“Fishing Expeditions” Limited by Newly-Enacted Budget Measures
Prior to the 2013 federal budget, former subsection 231.2(3) of the Income Tax Act allowed the Minister, on an ex parte application, to require third parties (such as employers or insurers) to produce documents or information relating to unnamed taxpayers. A judge could grant the order without the third party being present or even knowing about the order if the Minister could show that the unnamed taxpayers were ascertainable and the requirement was necessary to verify the unnamed taxpayers’ compliance with the Act.
In two separate decisions rendered earlier this year, the Federal Court of Appeal (FCA) rebuked the Minister’s “highhanded” use of former subsection 231.2(3). In RBC Life Insurance (2013 FCA 50), the Minister was granted ex parte orders requiring several insurance companies to provide information on clients who had purchased certain “10-8” plans. Under a “10-8” plan, the policy holder pays 10% interest on a loan secured by the policy and receives a 8% return on the investment in the policy. A tax benefit arises because the 8% is tax exempt and the 10% is generally tax deductible. Subsequent to (and in compliance with) the ex parte orders being granted, the Minister produced internal GAAR committee documents and advance rulings showing that it was the Minister’s view that the 10-8 plans technically complied with the letter of the law. The documents also showed that the Minister’s “primary purpose” in seeking the order was to conduct an “audit blitz” and to “send a chilling message to the insurance industry.” In light of the foregoing, the insurance companies applied to the FCA to have the ex parte orders quashed.
The FCA agreed with the insurance companies and strongly rebuked the Minister for its failure to make full disclosure of all relevant facts. In the Court’s view, “the culpability of the Minister was significant” and “the non-disclosure was undoubtedly material”. The Court also stated that the requirements imposed on the insurance companies were not necessary to verify the policy holders’ compliance with the law as required by subsection 231.2(3) as the Minister’s ultimate goal in seeking the orders was to provide a chilling effect on the “10-8” planning business. Plainly stated, the Court indicated that “even if the Minster had a valid audit purpose” the authorizations must be cancelled “to deprive the Minister of an advantage improperly obtained.”
In Lordco (2013 FCA 49), the FCA also cancelled ex parte orders on the basis that the Minister failed to make full and frank disclosure when applying for the orders. The authorization previously granted to the Minister required the respondent, Lordco Parts Ltd. to produce information relating to employees who had participated in a promotional cruise organized by Lordco. In this case, the FCA also noted that the Minister failed to disclose that there was an alternative source by which the information the Minister desired could be obtained. The Court held that the existence of an alternative source is a material fact that should be disclosed in an ex parte application and “a judge must not be left in the dark on such an important point.”
The federal government responded to these decisions by removing the Minister’s ability to seek the issuance of a court order on an ex parte basis under the newly enacted subsection 231.2(3). As a result, the Minister is now required to give notice to the third party, who in turn, may provide representations at the hearing of the application for the order. These are welcomed changes and a step forward in restoring the balance between taxpayers’ rights and the Minister’s mandate to ensure compliance with the Act.