PUNITIVE DAMAGES AGAINST REVENU QUÉBEC
On October 23, 2013, an unprecedented judgment of the Cour superiéure du Québec (QCCS) in Groupe Enico (2013 QCCS 5189) granted some $4 million in damages to two taxpayers that under- went an abusive audit. The court found that Revenu Québec abused its power and conducted its au- dit, reassessments, and collection measures in bad faith. The damages compensate for the failure of the targeted business and include $2 million in punitive damages. Tax authorities continue to bolster their auditing and collection activities, but this judgment may sound an alarm concerning abusive practices in any dealing with a taxpayer, from audit to collection.
Increasingly, taxpayers have questioned the behaviour of both the CRA and Revenu Québec. In determining an assessment’s validity, a court generally does not consider allegations of the tax au- thority’s misbehaviour. In Ereiser (2013 FCA 20), the FCA clarified the avenues available to a taxpay- er—a civil claim for damages against the CRA or Revenu Québec before the FC or a provincial supe- rior court, or, in certain extraordinary situations, judicial review.
The Groupe Enico decision comprises about 200 pages of facts and analysis and is one of only a
few to find negligence on the part of a tax authority in administering and enforcing a tax statute. The finding was based on fault and responsibility to third parties under Quebec civil law, not on the com- mon-law duty of care.
The corporate taxpayer, Groupe Enico, was established in 1990 and ceased activities in Novem- ber 2010. In October 2005, Revenu Québec initiated a GST and QST audit after receiving a letter, which it later destroyed, from a disgruntled former employee. The GST/QST auditor went to the tax- payer’s office with a so-called intern—an income tax auditor with over 21 years’ experience and a prior record of misbehaviour. The taxpayer became aware of the parallel income tax audit only in May 2007, when proposed reassessments were issued.
On October 15, 2007, a first notice of reassessment was issued for additional tax, interest, and penalties of more than $450,000. Surprisingly, two weeks later a Revenu Québec internal memo said that the undeclared income was actually $50,000. The discrepancy arose from double entries in the taxpayer’s records, which created more than $200,000 of expenses denied on reassessment. Reve- nu Québec contended that the “false and fictitious entries” emerged when GST and QST records were reconciled with income tax records, but the court found that the Revenu Québec auditor had created the entries intentionally and in such a manner as to avoid detection. The court said that an
erroneous reassessment does not by itself constitute fault. However, Revenu Québec was clearly aware very early on that the reassessment was inflated; nonetheless, it took more than nine months to adjust it. The court concluded that the reassessment was the result of malicious and intentional behaviour.
Further unremedied mistakes followed. In February 2008, Revenu Québec’s collection department used the administrative seizure process to seize the taxpayer’s line of credit even though it had known since October 2007 that the tax bill would be significantly reduced. The bank then recalled the
$600,000 line of credit: unpaid salaries caused employees to resign and concerned clients and sup- pliers to flee, and a precarious cash flow situation developed.
Previously, Groupe Enico had been profitable and was expanding, but it ceased operations in No- vember 2010. Revenu Québec representatives unsuccessfully attempted to leverage insolvency pro- ceedings to force the taxpayer to drop all claims against it, and it employed numerous delay tactics in the civil lawsuit. Revenu Québec deliberately destroyed documents and chose not to call the main auditor as a witness: the taxpayer had to hire a private investigator to track him down. The court found that Revenu Québec’s objective was to exhaust the taxpayer financially and to prevent a trial on the merits, and that Revenu Québec engaged in wilful misconduct, bad faith, and abuse of power in dealing with the taxpayer. The taxpayer successfully demonstrated that Revenu Québec’s conduct was grossly negligent and reckless as to predictable consequences.
The Revenu Québec income tax auditor’s testimony confirmed what Revenu Québec had hotly denied: auditors have quotas—in this case, $1,000 of recovery per hour—linked to a bonus (up to
3.5 percent of total pay) for exceptional performance. The Revenu Québec collection department al- so admitted that a quota was imposed on its agents, but it did not specify rates. The court linked the quota to the reprehensible conduct: Revenu Québec auditors and decision makers were not disinter- ested law enforcers but interested parties.
Although the files of the GST/QST auditor and the income tax auditor were destroyed, many inter- nal Revenu Québec communications were disclosed at trial and helped demonstrate that Revenu Québec agents knew early in the process that the reassessments were falsely and greatly inflated. The decision is likely to affect the recordkeeping habits of Revenu Québec officials and perhaps oth- er Canadian tax authorities who no doubt are closely following the civil suit. A recent report of the Office of the Information Commissioner of Canada notes an increased number of complaints under the Access to Information Act about the lack of CRA disclosure in access-to-information requests— requests that undoubtedly yielded the information essential to support the damage claim in Groupe Enico.
A taxpayer who undergoes an abusive audit faces a challenging environment. An assessment may be challenged in the TCC federally or in the Cour du Québec provincially, but judicial review is only available in the FC for federal matters and in the QCCS for provincial matters. Different courts have jurisdiction over an action in damages—the FC or QCCS for federal matters and the QCCS for provin- cial matters. It is also unclear when the limitation period begins to run in this context: is it triggered by the audit, by disclosure of information that the audit is abusive, by improper collection measures, or by the quashing of the reassessment?
The Cour du Québec upheld some assessments against the taxpayer, apparently ex parte, be- cause Groupe Enico did not have the financial resources to contest the assessments while the action in damages proceeded. However, the QCCS’s decision in Groupe Enico may signal that some claims against tax authorities will be successful.
The court granted about $1.1 million in damages to the company’s founder and shareholder (in- cluding $1 million in punitive damages) and $2.75 million to Groupe Enico (also including $1 million in punitive damages and $350,000 for legal costs). The unprecedented $2 million punitive damages award against a public body was grounded in the Quebec Charter of Human Rights and Freedoms, which allows punitive damages for “unlawful and intentional interference” (including reckless disre- gard) with various rights, including the peaceful enjoyment of property. Under the Civil Code of Qué- bec, punitive damages “may not exceed what is sufficient to fulfil their preventive purpose,” but the court in Groupe Enico said that a serious deterrent was required because, inter alia, a public body
should exemplify a high standard of conduct and because many meritorious claimants probably nev- er made it to trial.
The facts in Groupe Enico were particularly egregious, and the courts will have to navigate cases
involving facts that are not so clearcut. Proving wilful misconduct, bad faith, or abuse of power will remain a challenge, but taxpayers now have a strong precedent.
On November 22, 2013, Revenu Québec filed documents with the Cour d’appel du Québec, but the extreme facts make it unlikely that the finding of liability will be overturned. Even if the quantum is reduced, the trial court’s judgment is likely to be generally confirmed. If the appeal proceeds, it will be several months before a hearing takes place. Similar cases are proceeding to trial in other provinces, and taxpayers and tax authorities are no doubt watching their progress carefully.
Canadian Tax Highlights, Volume 22, Number 1