certainly no other evidence produced by Respondent's counsel that this amount was ever paid to the Appellant or any other director of the company. Although the onus is on the Appellant to rebut the Minister's assumption I do not believe that it is intended that the Minister can rely on statements which cannot be substantiated. If the Minister cannot provide clear concrete evidence as to the basis upon which the assumption was made, then it remains clearly just that – an assumption. I base these comments on what was stated in Hickman Motors Limited v. The Queen, 97 DTC 5363 at page 5377:
The Minister does not have a carte blanche in terms of setting out any assumption which suits his convenience. On being challenged by evidence in chief he must be expected to present something more concrete than a simple assumption.
Mr. Flemming's evidence was that if there existed a discrepancy it "... might be in the income tax auditor's accounts". He went on to state that there was no discrepancy on the books "because everybody would make sure they got their portion of what was being divvied out". I agree with Mr. Flemming's analysis. In the end, counsel for the Respondent stated in her submissions: "...we're not sure whether or not it was a bonus or something else." If the Respondent's counsel cannot affix the proper label to an amount and support it with the appropriate evidence the Court will not do so under the category of "something else". As there was no other evidence adduced to support including this amount in computing the Appellant's income for 1992, I find that the amount was not received by the Appellant and will not be included.
The Shareholder's Benefit of $61,642.00:
[22] On January 27, 1992, G.R.L. declared dividends totalling $185,000.00. G.R.L.'s ledger sheets reflecting transactions for the period March 1, 1991 and March 1, 1992, show journal entries crediting the dividend equally among G. Royce Hefler, L.E. Powell and George McKenzie. It is clear from these entries that the two corporate shareholders did not have separate shareholder loan accounts for this purpose on G.R.L.'s books. It is clear that L.E.P.'s portion of the dividend was credited through an account in the name of the Appellant. The Appellant reported his portion of the dividend in his 1992 return. The $61,642.00 dividend could not be paid directly to L.E.P., as it had no bank account. But nevertheless it appeared to be G.R.L.'s practice to record such amounts in this manner, not only in respect to L.E.P. but also in respect to Mr. Hefler's corporation, Woodfibre Logging Ltd. In assessing a taxable benefit of $61,642.00 to the Appellant the Minister took the view that the shareholder loan account was solely the Appellant's and therefore the Appellant's indebtedness to G.R.L. was reduced by a reduction in the shareholder loan account. This resulted, according to the Respondent, in a shareholder's benefit to the Appellant from L.E.P. However G.R.L's working papers do not reflect this.
[23] Under subsection 15(1) of the Act, any benefit or advantage conferred by a corporation on a shareholder shall be included in computing the shareholder's income. Since in the Minister's view the Appellant received the benefit of an amount that was otherwise payable by G.R.L. to L.E.P., the Minister included $61,642.00 in computing the Appellant's income in 1992 pursuant to subsection 15(1). I find that L.E.P. did not confer a benefit on the Appellant pursuant to subsection 15(1). The dividend was not reported as it should have been by L.E.P. but this is no reflection on the Appellant who did report the dividend he received from G.R.L.
The Consulting Fees of $100,000.00:
[24] In 1993, $100,000.00 was expensed by G.R.L. and credited to the shareholder loan account to record consulting fees for services provided to G.R.L. The Minister made the assumption that the Appellant received these fees either directly or as a benefit to him by the reduction of his shareholder's loan. This amount was included in computing the Appellant's 1993 income as fees received by him for work done for G.R.L.
[25] The Notice of Appeal did not specifically address this issue. The Notice was drafted by a solicitor but the Appellant did not appear with a solicitor at the hearing. It was the Appellant's understanding that all four issues, including the fees of $100,000.00, were before the Court. Throughout the Reply the $100,000.00 figure was alternately referred to as consulting fees, management fees and/or professional fees. Clearly counsel for Respondent had great difficulty with the nomenclature of these fees. The Reply was also silent as to which section of the Act was being relied upon. This amount, by agreement between the parties, was eventually characterized as consulting fees. In counsel's submissions on behalf of the Respondent, she initially argued that the consulting fees fell under section 9 and could be "... characterized as income of Mr. Powell, being consulting or professional fees ...". This is correct if in fact these fees were received by the Appellant in his personal capacity. Alternatively, Counsel argued that the fees could be "... classified as benefits as well if they are seen to have been actually going into the L.E.P. Company Ltd., in which case in the alternative, we would argued that again that is also a section 15(1) benefit ... through his (the Appellant's) shareholdings in L.E.P.".
[26] Since I have concluded that the shareholder loan account on G.R.L.'s corporate books was an account set up to reflect business dealings with both the Appellant and L.E.P., evidence alone that the $100,000.00 was credited through this account is not sufficient to establish that these fees belonged to the Appellant personally. The Appellant testified that it was L.E.P. that was employed by G.R.L. and it was money owed to L.E.P. not the Appellant. He also testified that any money received by him would have been deposited to the Powell Company to offset L.E.P.'s debt. I accept as a fact that these fees belonged to L.E.P. for consulting work it completed for G.R.L. This company was incorporated for real estate consulting and had been similarly employed in the past. I find that based on the facts the Appellant did not receive the consulting fees of $100,000.00 in his personal capacity.
[27] Counsel for the Respondent argued that no matter how you categorized these fees, the end result was a benefit to the Appellant because it reduced his shareholder loan account with G.R.L. Other than the reliance on the shareholder account, Respondent's counsel produced little additional evidence to support its claim that the $100,000.00 benefited the Appellant. The argument seemed to run that if this account showed an entry of $100,000.00, then the Appellant must have received a benefit somehow, someway, sometime, from someone, under some section of the Act. Arguments that I should look at the 1997 financial statements of L.E.P. showing a shareholder loan account in the name of the Appellant or that I should look at undeclared income with no corporate tax returns filed are just simply irrelevant. L.E.P. is not an Appellant here.
[28] Counsel for the Respondent argued that insufficient information was provided by the Appellant and therefore the Minister could not "nail down specific figures to specific classifications". The argument continued that regardless of how one classified it, there was a benefit to the Appellant. It is not my responsibility to find the proper pegs to fill the proper holes. Respondent's counsel cannot expect the Court to complete what they cannot. It was best summed up by counsel herself in her final submissions when she stated: "...but the end result is that he did benefit from these monies. No matter how you want to chase them around, no matter how you want to try and track them from one company to the other, those monies were there and he did benefit from them personally". Well it does made a difference how these amounts are "chased around and tracked down". The nailing down of specifics are part of counsel's job and not mine. If there has been a failure to do so, there has been a failure to make her case before me. It is the Court's job to resolve disputes but it is hampered in its job if the proper facts are not placed before the Court in a clear and precise manner.
Penalties:
[29] With respect to the fourth issue, penalties for gross negligence pursuant to subsection 163(2), since I have concluded that the Appellant did not fail to report the amounts before me in computing his income in 1992 and 1993, there can be no penalties.
[30] My final comments concern two matters which arose during the course of the hearing. The first matter is the state of the pleadings placed before me. Both the Notice of Appeal and the Reply showed a lack of preparation and review. As a result, a considerable portion of the hearing was devoted to helping the parties sort through the inadequate pleadings and define the issues.
[31] In reviewing the Reply, sections of the Act were not pleaded, not all issues were clearly stated and amounts to be included in computing income were alternately referred to by various titles. Good preparation is essential if a case is to be properly presented. If one's pleadings are in a state of chaos, quite likely the counsel presenting the argument will follow suit. If the omissions and errors in the Reply had escaped the watchful eye of someone, it should have been amended long before the matter came on for hearing. I cannot admonish counsel enough to properly prepare and review pleadings before they are ever filed and certainly prior to them coming before the Court.
[32] The second matter is the Appellant's blatant disregard for filing corporate returns. This is a self-assessing system. A corporate entity has a responsibility, like an individual, to file returns. It is not up to the Minister to chase after companies to file returns. The Appellant was involved with a number of companies. It may be true that the total expenses of the corporate group may have equated to or been greater than revenue in the Appellant's mind but the Minister is not a mind reader. Unless returns are filed the Minister does not know the taxable position of the individual company. If the Appellant had not thumbed his nose at his responsibility to have corporate returns filed the issues before me never would have arisen. At the very minimum, good corporate records should have been maintained. In deciding in the Appellant's favor, I am in no way condoning such behavior by a taxpayer.
[33] The appeals are allowed and the assessments are referred back to the Minister for reconsideration and reassessment on the basis that none of the amounts are to be included in computing the income of the Appellant and no penalties are to be assessed.
Signed at Ottawa, Canada, this 2nd day of February 2001.
"Diane Campbell"
J.T.C.C.