Date: 20000515
Docket: 98-1087-IT-G
BETWEEN:
GEORGE R.H. HSU,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
Reasons for Judgment
Hamlyn, T.C.C.J.
[1] These are appeals concerning the Appellant's 1993 and 1994 taxation years. The Appellant declared total income consisting of T5 bank interest in the following amounts:
Taxation Year Total Income Reported
1993 $1,207.00
1994 $ 636.00
[2] In reassessing the Appellant for the 1993 and 1994 taxation years, the Minister of National Revenue (the "Minister") increased the Appellant's total income by the following amounts:
Taxation Year Increased to Total Income
1993 $298,792.17
1994 $300,000.00
Facts
[3] The following facts are admitted from the Appellant's pleadings by the Respondent:
- the appellant is an individual residing at 3707 West 26th Avenue, Vancouver, British Columbia, V6S 1P2;
- the Appellant, together with his wife and his two children, immigrated to Canada on April 25, 1992 from Taiwan;
- the Appellant became a Canadian resident from and after April 25, 1992;
- by Notice of Reassessment dated March 24, 1997, the Minister reassessed the Appellant by including in his income an additional $298,792.17 for the 1993 taxation year and an additional $300,000.00 for the 1994 taxation year as stated above;
- the Minister based the reassessment of the income inclusions upon an estimated appreciation of the following assets (the "Assets"):
(a) property at 259 Sung Chiang Road
(b) property at 167 Min Sheng Road
(c) shares of Chien Ming Hsen Yeh Co. Ltd.
(d) shares of Hotel New Asia Co. Ltd.
(e) shares of Chang June College
(f) shares of San Ho Security Co. Ltd.
(g) shares of China Gypsum Co. Ltd.
- in determining the additional amounts that were included in the Appellant's income for the 1993 and 1994 taxation years by the reassessments, the Minister relied upon estimates of the Appellant's net worth (the "Net Worth Statements");
- the Net Worth Statements assumed the Appellant's business assets increased in value an average of 10% per annum from 1991 to 1994;
- the Appellant duly filed Notices of Objection to the reassessments;
- by Notice of Confirmation dated January 21, 1998 the Minister confirmed the reassessments.
[4] In reassessing the Appellant, the Minister relied, inter alia, on the following assumptions:
a) in reporting income for the 1993, 1994 taxation years the Appellant did not include all of the income received in these years;
b) the incomes of the Appellant during the 1993, 1994 taxation years were understated by the amounts of $298,792.17 and $300,000.00 respectively;
c) the Appellant invested $150,000.00 in Upton Resources Inc. when he emigrated to Canada and has received this money back;[1]
d) the Appellant brought $200,000.00 with him when he emigrated to Canada on April 25, 1992;
e) the Appellant bought a house, 3707 West 26th Avenue, Vancouver for $470,000.00 cash on July 29, 1992;1
f) the Appellant, who has filed Canadian T1 tax returns for the years 1992 to 1995, also has bank accounts in Canada;1
g) the Appellant has Canadian medical coverage for he and his family;1
h) the Appellant and his spouse have three children who attend public school in Vancouver, British Columbia;1
i) the Appellant and his wife are deemed residents of Canada for taxation purposes in the 1992 to 1996 taxation years;[2]
j) the Appellant's wife reported Family Allowance income of $837.00 in 1992 and no income for 1993 and 1994;
k) the understated amounts were determined by the net worth method [a copy of the Net Worth Statement [is] attached as Schedule “A”];[3]
l) during the 1993 and 1994 taxation years, notwithstanding declaring a total income of $1,843.83 the Appellant paid $39,617.28 in mortgage payments to the Toronto Dominion Bank of Canada and supported his family;1
m) on May 15, 1997 the Appellant was listed as the owner of 7th floor, 259 Sung Chiang Road, Taiwan and this property remained in his name until May 30, 1997;
n) the Taiwanese District Court issued a summons to the Appellant for 838,536.00 N.T. dollars for the taxes owing for the 1995 year;
o) the Appellant listed his assets on a "Personal Worth Statement" submitted to the Commission For Canada on March 4, 1991;
p) the Appellant had invested of $1,739,130.00 in the Chang June College in Taiwan and was liable for $1,304,348.00 of the debt of that College;
q) the Appellant did not declare bankruptcy in the 1992 to 1996 taxation years;
r) the Appellant did not dispose of his assets in Taiwan between when he submitted his "Personal Worth Statement" on March 4, 1991 and the end of the 1994 taxation year;1
s) the Appellant's businesses in Taiwan did not go bankrupt during the 1992 to 1994 taxation years;
t) the Appellant did not work in Canada in the years 1992 to 1995 and stated that he travelled across Canada visiting friends in those years;
u) the Appellant was absent from Canada frequently and was conducting business activities elsewhere; and
v) the Appellant did not provide any documentation relating to the 1993 and 1994 taxation years to support the sale of any of his assets as listed on the "Personal Worth Statement" of March 4, 1991 or to support his income being as filed.
Issue
[5] The issue is whether the Appellant's income for the 1993 and 1994 taxation years as reported was understated.
The Evidence at Trial
[6] The Appellant did not call viva voce evidence at trial. Aside from the admissions from the pleadings, counsel for the Appellant, in terms of other evidence, read in selected questions and answers from the Examination for Discovery of Mr. Walter Ko, the Revenue Canada Medium Business Auditor who reassessed the Appellant, Mr. George R.H. Hsu.
[7] From the read in questions and answers, Mr. Ko stated the audit was restricted because Mr. Hsu did not provide any documentation. Mr. Ko in an interview with Mr. Hsu and a Mr. Gim Huey and a friend, Mr. George Ho, outlined the questions and the documentation that Mr. Ko on behalf of Revenue Canada wanted answered or produced. Mr. Ko was advised that Mr. Huey was to be the Appellant's contact person during the inquiry period. Mr. Ko also sent a letter requesting the same information. No responses were received from Mr. Hsu or Mr Huey.
[8] Mr. Ko also referred to other sources of information in the hands of Revenue Canada including T-5 slips, Mr. Hsu's tax return, real estate search documentation and immigration documentation.
[9] The reassessment followed. On the reassessment under the heading of adjustments the following is set forth:
The reassessment will be based on the rough discrepancy per net worth statement and basically match the amounts as estimated as per our letter dated October 4th, 1996, directed to the taxpayer.[4]
[10] Thereafter, Mr. Ko explained the methodology of his net worth calculation as follows:
And it was a very rough net worth in the sense that I only had the opening figure in 1991, and all I did was make an assumption that the capital increased by ten per cent each year, that's all that is.[5]
[11] The Appellant's counsel then put the following excerpt from a Revenue Canada document, The Taxpayers Operations Manual (TOM), in relation to a Net Worth Assessment to Mr. Ko[6]:
84 Q ..."1421.2 Principles of the Net Worth Method". And I'll
just read that into the record. It says:
The use of a net worth approach to measure income is based on the premise that a client's income for a period is the increase in the client's net worth (financial position) between the beginning and end of a particular period. A client's net worth is the excess of his total assets (business and personal) over his total liabilities (business and personal) at a specific date.
So would you agree that this is the approach that you took in preparing this audit and reassessment of Mr. Hsu?
A No, I did not take this approach.
85 Q You did not?
A No.
86 Q What approach did you take?
A The approach I took first was his capital and I took ten per cent of return on capital, okay.
87 Q Okay.
A All right. An then to verify this figure, it was just – the net worth was prepared after I did this one, okay.
88 Q Sorry, I don't quite understand what you're talking about.
A Okay. The proposal letter is based on his personal net worth of $3 million and return of capital of ten per cent. That's how I came up with $300,000 for each year. And that rough – that personal net worth of $3 million is based on his immigration paper, roughly $2.8 million or something like that, okay, in 1991. And I'm looking at 93, '94, so I figure his net worth must have gone up $2-, $3 million. So these figures were arrived at first, okay.
...
92 Q So in 1993, you estimated his personal net worth at
$3 million, estimated return on capital of ten per cent equals $300,000?
A That's right.
93 Q And then you deduct the reported interest income –-
A That's right.
94 Q -- to come up with the difference of $298,791.17?
A That's right.
95 Q And then 1994, estimated return on capital, $300,000?
A That's right.
96 Q Less reported of nil, adjustment is $300,000$
A That's right. That was the proposal letter I sent out to him and that's the amount of the reassessment. Now, that schedule in the back is basically the net worth schedule that I prepared that I indicated to you was very rough in the sense that I cannot prepare it based on this method here because I do not have – he did not provide me with any information as to his net worth in '93 or '94.
...
114 Q Explain again to me where you got the $300,000 number
from?
A It's ten per cent of $3 million.
115 Q And why did you choose ten per cent?
A It was a nice figure. But anyway –
116 Q A round figure?
A No, it wasn't that. The prime rate at that time was about eight per cent or something like that here in Vancouver.
117 Q Yes.
A Yeah, '91, '92, '93, '94, around ten per cent. So prime plus two.
118 Q And you thought that was his return, prime plus two?
A Well, the mortgage rate was about that amount too, so ten per cent was not unreasonable.
119 Q What sort of return is subsumed within this figure? You
state that it's a return on capital or ten per cent.
A That's right.
120 Q What type of return?
A Well, for the stocks and bonds that he has, there will be dividends, interest.
121 Q Yes.
A Passive income anyway.
122 Q Property income?
A Property income.
123 Q Okay. And on the real estate?
A Rental income.
[12] Mr. Ko reaffirmed this methodology as his method of reassessment by stating he had an evaluation-opening figure from the immigration papers at the beginning of 1993 but did not have a closing figure at the end of 1994.
[13] The Respondent called one witness, the same Mr. Ko.
[14] Mr. Ko reviewed the previously referred to interview meeting with Messrs. Hsu, Ho and Huey and stated he did not receive any of the requested information or documentation.
[15] He said Mr. Hsu confirmed he was still a shareholder in an offshore company but no other details were forthcoming.
[16] After a further period of non responses a reassessment proposal letter by Mr. Ko was hand delivered by Mr. Ko.
[17] Thereafter, Mr Ho sent a letter to Mr. Ko that he wanted to discuss the matter on behalf of Mr. Hsu. Mr. Ko asked for authorization from Mr. Hsu to allow Mr. Ho to discuss the matter – no authorization was forthcoming.
[18] After the examination for discovery and prior to this trial certain Toronto Dominion Bank documents pertaining to the Appellant were provided to the Respondent. Mr. Ko reviewed the documents the day before this hearing. In summary he found for the years in question that over $200,000.00 was deposited to Mr. Hsu's bank account.
The Appellant's Submission[7]
[19] Mr. Walter Ko was the auditor. His evidence shows that he assumed in making the reassessments to tax for the Appellant's 1993 and 1994 taxation years that each asset had generated, in the form of income from property whether as dividends, rent or interest, a 10% annual return to the Appellant.
[20] The Respondent pleaded its case using the assumption that the Appellant's assets in Taiwan appreciated in value over the years in question instead of relying upon the actual assumptions made by the auditor. Leaving aside the question of whether the appreciation in value of a capital asset, without a disposition, gives rise to any tax liability, this is not the same assumption that was made by the auditor in issuing the reassessments.
[21] The Appellant challenged the assumption that the assets in Taiwan appreciated as the evidence of Mr. Ko confirmed the assessment was made on an unpleaded assumption. Therefore the Appellant has met the initial onus.
[22] The Minister seeking to support the assessment by pleading facts that were not assumed at the time the assessments were issued to support the reassessments, or, alternatively, by relying upon unpleaded assumptions to support the reassessments. In either case, the Minister must now bear the onus of proof.
[23] In the Appellant's submission, the Minister has not met this onus. The evidence adduced by the Minister did not prove, on a balance of probabilities, that the Appellant's net worth had increased during the years under appeal, much less through transactions that would have given rise to tax liability.
[24] The audit work done in this case was nothing if not incomplete and superficial. The Minister does not discharge his audit duty or duty of disclosure by simply plucking a number out of the air without any factual basis, and then asking the taxpayer to disprove it because the onus rests on the taxpayer.
[25] If the Minister now wishes to rely upon the "property income" assumption in support of the assessments, he must adduce evidence and prove it on a balance of probabilities. The Minister has not introduced any such evidence.
[26] The Appellant also submitted in relation to the bank account deposits reviewed by Mr. Ko's viva voce evidence there was no evidence to show they come from a taxable source.
[27] The Reply to the Notice of Appeal does not, quite simply, disclose any basis for taxation and further evidence of Mr. Ko does not disclose deposits form a taxable source.
The Respondent's Position
[28] Mr. Hsu has not produced evidence to show the assets did not produce income.
[29] The Reply to Notice of Appeal assumptions set forth the Crown's position:
5.a) in reporting income for the 1993, 1994 taxation years the Appellant did not include all of the income received in these years;
b) the incomes of the Appellant during the 1993, 1994 taxation years were understated by the amounts of $298,792.17 and $300,000.00 respectively.
[30] Taxpayers of Canada are governed by a self-assessing system and are required to self-report accurately.
[31] The evidence showed that Mr. Hsu had assets, did conduct some economic activity including operate a bank account, made over $200,000 in deposits, purchased a home, paid mortgage payments, was a shareholder in an offshore company and apparently did not have employment income.
[32] The Respondent's base position from what little information the Respondent had, was to prepare a form of net worth assessment. The Respondent submits upon review of the pleadings and evidence before the Court. There is no onus for the Crown to discharge and the Appellant has not discharged the onus incumbent upon him.
Analysis
[33] The combination of subsection 2(1) and section 3 of the Act make it clear that a Canadian resident is liable to pay income tax on his or her 'world' income. Subsection 2(1) states that an income tax shall be paid by a person resident in Canada at any time in the year and section 3 specifies that the taxpayer is liable on his or her income from sources inside and outside Canada. Since Mr. Hsu was a Canadian resident for the 1993 and 1994 taxation years, he is liable to pay income tax on his 'world' income.
[34] In determining the 'world' income of the Appellant, the Minister adopted a variation of the net worth method of assessment. The legal basis for the Minister to use the net worth method is found in subsection 152(7) of the Act which provides:
The Minister is not bound by a return or information supplied by or on behalf of a taxpayer and, in making an assessment, may, notwithstanding a return or information so supplied or if no return has been filed, assess the tax payable under this Part.
[35] Assessments made under this subsection have a presumption of validity in their favour.[8] Judge Bowman summarized the principles applicable in cases dealing with net worth in Bigayan v. R., 1999 CarswellNat 2288, wherein he stated:
The net worth method, as observed in Ramey v. R. (1993), 93 D.T.C. 791 (T.C.C.), is a last resort to be used when all else fails. Frequently it is used when a taxpayer has failed to file income tax returns or has kept no records. It is a blunt instrument, accurate within a range of indeterminate magnitude. It is based on an assumption that if one subtracts a taxpayer's net worth at the beginning of a year from that at the end, adds the taxpayer's expenditures in the year, deletes non-taxable receipts and accretions to value of existing assets, the net result, less any amount declared by the taxpayer, must be attributable to unreported income earned in the year, unless the taxpayer can demonstrate otherwise. It is at best an unsatisfactory method, arbitrary and inaccurate but sometimes it is the only means of approximating the income of a taxpayer.
The best method of challenging a net worth assessment is to put forth evidence of what the taxpayer's income actually is. A less satisfactory, but nonetheless acceptable method is described by Cameron J. in Chernenkoff v. Minister of National Revenue (1949), 4 D.T.C. 680 (Can. Ex. Ct.) at 683:
In the absence of records, the alternative course open to the appellant was to prove that even on a proper and complete "net worth" basis the assessments were wrong.
This method of challenging a net worth assessment is accepted, but even after the adjustments have been completed one is left with the uneasy feeling that the truth has not been fully uncovered. Tinkering with an inherently flawed and imperfect vehicle is not likely to perfect it.
and:
It is not necessary for me to repeat what has been said about net worth assessments in other cases. The statutory basis is found in subsections 152(4) and 152(7) of the Income Tax Act. The effect of subsection 152(7) has been articulated in Dezura v. Minister of National Revenue (1947), [1948] Ex. C.R. 10 (Can Ex.Ct.); Morrow v. Minister of National Revenue (1992), 92 D.T.C. 6380 (Fed. C.A.); Kerr v. R. (1989), 89 D.T.C. 5348 (Fed. T.D.); Chernenkoff v.Minister of National Revenue(1949), 49 D.T.C. 680 (Can. Ex.Ct.) and Ramey v. R. (1993), 93 D.T.C. 791 (T.C.C.). The means of determining a taxpayer's income by the net worth method is necessarily somewhat arbitrary and imprecise and it is used only as a last resort.[9]
(emphasis added)
[36] The Minister purported to reassess on a net worth basis by assuming in the 1993 and 1994 taxation years the Appellant did not include all of the income received in those years. The Minister assumed the incomes were understated by $298,792.17 for the 1993 taxation year and by $300,000.00 for the 1994 taxation year.
[37] The Minister's auditor in evidence stated the defined net worth method as set forth in the Minister of National Revenue’s Taxpayer's Operations Manual under the heading of principles of Net Worth could not be followed because the Minister did not have a closing net worth value. In the discovery process the auditor explained and clarified how he reassessed on the basis that the asset value found in the beginning net worth generated a 10% return (estimated 8% prime rate plus 2%) payable as dividends, rent or interest. The auditor's evidence was that several attempts to obtain better information, answers and documents from the Appellant were unsuccessful.
[38] In support of the reassessment the Minister relied on the findings that the Appellant for the taxation years in question had operated a bank account, was a shareholder in an offshore company, paid in 1993 and 1994 $39,617.28 respectively in mortgage payments to the Toronto Dominion Bank, supported his family, and did not dispose of his assets in Taiwan between when he submitted his "Personal Worth Statement" on March 4, 1991 and the end of the 1994 taxation year.
[39] The Appellant states the audit was incomplete and superficial. I conclude the Appellant did nothing during the audit stage to ensure a full, complete and correct audit although information and documents were asked for repeatedly by the auditor.
[40] As hereinbefore identified, the Appellant has challenged one assumption underlying the reassessment. In response to that, the Minister has provided clarifying evidence of what was the actual basis underlying the reassessment and has provided further evidence to support the primary assumption of understated income. The Appellant has offered no evidence to rebut any assumptions including the understated income. Indeed the Appellant himself did not give any evidence of any kind.
[41] Mr. Ko's evidence of how he arrived at an estimated generated income stream from the assets given the limited ascertainable facts is a reasonable and logical conclusion.
Decision
[42] I find the Appellant was in receipt of income that was not declared and with no other evidence from the Appellant leading to contrary conclusion the reassessment is sustained and the appeals are dismissed.
The Respondent is entitled to her costs.
Signed at Ottawa, Canada, this 15th day of May 2000.
"D. Hamlyn"
T.C.C.J.
[1] Admitted by the Appellant's counsel at trial.
[2] Admitted by the Appellant's counsel at trial – in relation to the Appellant only.
[3] Schedule A is not reproduced herein – it contained 4 schedules – Schedule I includes a “Net Worth Statement” showing an “assumption of 10% increase” in the value of assets for 1993 and 1994, Schedule II shows an increase in net worth for 1993 and 1994. Schedule III a rounded net worth statement for 1993 and 1994 of $300,000 for each year respectively and Schedule IV, a “Statement of Personal Expenditures” of $40,727 respectively for 1993 and 1994.
[4] Examination for Discovery of Walter Ko, February 21, 2000, question no. 76.
[5] Ibid, answer to question no. 77.
[6] Ibid, questions and answers 84 to 123.
[7] Filed Written Submissions.
[8] Morrow v. M.N.R., [1992] 2 C.T.C. 110 at page 112 (F.C.A.).
[9] Martin v. R., 1999 CarswellNat 2293.