From civil to criminal

A civil third-party penalty has been judged a criminal penalty, shifting the burden of proof to beyond a reasonable doubt and shaking up the Canada Revenue Agency (CRA).

A recent Tax Court of Canada (TCC) decision, Guindon v The Queen, concerns the application of third-party penalties under section 163.2 of the Income Tax Act. The TCC concluded that the penalties in s. 163.2 are not civil but tantamount to criminal penalties. Prosecution, therefore, requires the same burden of proof as criminal proceedings — proof beyond a reasonable doubt — thereby imposing a higher standard than the “balance of probabilities” standard applied to tax decisions.

As a result, when the CRA is applying s. 163.2, it cannot use the extensive investigative powers authorized by the Act; instead, throughout an investigation, it must adhere to the constitutionally protected rights of suspects.

Guindon concerns a charitable donation scheme whereby, explains the decision, “The participants in a donation program were to acquire timeshare units as beneficiaries of a trust for a fraction of their value and donate them to a charity in exchange for tax receipts for the actual value of the units.” Julie Guindon, an Ontario lawyer who practiced mainly family law and wills and estate law, became involved in the scheme at the suggestion of her cousin and financial advisor, Richard St-Denis. Guindon was also president of a registered charity in Ottawa, Les Guides Franco-Canadians District d’Ottawa.

The plan developed by St-Denis and his confederates was to establish a trust that would purchase vacation ownership weeks (VOWs) in a Turks and Caicos Islands time-share resort. A beneficiary of the trust would acquire a VOW in return for the payment of a vendor take-back charge of $3,248. He or she would then donate the VOW to the charity at a purported fair market value of $10,825, for which he or she would receive a charitable donation receipt.

Guindon was hired to provide a written legal opinion for the promotional package that would be sent to interested parties in November and December of 2001. Before the TCC, Guindon admitted her general ignorance of income tax law, but her professional title and the way in which she handled this scheme would lead a reasonable person to believe he or she was in knowledgeable hands.

Unfortunately, no trust was formed, no VOWs acquired and no VOWs donated in 2001. Still, on Dec.31, 2001, the charity issued 135 tax receipts for the 2001 tax year to participants in the program, including Guindon herself. The promoters of the scheme subsequently told the other participants that there were some issues with the donation program that needed to be amended before participants could submit their receipts. They were later told that they could submit them for the 2001 taxation year.

 The CRA denied the participants of the program their charitable tax credits and Guindon was penalized $546,747, or 50% of the charitable donation tax credits claimed, under section 163.2 of the Act. Guindon appealed to the TCC.

There are actually two separate penalty provisions in s. 163.2: the penalty for tax planners under subsection 163.2(2) and the penalty for tax preparers under subsection 163.2(4). The latter was the subject of Guindon’s assessment and it provides the CRA with the ability to levy a penalty on a person who “makes or participates in, assents to or acquiesces in the making of a statement to, or by or on behalf of another person … that the person knows or would reasonably be expected to know but for circumstances amounting to culpable conduct, is a false statement that could be used by or on behalf of the other person for a purpose of this Act.”

“Culpable conduct” is defined in subsection 163.2(1) as an act or failure to act that:

(a) is tantamount to intentional conduct,
(b) shows an indifference as to whether the Act is complied with, or
(c) shows a willful, reckless or wanton disregard of the law.
 

S. 163.2 was introduced in 1999 for statements made after June 29, 2000. The accompanying Department of Finance Technical Notes said that subsection 163.2(2) was intended to extend the notion of “gross negligence” but it thought that using that phrase could lead to unintended judicial interpretations that did not reflect the legislation’s true aim.

Although intended by the legislature to be a civil offence, and thus to be tried on a balance of probabilities, the TCC interpreted a 1987 Supreme Court of Canada precedent, Wigglesworth, as holding that, in Canada, matters are criminal when they are by their very nature a criminal proceeding or when the offence involves a “true penal consequence.” The court held that s. 163.2 fit the mold and, therefore, is a criminal provision.

Criminal laws attract constitutional protection under section 11 of the Charter of Rights and Freedoms. The TCC reasoned that it was the magnitude of the penalty under s. 163.2 — 50% of the amount of taxes that were payable but for the false statement or omission giving rise to the penalty, in this case more than $1 million — that placed it in the criminal realm. The fact that the penalty could be essentially limitless, the court felt was suggestive of a penalty intended to redress a social wrong and not a purely administrative matter.

The finding that s. 163.2 is, in fact, a criminal provision, inhibited the TCC from deciding the case, as it from then on lacked jurisdiction to do so. It did conclude that Guindon was guilty of the newly identified “crime” but it could not impose a punishment.

One crucial aspect of the judgment is the fact that the principles enunciated in the 2002 Supreme Court of Canada decision Jarvis will apply to section 163.2 by virtue of its new criminal classification. The CRA will be prohibited from using its powerful inspection tools in subsections 231.1(1) and 231.2(1), and instead be forced to apply for search warrants and endure other cumbersome procedures during its investigations.

Guindon makes it more difficult to prove what the CRA terms “abusive charity-gifting tax schemes.” Some tax planners might be pleased with the result, but the Canadian taxpaying public should not be. Although all accused of a criminal offence in Canada should have their constitutionally protected legal rights, the CRA should also have the ability to investigate adequately and prosecute rogue tax schemes, especially in the often-abused charities sector.

There are many implications of this judgment that may or may not be explored judicially; the parties have until tomorrow (Nov. 1) to appeal.

Greer Jacks is updating jurisprudence in EverGreen Explanatory, an online research library of assistance to tax and financial professionals in working with their clients.