Director's liability and the Income Tax Act statutory limitation
Tax lawyer and accountant David Rotfleisch looks at Soulliere v The Queen
In order for the deemed director's rule to be triggered, a resignation must be a legally valid one to begin with, explains David J. Rotfleisch, CA, CPA, JD, of Rotfleisch & Samulovitch P.C.
Introduction: Director's Liability and Soulliere
As a principle of corporate law, the debt and liability of the corporation are separate from the debt and liability of the directors of the corporation. Generally, a corporation's debtors cannot pursue the director of the corporation for the debts of the corporation. This includes tax debt. However, different statutory regimes specify the exceptional scenarios where the corporation's debtors, including the Canada Revenue Agency, can pursue the corporation's directors personally for certain of the corporation's debt if the corporation cannot pay its creditors.
Under certain situations, the CRA can impose tax liability on a corporation's directors for the unpaid taxes of the corporation. Two of the most common situations, where CRA can impose the director's liability, are unremitted GST/HST and unremitted payroll tax. The CRA zealously pursues director's liability against Canadian taxpayers when collection action against corporations were unsuccessful.
The recent Tax Court of Canada decision Soulliere v the Queen addressed the issue of director's tax liability under the Income Tax Act and Excise Tax Act. This case was decided over whether the taxpayer had, in fact, ceased to become a director at the relevant time. Before we review the facts of the case, here is an overview of the requirements surrounding CRA's ability to pursue the director's liability under the Income Tax Act.
CRA's Ability to Assess Director's Liability
As mentioned above, the CRA must be authorized by specific tax law provisions in order to pursue director's liability against a taxpayer for the tax debts of a corporation. For example, section 227.1 of the Income Tac Act sets out the requirements for CRA to pursue director's liability for unremitted payroll taxes of the corporation.
Outside of a bankruptcy situation, the CRA must first file a certificate related to the corporation's tax liability with the Federal Court. The CRA must then attempt to execute the certificate against the corporation, and the execution must be returned unsatisfied.
Then, CRA must assess the taxpayer for director liability within two years. The two-year period begins when the taxpayer ceases to be a director of the corporation.
Lastly, the CRA has the onus of proving the director has been negligent in ensuring the corporation's compliance with the Income Tax Act.
The requirements for the CRA to impose the director's liability under the Excise Tax Act for unremitted HST/GST are similar. Section 323 of the Excise Tax Act sets out these requirements.
Soulliere: Summary of Central Dispute
The dispute and the relevant facts in Soulliere are fairly straightforward. The taxpayer's position is that he had resigned as a director of the corporation, Metro 2010, by handing in a resignation letter on December 10, 2010. The CRA's position was that the December 10, 2020 resignation was not legally effective, and the taxpayer only ceased to be a director of the corporation when the corporation was dissolved on September 30, 2012.
Given the CRA issued the director's liability assessment on July 25, 2014, the taxpayer's position means that the CRA had raised its director's liability assessment outside the two-year limitation period. The CRA's position means the CRA did not miss the two-year limitation period. The other aspects related to the taxpayer's director's liability were not in dispute at this stage of litigation.
Ontario Business Corporations Act and Director's Resignation
The relevant statute for deciding whether the taxpayer had legally ceased to be a director in 2010 is the Ontario Business Corporations Act (OBCA). Under the OBCA, before the first shareholders' meeting is held, no director may resign unless a replacement director is appointed and elected. After the first meeting, any director can simply resign or be removed from the director's office by a shareholder resolution.
Furthermore, when all directors have ceased to be directors through either removal or resignation, the person who in fact manages the affairs of the corporation will be considered a deemed director for the purpose of the OBCA
Soulliere: The Taxpayer's Position
The parties, in this case, did not dispute the fact that the first shareholders meeting for Metro 2010 had never been held. As well, it is not disputed that the taxpayer was the sole director of the corporation. Under the OBCA, it would seem that the taxpayer resigned before the first shareholders meeting without appointing a replacement director. Therefore, such a resignation would not be a legally effective resignation at all.
The taxpayer argued that his resignation was legally effective because a replacement director had been appointed through the operation of the deemed director rule under OBCA. Since the taxpayer was the sole director of Metro 2010, his resignation left the corporation with no director. As a result, the person who was, in fact, managing the affairs of the corporation from December 2010 until the dissolution of the corporation would be a deemed director of the corporation. This person happened to be the taxpayer's father.
Soulliere: Tax Court Ruling
The judge rejected the taxpayer's argument for the following reasons: In order for the deemed director's rule from the OBCA to be triggered, the resignation must be a legally valid one to begin with. Since the taxpayer did not properly resign as a director according to OBCA's rule for director resignation, the deemed director rule was never triggered. The taxpayer's father was not a deemed director of Metro 2010, and the taxpayer remained as a director until the corporation was dissolved in 2012.
As Soulliere v the Queen shows, it is important to follow all the legal procedures when resigning as a director of a corporation. In order to minimize one's risk for director's liability, it is crucial to comply with both the relevant corporate law requirements as well as the necessary requirements stemming from the corporation's by-laws as well as the requirements of the relevant tax act. Being a director of a corporation can open a Canadian taxpayer to a number of potential liabilities beyond the Income Tax and Excise Tax liabilities discussed here.
David J Rotfleisch, CPA, JD, is the founding tax lawyer of Rotfleisch & Samulovitch P.C., a Toronto-based boutique tax law firm. With over 30 years of experience as both a lawyer and chartered professional accountant, he has helped start-up businesses, resident and non-resident business owners and corporations with their tax planning, with will and estate planning, voluntary disclosures and tax dispute resolution including tax litigation. Visit www.Taxpage.com and email David at firstname.lastname@example.org.