Mocking the Tax System?

During the period covering the offences, the accused filed false GST returns claiming a combined refund of $20,628,805. Of that amount, the CRA paid $275,960 in refunds and allocated an additional $81,399 as a credit to other amounts owing to the agency, meaning the family and their companies were paid $357,359.—Cape Breton Post, 23 June 2022

Canadian companies avoided paying up to $11.4 billion worth of taxes they should have paid in the single tax year of 2014, according to the federal tax agency—CBC 18 June 2019

 

That first quote, of course, references the Cape Breton mother and her three daughters—the “Housewives in Heels”—convicted on 10 counts of fraud and 10 counts of filing false GST claims in February and sentenced last week to between two and four years in prison.

In finding the four guilty, Supreme Court Justice Robin Gogan employed what I have to call—considering we’re talking about a four-year scheme that netted $360,000—hyperbole, terming it:

…a fraud on the Canadian public of staggering proportions.

I think Justice Gogan needs to get out more.

Post-Enron, post-Madoff, post-MCI World and in the midst of the cryptocurrency meltdown, we’re none of us so easily staggered these days. The Housewives didn’t kill anyone, lose anyone’s life savings, purloin anyone’s pension or cost anyone their job. Sure, they were aiming to steal more than $360,000 but their scheme was so transparently stupid it couldn’t stand up to the slightest CRA scrutiny. Short of mailing an actual red flag to the agency, I don’t see how they could more effectively have triggered the investigation they didn’t have a hope of surviving.

Judge gavel and scale in court. Library with lot of books in background.

Just read the decision: they lied about revenues, they lied about purchases, they claimed to have sold $40,000 worth of salad dressing to a women’s clothing boutique in Halifax, they made up Nova Scotia addresses like “Kardawiyah StreetandWidad Lane,” they opened bank accounts for some of their companies after the CRA began its investigation. Gogan may be right in claiming “the magnitude of the fiction” in the case is “breathtaking” and the “hubris of its shocking” but what isn’t particularly breathtaking or shocking is the scheme itself or the magnitude of their haul.

And yes, they pled not guilty and from Gogan’s account, did not seem particularly remorseful for their actions, but they also defended themselves, which is highly uncharacteristic of big-time fraudsters, who usually lawyer up.

The sentences apparently reflect not the amount they stole but the amount they attempted to steal, and I guess I get the logic behind that, but at the same time, there’s such a gulf between stealing $20 million and trying to steal $20 million and getting $360,000 because your scheme is ridiculous that I can’t help but feel it should be reflected in the punishment.

Instead, these women were escorted out of Gogan’s courtroom in handcuffs and shackles as though they posed some immediate threat to public safety—as though unrestrained, they might run into the streets and file a bunch of fake GST claims—and all four, including the 77-year-old matriarch, will serve their sentences in federal prison. The fines levied against the four women who, remember, stole $360,000, total $3.8 million.

These sentences seemed unduly harsh to me, but I am neither a prosecutor nor a judge nor a CRA investigator, so I decided to try and put them into some kind of context and the exercise has served to convince me…that these sentences are unduly harsh.

 

Perspective

The first thing I’d note is how rare jail sentences are for what the CRA terms “tax evasion” but which is actually (I checked with the CRA) a catch-all term for convictions under Income Tax Act, Excise Tax Act, and/or Criminal Code. (The Housewives were charged under the Excise Tax Act and the Criminal Code.)

In her judgement, Justice Gogan notes that the CRA discovered the “scope” of the family’s scheme during a civil audit in April 2015 and the agency’s Criminal Investigation Directorate (CID) began a formal investigation in June 2016. According to the CRA’s own statistics, the Housewives’ case would have been one of 32,171 leads received in 2015-2016 and of just 377 criminal investigations launched in 2016-2017.

The charges in the case were laid in February 2019, which means the Housewives’ file was one of just 61 in which criminal charges were filed in 2018-2019.

The women were found guilty in February 2022 and sentenced in June, so the applicable CRA stats are not yet available, but I will note that in the past seven years, the number of people sentenced to jail for tax evasion has ranged from 12 in 2019-2020 to 34 in 2015-2016.

I don’t think there can be any question but that prosecutions under the tax laws are less about rooting out tax fraud, more about making an example of the odd cheat pour encourager les autres. The agency’s statistics from a year like, say, 2019-2021, kind of say it all. That year, 34,019 leads produced 244 criminal investigations which culminated in 32 convictions and 13 jail sentences. Are we really to believe that out of those 34,019 leads, only 32 people were actually guilty of tax evasion?

The next thing to consider is the length of the jail sentence. Again, according to the CRA’s own statistics, the average jail term for those convicted of tax evasion in the past seven years has ranged from a low of 17.1 months in 2019-2020 to a high of 34.9 months in 2018-2019.

In the case of the Housewives in Heels, the mother, Lydia Saker, was given 24 months in prison; Nadia Saker and Angela MacDonald were each given 36 months; and the “ringleader,” Georgette Young, was given 48 months. In other words, three of them were given sentences higher than the average in any of the past seven years.

As for their fines, as noted above, they totaled $3,787,506 or 10 times the amount of money they actually stole.

I wanted to compare the Housewives’ sentences to another CRA-driven case, and I found that Young’s sentence is higher and her sisters’ on par with than that given Ralston MacDonnell of Halifax who, in August 2021, was sentenced to three years in jail and fined $301,511.25 for defrauding the government by “collecting and failing to remit” GST/HST and payroll source deductions totaling $961,700.55.

If you broaden the category to include frauds other than tax frauds, Young’s sentence is comparable to those given Dan Potter and Bloise Colpitts, the men behind the Knowledge House stock-manipulation scheme that cost investors millions of dollars (prosecutors estimated $86 million) and 120 people their jobs. Potter and Colpitts were sentenced to five years and four-and-a-half years, respectively, in 2018.

All the Housewives received stiffer sentences than did Nova Scotians Bry’n Ross and Harold Dawson who defrauded the Department of National Defence out of about $2 million in a scheme that involved Ross steering DND contracts to Dawson, who had created four companies to make it appear as though the bidding was competitive. The two received conditional sentences and two years of house arrest in 2020 after Justice James Chipman dismissed the Crown’s request for federal prison terms, writing, as the CBC reported:

I am of the overwhelming view that it would not be in the interests of justice to commit Messrs. Ross and Dawson to a prison environment.

Chipman said he felt the fraud was not that sophisticated and that the DND would have found it much sooner had it conducted a file review earlier.

According to the Post‘s account of the sentencing hearing, Justice Gogan justified the jail terms on the grounds the women had made “a mockery of a tax system that is dependent on the integrity of its citizens.”

Let’s talk about that, shall we?

 

More Perspective

While the CRA succeeds in tracking down and punishing a handful of tax miscreants each year, it also regularly reminds us how many corporations are avoiding its nets. I started off this piece with a quote from a CBC story about the agency’s fifth and final “tax gap” report, released in 2019 but looking at data from 2014.

That year, the CRA estimated large corporations had avoided paying between $6.7 billion and $7.9 billion in taxes by means of tax evasion and “aggressive tax avoidance,” the latter including hiding money in offshore havens.

Close-up of assorted Canadian paper currency

Tax evasion is an easy concept to understand as it involves deliberately ignoring the law, but the CRA’s distinctions between aggressive tax avoidance, tax avoidance, tax planning and aggressive tax planning are much harder to grasp:

Tax avoidance and tax planning both involve tax reduction arrangements that may meet the specific wording of the relevant legislation. Effective tax planning occurs when the results of these arrangements are consistent with the intent of the law. When tax planning reduces taxes in a way that is inconsistent with the overall spirit of the law, the arrangements are referred to as tax avoidance. The Canada Revenue Agency’s interpretation of the term “tax avoidance” includes all unacceptable and abusive tax planning. Aggressive tax planning refers to arrangements that “push the limits” of acceptable tax planning.

This notion that respecting the spirit of the law is as important as respecting the letter of the law sounds good, but then you read something like this 2018 Globe and Mail article by Allan Lanthier, a former chair of the Canadian Tax Foundation, and you have to wonder. Lanthier begins with a question:

Are large Canadian corporations bilking us out of billions of tax dollars every year, as commentators sometimes suggest? And if so, how do they get away with it?

He then answers that question with reference to two cases that had recently been decided by the Tax Court of Canada.

The first involved the Bank of Montreal (BMO) and a complicated 2005 arrangement by which its wholly owned US subsidiary Harris Bank, borrowed money from a third party. Except, rather than Harris simply borrowing the money from the third party, BMO “established a complex financial vehicle” known as a “tower structure.”

The structure typically involves three entities – a U.S. limited partnership, and a corporation in each of Nova Scotia and Delaware. The structure plays on different tax rules that exist in Canada versus the United States, with the result that interest expense on third-party debt is deducted twice – once in Canada and a second time in the United States. The entities have little substance and no employees. They exist on paper, on nameplates and in legal offices, solely to facilitate double-deductions for interest expense.

(Quick side note: I realized, reading this article, that EverWind, the company that claims it will turn NS into a green hydrogen hub, appears to have been set up as a  tower structure. I knew its founders had established three Nova Scotia Unlimited Companies, so I checked the Delaware registry and, sure enough, they’ve established a bunch of Delaware-based companies too.)

In the BMO case, cash of $1.4 billion was borrowed from the third party and funneled through the tower structure to Harris, which deducted the related interest expense in the US while BMO also claimed the deductions in Canada “against income that had nothing whatever to do with the Harris operations.”

Between 2005 and 2010, BMO and Harris each deducted interest worth—wait for it—US$275 million (that’s CAD$354 million according to the current exchange rate).

The CRA, it must be noted, didn’t bat an eye at this. The court case had to do with the capital loss (due to foreign-exchange fluctuations) claimed by BMO when it unwound the arrangement. The CRA denied “substantially all” of this loss, BMO took the issue to the Tax Court and the court found in favor of BMO.

Lanthier’s second example was that of Saskatoon-based uranium miner Cameco and a scheme to shift profits out of Canada to avoid paying Canadian tax; a scheme that eventually involved subsidiaries in Barbados, Ireland, Luxembourg and Switzerland.

Between 2003 and 2017, Cameco’s Swiss subsidiary, which had two employees, earned $8.4 billion in profits. The CRA went after the company to pay Canadian tax on these profits:

The first three years in dispute went to trial and, in a massive 293-page decision issued last month, the court found unequivocally in favour of Cameco: It ordered the CRA to reverse the assessments in their entirety.

Subsequent to Lanthier’s article, the Federal Court of Appeal upheld the Tax Court ruling and in 2021, the Supreme Court denied the CRA’s request for leave to appeal that decision. Discussing the case with the Toronto Star, Toby Sanger of Canadians for Tax Fairness said:

…Cameco shifted billions in profits to a small trading subsidiary in Zug, Switzerland while declaring “little or no profits in Canada” and paying “little or no corporate income tax” on some of its dealings. This has become common practice among multinationals seeking to avoid “paying their fair share,” he said.

“This is a very important precedent-setting case over the use of transfer pricing and ‘arm’s length’ subsidiaries that goes to the heart of how many large multinational corporations avoid taxes. The Supreme Court’s dismissal of this case is a clear message to the federal government that they must reform laws to prevent this type of abuse,” Sanger said.

My initial thought was that this proves it’s the letter, not the spirit, of the law that actually matters but upon consideration, I’m more inclined to think it proves that both the letter and the spirit of tax laws governing corporations condone tax avoidance.

Lanthier ends his piece by returning to his initial question:

So, do large Canadian corporations avoid billions of dollars of taxes each year? You bet they do. And other taxpayers – you and I – have to ante up the shortfall.

One might go so far as to say these corporations are making a mockery of our tax system.