A properly incorporated company is a separate “person” in the eyes of the law, and a corporation’s directors and officers are generally-speaking not liable for the corporation’s debts. As an exception to this general rule, a number of provincial and federal statutes impose personal liability on directors (and sometimes officers and others as well) for amounts owing by the corporation, where the corporation itself fails to pay. Two such statutes are the Income Tax Act for payroll deductions, and the Excise Tax Act for net GST/HST owing. Both these statutes provide a “due diligence” defence to the director, exonerating a director “where the director exercised the degree of care, diligence and skill to prevent the failure [to remit taxes] that a reasonably prudent person would have exercised in comparable circumstances”.
In R. v. Buckingham, 2011 FCA 142, it was clear that the director had taken reasonable measures to address the business’ difficulties – which if successful would have also helped to avoid a failure to remit taxes – including pursuing an equity issue, a line of credit, reductions in expenditures, a merger with another company, and the sale of a business division to raise cash. The due diligence defence had been successful at trial, but the Federal Court of Appeal overturned this decision and instead held that the director was personally liable for the corporation’s tax remittances. The court held that, although the director had acted reasonably as regards the corporation’s predicament generally, the due diligence defence requires that a director act reasonably with regard to the tax liability alone. Here, the director’s actions may have been in the corporation’s best interests, but were not best calculated to prevent a failure to remit taxes.
This ruling seems to place directors in a conflict of interest between their duty to their corporation and their personal interest in avoiding personal liability for corporate tax debts. In order to avoid personal tax liability, a director may choose to allow a business to fail sooner rather than risk some restructuring which might result in increased tax liabilities, but this same course of action may expose the director to criticism for not acting in the corporation’s best interests.