SCC Update on Rectification – Canadian Tax Lawyer Analysis – Part III

Canada (Attorney General) v. Fairmont Hotels Inc. – SCC Update on Rectification – Canadian Tax Lawyer Analysis – Part III

I and II of this article provided background on rectification in a Canadian tax context and reviewed the facts and judicial history of Canada (Attorney General) v. Fairmont. Part III of this Toronto tax lawyer tax rectification article discusses the Supreme Court of Canada’s decision and its tax planning implications.

Supreme Court of Canada Decision – Canada (Attorney General) v. Fairmont Hotels Inc

The Supreme Court of Canada allowed the CRA appeal and found that Fairmont did not meet the requirements for rectification. Although Fairmont demonstrated a continuing intention to maintain foreign exchange tax neutrality, that intention alone is not sufficient to qualify for rectification. The Supreme Court emphasized that the role of rectification is to correct errors in the recording the terms of an agreement in a written instrument. The parties must have had an agreement in mind with definite and ascertainable terms which they failed to accurately record as a written instrument. In such situations, the Court will use rectification to alter the written instrument so it reflects the terms of the antecedent agreement.

The Supreme Court took the position that it is relevant that Fairmont never had a specific plan in mind as to how they were going to achieve foreign exchange tax neutrality for their subsidiaries. This meant that there wasn’t an agreement with definite and ascertainable terms that Fairmont failed to record. Fairmont’s desire to protect its subsidiaries and maintain tax neutrality by unspecified means was not sufficient to qualify for rectification. The Supreme Court stated that cases like Juliar v. Canada (Attorney General) which allowed taxpayers to qualify for rectification on the basis of their tax objectives for a transaction alone are inconsistent with the Supreme Court’s jurisprudence in Performance Industries Ltd. v. Sylvan Lake Golf & Tennis Club Ltd. and Shafron v. KRG Insurance Brokers (Western) Inc. which emphasize that rectification’s role is to restore the parties to an agreement to their original bargain, not repair an error in judgement. The Supreme Court also relied on the principle established in Shell Canada Ltd. v. Canada that taxpayers should expect to be taxed based on what they actually did, not what they could have done. If you would like a more in depth explanation of this tax rectification decision and how it impacts you, please contact one of our knowledgeable Toronto tax lawyers.

This decision is significant because the lower courts have frequently proved willing to grant rectification on the basis of an intention to achieve a certain tax result even in the absence of the parties having worked out the means of properly achieve that result at the time of the transaction. This decision will likely narrow the scope of tax problems that can be fixed through rectification. Taxpayers will need to be able persuade the Court that they had a specific plan in mind that would achieve their tax objectives for the transaction, and not merely that they had those specific tax objectives. This makes proper tax planning involving a detailed written tax planning memo which sets out the taxpayer’s objectives and the intended means for achieving them even more essential than prior to the decision. Without such a written tax plan it is unlikely that rectification will be granted. If you need help determining how changes to the law of tax rectification will impact your tax situation, please consider speaking with one of our expert Toronto tax lawyers.

Read previous part of this article SCC Update on Tax Rectification Part 2.

SCC Update on Rectification – Canadian Tax Lawyer Analysis – Part III

SCC Update on Tax Rectification – Toronto Tax Lawyer Analysis – Part II

Part I of this article provided background on the doctrine of rectification and how it is used in the Canadian tax context. This part II will review the facts of Canada (Attorney General) v. Fairmont Hotels Inc. and the decisions made by the lower courts.

Facts – Canada (Attorney General) v. Fairmont Hotels Inc.

In 2002, Fairmont Hotels and its subsidiaries assisted Legacy Hotels REIT in financing the purchase of two hotels in the United States through a reciprocal loan arrangement. Since the financing was to be done in US currency, Fairmont was concerned about tax liability that could arise from changes in the exchange rate. As a result, the transaction was structured to achieve foreign exchange tax neutrality. This was achieved by ensuring that any loss from foreign exchange fluctuations would be offset by a corresponding gain and vice versa. If you are concerned about the tax implications of foreign exchange fluctuations on your business, consider reaching out to one of our top Toronto tax lawyers.

In 2006, Fairmont Hotels was acquired by Kingdom Hotels International and Colony Capital LLC. This acquisition threatened to cause Fairmont Hotels and its subsidiaries involved in the reciprocal loan arrangement to realize a deemed foreign exchange loss without the corresponding gains. That would compromise the ability of the structure to provide foreign exchange tax neutrality. Fairmont responded to this by executing a plan that fixed the problem for Fairmont itself, but deferred solving the problem for its subsidiaries until a later date. If you are involved in the purchase or sale of a business and would like to know more about tax traps and planning opportunities, please contact one of our experienced Toronto tax lawyers.

In 2007, Legacy Hotels REIT decided to sell the hotels and requested on short notice that Fairmont unwind the reciprocal loan agreement. Fairmont proceeded to do this without realizing that since they never fixed the foreign exchange tax neutrality problem for the subsidiaries, they would face adverse tax consequences. The Canada Revenue Agency uncovered this fact as part of the tax audit of Fairmont’s 2007 tax returns. Fairmont then applied to the court to rectify the director’s resolutions they used to unwind the reciprocal loan agreement so as to maintain the foreign exchange tax neutrality the structure was originally designed to ensure.

Judicial History – Canada (Attorney General) v. Fairmont Hotels Inc

The Ontario Superior Court of Justice found in favour of Fairmont Hotels. The Superior Court found that Fairmont a continuing intention to maintain foreign exchange tax neutrality and that Fairmont did not have a specific plan as to how they would achieve that outcome. Relying on Juliar v. Canada (Attorney General), the Superior Court found that it was not necessary for Fairmont to have a specific plan in mind to qualify for rectification. The Superior Court took the position that Fairmont’s continuing intention to maintain foreign exchange tax neutrality meant that their rectification request was not an instance of retroactive tax planning and that denying Fairmont’s application would give the Canada Revenue Agency an unintended gain.

The Ontario Court of Appeal also found in favour of Fairmont Hotels. The Court of Appeal found that the critical component for rectification is the continuing intention to undertake a transaction on a specific tax basis. According to the Court of Appeal, rectification does not require the parties to know the precise mechanics or specific means by which they would achieve their intended tax result so long as the intention to achieve that tax result can be demonstrated. Please continue to part III of this Toronto tax lawyer tax rectification article which will discuss the Supreme Court of Canada’s decision and its implications for taxpayers.

Read previous part of this article SCC Update on Tax Rectification Part 1.

SCC Update on Tax Rectification – Toronto Tax Lawyer Analysis – Part II

Tax Rectification – Toronto Tax Lawyer Analysis – Part I

Tax rectification is a remedy that can be sought when a legal document fails to reflect the tax intent of the parties to that document. When granted the court will retroactively alter the text of the document to reflect the original intentions of the parties. Rectification has been used extensively for the purposes of fixing tax problems by having the court alter the documents which gave rise to the mistake. It should also be noted that although the parties to an agreement can agree to amend the agreement, that amendment is not effective retroactively against the CRA unless an order from the court granting rectification is obtained. If you have a tax problem, please contact one of our experienced Toronto tax lawyers to discuss if rectification may be available to provide you with tax help.

The key tax rectification case until Fairmont Hotels was Juliar v. Canada (Attorney General), where the taxpayer was involved in reorganizing a family business. The taxpayer was a party to a written agreement that exchanged shares for promissory notes. The parties had intended for the transaction to occur on a tax deferred basis, but it turned out that the value of the promissory notes exceeded that of the shares, which resulted in a deemed dividend. If the taxpayer had proceeded by way of a share for share exchange then the transaction would have been completed on a tax deferred basis. The taxpayer then successfully applied to the court to rectify the transaction by altering the written agreement so that it was a share for share exchange on the grounds that the original written agreement failed to reflect the parties’ intention for the transaction to proceed on a tax deferred basis. Our expert Toronto Tax Lawyers can help in properly implementing a tax reorganization.

Canada (Attorney Genera) v. Fairmont Hotels Inc., the Supreme Court of Canada’s latest decision on rectification, is a significant development because it narrows the scope of when taxpayers can ask the court for rectification. Court orders for rectification will no longer be available in situations similar to Juliar v. Canada (Attorney General). Despite this, there is still room for the doctrine of rectification to be relevant in the Canadian tax context. In light of this decision, taxpayers will need to adopt new strategies both to avoid the need for rectification orders and to be able to obtain one if necessary. If you would like to learn more about how to respond to the Supreme Court of Canada’s decision, please contact one of our experienced Toronto tax lawyers.

Part I of this article provided background on the doctrine of rectification and how it is used in the Canadian tax context. Part II will review the facts of Canada (Attorney General) v. Fairmont Hotels Inc. and the decisions made by the lower courts. Part III will discuss the Supreme Court of Canada’s decision and its consequences for taxpayers going forward.

Read the next part of this article by clicking on SCC Update on Tax Rectification.

Tax Rectification – Toronto Tax Lawyer Analysis – Part I

CRA Update to CRA Tax Collections Information Circular IC98-1R6

CRA updated its tax collections information for taxpayers, IC98-1R6, which is the sixth revision of this Information Circular. The changes reflect the new rules for interest relief as a result of implementation of the Court of Appeal decision in Bozzer v. Canada (2011 FCA 186). Although the policies have not changed, it is helpful to remember the rules relating to payments of amounts or security that has been granted in respect of a tax assessment that is disputed with a Notice of Objection or an appeal to the Tax Court of Canada. If CRA Appeals has not confirmed or varied an income tax assessment within 120 days a Canadian tax lawyer can apply for the return of all amounts paid, or the release of any security provided for the tax in dispute.

CRA Update to CRA Tax Collections Information Circular IC98-1R6

Tax-Free Savings Accounts– Relief from Assessed Taxes– Toronto Tax Lawyer

The rules relating to Tax-free savings accounts are relatively complex and a failure to abide by these tax rules can result in significant income taxes owing. CRA has also implemented special tax audit projects that specifically target TFSAs, especially those that have accumulated large balances, which further increases the likelihood that technical non-compliance with the TFSA provisions in the Income Tax Act will be detected and correspondingly penalized and/or taxed by CRA. Section 207.02 the Income Tax Act imposes a tax on over-contributions to a TFSA, and section 207.03 taxes contributions made by non-residents. These taxes are punitive in nature and if the contribution(s) which lead to their having been assessed go uncorrected for a lengthy period, the tax amounts owing can be significant. Subsection 207.06(1) of the Canadian Income Tax Act gives the Canada Revenue Agency the discretion to cancel or waive taxes payable under sections 207.02 and 207.03, but only under very specific circumstances. Speak with one of our Canadian tax lawyers to determine if you are eligible for relief on taxes assessed against you due to over-contributions or non-resident contributions made to a Tax-free savings account.

Tax on Over-contributions and Non-resident Contributions to TFSAs

As the name implies, income earned in a tax-free savings account is sheltered from Canadian income tax. For that reason there are strict limits on how much money can be validly contributed to a TFSA. The annual contribution limit was $5,000 for 2009 through 2012, $5,500 for 2013 and 2014 and $10,000 for 2015. The contribution limit has been reduced to $5,500 for 2016 and is to be indexed to inflation and rounded to the nearest $500 moving forward. Therefore, an individual who has made the maximum contribution every year since 2009 will have deposited $46,500 into their TFSA as of 2016. Section 207.02 assesses a tax on over-contributions made to a TFSA equal to 1% of the maximum amount of the over-contribution during the month, for every month the over-contributed amount remains in the TFSA. For instance, If an individual had $5,000 of contribution room in their TFSA and then deposited $20,000 in January of that year and did not rectify the issue by the end of that year, they would be assessed under section 207.01 of the Tax Act for $1,800 (1% of $15,000×12), in addition to any applicable penalties and interest.

Only resident Canadians are entitled to the benefits of tax-free savings accounts and all contributions made to TFSAs by non-residents are subject to tax under section 207.03 of the Income Tax Act. As with over-contributions, non-resident contributions to a TFSA are subject to tax equal to 1% of the maximum amount of the non-resident contribution during the month, for every month the non-resident contribution amount remains in the TFSA. In fact, it is CRA practice to assess non-resident contributions under both 207.02, as an over-contribution, as well as a non-resident contribution, resulting in a double-penalty being charged. Our Toronto tax lawyers are experts on the Income Tax Act and can make sure your tax planning strategies stay onside the TFSA contribution rules.

TFSA Income Tax Relief

For anyone who has received a tax assessment for taxes payable as a result of an over-contribution or a non-resident contribution to a TFSA, income tax relief is available under subsection 207.06(1) of the Income Tax Act. Subsection 207.06(1) allows CRA to cancel or waive taxes assessed against a taxpayer under either section 207.02 or 207.03 if the taxpayer satisfies CRA that he or she ran afoul of the TFSA contribution rules as a result of a reasonable error, and if the taxpayer rectifies the error forthwith by withdrawing the over-contribution or non-resident contribution, in addition to any income earned.

“Reasonable error” is not defined in the Income Tax Act and whether or not income tax relief will be given will likely depend on the unique circumstances of each case. Complete disregard for the TFSA contribution rules, for instance if a taxpayer were to recklessly contribute $250,000 to a TFSA without getting tax advice, will almost certainly not warrant tax relief. However, as mentioned above, the rules regarding TFSAs are complex and an innocent mistake that puts a taxpayer offside the tax rules should warrant tax relief under subsection 207.06(1) of the Tax Act if the facts are presented properly. For instance, contribution room that is “freed up” by a withdrawal in a given year is not credited to a taxpayer’s “contribution room” until the following year. For example, if a taxpayer had $25,000 of contribution room on January 1 and decided to contribute the full $25,000 to his or her TFSA, then subsequently withdrew the $25,000 to finance a family emergency, before re-contributing the $25,000 in February of the same year, the final $25,000 contribution would be an over-contribution and subject to a 1% tax for every month it remains in the TFSA, until January 1 of the next year when the previous withdrawal will be credited to the taxpayer’s contribution room. In a case such as this, our Toronto tax lawyers can make submissions to CRA on your behalf for tax relief and explain that the over-contribution error was the result of a misunderstanding of the TFSA contribution rules.

In the event CRA does not agree with a taxpayer’s request for tax relief, they are able to have a Canadian tax lawyer apply to the Federal Court of Canada to have the decision of CRA to deny relief subjected to judicial review by a Federal Court judge. The power of CRA to give relief for taxes imposed by sections 207.02 and 207.03 of the Income Tax Act is discretionary, and taxpayers applying to Federal Court to challenge CRA’s decision to deny relief therefore face a high bar to success because the Court will typically afford discretionary decisions significant deference. Our Canadian tax lawyers routinely apply for judicial review to challenge wrong tax decisions of CRA and can evaluate a taxpayer’s circumstances to formulate a plan that maximizes the chances of receiving tax relief for TFSA taxes imposed by Revenue Canada.


Tax-free savings accounts are an excellent tool to save on income tax, but they are heavily regulated and consistently subject to tax audits by CRA. Over-contributions and non-resident contributions are subject to significant taxes thereon which function as penalties. Relief for taxes assessed on over-contributions and non-resident contributions to TFSAs is available, but whether or not tax relief will be granted is in the sole discretion of CRA. Our Toronto tax lawyers make detailed submissions to CRA on a daily basis and can give you the best chance of having the Canada Revenue Agency exercise discretion to offer relief for taxes assessed due to misunderstanding of the TFSA contribution rules.

Tax-Free Savings Accounts– Relief from Assessed Taxes– Toronto Tax Lawyer

Manufacturing and Processing Tax Credits – Toronto Tax Lawyer


Various provisions of the Income Tax Act (the “Act”) allow corporations to claim tax credits.  This article by a Toronto Tax lawyer will discuss the legal tests used to determine if the activities of your Canadian Controlled Private Corporation (“CCPC”) can qualify for the Manufacturing and Processing Tax Credit (the “M&P Credit”).

The M&P Credit

Paragraphs 125.1(1)(a) and (b) of the Act allows a Corporation to claim a portion of either “corporate taxable income” or “Canadian manufacturing or processing profits” as a credit, subject to certain conditions. The M&P Credit for a CCPC is closely tied to the Small Business Deduction under s. 125 of the Act as the Small Business Deduction Limit of $500,000 must be met before the M&P Credit can be claimed. This isn’t necessarily a bad thing though because the Small Business Deduction rate of 17% exceeds that of the M&P Credit. The M&P Credit rate is equivalent to the General Rate Reduction or 13%. The s.125 Small Business Deduction considerations only come into play when a corporation eligible for the Small Business Deduction is attempting to claim the M&P Credit. Corporations that are not eligible for the Small Business Deduction also qualify for the M&P credit and do not have these considerations.

The language in the M&P Credit provision with respect to the Small Business Deduction can be confusing. To paraphrase, the provision reads “the M&P Credit can be claimed on the amount that exceeds the least of three Small Business Deduction amounts.” This language provides two options: 1) the least of the three amounts is not the Small Business Deduction Limit, therefore there is no excess to use to claim the M&P Credit and 2) the least of the amounts is the Small Business Deduction Limit, therefore anything exceeding the Small Business Deduction Limit is an amount on which the M&P Credit can be claimed. The Aggregate Investment Income of CCPCs is also referenced in the M&P Credit provisions and must be taken into consideration.

The Act is rife with difficult language and related provisions. If you are having difficulty interpreting the Act or tax rules that apply to you or your SME you should consult with one of our experienced Canadian tax lawyers.

Manufacturing and Processing (M&P) Defined

Another feature which makes the act a difficult piece of legislation to interpret is the way in which terms are defined. The Tax Act contains broad provisions and often the definition of a term will only explicitly define what it is not.  For example, the definition of “M&P” for the purpose of “Canadian M&P profits” under subsection 125.1(3) of the Act:

“manufacturing or processing” does not include

  • (a)farming or fishing,
  • (b)logging,
  • (c) construction,
  • (d)operating an oil or gas well or extracting petroleum or natural gas from a natural accumulation of petroleum or natural gas,
  • (e)extracting minerals from a mineral resource,
  • (f)processing
    1. (i)ore (other than iron ore or tar sands ore) from a mineral resource located in Canada to any stage that is not beyond the prime metal stage or its equivalent,….

Since M&P is not clearly defined and since the M&P Credit may be claimed on Canadian M&P profits, a Canadian tax lawyer must examine the relevant case law to determine what the definition of M&P is for the purposes of section 125.1 of the Act.

Processing – Two Legal Tests

There are two tests used to determine if taxpayer activities consist of “processing,” They are, (i) whether there is a change in the form, appearance or other characteristics of the goods subject to the operation, and (ii) whether the product becomes more marketable. These tests were developed in the leading case of Minister of National Revenue v Federal Farms [[1996] Ex. CR 410].

The second test or marketability test may be an easier bar to meet as goods may be found to be processed without undergoing a change in form. For example, in the Farms case vegetables that were selected, washed, brushed, sprayed, graded, sorted and packaged were found to be “processed goods.” The product sold was still very much a vegetable. It was not minced into baby food, or pressed into juice, but still sold as a whole vegetable. The processing that occurred gave the vegetable improved keeping qualities which made it more attractive to the consumer.

If the goods in question were subject to a process where they underwent a material change in form, it is much easier to make the argument that the activities were processing activities than if the good had remained relatively the same throughout.

Application of the legal test for “processing” in tax case law

There have been numerous decisions since the Farms case that ruled on the definition of manufacturing and processing.

The Improved Marketability Test

In TDS Group Ltd. & Her Majesty the Queen [2005 TCC 40], the Tax Court of Canada ruled that the assembly and special packaging of automotive parts into vehicle assembly kits, in addition to the application of a corrosion inhibiting substance was processing. The corrosion treatment was used to better enable transport of the kits to overseas assembly plants. These activities were found to be processing for the following reasons: 1) the activities were an integral part of the overall process of assembling an automobile for sale; 2) the activities added value since the taxpayer was compensated at five times the cost for the parts; and 3) The process was more sophisticated than simply separating and counting out parts. Taken in sum, the judge held that the taxpayer fell within the improved marketability test as the activities at issue were an integral process to prepare the end product for the retail market.

The Material Change in Form Test

Other courts have taken a stricter approach to “processing.” For example, in Tenneco Canada Inc v R [132 NR 62 (FCA) (1991)] the Federal Court of Appeal relied on the Farms decision regarding the improved marketability test as well as additional criteria. The judge in Tenneco ruled that processing required a change in form, appearance or other characteristic of the good. Further, the judge stated that the change in character of the goods must be significant to qualify for special tax incentives. As such, if the activities in question significantly alter the character of the goods being processed, there is a much stronger case that the activities qualify for special tax incentives.

It is important to note that, even though the Tenneco case stresses the importance of a significant change in character to the goods allegedly processed, this criterion is absent from the leading case of Farms. The idea that processing suggests a material change in the goods was explicitly rejected by Justice Cattanach in Farms as he stated that “I do not accept the definition put forward by Mr. Long that processing connotes a material change being made in the texture and structure of the product.”While material change may strengthen the case for “processing,” absence of material change may not be fatal to claim for the Manufacturing & Processing Tax Credit.

Utilizing both the Improved Marketability and the Material Change Test

Some cases look to both elements in order to render a decision; however, at a cursory look, there appears to be ambiguity as to whether both tests must be satisfied. In Mother’s Pizza Parlour (London) & Her Majesty the Queen [85 DTC 5271], the Federal Court held that processing includes some “element of transformation or preservation”.  Transformation of goods would imply a material change in form, while preservation of goods would imply preparation of goods to convert them to a more marketable form. The use of “or” implies that both tests do not have to be met to find in favour of processing.

Ultimately, in Mother’s Pizza Parlour (London) the assembling of pizza’s in the kitchen for immediate consumption in the dining room of the parlour was held not to be processing. In particular, the judge emphasized that the pizza dough used was not made in house. If that key fact had differed, a very different analysis may have been performed.

The case law surrounding the definition of Manufacturing & Processing is nuanced. If you are unsure if the activities of your corporation are eligible for the M&P Credit, or wish to carry out income tax planning to ensure that your activities do qualify, you should consult one of our top Canadian Tax Lawyers for advice.


Manufacturing and Processing Tax Credits – Toronto Tax Lawyer

Recent Fiscal Arbitrators Gross Negligence Penalty Appeals and the Concept of Wilful Blindness

Four Tax Fraud Cases Involving Fiscal Arbitrators Released

Four judgments on cases involving tax fraud through false statements on tax returns have recently been released. Each case is an appeal of the assessment of a gross negligence penalty by the Canadian Revenue Agency (“CRA”) against the taxpayer. In all cases, the taxpayer used a tax preparer from Fiscal Arbitrators or a tax preparer associated with Fiscal Arbitrators to prepare their returns. All returns were later found to contain blatant misstatements. Despite the obviously false statements contained in their returns, in three cases, the taxpayers won and the gross negligence penalties were deleted. In the final case, the gross negligence penalty was upheld. This Canadian tax law firm article will summarize the facts of each case and highlight factors that may lead to success or failure in gross negligence penalty appeals and, in particular, what is necessary to eliminate penalties related to Fiscal Arbitrators and DSC Lifestyle Services.

Canadian Gross Negligence Penalties

The income tax system in Canada is both self-reporting and self-assessing. As such, it relies on the honesty and integrity of taxpayers in order to function effectively. Taxpayers have a duty to report their taxable income completely and correctly, regardless of who prepares the return, as the success of the Canadian income tax system is dependant on taxpayer compliance and truthfulness. In order to induce taxpayers to disclose their income, and to penalize the ones who don’t, CRA conducts tax audits and the Income Tax Act (the “Act”) allows the CRA to assess penalties for failure to file under section 162 and to assess penalties for false statements under section 163.  The penalty provisions under the act, especially the gross negligence penalties for misstatements, are quite serious since they amount to tax fraud. We recommend that you consult our experienced Canadian tax lawyers if you have been assessed penalties under section 162 or section 163 of the Tax Act.

Under section 162(1), the failure to file penalty is calculated in two parts. First, 5% of tax payable that was unpaid when the return was required to be filed is assessed. Second, 1% of unpaid tax payable is multiplied by the number of complete months that pass between the required dated of filing and the actual date of filing (up to a maximum of 12 months). Under the repeated failure to file penalty in section 162(2), the percentages are doubled to 10% and 2% respectively and the number of months that the penalty can be applied to increase to 20 from 12. Under section 163(2), a misstatement penalty is often assessed at the greater of $100 or 50% of the amount of tax that was avoided as a result of the misstatement.

Fiscal Arbitrators & DSC Lifestyle Services

The modus operandi of Fiscal Arbitrators was to entice taxpayers with the promise of a large refund. In exchange, Fiscal Arbitrators would charge a fixed fee for the preparation of the return in addition to a percentage of any refund obtained. Fiscal Arbitrators generated the refunds by claiming fabricated business losses and using carry back rules to refund taxes previously paid by the taxpayer. DSC Lifestyles Services was also involved in the scheme and would refer their clients to Fiscal Arbitrators for a cut of proceeds. According to reports on CTV’S  W5, as many as 1,800 Canadian were involved in the Fiscal Arbitrators program.

Fiscal Arbitrators Gross Negligence Penalties Cases Fact Summaries:

In all of the cases below, the taxpayer committed tax fraud by falsely claiming a large fictitious business loss as per the advice of Fiscal Arbitrators which, if allowed, would result in a refund to the taxpayer of taxes withheld at source for the year filed. In addition, the taxpayer also signed a “Request of Loss Carryback” to apply the business loss to prior taxation years. All of the taxpayers were assessed gross negligence penalties.  In no cases did they consult with a Canadian tax lawyer before submitting their returns.

Anderson & The Queen [2016 TCC 93](“Anderson”): In 2008, the taxpayer claimed a business loss even though his only income was from employment. The taxpayer was born in 1955, was unmarried, was without children, and dropped out of school at the age of 15. The taxpayer worked odd jobs until he was employed at Canada Pacific Railway (“CPR”) where he worked for 36 years. The taxpayer had no tax or accounting education. The taxpayer had never prepared a tax return himself. His mother, tax preparer’s and friends had helped him file up until the 2008 taxation year. In 2008, the year at issue, the taxpayer had his return prepared by Mr. Muntaz Rasool. The taxpayer met Rasool through a co-worker in 2006. Rasool would frequently promote programs to employees of CPR which would generate refunds for the filers. The taxpayer believed that Rasool was an experienced person in tax matters since others at CPR had dealt with him without issue. Rasool was also able to produce credentials such as reference letters as well as a business card stipulating that he had an accounting designation. The taxpayer invested in programs endorsed by Rasool in 2006 and 2007 and received refunds. In 2008, the taxpayer hired Rasool to prepare his return. The taxpayer was presented his return and signed were indicated but, he inquired about why the refund was so large. Rasool’s rationale was that he had special knowledge of the Act. At trial, the Taxpayer testified that he word “per” in front of his signatures, which was included on the filed return, had been added without his knowledge and that certain pages regarding the business loss and loss carryback were also added. When reviewing his return, the taxpayer did notice that the tax preparer box was blank and added Rasool’s information. This upset Rasool. The taxpayer paid Rasool a portion of the refund he received. The taxpayer requested a copy of the return from Rasool and was refused. The taxpayer was later contacted by the CRA for a tax audit regarding the alleged business that had produced the loss. The taxpayer provided the correspondence from the CRA to Rasool who later disappeared. The taxpayer did not send any letters drafted by Fiscal Arbitrators to the CRA.

Morrison & The Queen [2016 TCC 99 ](“Morrison”): The CRA assessed a tax penalty against the taxpayer for the 2008 taxation year for his tax fraud. The taxpayer was from a small town. The taxpayer was put into contact with a tax preparer through a friend whom he had known for over 30 years. His friend had received a substantial refund without issue. The taxpayer was a car salesman and had filed his own returns for 40 years. The tax preparer presented him with a T1 adjustment and the taxpayer signed where indicated. Pages were later added to the return after it was signed. The T1 adjustment did reference a “business loss;” however, the taxpayer only turned his mind to the fact that if he overpaid tax for 5 years and was refunded for all those amounts, a substantial refund could be produced. The CRA conducted a tax audit inquiring about the business loss. The taxpayer contacted his preparer and the preparer responded with a “nonsensical” letter which the taxpayer refused to sign. The taxpayer then filed a Notice of Objection. The taxpayer cooperated with the appropriate investigative division.

Sam & The Queen [2016 TCC 98 ](“Sam”): The taxpayer had her returns prepared for many years by her sister-in-law Denise Hunt. Denise had a university background in accounting and the taxpayer had received refunds for many years due to the deduction of union fees and RRSP contributions. Denise worked for an accounting corporation named DSC for six years until her death in 2010. The taxpayer went to the DSC office in order to have her 2009 return prepared. The taxpayer was referred to Fiscal Arbitrators. When the taxpayer inquired as to the identity of that individual, she was told not to worry as the person had done thousands of returns. The completed return was delivered back to DSC for the taxpayer to sign. The taxpayer looked at the return briefly and signed the return and the loss carry back form. When the refund did not arrive the taxpayer was referred to Larry Watts of Fiscal Arbitrators who provided her with “nonsensical” letters to send to the CRA. The taxpayer sent the letters. The taxpayer believed she was getting valid advice. The taxpayer was not pitched to specifically hire Larry or Fiscal Arbitrators for the purposes of obtaining a refund.

Sledge & The Queen [2016 TCC 100 ](“Sledge”): The Taxpayer was 45 years old, was born in Texas, and does not have any post secondary education. The taxpayer is a former US Navy sailor and was subsequently employed in Canada as an Operations Manager for FedEx. Ten years prior to the appeal the taxpayer met Lloyd at a barbershop. The taxpayer does not know Lloyd’s last name. The two became friends and spoke about income taxes. Prior to 2008, the taxpayer had his return prepared at H&R Block. Lloyd told the taxpayer about a company called Fiscal Arbitrators. Fiscal Arbitrators represented themselves as professional tax preparers. They would recalculate taxes over a 10 year period in order to obtain a refund for taxes overpaid in previous years. The taxpayer met Lloyd’s sister who endorsed the company. The taxpayer was still concerned about legality, but Lloyd assured him they were just like H&R Block. The taxpayer retained Fiscal Arbitrators and provided Lloyd with his T4’s for the previous ten years. Once prepared, the taxpayer did not review his return and simply signed where indicated. The taxpayer did not see that the identification box for tax preparers was left blank. The taxpayer testified that he did not look at the numbers on his return and also testified that he did not look at the refund amount he was claiming. The taxpayer did not ask any question regarding the contents of the return. The CRA later contacted the taxpayer in a tax audit questioning the business loss. The taxpayer contacted Lloyd. The taxpayer was referred to Larry Watts from Fiscal Arbitrators who provided the taxpayer with nonsensical letters to send to the CRA. The taxpayer later reached out to the CRA as the letters drafted by Watts did not address his situation. The CRA did not issue a refund and disallowed the business loss, denied the carryback and imposed a penalty. The taxpayer objected to the assessment, the CRA confirmed the assessment so the taxpayer appealed to the Tax court with a Canadian tax lawyer.

Appealing Gross Negligence Penaltiess

In order be assessed a penalty under section 163 of the Income Tax Act (“The Act”) the CRA must prove that (1) the taxpayer made a false statement or omission in their income tax return, and (2) that the statement or omission was either made knowingly, or under circumstances amounting to gross negligence. Thus, penalties assessed under section 163 are often referred to as gross negligence penalties.

In each of the above cases, it was overtly obvious that the taxpayers had committed tax fraud by having made false statements in their income tax returns. Each taxpayer claimed a business loss for a business that did not exist. The true issue in these cases was whether the CRA could prove that the misstatement was made knowingly, or whether the taxpayer was grossly negligent.

If the CRA cannot prove that the taxpayer knowingly made a misstatement or omission they will attempt to prove that the taxpayer was grossly negligent. In Villeneuve v Canada [2014 FCA 20] the Federal Court of Appeal found that gross negligence, for the purpose of the Tax Act, could include “willful blindness”. The Torres et. Al v The Queen [2013 TCC 380] (“Torres”) case succinctly summarizes the general legal principles with respect to wilful blindness in gross negligence penalty cases. The Torres principles, as set out by Justice Miller, were affirmed by the Federal Court of Appeal in 2015. Please note that the Torres principles do not set out an exhaustive list of circumstances that would indicate a need for inquiry.

Torres Principles

  1. Knowledge of a false statement can be attributed to wilful blindness
  2. Wilful blindness can be applied to gross negligence penalties under subsection 163(2) of the Act.
  3. In determining wilful blindness, education and experience of the taxpayer must be taken into consideration.
  4. To find wilful blindness there must be a need or a suspicion for an inquiry.
  5. Circumstances that would indicate a need for an inquiry prior to filing include the following:

              i) the magnitude of the advantage or omission;

            ii) the blatantness of the false statement and how readily detectable it is;

         iii) the lack of acknowledgment by the tax preparer who prepared the return in the return itself;

          iv) unusual requests made by the tax preparer;

          v) the tax preparer being previously unknown to the taxpayer;

           vi) incomprehensible explanations by the tax preparer;

      vii) whether others engaged the tax preparer or warned against doing so, or the taxpayer himself or herself expresses concern about telling others.

        viii) The final requirement for wilful blindness is that the taxpayer makes no inquiry of the tax preparer to understand the return, nor makes any inquiry of a third party, nor the CRA itself.

Common Case Factors

The appeals of the gross negligence penalties by Canadian tax lawyers were successful in Anderson, Morrison and Sam. In each of these cases the gross negligence penalty was deleted. In the Sledge case however, the penalty was upheld.

In each case, the judge examined the conduct of the individual, taking into account their experience and education, to determine if enough “red flags” were raised that would indicate a need to investigate. The more frequently a taxpayer fails to inquire after a “red flag” is raised, the more likely the taxpayer will be found to be wilfully blind.

A key concept as to why Sledge was decided differently is due to the total lack of effort on the part of the taxpayer to verify the accuracy of his return. There is strong support in case law that stipulates that placing blind faith in preparers, without taking at least some steps to verify the correctness of information supplied, will not enable taxpayers to avoid gross negligence penalties. In essence, this all relates back to the idea of the self-reporting scheme where the taxpayer has an obligation to ensure the information supplied in their return is truthful. By placing full reliance on the accountant or tax preparer, the taxpayer is abandoning their obligations under the Act and may be subject to harsh penalties as a result. To certify a return with a signature without even looking at the contents will likely lead to an adverse outcome if obvious misstatements have been made.

In Anderson, more effort was undertaken on the part of the taxpayer to examine the information in their return. The taxpayer met with his tax preparer several times and even went so far as to fill in the tax preparer’s name despite it being purposefully omitted. Inquiries were also made as to why the refund was so large, and a justification was provided to the taxpayer. In stark contrast, in Sledge, the taxpayer testified that he did not look at the numbers on his return, and that he did not see the box provided for the identification of professional tax preparers. When probed about the approximately $281,000 in business losses claimed, the taxpayer admitted that he saw it, but assumed it was a summation of all taxes paid for the previous 10 years. He made no inquiries. Further, the judge did not believe his testimony that he did not look at the large refund amount as generating a refund was the sole purpose for his dealings with Fiscal Arbitrators. In Slegde, the taxpayer’s lack of both effort and credibility led to the upholding of the gross negligence penalties.

Another factor taken into consideration is how the taxpayer came into contact with the fraudulent tax preparer. In Morrison, the fact that the taxpayer had been referred by a friend of 30 years in a small town lessened the “need for inquiry” threshold. In Anderson, the taxpayer also relied on a recommendation from a long time friend. As opposed, in Sledge, the taxpayer could not even recall the last name of the friend from the barbershop who referred him to Fiscal Arbitrators. On a related note, if the tax preparer was able to produce credentials, as Rasool did in Anderson, the need for inquiry may also be reduced.

Whether the taxpayer was “pitched” a refund was also relevant in judicial analysis. In Sam, the taxpayer was referred to a fraudulent agent through a firm her sister had worked at for several years (DSC Lifestyle Services). The taxpayer was not “pitched” a program that would generate a refund. The taxpayer simply returned to the same location as she had in previous years in order to have her return prepared. Further, she had a history of receiving refunds, through legitimate means, which may also have lowered the threshold for a need for an inquiry for the tax year at issue.

How the taxpayer responded to inquiries made by the CRA about the business losses was also considered in the judicial analysis. Cases were decided more favorably where the response letters prepared by Fiscal Arbitrators were not sent to the CRA. In Morrison, the taxpayer read the letters he was provided by Fiscal Arbitrators. The taxpayer then realized that the letter was nonsensical and, instead of sending the prepared response, retained counsel. In Anderson, the letters were not sent because Rasool did not provide them to the taxpayer before he disappeared. In Sam and Sledge, the nonsensical response letters were signed by the taxpayer and were sent to the CRA. While Sam was decided favorably, the taxpayer was found to have “gone wrong” when she sent in the letters; however, the unique circumstances of not being explicitly “pitched” the refund scheme mitigated the damage done to her case by sending the nonsensical letters. As to why these letters were damaging, arguments were made that this type of conduct was indicative of the appellant’s “trust” in the tax preparer. Strong legal precedent exists where “simply trusting” a preparer or “blindly trusting” a preparer, without taking efforts to become informed, may constitute gross negligence.

While many factors were considered, taxpayer efforts with respect to verifying the amounts in their returns and how the taxpayer came into contact with the tax preparer are extremely relevant to these types of decisions. Our experienced Toronto tax lawyers can advise on these CRA gross negligence penalty issues.


As you can see, these types of determinations are fact dependant and take into consideration many different factors and principles. Similar activities carried on by different taxpayers may yield opposite results in gross negligence penalty appeals. It is very much a threshold analysis where the court will take multiple factors into account in order to determine if the taxpayer crossed the line from “carelessness” or “naiveness” into wilful blindness. In summary, what it boils down to is whether a need for inquiry existed in the particular taxpayer’s case, how strong that need was, and how the taxpayer responded to that need. Overall, if there is a significant lack of effort on the part of a taxpayer to verify blatantly obvious misstatements on their returns, like in Sledge, the court will likely uphold the penalty. If you find yourself in a situation where you have been accused of tax fraud or tax evasion and assessed a gross negligence penalty, a discussion with one of our top Toronto Tax Lawyers about your specific circumstances will greatly assist you in your objection and/or appeal process.

Recent Fiscal Arbitrators Gross Negligence Penalty Appeals and the Concept of Wilful Blindness