In the midst of the COVID-19 pandemic, business owners are having to make incredibly difficult decisions about how they allocate their precious financial resources. In order that business owners can make informed decisions that are in the best long-term interest of themselves and their families, it is critical that they fully understand the extent of CRA’s collections powers.
Canadian business owners are resilient. We will get through this. The information in this article will help you ensure that, when the pandemic is resolved, you are in the best position possible to rebound and the assets of you and your family are not in jeopardy.
CRA’s Extraordinary Collections Powers
With suppliers, employees and commercial rent to pay, plus necessary personal expenses, it’s natural and even admirable in some cases to prioritize these payments over your corporation’s obligations to the CRA. This is especially the case given that CRA recently announced that it is temporarily suspending most of its collections action¹ and the Department of Finance announcing on March 27 that the Government is deferring HST/GST remittances payment deadlines until June 30, 2020.²
Eventually, however, CRA collections officers will return in full force. When they do, they have powers at their disposal that far exceed those of normal creditors. One of these is the power to pursue directors personally, another is the power to collect from parties who received transfers from the corporation at a time when the corporation owed tax.
If a corporation is unable to remit the source deductions it withholds from its employees or the HST/GST it collects from its customers, the CRA is entitled to pursue the directors personally to collect those funds. This can eventually include the CRA seizing funds from the director’s bank accounts or putting liens on the director’s assets. Unless the director has personally guaranteed its corporate debts, other corporate creditors do not have such powers.
The intention behind director’s liability is to prevent businesses from using the source deductions they withhold and HST/GST they collect as cash flow to operate their business. Again, given the circumstances, this is a natural response. But directors need to fully understand that, if they opt to do this, they are prioritizing their business and suppliers over their personal assets.
If you are a listed as a director of a corporation but are not fully in control of the corporation’s decisions, you can protect yourself by acting with “due diligence”. Directors will not be personally liable if they can demonstrate that they took active steps to prevent the corporation from failing to satisfy its obligations to CRA. A few examples of such steps are:
- Asking the corporation’s managers to establish a separate account in which to keep the source deductions it withholds and HST/GST it collects
- Writing to the financial officers of the corporation asking them to report on the status of the source deductions and HST/GST payments
- Seeking regular confirmation that the corporation has made its remittances
If the director is not satisfied with the corporation’s response to such steps, they should consider resigning promptly, since a director is only liable for the failures to remit that took place while they were a director.
For more information on director’s liability and the due diligence defence, click here.
Transfers to Related Parties
At the same time that you are managing payment to your business’ various creditors, you are no doubt also managing your basic family expenses. This often requires transferring funds out of your corporation.
If you are making these transfers at a time when the corporation is not fully up to date with all of its tax debts and remittances, you need to be aware of sections 160 of the Income Tax Act and section 325 of the Excise Tax Act. These provisions were enacted to prevent people from evading CRA tax collectors by transferring their assets to family or other non-arm’s length parties and out of the reach of CRA.
Under the power of these provisions, if a “person” (including a corporation) transfers funds to a related person at a time when the transferor owes tax, and the recipient pays less than equal value in exchange, the CRA can pursue the recipient for the transferor’s tax debts up to the value of the transfer. In the case of an individual, a related person includes their spouse or common law partner, children, etc. In the case of a corporation, a related person includes the shareholders and anyone who is related to the shareholders.
Importantly, due to technical legal reasons, a dividend is subject to section 160 ITA and section 325 ETA, while a reasonable salary is not. Therefore, if a corporation pays a dividend to a shareholder at a time when the corporation owes money to CRA, and the corporation becomes unable to pay its tax debt, the CRA can collect the tax debt from the shareholder up to the amount of the dividend. The CRA does not have the same entitlement if the payment was reported as salary instead.
Also, if you or your corporation are loaning money to non-arm’s length parties at a time when you are not fully up to date with your tax payments, make sure to protect the borrower by entering into a written loan agreement that specifies when the loan will be repaid. A legally enforceable loan does not count as a “transfer”.
For more on section 160 ITA and its ETA equivalent section 325, click here.
Business owners are used to working with their backs against the wall. Often, a reason for their success is their commitment to living up to their word and satisfying their debts to the suppliers, employees and contractors on whom their business depends. But during this uncertain and unprecedented time, it’s critical that business owners factor in CRA’s extraordinary collections powers when deciding which financial obligations to prioritize so that they can protect their and their family’s assets into the future.