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Blog

Directors Need to Meet High Standard to Avoid Liability

December 16, 2014

The Tax Court of Canada again confirmed that directors of corporations will have a high burden to meet to establish a due diligence defence and avoid liability for unremitted source deductions.

In Maddin v The Queen, 2014 TCC 277, the taxpayer was a director of a corporation that failed to remit nearly $300,000 of employee source deductions. The only issue before the Court was whether the taxpayer exercised "due diligence" under subsection 227.1(3) of the Income Tax Act (Canada).

The taxpayer sold a portion of the shares in a corporation to two other individuals, but remained a director so the company could benefit from his experience. The taxpayer argued that his intention was to play a limited advisory role in the corporation, and another director was in charge of managing the daily operations. However, the Court found that: the taxpayer was in the office 2-3 days a week, effectively spending more time in the office than the other directors; he was familiar with the company's business structure, its banking operations and accounting systems; he had a close relationship with the initial bookkeeper and communicated with her throughout the period at issue; and when a new bookkeeper (the mother of another director) was hired and the initial bookkeeper fired, he was aware that she did not necessarily understand the bookkeeping systems.

The Court also found that the taxpayer had previously failed to remit source deductions, and knew the company was experiencing financial difficulties, but seemed more concerned with collecting the money the corporation owed to him than ensuring the corporation was remitting its source deductions.

The Court held that these factual circumstances should have prompted the taxpayer to inquire into the financial health of the corporation and ensure the source deductions were being remitted. Neglecting to make inquiries as to the status of the payment of the source deductions was insufficient to establish the taxpayer took reasonably prudent steps to discover the source deduction arrears.

This decision serves as a reminder that courts will generally hold directors to a fairly high standard of conduct. It will not be enough for a director to suggest he or she was not intimately involved in the day to day operations of the company. Rather, in order to establish the exercise of due diligence, a director must make inquiries into the financial state of the company and speak regularly with staff to confirm that source deductions are being remitted as required.

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