A corporation (a company) is a legal person separate of its shareholders that acts through its officers and directors. A fundamental advantage of incorporating a business is that directors, officers and shareholders are not liable for the corporation’s debts. However, in tax matters, the law imposes very important liabilities for directors.
The Excise Tax Act
Liability of directors
• 323 (1) If a corporation fails to remit an amount of net tax as required under subsection 228(2) or (2.3) or to pay an amount as required under section 230.1 that was paid to, or was applied to the liability of, the corporation as a net tax refund, the directors of the corporation at the time the corporation was required to remit or pay, as the case may be, the amount are jointly and severally, or solidarily, liable, together with the corporation, to pay the amount and any interest on, or penalties relating to, the amount.
Diligence
(3) A director of a corporation is not liable for a failure under subsection (1) where the director exercised the degree of care, diligence and skill to prevent the failure that a reasonably prudent person would have exercised in comparable circumstances
In Québec, the Tax Administration Act has similar dispositions as the federal law.
The joint liability between the corporation and its directors transfer the tax department’s credit risk to the directors. Should the company be unable to pay the amount owed for GST/QST, the directors are personally liable. It is a powerful tool for the tax authorities, and they do not hesitate to use it.
De facto director
A person who is not technically a director of a company can be held personally liable as a director in certain circumstances. A person who is, in fact, exercising the responsibilities of a director can be held to be a de facto director. A person who plays a key role in a company or has ultimate decision making authority for the company will be at risk of being found a de facto director. The determination of whether a person is a de facto director is fact specific and requires analysis on a case by case basis.
The Government is not your lender
One of the most important points to recognize is that GST/QST taxes should never be considered a funding source for business. They are trust fund taxes that are considered government funds from the moment of collection. If they are not turned over to the government at the time and in the manner prescribed by law, that noncompliance may be deemed a theft of state funds. Businesses must – at all costs – resist the temptation to treat the government as a lender and “borrow” tax funds to pay other creditors – even if that borrowing is short-term and with every intention of repaying the government when cash flow allows. Businesses that pay other creditors first do so at their peril. And that peril extends to individuals involved in making that decision.
That said, there are a number of defense which can be opposed according to circumstances of each case.
Defence methods
Prescription/Two Year Limitation Period
(Prescription is a means of being released by the lapse of time and according to the conditions determined by law.)
A director can only be held liable for tax obligations of the company if the person was a director “at the time the company was required to deduct, withhold, remit or pay the amount”. If your directorship had not yet commenced or you had resigned prior to the time that the company failed to meet its tax obligation, you should not be personally liable for that failure.
Both the federal Excise Tax Act and the Québec Tax Administration Act stipulate that the responsibility of a person expires two years after the date he/she is not a director. The burden of proof is on the director’s shoulders.
Unfortunately, it is our experience that record books are not properly kept. Strict compliance with the requirements and procedure for resignation under the relevant corporate legislation is crucial. This makes the documentation of your resignation as a director extremely important. The two year limitation period starts to count on the date of your resignation. A formal resignation should be included in the appropriate book and corporate ledger as well as with the Québec Registraire des enterprises. It may not be helpful if you continued to act as a de facto director after the date of formal resignation.
Ex officio striking off
An ex officio striking off of a registrant can result of a failure to file two consecutive annual updating declarations or a current updating declaration requested by the Registraire des entreprises under the Act respecting the legal publicity of enterprises.
The cancellation of the registration of a legal person constituted in Québec entails the dissolution of the legal person. However, de facto directors are still personally liable.
A corporation created under the federal law does not cease to exist due to an ex officio striking off. On the other hand, if it has business in Québec, it must be registered with the Registraire des enterprises du Québec.
Long ago, the tax authorities were somewhat negligent and sometimes ceased to request that non-operating corporations file their returns. At the time, some practitioners would suggest not to file to cause the dissolution. It is not appropriate anymore since the tax authorities will request filing until a proper liquidation occurs.
The actual policy, which makes sense, is to require the production of returns and the accomplishment of all formalities until the corporation cease to exist, even if it is not active. Non-compliance of requests to fulfill returns or other formalities may result in hefty fines for officers, directors, shareholders. If the corporation is not active, the best procedure is the voluntary dissolution (legal termination) of the corporation. A bankrupt corporation cannot be dissolved unless shareholders wish to pay its debts. The tax authorities should cease (they usually do) to require formalities out of bankrupt corporations.
Due Diligence Defence
A director is not liable for a failure to remit taxes where the director exercised the degree of care, diligence and skill to prevent the failure that a reasonably prudent person would have exercised in comparable circumstances. The overarching question that tax courts ask in analyzing whether a director’s conduct has been duly diligent is: “what should the director have done that was not done?”
The directors’ liability is not absolute, but the due diligence defence will have to be supported by strong evidence to succeed.
The tax department did not Attempt Collection Against Company
The Agencies are required to attempt collection against the company before it seeks to personally assess the directors of the company and recover from the directors. The evidence must show that (1) its execution against the company was returned unsatisfied; (2) prove a claim against the company in dissolution or liquidation; or (3) prove a claim against the company in bankruptcy.
Dispute the Underlying Tax Debt of the Company
A director can also dispute the validity of the underlying assessment against the company if the company did not do so. If the director can show that the underlying assessment was wrong, then the director’s own liability can be avoided.
