Escaping Penalties After Admitting False Statements

When taxpayers reduce or eliminate their tax liability by using obviously baseless tax-protester arguments, the government generally chooses to assess on the basis of the gross negligence penalties of subsection 163(2), since proof of intent is required for tax evasion (but see R v. Klundert, 2004 CanLII 21268 (ONCA)). Normally, the most economical and advisable response is simply to pay the penalty; however, in a few situations a taxpayer’s appeal has been successful at the TCC.

The specific legal arguments made for the purported tax savings are not typically at issue in such appeals, since the parties have already agreed that the arguments have no merit. In Torres v. The Queen (2013 TCC 380), for example, some of the taxpayers said that they were led to believe that a social insurance number was a separate entity that could incur expenses that would be deductible to an individual even if the individual did not previously have any business activities. The claimed losses far exceeded the taxpayers’ income, resulting in significant tax refunds for the current year and for previous years after loss carrybacks were claimed.

Gross negligence penalties under subsection 163(2) may be imposed when a taxpayer knowingly, or in circumstances amounting to gross negligence, has made or has participated in, assented to, or acquiesced in the making of a false statement in a return. The penalties generally amount to 50 percent of the tax avoided. In these loss-claim cases, the penalties are imposed not only on the taxpayer’s T1 return, but also on the T1 adjustment request for a non-capital loss carryover deduction, regardless of whether a refund is ever issued to the taxpayer (Morton, 2014 TCC 72).

Many of the cases have involved Fiscal Arbitrators, a tax- preparation firm operating in Ontario. Certain individuals associated with the firm have been convicted of fraud in the preparation of income tax returns (see, for example, R v. Watts, 2015 ONSC 7375). There are a total of 27 TCC decisions referring to this firm. In addition, according to the current appeals docket on the TCC website, there are 381 related Fiscal Arbitrators appeals (for example, 2013-742(IT)G and 2013-1340(IT)I). At least 3 active appeals are at the FCA (Maynard, A-95-16, appealing 2016 TCC 21; Wynter, A-156-16, appealing 2016 TCC 103; and Grier, A-135-16, TCC decision unreported).

A clear majority of the Fiscal Arbitrators appeals have been dismissed by the TCC and, in most cases, the concept of wilful blindness was applied to uphold the subsection 163(2) gross negligence penalties. In finding wilful blindness, the TCC has considered the education and experience of the taxpayer and has reviewed a number of warning signs that strongly indicated a need for inquiry by the taxpayer before he or she filed the return, including the magnitude of the advantage claimed and the blatant false statement made in the return (Torres). The TCC has also rejected the argument that the government has a duty to warn taxpayers about these scams and that a failure to warn precluded the imposition of penalties (Torres).

Only eight of the Fiscal Arbitrators appeals have been successful at the TCC, and just four of those decisions have provided written reasons. In two cases (Anderson, 2016 TCC 93, and Morrison, 2016 TCC 99), the court found that the tax preparer had inserted pages into the return after the taxpayer had signed. In another case (Brathwaite, 2016 TCC 29), the return had not been put into evidence by the Crown. In yet another case (Sam, 2016 TCC 98), the taxpayer’s long-time tax preparer had died; the taxpayer had not based her choice of the new preparer on the promise of a refund but rather on a referral. The court found that her acts and omissions were attributable to human failure and carelessness, not to negligence.

Carolyn Hogan
Parlee McLaws LLP, Calgary
chogan@parlee.com

Canadian Tax Focus
Volume 6, Number 3, August 2016
©2016, Canadian Tax Foundation