BETWEEN:
and
____________________________________________________________________
Appeal heard on August 10, 2006, at Kelowna, British Columbia,
By: The Honourable Justice Campbell J. Miller
Appearances:
____________________________________________________________________
JUDGMENT
The appeal from the assessment of tax made under the Income Tax Act for the 2003 taxation year is dismissed.
Signed at Ottawa, Canada, this 29th day of August 2006.
BETWEEN:
GREG IRMEN,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
REASONS FOR JUDGMENT
[1] Mr. Irmen appeals his 2003 tax assessment by way of the Informal Procedure. The Minister of National Revenue added $16,937.60 to Mr. Irmen's employment income for 2003, on the basis of cheques paid to Mr. Irmen by Greg-Rick Enterprises Ltd. (the "Company") throughout the 2003 taxation year. Mr. Irmen maintains such payments were draws against his shareholder loan account and therefore not employment income.
[2] Mr. Irmen was both a shareholder and employee of the Company. In 2000, Mr. Irmen mortgaged his home and lent approximately $40,000 to the Company. The Company struggled financially and for a few months in late 2002 and early 2003, the Company was unable to afford any employees other than Mr. Irmen. The payments Mr. Irmen received from the Company for the balance of 2003 are set out in Schedule "A" attached hereto. Mr. Irmen testified the amounts paid out to him were slightly more than was needed by him to make his mortgage payments.
[3] Each year end Mr. Irmen would determine with his accountants what the Company should pay by way of salary. To avoid any major year end personal tax liabilities, Mr. Irmen wanted to have the Company make source deductions of tax and Canada Pension Plan contributions throughout the year. The Company handled its accounting through a computer program called "Simply Accounting". The bookkeeper recorded the payments set out in Schedule "A" through the payroll account as this automatically determined the tax and CPP contributions to be deducted on Mr. Irmen's payments. This was, according to Ms. Tomlinson, the accounting technician who reviewed the Company's books at year end and made year end adjustments, the only way the Simply Accounting system could record source deductions. She had advised the Company that the payments to Mr. Irmen throughout the year should more properly be recorded as draws. Mr. Irmen was aware payments went through payroll so that source deductions could be made.
[4] For the Company's 2003 taxation year end, the accountants advised Mr. Irmen that he should only be receiving an annual salary of $600.00 (the maximum amount without impacting on the ability of Mrs. Irmen to claim Mr. Irmen as a dependent). A director's resolution was passed to that effect and Ms. Tomlinson made adjusting journal entries reversing the salary entries made during the year, and recording the amounts paid to Mr. Irmen against his shareholder loan account. A T4 for $600.00 was duly prepared and submitted with Mr. Irmen's tax return; it also showed the deductions during the year of tax of $2,960.75 and CPP of $746.85. There were two shareholder loan accounts set up by the bookkeeper, but Ms. Tomlinson made adjusting entries to roll all shareholder loans into one account.
[5] The issue is whether the amounts received by Mr. Irmen as set out in Schedule "A" are employment income, or, apart from $600.00, are drawings against his shareholder loan account.
[6] I understand the Appellant's argument to be twofold. First, that the payments made to Mr. Irmen throughout the year, though recorded as salary, were in fact, at the time taken, draws against his shareholder loan account; in effect, the bookkeeper who recorded the entries made a mistake. Second, if they were not draws at the time taken, but were salary payments, then the year end adjusting entries reversing the salary entries, effectively recharacterized the salary payments for tax purposes as draws against the shareholder loan account.
[7] The first argument is not supportable. At the time the payments were made to Mr. Irmen, he intended that the Company should remit source deductions so that there would be no surprise tax liabilities at the end of the year. His evidence was that, notwithstanding he believed his shareholder loan account was always significantly to his credit (that is the Company owed him money), he would not know until year end how much or little should be paid to him as salary. Yet, to remit source deductions, the bookkeeper had to run the payments through payroll using the "Simply Accounting" system, effectively paying him salary.
[8] Did the bookkeeper make a mistake? I am not convinced she did. Ms. Tomlinson testified that she advised the Company and the bookkeeper that if payments to Mr. Irmen were draws, they should be reported as such. Yet, the practice was not altered. The accounting methodology the Company continued to use, to ensure Mr. Irmen's objective of avoiding a year end personal tax liability, was to run the payments through payroll. I do not accept that such a continuing practice was a mistake as much as it was simply the most convenient way for the Company to proceed, without having to resort to making entries outside the Simply Accounting system. The Company and Mr. Irmen did have alternatives. The payments could have been recorded as draws, with the gross amount going to Mr. Irmen, who could have set aside $200.00 per month to guard against a potential personal liability. The Company's accountant, Mr. Rossworn, also suggested the Company could have reported the payments as draws, but could have voluntarily remitted instalments of tax on Mr. Irmen's behalf. Mr. Irmen personally could have made instalment payments. Mr. Irmen and the Company made a conscious decision not to follow the accountant's advice, but to carry on in the manner of paying salary, and then using year end adjusting entries to attempt to reverse the situation. In these circumstances, salary was not recorded by mistake. The mistake was the belief that salary could be reversed; that mistake, however, does not alter the fact that it was salary that was paid. Had the Company fared well, there would have been no attempt to recharacterize the salary by reversing the entries. Salary would have remained salary. I do find disturbing Mr. Rossworn's suggestion that this is a common practice amongst small businesses. It is certainly not a practice I would condone. Mr. Rossworn expressed a sense of unfairness that Canada Revenue Agency could accept an increase in salary at year end, yet would not permit a decrease. I see no such inherent unfairness: in one case a decision has been legitimately deferred; in the other, a decision has been made with a subsequent attempt to reverse it.
[9] The second argument is that reversing salary by way of year end adjustment is a perfectly acceptable accounting approach of small businesses. Indeed, as Mr. Rossworn argued, this is what accountants do for their clients, to set things right at year end. That may well be if the accountant is correcting errors. But in this case, I have concluded that there was no error - the actual salary was paid and at year end the Company wants to reverse that fact based on year end results. It is too late to do so. This is not rectifying a mistake - it is engaging in retroactive tax planning. Justice Rip reached a similar conclusion in the Adam v. M.N.R.[1] case:
It was admitted that during the year, Mr. Adam received salary. Adamin treated the payments as compensation for regular work performed by Mr. Adam. When a taxpayer receives salary from his employer he is taxable in the year of receipt on the amount of salary since this constitutes income from employment (section 5 of the Act). The salary, once received, cannot for tax purposes become anything else. Mr. Adam cannot by any "ex post facto" act alter the destination of the monies, or the purpose for which they were paid to him and received by him. ... An adjustment to the books of account of the taxpayer cannot render null that which has transpired. Past events cannot be ignored. That is not to say a taxpayer cannot make entries in his books of account to reflect adjustments to his accounts as and when they take place. For example, incorporations the size of Adamin, it is not unusual for a shareholder employee to draw money as loans from the corporation throughout the year and at the end of the year, the shareholder employee and the corporation decide as to the mix of dividends and salary the shareholder employee is to receive; the loan account would then be adjusted accordingly.
However, no taxpayer has the right to retroactively alter events when it best suits its purposes, although there is no question he may prospectively plan events for these purposes: this is sometimes called tax planning. While I may sympathize with Mr. Rabinovitch's desire to minimize his client's taxes and the uncertainty in tax law during 1982, I am of the view that the retroactive adjustments to accounts is not a valid tax planning scheme, I must therefore dismiss his appeal.
[10] Put simply, salary cannot be converted into something else after the fact.
[11] In summary, Mr. Irmen decided to account for payments received from his Company in a certain way, notwithstanding advice to the contrary. He no doubt regrets that decision, as it has resulted in a personal tax liability which could have been avoided with careful tax planning. This is unfortunate. I have found that the payments to Mr. Irmen were salary and no year end adjustments could change their nature. The appeal is dismissed.
Signed at Ottawa, Canada, this 29th day of August 2006.
"Campbell J. Miller"
Miller J.
SCHEDULE "A"
Greg Irmen - Tax Court of Canada Appeal #2005-4404(IT)I
Amounts paid to Greg Irmen in 2003
|
Date |
Cheque # |
Gross Pay |
CPP contributions |
Income tax deducted |
Net Pay
|
|
03-Apr-03 |
3752 |
$200.00 |
- |
- |
$200.00
|
|
19-Apr-03 |
3773 |
500.00 |
- |
- |
500.00
|
|
02-May-03 |
3784 |
1,295.20 |
57.45 |
227.75 |
1,010.00
|
|
16-May-03 |
3803 |
1,295.20 |
57.45 |
227.75 |
1,010.00
|
|
30-May-03 |
3833 |
1,295.20 |
57.45 |
227.75 |
1,010.00
|
|
13-Jun-03 |
3851 |
1,295.20 |
57.45 |
227.75 |
1,010.00
|
|
27-Jun-03 |
- |
1,295.20 |
57.45 |
227.75 |
1,010.00
|
|
11-Jul-03 |
3897 |
1,295.20 |
57.45 |
227.75 |
1,010.00
|
|
08-Aug-03 |
3934 |
1,295.20 |
57.45 |
227.75 |
1,010.00
|
|
03-Oct-03 |
3986 |
1,295.20 |
57.45 |
227.75 |
1,010.00
|
|
17-Oct-03 |
4002 |
1,295.20 |
57.45 |
227.75 |
1,010.00
|
|
03-Nov-03 |
4015 |
1,295.20 |
57.45 |
227.75 |
1,010.00
|
|
18-Nov-03 |
4034 |
1,295.20 |
57.45 |
227.75 |
1,010.00
|
|
16-Dec-03 |
4061 |
1,295.20 |
57.45 |
227.75 |
1,010.00
|
|
29-Dec-03 |
4069 |
1,295.20 |
57.45 |
227.75 |
1,010.00 |
|
|
|
$17,537.60 |
$746.85 |
$2,960.75 |
|
COURT FILE NO.: 2005-4404(IT)I
STYLE OF CAUSE: GREG IRMEN AND
HER MAJESTY THE QUEEN
PLACE OF HEARING: Kelowna, British Columbia
DATE OF HEARING: August 10, 2006
REASONS FOR JUDGMENT BY: The Honourable Justice Campbell J. Miller
DATE OF JUDGMENT: August 29, 2006
APPEARANCES:
|
Agent for the Appellant: |
Murray G. Rossworn |
|
Counsel for the Respondent: |
Sara Fairbridge |
COUNSEL OF RECORD:
Firm: N/A
For the Respondent: John H. Sims, Q.C.
Deputy Attorney General of Canada
Ottawa, Canada