Out in the Cold: No Protection with Tax Shelters?
Every year, Canadians can be found searching for ways to avoid paying the Canadian Revenue Agency (“CRA”) more than they absolutely have to in taxes. Many of us work hard for our money and do not want to give it up so easily. In a progressive tax system like Canada, the more you earn the more you are taxed. This reality creates an opportunity for tax avoidance vehicles to effectively market themselves to the public.
With tax season looming, the Federal Court of Appeal (“FCA”) has issued a clear warning: when it comes to the use of certain tax shelters, taxpayers are on their own if the CRA initiates an audit.
In Canada v Scheuer, 2016 FCA 7, the FCA takes aim at one such popular tax avoidance program, which has captured the attention of numerous Canadians. This case raises the alarm about what citizens should and should not expect from the government, in terms of protecting their interests when a chosen method of paying less in taxes backfires.
Here, the age old adage is a useful reminder: if it sounds too good to be true, then it probably is.
Mr. Lothar Scheuer and other taxpayers learned this the hard way when the CRA reassessed their income tax returns for the years 2004, 2005 and 2006.
It a nutshell, these individuals used a donation program marketed and promoted by a company called the Global Learning Group Inc. (“GLGI”). The way this program worked was that a taxpayer would issue donations to GLGI and the company would deliver the funds to a variety of charitable causes, some of which were located outside of Canada. In return, the donator would be issued charitable receipts, but in amounts significantly greater than the amount of the original donation.
Mr. Scheuer donated $10,000, $60,000 and $10,000 for the years 2004, 2005 and 2006. However, he was issued donation receipts of $30,047.24, $420,114.91 and $60,053.44, respectively, for those years. For the year 2005, it would appear that Mr. Scheuer’s tax receipt was nearly 7 times the amount that he originally donated to GLGI.
When the CRA caught wind of this tax shelter program, they reassessed Mr. Scheuer’s tax claims for those years and made him repay $17,623.27, $189,449.81 and $12,134.98, plus interest on the tax arrears for those years. It was the position of the CRA that GLGI was operating an illegal tax shelter and anyone that gained a tax advantage from the program was liable.
In response, Scheuer and a number of others filed a class action lawsuit against the government basically arguing that the CRA was aware of the problems with these tax donation companies but took no steps to inform Canadian taxpayers. As such, the CRA failed in its duty of care to warn taxpayers about the consequences that could flow from participation in such programs.
The CRA moved to have the class action dismissed because the statement of claim disclosed no reasonable cause of action. The federal court dismissed the CRA’s motion. However, on appeal to the FCA, the decision was made to overturn the lower court’s decision and thereby side with the CRA.
Who is to blame?
To keep track of all the tax shelter programs in operation, the CRA requires that tax shelters register and receive a number. The taxpayers that participate in the program are then required to place this assigned number onto their tax returns, as a form of disclosing to the CRA that they used the program.
But did the FCA get it right in essentially laying the brunt of the burden on the shoulders of individual participants?
I find the ruling was a superficial attempt to address concerns of organized efforts to “cheat” on income tax returns. The real winners are companies like GLGI, which we hear little about once the dust settles. What is palpable are the participants left to foot a ballooning tax bill.
Participants in these programs are low hanging fruit for regulators who are much more ready to hold them accountable than the bigger companies that offer tax shelters.
A crude analogy in the criminal law context would be the persistent efforts by law enforcement on arresting low-level street dealers while the kingpins of organized crime appear to frequently evade capture and conviction. The cycle continues.
A wiser strategy to deterring these types of programs would be to conduct careful reviews of proposed tax shelter programs before issuing numbers in the first place. It is certainly true that individuals must not enter into financial dealings with the expectation that the government will be there to bail them out when things go awry. However, with its ruling, the FCA does more harm than good. There is no incentive for the CRA to develop a proper response to this kind of activity if they can simply go after the participants. The pessimist in me would say that it is actually to the advantage of the CRA to allow this activity, because in the long-run they recoup more money from participants through fines and interest.
The FCA decided that the CRA has no duty of care to the taxpayer in both issuing these numbers to tax shelters or even warning taxpayers about suspect programs. To do so would create an insurance policy of sorts, where the general public (via the CRA) would have to indemnify the participants whose tax shelter runs afoul of tax law. Nonetheless, it could also be said that companies like GLGI are using participants as a type of insurance policy because the CRA seems to invest more resources in going after individual participants than going after them.
In the end, we are left with a system that is still broken, where shark companies are free to entice both conscious risk-taking participants, right alongside unsophisticated and unsuspecting donators.
Moral of the story? The little guy loses again. Happy filing.