In Noran West Developments Ltd. v. The Queen, the Tax Court of Canada (Justice Brent Paris) upheld the validity of a taxpayer's waiver of its right to appeal executed following the conclusion of a settlement with the Appeals Division of the Canada Revenue Agency (the "CRA").  This conclusion was reached, and the Crown's motion to quash granted, notwithstanding the taxpayer's valiant attempts to set aside the agreement.

The relevant statutory provision in subsection 169(2.2) of the Income Tax Act:

Waived issues

(2.2) Notwithstanding subsections 169(1) and 169(2), for greater certainty a taxpayer may not appeal to the Tax Court of Canada to have an assessment under this Part vacated or varied in respect of an issue for which the right of objection or appeal has been waived in writing by the taxpayer.

By way of background, the CRA audited a corporate taxpayer (the Appellant) in respect of unreported income from a condominium joint venture which engaged in certain non-arm's length dispositions.  The auditor reassessed to (a) include $640,000 in the taxpayer's income for its 2005 taxation year (on the basis of a valuation of the relevant condominium units), (b) recognize a shareholder benefit to the taxpayer's sole shareholder and (c) apply gross negligence penalties under subsection 163(2) of the Income Tax Act in respect of both reassessments.

The taxpayer filed a notice of objection objecting to the inclusion of the $640,000 in its income (on the basis that the CRA's valuation was wrong) and the assessment of a subsection 163(2) penalty.  The taxpayer's sole shareholder filed no objection against his own reassessment.

Following discussions with the taxpayer's representative, the Appeals Officer offered to settle the matter by (a) reducing the income inclusion by $50,000 (on the basis of a reduced valuation of the relevant condominium units) and (b) reducing the amount of the subsection 163(2) penalty accordingly.  The Appeals Officer sent a standard waiver letter which was signed by the taxpayer's sole shareholder on behalf of the taxpayer.  It included the usual language in which the signatory attests that he or she is "familiar with subsection 165(1.2) and 169(2.2) of the Income Tax Act and understand that I will be precluded from filing an objection or an appeal with respect to those issues."

The CRA reassessed to implement the settlement, but the taxpayer filed an appeal in Tax Court in response.  The Crown moved to quash the appeal on the basis that the taxpayer had waived its right to appeal under subsection 169(2.2) of the Income Tax Act.  In answer to the motion counsel for the taxpayer advanced six arguments, none of which were successful:

1. The waiver agreement was not "in writing" as required by subsection 169(2.2) as the Appeals Officer omitted the taxpayer's name.

The Tax Court judge concluded that "waived in writing" simply "requires that a waiver be reduced to writing as opposed to one given orally" and proceeded to find that the waiver agreement could not reasonably be read as applying to anyone other than the taxpayer.

2. The waiver agreement is unenforceable as the reassessment contemplated by that agreement would not have been consistent with the facts and the law.

The Tax Court judge found that there were errors in the first reassessment (the one that was settled).  However, the reassessment before the Court was the second reassessment (the one issued as a result of the waiver agreement).  As the second reassessment simply reduced the taxpayer's income by $50,000 and reduced the subsection 163(2) penalty accordingly, there was no question that such a reassessment is within the CRA's power.

3. The waiver agreement is invalid because the parties were not ad idem as to the terms of the agreement.  

First, it was said that the taxpayer's sole shareholder believed that the waiver agreement applied to three taxpayers, not just one.  Therefore, there was no "meeting of the minds".  Unfortunately for the taxpayer, the judge found that that belief, on the evidence, was "highly unlikely".  In addition, an adverse inference was drawn from the failure of the taxpayer's representative to give any evidence at all about what happened at the appeals stage.  The judge also rejected the contention that the sole shareholder believed that issue of beneficial ownership of the condominium units wasn't covered by the waiver agreement and, therefore, there was no consensus ad idem.  There was no "beneficial ownership" issue raised in the Notice of Objection, so there could be no reasonable expectation that it would have been reflected in the agreement.  The taxpayer's final contention was that the sole shareholder did not believe that the waiver agreement dealt with the subsection 163(2) penalty.  As the text of the agreement dealt with the penalty, Justice Paris concluded that:

[61] . . . [i]f a party chooses not to read an agreement with care before signing it, or chooses to skip reading parts of it, I fail to see how he can turn around and allege that his intention did not accord with the written agreement. It must be presumed that, in those circumstances, the party intended to accept the agreement as written.

4. The agreement was vitiated by the CRA as it did not satisfy the terms of the waiver agreement because the subsection 163(2) penalty was incorrectly calculated on the second reassessment. 

Here is the error:

[24]  The respondent's counsel concedes that an error was made in calculating the amount of the gross negligence penalty in the [second] reassessment and that the penalty was based on unreported income in the amount of $599,760 rather than on $589,760, as agreed. The respondent concedes that the penalty was too high by as much as $1,106. Because this error was only raised by Noran's counsel shortly before the hearing of the motion, counsel for the respondent advised the Court that she was unable to obtain the exact amount of the error.

The Tax Court judge found himself unable to agree with the proposition that:

[65] . . . any inconsistency between the reassessment and the waiver agreement allows a taxpayer to appeal any aspect of the reassessment as if no waiver had been given.  It does not make sense that any error in reassessing, however minor, could permit a taxpayer to repudiate the waiver entirely.

5. The Tax Court should decline to enforce the waiver agreement on the basis that it is unconscionable. 

This argument was not pressed strongly.  In any event, the judge could find no evidence to support it.

6. The taxpayer is appealing issues other than those dealt with in the waiver agreement. 

This argument was based on the sole shareholder's belief about what was covered by the agreement (which was rather narrow) rather than the text of the agreement itself.  Justice Paris rejected reliance on subjective belief and concluded that a "reasonable person" standard must be applied:

[74]  When searching for the intentions of the parties, I believe that the search for intention in the case of a waiver is to be conducted in the same manner as for any contract on the basis of the parties' manifested intention. That intention is determined from the perspective of the objective reasonable bystander. Fridman in the Law of Contract in Canada, refers to the classical formulation of this notion in Smith v. Hughes:

If whatever a man's real intention may be, he so conducts himself that a reasonable man would believe that he was assenting to the terms proposed by the other party and that other party upon that belief enters into a contract with him, the man thus conducting himself would be equally bound as if he had intended to agree to the other party's terms.

*  *  *

Underlying this decision is a clear public policy that negotiated settlements, as a general matter, ought to be upheld:

[45] . . . The desirability of upholding negotiated settlements was discussed by Bowie J. in 1390758 Ontario Corp v. The Queen: 

[35] I agree with Bowman C.J. and the authors Hogg, Magee and Li that there are sound policy reasons to uphold negotiated settlements of tax disputes freely arrived at between taxpayers and the Minister's representatives. The addition of subsection 169(3) to the Act in 1994 is recognition by Parliament of that. It is not for the Courts to purport to review the propriety of such settlements. That task properly belongs to the Auditor General.

[36] The reality is that tax disputes are settled every day in this country. If they were not, and every difference had to be litigated to judgment, unmanageable backlogs would quickly accumulate and the system would break down.

[37] The Crown settles tort and contract claims brought by and against it on a regular basis. There is no reason why it should not settle tax disputes as well. Both sides of a dispute are entitled to know that if they invest the time and effort required to negotiate a settlement, then their agreement will bind both parties.

Although the taxpayer was unsuccessful, this decision is ultimately reassuring as the same principle applies to the government - if the CRA attempts to resile from a settlement agreement it too will be confronted by the same underlying public policy, namely, that negotiated settlements of tax disputes should be respected.

For more information, visit our Canadian Tax Litigation blog at www.canadiantaxlitigation.com

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