Published: March 4, 2020
Last Updated: February 21, 2022
CASE STUDY: Rotfleisch & Samulovitch Successful in Late Objection to Derivative Assessment
Brief Section 160 Derivative Tax Assessment Overview
Rotfleisch & Samulovitch Professional Corporation was retained by a married couple. The Husband was involved in a number of different businesses and had accumulated an income tax debt of close to $200,000. The Wife occasionally paid the expenses of one of these businesses and the Husband would repay her by depositing cheques into her bank account.
In the course of taking collections action against the Husband, the Canada Revenue Agency (the “CRA”) assessed the Wife for significant portion of the Husband’s income tax debt under section 160 of the Canadian Income Tax Act. When a taxpayer makes a transfer of property, including cash, for below fair market value to a non-arm’s length person, including spouses, then section 160 allows CRA to assess the non-length person for an amount equal to the difference between the fair market value of the property and what the non-arm’s length person paid the taxpayer for the property. In this case, the CRA saw that the Husband had deposited money into the Wife’s account without any apparent corresponding transfers of value from the Wife to the Husband, and so assessed the Wife for approximately $160,000 representing the total of all the amounts deposited into the Wife’s bank account by the Husband.
The CRA mailed the section 160 assessment to the couple’s home address. Canada post returned the assessment to CRA with a stamp indicating it was unclaimed and a label marked “moved/unknown”. The CRA did not take any steps to resend the assessment. The Wife used her accountant’s address for all of her tax correspondence and used that address on her tax returns for the years preceding the assessment. As a result, the Wife and the accountant did not become aware of the assessment until over a year later. By the time the couple approached our tax law firm of Rotfleisch & Samulovitch Professional Corporation over two years had passed since the derivative tax assessment had been issued against the Wife.
Problems & Challenges – – Derivative Tax Assessment
The Wife’s case involved two primary challenges. The first was a procedural issue involving tax appeal limitation periods. The Canadian Income Tax Act allows taxpayers to object to a tax assessment through CRA’s internal appeals branch so long as they file a valid notice of objection within 90 days of when the tax assessment was issued. The Canadian Income Tax Act also gives the CRA the discretion to allow a taxpayer who meets certain criteria to object to an assessment so long as they file a valid notice of objection within one year of the last day of the 90 day objection period. The Canadian Income Tax Act does not allow taxpayers to object once both limitation periods have elapsed and the Canadian Income Tax Act requires taxpayers to object to an assessment before they can appeal to the Tax Court of Canada. Due to the address mix up, the Wife did not have the opportunity to file a notice of objection until after both limitation periods had elapsed. On its face, this makes it appear that she no longer had any ability to dispute the tax assessment.
The second problem is to find a legal case for section 160 not applying to the Husband’s deposits into the Wife’s account and to find sufficient supporting evidence to persuade CRA or a court.
The Approach & Solution – Section 160 Tax Assessment
To resolve the tax limitation period issue, our Canadian tax lawyers took the position that the tax assessment issued to the Wife was invalid since it was sent to the wrong address. This is possible because subsection 152(2) of the Canadian Income Tax Act requires CRA to send a notice of assessment to the taxpayer in order for the tax assessment to be valid. If our tax lawyers could successfully argue that the tax assessment was not valid, the CRA would not be able to take collection action against the Wife until they issued a new tax assessment sent to the correct address. When that occurred, the Wife would then have 90 days to be able to object. In order to preserve the Wife’s right to object to the tax assessment, we pursued this argument in three different venues, by filing a notice of objection, appealing to the Tax Court of Canada, and filing an application with the Federal Court of Canada.
Our primary substantive argument against the content of the tax assessment was that the Husband’s deposits into the Wife’s bank account were repayments of a loan advanced by the Wife to the Husband. This means that they were not a transfer of property and therefore not captured by subsection 160(1) of the Canadian Income Tax Act. To substantiate this argument, the Husband and Wife were able to provide invoices showing expenditures by the Wife for the purpose of the Husband’s business. These documents established that a loan existed and the amount of the loan.
Results – Section 160 Derivative Tax Assessment
The CRA did not accept the Wife’s notice of objection and extension of time application, on the grounds that the limitation period to object to the tax assessment, even with an extension, had run out. Once the CRA rejected the Wife’s objection, we filed a notice of appeal with the Tax Court of Canada. The Canadian Income Tax Act requires taxpayers to have served a notice of objection on the CRA before they can appeal to the Tax Court of Canada. The CRA brought a motion in Tax Court to have the Wife’s tax appeal dismissed on the grounds that the Wife did not serve a valid notice of objection on the CRA since she filed the notice of objection after the limitation period to object expired. Our Canadian tax lawyers argued on behalf of the Wife that the case should proceed to trial because the original notice of assessment was invalid, since the Wife had no ability to file a timely notice of objection by the CRA’s failure to mail the assessment to her proper address, and that the Wife made every reasonable effort to file a timely notice of objection given the circumstances. The Tax Court of Canada found in favour of the CRA on the basis that the Canadian Income Tax Act requires a valid notice of objection to be filed by the taxpayer before the Tax Court of Canada will consider whether the underlying assessment is valid. The court also commented that the tax assessment may not be valid and that the Wife may be able to obtain a remedy in another court. The court also stated that the CRA acted improperly in not sending the tax assessment to the taxpayer’s authorized mailing address and failing to take further action when the tax assessment was returned undelivered.
Ordinarily the Tax Court of Canada is proper jurisdiction for challenging assessments issued under the Canadian Income Tax Act. However we were aware of the issue of lack of jurisdiction of the Tax Court if there had been no valid Objection filed, so our tax law firm had also appealed to the Federal Court. The Federal Court of Canada has jurisdiction over areas of law within the federal sphere, including taxation, unless another statute assigns jurisdiction to another court, tribunal or commission. The Tax Court of Canada’s jurisdiction with respect to Income Tax is limited to considering whether to confirm, vary, or vacate an assessment issued by the CRA or Revenue Quebec. As mentioned above, appealing to the Tax Court of Canada requires a valid notice of objection to have been filed in response to an assessment or reassessment. We argued since there is no valid notice of assessment, there can’t be a valid notice of objection, so the Tax Court of Canada doesn’t have jurisdiction, which means the Federal Court of Canada has jurisdiction to consider the validity of the assessment. As before, our argument for the assessment being invalid was based on it not being sent to the taxpayer’s correct address.
The CRA responded to our application to Federal Court by offering to settle the case. The settlement offer, which was accepted by our tax lawyers on behalf of the Wife, was for the CRA to acknowledge that the assessment was invalid and to issue a new tax assessment.
Once the new valid tax assessment was issued, we filed a notice of objection on behalf of the Wife within the 90 day limitation period. The CRA accepted this notice of objection as valid and assigned an appeals officer. The CRA appeals officer accepted our legal argument and the majority of the supporting documentation provided by the Husband and Wife. This led the CRA appeals officer to propose issuing a reassessment in an amount of approximately $30,000 to replace the original assessment of approximately $160,000. No supporting documentation was available to establish that the remaining $30,000 was a repayment of a loan from the Wife to the Husband. The Wife accepted this proposal and was reassessed accordingly.
Practical Tax Tips
The tax appeals process is procedurally complex. Retaining lawyers who specialize in taxation and are aware of the intricacies of the process is essential for success. Similarly, retaining written documentation is essential in proving your case and securing a successful outcome.
If you owe a tax debt to CRA, be wary of transferring any of your assets to family members or other non-arm’s length persons for less than fair market value. If you do so, they may have liability under section 160 of the Canadian Income Tax Act.
"This article provides information of a general nature only. It is only current at the posting date. It is not updated and it may no longer be current. It does not provide legal advice nor can it or should it be relied upon. All tax situations are specific to their facts and will differ from the situations in the articles. If you have specific legal questions you should consult a lawyer."