The following was co-authored with Darcy MacPherson and is published on TaxnetPro. The article discusses whether a taxpayer can claim a due diligence defence for the failure to file Form T1135 - Foreign Income Verification Statement. We argue no.
INTRODUCTION
Since 1997 subsection 233.3(3) of the Income Tax Act(“Act”)
mandates that Canadian resident taxpayers are required to file Form T1135 -
Foreign Income Verification Statement - with their income tax returns where
such taxpayers own specified foreign property with a cost amount of 100,000 or
more. Form T1135 is not required where
the foreign property is personal property such as vacation property used by the
taxpayer or personal property such as work of art,
jewelry, rare books, stamps and coins. Failure to file Form T1135 will subject
the taxpayer to a penalty of $25 a day up to a maximum of 100 days pursuant to
subsection 162(7) of the Act. There is no indication on the language of the
statute that there is a defence of due diligence available when a taxpayer is
late in filing this form. Yet, in a
recent case, Tax Court Judge Woods has clearly decided that the judiciary has
the final say on the application of penalties.
In the view of the authors, there are
problems with such an interpretation, on at least four levels. First, as a matter as interpretation of taxing
statutes, it is said that the taxpayer is always free to order his or her
affairs so as to avoid liability to tax.
Thus, where a taxpayer does not
do so, it lies ill in the mouth of the taxpayer to cry foul after litigation
has commenced. Second, as a matter of stare decisis, the case does not address
other cases that have confronted the issue.
Third, as a factual matter, it is difficult to say how due diligence can
be made on the facts of the particular case, or more generally. Fourth, there are legitimate reasons that explain
why a strict interpretation – meaning that the due diligence defence is
unavailable in the case of a deliberate non-filing of the form – is preferable, from a policy perspective.
I THE FACTS
In Douglas v. The Queen, 2012 TCC 73, a penalty was assessed against
the taxpayer for the failure to file a form T1135 with respect to the 2008 tax
year. It is agreed that the tax return
(and thus the form) was due on June 15, 2009, and was not filed until March 2010
(para. 5). This is over 100 days late. Therefore, the maximum penalty of $2,500 was
imposed. The taxpayer appealed, and represented
himself. Under the informal appeal procedure, he claimed to have been duly
diligent, and that therefore, the imposition of the penalty should be
overturned. The court agreed with the
taxpayer. The most directly relevant
portion of the judgment (although we will refer to other portions further
below) is as follows:
[14] Although the penalty
in subsection 162(7) is strict and Parliament has not provided for a due
diligence defence, this Court has held that even strict penalties should not be
applied if a taxpayer has taken all reasonable measures to comply with the
legislation: Home Depot of Canada Inc. v. The Queen, 2009 TCC 281.
In other words, the Court found that
the actions of the taxpayer meant that it was appropriate to “read in” a due
diligence defence where Parliament has not provided an explicit one. Furthermore, the due diligence was not merely
a theoretical possibility. Mr. Douglas
was entitled to use it on these facts. As Her Honour puts it (at para. 17)
[17] It has been my view
that the judge-made due diligence defence should be applied sparingly. However,
this is an appropriate case in which it should be applied.
While Tax Court Judge Woods claims that
the defence should be “applied sparingly”, there is little to distinguish the facts
of this case from that of those of many others.
For example, the Court says that it is “common knowledge in Canada” that
a tax return can be filed late without negative consequences to the taxpayer if
no tax is payable, by virtue of subsection 162(1) of the Act (para. 11). The T1135 form says that the form is be filed
with one’s tax return (para. 12). To
expect professional advice to be sought in these circumstances would not have
been reasonable (para. 16). The logic of
Her Honour seems to be that the imposition of the penalty is inequitable, and
that this inequity should not be visited upon the taxpayer.
II ANALYSIS
A.
Interpretation
Since 1935, it has been a basic
principle of English and Canadian tax law that a taxpayer may organize his or
her affairs in a way that seeks to avoid the application of tax. See I.R.C.
v. Duke of Westminster, [1936] A.C. 1.
From the point of view of the authors, the necessary corollary to this
principle is that, if a taxpayer organizes his or her affairs in such a way
that he or she is obligated by the rules to greater tax, or to make payments or
other remittances to the government at a particular time, the taxpayer should
be in no position to complain that had he or she organized his or her affairs
in a different way, he or she would not have ben liable to these obligations.
This principle has been
recognized by the drafters of the GAAR provision of the Act. According to the Explanatory Notes to the
GAAR provision subsection 245(3), Parliament recognized the Duke of Westminster
principle that tax planning with the objective of attracting the least possible
tax is a legitimate and accepted part of Canadian tax law.
On the facts
of Douglas, this would seem to suggest that since the taxpayer “made his bed”
by not filing on time, he should not be allowed to avoid “lying in it”, that
is, by paying the penalty.
B.
Stare Decisis
1.
General
Under the informal procedure, used in
the Douglas case, the decision of the
Tax Court Judge has no precedential value. Therefore, it is clear that the Douglas case is not precedent-setting
for future cases. However, this is not
the end of the issue of stare decisis. Just because the Douglas case has no precedential value in future case cannot be
read to allow the judge in Douglas to
ignore prior cases.
It is virtually beyond debate that stare decisis has two components. The first is horizontal stare decisis; the second is vertical stare decisis. In terms of
vertical stare decisis, this is the
basic rule that a lower court is bound to follow the decisions of any court
that is directly above it in the judicial hierarchy. However, as far as the authors can tell,
there are no higher court decisions that specifically contradict the holding in
Douglas. Therefore, vertical stare decisis is not really at play here.
Horizontal stare decisis, on the other hand, is a critical component of this
discussion. This element essentially
holds that the Court as an institution should be relatively consistent in its
application of the law. In other words,
one member of a court should not lightly depart from a precedent established by
another member of the same court. The
authors have already written on this topic, in discussing the case of The Queen v. John H. Craig, a case with
respect to which an appeal was heard by the Supreme Court of Canada on March
23, 2012. There is no need to repeat
ourselves. Below, we discuss both some recent case law
dealing with the application of subsection 162(7) of the Income Tax Act, and the case of Home
Depot Canada, on which Tax Court Judge Woods relies in reaching her
decision. In the view of the authors, the
doctrine of stare decisis does not
necessarily mean that there can be no change in the law. However, in the Douglas decision, Her Honour paid insufficient attention to stare decisis in focussing her attention
on the Home Depot case.
2.
The
Case Law
a.
The
Case Law on Point
i.
Asper
Tax Court Judge Woods was not without
guidance on the proper interpretation of subsection 162(7) of the Income Tax Act. In Leonard Asper Holdings Inc. v. Canada (Attorney General)
, a group of companies had not filed the
required form, based on the belief that since the income from foreign property
had been earned through Canadian money managers was to be reported to the
taxing authorities by the money manager.
Therefore, the reasoning of the taxpayer was that Form T1135 did not
need to be filed. The Canada Revenue
Agency disagreed, and assessed the penalty.
The case proceeded as a judicial review of the decision of an Agency
official’s refusal of taxpayer relief, under an administrative program then in
place at the Agency. Just like in Douglas, the applicant taxpayer claimed
confusion. As the Court explains (at
paras. 24-25):
The Applicant also submitted that the decision not to file the T1135
forms was the result of confusion. It cited guidelines on penalties associated
with failure to file T1135 forms:
"No penalty will be assessed where it appears there was confusion
concerning obligations and it is the first time a penalty is considered."
The Applicant submitted that if there was confusion with respect to the
rules, then the CRA should have been more lenient about penalties. At the very
minimum, the CRA should have accepted that the Applicant's representative was
interpreting the rules in good faith, relying on accurate and timely reports
being made to the CRA by money managers. It wrote: "The conclusion was
wrong, but that does not detract from the reasonableness of the belief that the
forms did not have to be filed."
Justice Mandamin responds to this
argument as follows (at para. 40):
In my view, the Minister's delegate's reasons responded to the
facts before him. He characterized the decision as a conscious decision by the
Applicant's representative or the Applicant, one that was lacking due diligence
rather than confusion. I find the reasoning draws a conclusion that was within
the range of possible outcomes defensible on the facts. Moreover, since section
220(3.1) of the does not obligate the Minister to provide relief, the decision
was clearly defensible in respect of the law as well as the facts.
Therefore, even though there was a
specific program in place at the time to provide relief in appropriate
circumstances, the Court indicated that the “confusion” on the part of the
taxpayer was not attributable to a lack of clarity by the taxing
authorities. Rather, it was due to a
lack of diligence by the taxpayer in fulfilling its obligations.
It must be acknowledged that in Asper, the Court was engaged in a
substantive review of the decision of an official (the “Minister’s delegate”) in
an administrative-law context. Also, the
Court was reviewing the decision on a standard of reasonableness. However, if the law demanded a due diligence
defence on these facts, and the Minister’s delegate failed to even consider
this issue, the authors would argue that the decision of the Minister’s
delegate would have been unreasonable.
Given the result of the case, therefore, the sole conclusion to be drawn
is that the due diligence defence is not available on these facts. Therefore, given the similarity between the
facts of this case and those presented in Douglas,
if the due diligence defence was not available in Asper, there is little to distinguish Douglas and thus the same result should follow in the subsequent
case.
ii.
Leclerc
The facts of Leclerc v. Canada, 2010 TCC 99 are even more similar to the Douglas case. In Leclerc,
the taxpayer has an expensive condominium in France, and did not report this in
two non-consecutive years (2003 and 2006).
More accurately, because the taxpayer did not file his tax returns on
time, the Forms T1135 for those years were also filed late. From his other tax returns, the government
knew that the taxpayer had this property (para. 12). Though other factors were alleged to have
contributed to his late filing, notably his studies and mental illness of his
mother (see para. 9), Tax Court Judge Favreau upheld the imposition of the
penalty. This is also despite the fact
that the administrative program that would have provided relief to the taxpayer
had been withdrawn earlier by the taxing authorities, without notice to the
taxpayer, even though the Agency knew that the change would affect him (para.
11). As in Douglas, the total penalty was significantly higher than the total
tax payable by the taxpayer for the years in issue (para. 13). Nonetheless, the penalty was found to be
appropriate.
In the end, therefore, the courts that had
considered this issue prior to the Douglas
decision found that the due diligence defence (even if there were one) had no
application on facts similar to those before Tax Court Judge Woods.
b.
The
Home Depot Case
Interestingly, Tax Court Judge Woods does
not even refers to either Asper or Leclerc.
Instead, Her Honour chooses to rely
on the case of Home Depot of
Canada Inc. v. Canada, a decision of Tax Court Judge Miller.
In this case, Deloitte Tax LLP was a company hired by the taxpayer to
make its tax returns and other tax remittances, including the remittance of
Goods and Services Tax collected pursuant to the Excise Tax Act, RSC 1985 c E15.
The remittance was sent to the wrong address by Deloitte. The taxing authorities sought to impose a
penalty for the lateness of the remittance.
Tax Court Judge Miller writes as
follows, with respect to the due diligence defence (at para. 12)
Can Home Depot avail itself of the due diligence defence? The Respondent
argues that the jurisprudence relating to the development of the due diligence
defence in tax matters supports a narrow, restrictive use of the term. The
Respondent relies in large measure on comments of the Federal Court of Appeal
in the 1998 decision of Canada (Attorney General) v. Consolidated Canadian
Contractors Inc., to the effect that the defence is available in situations
of uncertainty as to the correct amount to be paid on a timely basis. This
approach appears to have been captured in the Government's Policy Statement
P-237 dated July 28, 2008, which states:
Making a determination of due diligence
...
The CRA may accept a due diligence defence in a situation where a person
remits or pays an amount that is less than the amount actually owed where that
amount was arrived at after having made an incorrect assumption based on
genuine uncertainty regarding the application of the ETA. In addition, in a
situation where a person is a recipient who fails to report and remit the tax
on a self-assessment situation and this failure can be attributed to an
incorrect assumption based on genuine uncertainty over the application of the
ETA, a due diligence defence may be accepted by the CRA. Also, the CRA may
accept a due diligence defence where a person believed on reasonable grounds in
a non-existent fact situation, which if it had existed, would have made the
person's actions or omission innocent; that is, the person relied on a
reasonable but erroneous belief in a fact situation. In any case, for a person
to be duly diligent it must be clearly evident that despite making an incorrect
assumption, or having an erroneous belief in a fact situation, all reasonable
care has been taken to the best of the person's ability in ensuring that the
correct amount was remitted or paid, and the return filed, when required.
Limitations on the application of due diligence
...
Late payment or remittance
The CRA would not generally accept a due diligence defence where the
correct amount was paid or remitted after the due date. In particular, where
the CRA determines that a person has complied with the obligation to collect
the correct amount as required but has failed to remit this amount when
required, the person's due diligence defence would not be accepted. It is the
CRA's position that a person who has failed to take reasonable care to ensure
that the correct amount was paid or remitted by its due date, has not exercised
due diligence.
In Home
Depot, the taxing authorities themselves had produced guidelines indicating
that when a late remittance occurred notwithstanding the due diligence of the
taxpayer, the penalty for such a late remittance would not be imposed. These same guidelines continue on to explain
what would be considered “due diligence” for the purposes of these guidelines,
as well as what would generally not qualify.
With all due respect to Her Honour, this is in sharp distinction to the
facts of Douglas. There was no specific guidelines for a
finding of due diligence mentioned in any of the cases involving the
application of subsection 162(7).
Furthermore, in Home Depot,
there was a genuine attempt on the part of
the taxpayer at issue to comply with the requirements of the relevant
statute on time. In Douglas, the belief was not that he was making a genuine attempt to
comply, but rather, the error was that the taxpayer believed that
non-compliance would attract no negative consequences. The authors discuss this issue in greater
detail in the section immediately below.
For current purposes, however, it is sufficient to note the following. Home Depot arose under a different
statute, with non-statutory guidance provided by governmental authorities (that
the due diligence defence was potentially available, and the circumstances
under which the defence was likely to be successfully invoked), and with a very
different factual scenario (in that there was a genuine attempt by the taxpayer
to comply with the statutory requirements).
These differences make it difficult for the authors to see why the Home Depot case is more persuasive than is either Asper or Leclerc.
C.
Factual
Concerns
Even if it were otherwise appropriate
for there to be a due diligence defence available, in the view of the authors,
it would be difficult to make out such defence on the facts of a case such as Douglas.
Nonetheless, the Court held as follows:
[15] In this case, Mr.
Douglas was not cavalier about his income tax obligations. As far as the
evidence reveals, he was diligent in his compliance efforts and he acted
reasonably, and competently. It was not suggested by the respondent that there
was information readily available to Mr. Douglas that would have alerted him to
this problem.
However, with all due respect to Her
Honour, the authors have great difficulty with this holding. With respect to the last sentence, the Act
itself draws the distinction. The
distinction was not “buried” in a regulation that could not be found without special
skills, nor located in an administrative bulletin not easily accessed without
professional assistance. The matter is
evident on the face of the Act itself.
While it is true that the Form itself
says that it is to be filed “with your tax return”, the Form is very short (two
pages). Therefore, to fully explain the
expectations of the taxing authorities in a variety of circumstances, including
the particular scenario of a tax return where no tax would be payable could add
significantly to the size and complexity of the form. Forms should not be more complex than
necessary.
The essence of the claim of the taxpayer
is not that the taxpayer attempted to comply with his obligations under Income Tax Act. On the contrary, in past years, the taxpayer
had not submitted his tax documentation until well after the applicable deadline. This implies that the taxpayer knew what the
deadline was, and thus knew what his obligations were. In the view of the authors, the taxpayer’s
real complaint was that he was ill-informed as to the consequence of shirking his obligations. In past years, there had been no real
negative consequence to the late filing.
The taxpayer assumed that this treatment of his late filing would
continue. It did not. Rather, the
administrative indulgence previously granted in situations such as that
involving Mr. Douglas was changed. This
in and of itself is not sufficient to ground a remedy. Although taken from a different context
(notably the law of promissory estoppel in the law of contracts), the case of John Burrows Ltd. v. Subsurface Surveys Ltd.,
per Justice Ritchie, for the Court,
is instructive. The granting of an
indulgence, even on multiple occasions, does not, in and of itself, change the
legal relationship between the parties.
Interestingly, in LeClerc, supra, Tax Court
Judge Favreau dealt with the same argument, in the following terms (at para.
18)
[18] The appellant made an honest mistake
because he did not know the consequences of failing to file form T1135 by the
due date. The penalty under subsection 162(7)
of the Act was imposed correctly, and the due diligence defence is
not applicable in this case.
In the view of the authors, not doing
what the taxpayer knows he, she or it is expected to do is not a sign of due
diligence. This is not altered by the
fact that the taxpayer believes (even on reasonable grounds of analogy) that
there will no consequences to the taxpayer.
Due diligence is concerned with the actions of the taxpayer. In this case, Douglas took none. The law determines the consequences of that
inaction. In this case, Douglas made an
assumption that his lack of diligence in
filing his tax returns would have no negative consequences for him. He was wrong.
In the view of the authors, the taxpayer’s mistaken assumption is
neither diligence, nor a substitute for it.
As mentioned above, a bona fide
attempt to comply on time is
D.
Policy
Considerations
1.
Parliamentary
Supremacy
There can be little doubt that there can
be significant disagreement about the appropriateness of the application of
this penalty to a situation where there is no income from the foreign property,
and that, therefore, the tax return to which Form T1135 is supposed to be
appended is not required to be filed in a timely way, or perhaps more
accurately, there is no negative consequence for the taxpayer with respect to
the late filing of the tax return.
Therefore, the penalty for the late filing of a Form T1135 seems
incongruous. The same is true of the
fact that the government is charging a penalty where no unpaid tax is
necessarily at issue, that is, there is not a direct financial loss to the
public purse. In Leclerc, Tax Court Judge Favreau wrote as follows:
[20] It is not so much being subject to the
penalty under subsection 162(7) of the Act that poses the problem as the lack
of statutory provisions setting out a defence that does not require you to use
a program that was not designed to deal with a simple late filing of a form. That is obviously a matter for Parliament.
The same observation could be made with respect to the quantum of the penalty;
Parliament could consider providing relief to take into account cases similar
to the appellant's where the penalty is disproportionate to the tax otherwise
payable.
In the view of the authors, everyone
(the Asper companies, Mr. Leclerc, Mr. Douglas, the judges involved and the
taxing authorities) seems to accept that the penalty provided for under subsection
162(7) of the Act is meant to be strict.
As Tax Court Judge Favreau points out in Leclerc, there are no problems of interpretation in the section (para.
n). In the view of the authors, this is
accurate. Each of the taxpayers involved
sought relief from the consequences of the late filing. It is one thing for judges to point out to
the legislature the potentially undesirable effects that a particular provision
are having. In the view of the authors,
it is quite another for the court to appropriate to itself the ability to
countermand the directive of the legislature.
There is undoubtedly a degree of statutory construction in this
exercise. But, the Court acknowledges
(i) the strict nature of the penalty and (ii) that Parliament could have
provided for a due diligence defence and did not do so. Therefore, this is not construction of the
statute; this is judicial alteration of its express, and therefore, ignorance
of the will of the legislature. In the
view of the authors, this cannot be countenanced.
2.
Parliamentary
Purpose
In the view of the authors, at least one
of the reasons that these issues have developed is the distinction between a
tax return where no tax is owed, on the one hand, and a Form T1135, on the
other. In the former situation, the Act
is explicit that the penalty by virtue of the tax owing on the filing date
(subsection 162(1)). But this is only
with respect to a “return of income” for a taxation year. Subsection 162(7) applies to an “information
return”. The two are therefore intended
to be treated differently. This, of
course, leads to the question as to why this is so. In the view of the authors, subsection
162(2.1) helps illuminate this issue.
The text of the subsection reads as follows:
(2.1) Notwithstanding subsections (1) and (2),
if a non-resident corporation is liable to a penalty under subsection (1) or
(2) for failure to file a return of income for a taxation year, the amount of
the penalty is the greater of
(a) the
amount computed under subsection (1) or (2), as the case may be, and
(b) an
amount equal to the greater of
(i) $100, and
(ii) $25 times the number of days, not exceeding 100,
from the day on which the return was required to be filed to the day on which
the return is filed.
Clearly, then, for a non-resident
corporation, the penalty for the failure to file on time is determined by both (i)
the amount of tax due and payable; and (ii) the lateness of the performance of
the filing obligation. Why would this be
so? The Income Tax Act clearly treats non-residents differently than it
does residents of this country, both in terms of their substantive obligations
to tax (in terms of for example the availability of deductions), and their
reporting obligations.
When it comes to the latter, in the view
of the authors, this is quite logical.
With respect to residents and their property within Canada, information
may be obtained from a variety of sources.
Municipal tax records and provincial records with respect to land
transfers (and other major purchases, such as motor
vehicles)
come to mind in this regard. Similar
records for foreign jurisdictions are not as easily accessible by Canadian
authorities, if they exist at all.
Therefore, there must be a significant incentive for the major source of
information with respect to the foreign assets to make full disclosure. The major source is the taxpayer him- or
herself.
Given that in all three of the cases
referred under subsection 162(7) were situations where no tax revenue was lost,
are there other practical reasons why the penalty would need to be a
possibility? The concept of “out of
sight, out of mind” is one potential reason.
By definition, the subsection is concerned with residents. Residents spend more than half their time in
Canada. Yet, the property at issue is
both high in value and elsewhere. Many
people have a tendency not to focus attention on material that they do not use
on a regular basis. It is unsurprising
that the government decided to make reporting an annual requirement, regardless
of the income produced by the property at issue. By regular reporting, “out of sight, out of
mind” is less likely to occur. To make
reporting truly regular in this sense, the need to report has to be independent
of the income earned by the taxpayer, either from the foreign property or
otherwise.
3.
Duly
Diligent in a Non-Filing?
As mentioned above, it is very difficult
for the authors to accept the idea that a lack of action on the part of the
taxpayer is a show of due diligence. As
a general rule, diligence requires active participation in the activity
concerned. In Soper v. Canada, [1998] 1 F.C. 124 (C.A.), Justice Robertson considered the use of
the due diligence defence found subsection 227.1(3) of the Income Tax Act. The section
deals with the liability of corporate directors for the making of remittances
of source deductions from the wages of employees. In the case, a company, RBI, did not make its
source deduction remittances. Soper was
an experienced businessman. He claimed
that there was a “conspiracy of silence” to avoid his learning of the fact that
remittances were not being made (para. 58).
The Court held that Soper was aware of financial difficulties for
RBI. Therefore, this knowledge meant as
a director, Soper was under an obligation to ask about whether remittances were
being made. In other words, diligence
required that the director not make an assumption in the face of cause for
concern, but to take an active role in ensuring that the obligation is
met.
It is true that parts of the decision in Soper were questioned in the case of Peoples Department Stores Inc. v. Wise, [2004] 3 SCR 461. Nonetheless, the principles referred to were
not questioned. In fact, the main point
of contention in the Supreme Court of Canada was whether there was a subjective
component in the due diligence defence.
The Federal Court of Appeal was of the view that there was a degree of
subjectivity; the Supreme Court of Canada that the standard entirely objective
under the duty of care for corporate directors (which used the same wording as
the due diligence defence under subsection 227.1(3)). If anything, the lack of a subjective element
makes the due diligence harder to use than provided for in the Federal Court of
Appeal’s decision in Soper.
In the view of the authors, even to the extent
that a due diligence defence should be read into subsection 162(7), the judicially
created due diligence defence should be no less rigorous than its statutory
counterpart within the same statutory framework. In other words, Mr. Soper could not rely on
the due diligence defence because he was not active enough in light of what his
knowledge. In the same way, Mr. Douglas
knew that he had significant foreign property.
In light of this knowledge, doing nothing with respect to reporting the
significant foreign property to the government is not duly diligent on the part
of Mr. Douglas.
CONCLUSION
In the end, the authors believe that it
is problematic to imply a due diligence defence where the Court acknowledges
that the intention of Parliament was to the contrary. Such an approach is in the view of the contrary
to the prior case law that considers the imposition of penalties under
subsection 162(7). Complete inaction by
the taxpayer will rarely be duly diligent.
This view is also consistent the approach take to the statutory due
diligence defence within the Income Tax
Act. Finally, the need for
information from the taxpayer makes the imposition of the penalty a meaningful
incentive for the taxpayer to be forthcoming about his or her significant
foreign property. This serves a
legitimate practical purpose, and the decision of Tax Judge Woods in Douglas undermines this purpose to an
extent. Therefore, in the view of the
authors, the decision in Douglas is
highly questionable.
The cost amount
is defined in subsection 248(1) as the cost based. It is not the fair market value of the asset.
For new immigrants to Canada, the cost
amount is equal to the fair market value of the property at time of entry into
Canada.
See Para. 48 of
McClarty Family Trust, 2012 TCC
80
Section 18.28 of the
Tax Court of Canada
Act R.S.C., 1985, c. T-2
