Heinig v. The Queen

Heinig v. The Queen
Court (s) Database
Tax Court of Canada Judgments
Date
2010-07-09
Neutral citation
2010 TCC 351
File numbers
2007-2125(IT)G
Judges and Taxing Officers
Lucie Lamarre
Subjects
Income Tax Act
Decision Content
Dockets: 2007-2125(IT)G
2007-2126(GST)G
BETWEEN:
DONNA HEINIG,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
____________________________________________________________________
Appeals heard on May 3, 4, 5 and 6, 2010, at Toronto, Ontario.
Before: The Honourable Justice Lucie Lamarre
Appearances:
Counsel for the Appellant:
Franklyn Cappell
Counsel for the Respondent:
Bobby Sood and
Paolo Torchetti
____________________________________________________________________
JUDGMENT
The appeals from the reassessments made by the Minister of National Revenue under the Income Tax Act for the 2000, 2001, 2002 and 2003 taxation years and under the Excise Tax Act for the period from January 1, 2000 to December 31, 2003 are dismissed, with costs to the respondent under Tariff B of the Tax Court of Canada Rules (General Procedure), in accordance with the attached Reasons for Judgment.
Signed at Ottawa, Canada, this 9th day of July 2010.
" Lucie Lamarre "
Lamarre J.
Citation: 2010 TCC 351
Date: 20100709
Dockets: 2007-2125(IT)G
2007-2126(GST)G
BETWEEN:
DONNA HEINIG,
Appellant,
and
HER MAJESTY THE QUEEN,
Respondent.
REASONS FOR JUDGMENT
Lamarre J.
[1] These are appeals from reassessments made by the Minister of National Revenue (Minister) under the Income Tax Act (ITA) for the appellant’s 2000, 2001, 2002 and 2003 taxation years and under the Excise Tax Act (ETA) for the period from January 1, 2000 to December 31, 2003.
[2] In reassessing the appellant under the ITA, the Minister added to her income amounts of $136,999 for 2000, $135,799 for 2001, $125,197 for 2002 and $89,625 for 2003 as undeclared fees paid to her by Heather Mailow (o/a Mailow Enterprises), and imposed penalties pursuant to subsection 163(2) of the ITA with respect to those additional amounts. The Minister also reassessed the appellant for failure to remit goods and services tax (GST) in the aggregate amount of $62,103.67 in respect of the fees received from Heather Mailow, and imposed penalties pursuant to section 280 of the ETA as it read at that time.
[3] Although the appellant does not dispute the fact that she failed to remit GST on fees received from Heather Mailow, where she does take issue with the Minister’s reassessments is with respect to the additional income attributed to her and hence with respect to the penalties. Counsel for the appellant stated, however, that if the reassessments are upheld by this Court with regard to the additional income assessed, he will not contest the penalties.
[4] As argued by both counsel, and as will be seen throughout the present reasons for judgment, this case turns solely on a question of fact. It involves mainly the credibility of the two protagonists behind the events in which the appellant, who now has to deal with the reassessments at issue, got caught up. Those two protagonists are Earl Heinig, who is the appellant’s husband, and Heather Mailow, who, we will see, took over Earl Heinig’s business (which will be referred to as the “Silhouette” business) during the years at issue. The crux of the litigation lies in the assertion by Heather Mailow that during those years she made cash payments to Earl Heinig of $5,000 per week up to a maximum of $20,000 per month, and Earl Heinig’s response that he received from her no more than $2,000 per week and that the entire amount received was reported by his wife, the appellant, in her tax returns for all of those years. We will see that the appellant was, during those years, the holder of the licence under which Heather Mailow operated Earl Heinig’s former business and that this is why she reported the income received from Heather Mailow in her tax return. Having made these comments, I will now proceed to summarize to the best of my understanding the evidence that I heard over four days.
[5] Counsel for the appellant called Earl Heinig, Donna Heinig, John Agostinelli (the bookkeeper) and Gerald Robert Pettle (a friend) to the witness stand. For the respondent, Heather Mailow, Jeffrey Mailow (Heather’s brother) and Liz Mailow (Heather’s mother) were called to testify.
Facts
[6] The appellant has been married to Earl Heinig for 40 years. Earl Heinig, whose father is unknown, was born on an Indian reserve. His birth name was Joe Solomon. When his mother remarried, he took the family name of his stepfather, Heinig, and thenceforth was known as Earl Heinig. Earl Heinig is a licensed mechanic. His wife, the appellant, worked as a dental assistant for 13 years and then as a buyer for bookstores for four years. She has two children, the first, a daughter from a previous marriage, and the second, a boy fathered by Earl Heinig.
[7] In 1980, the whole family moved to Florida where the appellant’s daughter was studying. Earl Heinig began operating a laundromat there with the help of the appellant. In 1984, they all returned to Canada. The appellant then worked as an administrative assistant in a brokerage firm for three years and finally as a lab assistant at York University, also for three years. She stopped working after 1990, except for doing volunteer work. As for Earl Heinig, he opened a repair shop and tried for three years to purchase a service station-garage, which ultimately never occurred. In 1986, Earl Heinig met a person by the name of Billy Carr who operated in the municipality of Mississauga, Ontario, a body-rub (massage) parlour under the name of Silhouette Health Club (Silhouette), and who wanted to sell his business.
[8] Earl Heinig first declined the offer to sell but finally bought the business three years later, in 1989, for $60,000. It is the testimony of Earl Heinig that at that time Billy Carr was earning $4,000 a week in gross revenue with 10 girls, working on two different shifts, who provided massage services to clients six days a week from 11 a.m. to midnight. Mr. Carr rented two units in an industrial mall for the business. The gross revenues were marked down on daily sheets (one sheet per shift, thus two daily sheets per day) and the girls received a 35 per cent commission on gross sales. John Agostinelli, who was the bookkeeper for Mr. Carr and kept that job with Earl Heinig, confirmed all this in court, except that he testified that Billy Carr had paid a 30 per cent commission, which was increased to 35 per cent by Mr. Heinig.
[9] Earl Heinig testified that when he took over, sales went up to $7,000 or $8,000 per week. He explained this by stating that he changed the way in which the phone was answered and that he cleaned the place up. John Agostinelli, testified that the cost of advertising was approximately $20,000 per year (Transcript, Volume 3, pages 646-647). Earl Heinig applied for credit card facilities, which were used by approximately 20 per cent of the customers. Others were paying cash and generally did not ask for a receipt. Earl Heinig also expanded the premises from two units to three, which occupied approximately 4,500 square feet and for which he paid a monthly rent of $5,700. There were now 18 girls employed at Silhouette to perform the massages.
[10] Earl Heinig said that Heather Mailow joined the business in 1994 (Heather Mailow said that it was in 1992) and worked as a “shift boss”, which mainly involved reception, marking down the clients on the daily sheets, collecting the money and depositing it in a safe on the premises, and answering the phone. It is my understanding that there were three shift bosses altogether for the business. In the case of Heather Mailow, she was paid cash daily and received $100 per shift for five or six shifts a week. She thus received approximately $600 a week. Earl Heinig issued her, for the purposes of her tax return, a T4 slip showing a salary of $29,000 per year. The girls providing the massage services were paid by cheque every Thursday. The payroll and the cheques were prepared by John Agostinelli from the daily sheets. According to Mr. Agostinelli, the daily sheets were reliable because the girls kept track of each customer and their pay was directly linked to the amount each customer was charged.
[11] In 1993, Earl Heinig was convicted of operating a common bawdy house and fined $2,000. That was his first conviction on such a charge. As of 1995, the municipality required a licence to operate the business.
[12] According to Earl Heinig, in 1998 the business earned between $500,000 and $600,000, and he testified during his examination-in-chief that he himself was making about $140,000 a year. He was able to invest his money but basically lost everything. Apparently, he was first reassessed in 1997 for an amount of approximately $900,000 in respect of those investments, and made an assignment in bankruptcy in 1999 or early 2000. At the beginning of 2000, he was convicted a second time in relation to Silhouette. He pleaded guilty and was fined $5,000 and put on probation for one year. He was not allowed to attend at the massage parlour at all during that year.
[13] Faced with that new situation, Earl Heinig consulted various people and one piece of advice that he was given was that he transfer the licence to his wife, who would then receive the very substantial earnings of the Silhouette business. However, Earl Heinig was told that he was not allowed to transfer his licence to operate the business directly to his wife. He therefore arranged to transfer it temporarily to his wife’s daughter’s then boyfriend, whose name was Robert Leach, for no consideration. A legal agreement was apparently prepared by a lawyer friend (Mr. Shelley Pettle) of the appellant’s, and it apparently showed that Leach paid a consideration for the licence (Earl Heinig did not remember whether the amount shown was $500 or $5,000). That document was not produced in court. In cross-examination, Earl Heinig acknowledged that that legal document did not reflect the true facts, that it was a sham document that was prepared in order to keep the income from the licence in his family (Transcript, Volume 2, page 320).
[14] Robert Leach subsequently retransferred the licence to Earl Heinig’s wife, the appellant in this case.
[15] In early 2000, Earl Heinig asked Heather Mailow to run the business in his place. He testified that he asked her to give him in exchange an amount of $2,000 per week. Apparently, he had been making $2,500 per week when he was operating it himself. In handing its operation over to Heather, he would be reducing his own income by $500 per week, and that $500 would be added to the $600 per week she was making as a shift boss. Earl Heinig testified that from that point forward he no longer participated in the business, as he was not allowed to go there, and Heather operated it independently, using her own credit card facilities and bank accounts. There was no formal written document implementing their agreement.
[16] Earl Heinig testified that at that time he worked for his lawyer’s brother, Gerry Pettle (who operated a lighting business) for $100 a day.
[17] Earl Heinig testified that Heather sent the money in cash by Purolator to his home in an envelope marked with his name, but very seldom paid the full $2,000 (Transcript, Volume 1, page 116). Sometimes, he said, Heather would make a direct deposit in the appellant’s bank account (Transcript, Volume 1, page 123). Earl Heinig said that he counted the money received and gave it to his wife (the appellant), who deposited it in her bank account. He said that he did not withhold any of the money from his wife (Transcript, Volume 1, page 125). Earl Heinig testified that it was Heather’s decision to send the money in cash (Transcript, Volume 1, page 126). He also said that he never used that money for himself (Transcript, Volume 1, page 126).
[18] Earl Heinig testified that the arrangement with Heather came to an end in May 2006 when he received a call from the landlord of the premises occupied by Silhouette, who told him that Heather owed him $30,000 in rent. He then replaced her with another shift boss, Gary Bolt (Transcript, Volume 1, page 155).
[19] Earl Heinig acknowledged that his family purchased a condominium in Florida in 2003 for $135,000 and spent $30,000 in renovations on it, which was apparently paid out of the appellant’s line of credit. That condominium was sold in 2009 at a loss. Earl Heinig’s wife also leased a brand new Mercedes in 2001, and bought a time-share in Hawaii for $35,000 in 2005 or 2006 using of a line of credit.
[20] In cross-examination, Earl Heinig acknowledged that he had previously said under oath at his examination for discovery that the business’s gross revenue in 1999 was $800 000 and that it went up in the years following (Exhibit R-1, Tab 19, and Transcript, Volume 1, pages 174 to 180). $800,000 per year represented approximately $15,000 per week.
[21] Counsel for the respondent went through the business expenses for that same year, 1999, with Earl Heinig. The girls received a 35% commission (35% x $800,000 = $280,000), the three shift bosses were paid altogether a total of $1,200 per week (12 shifts per week at $100 per shift times 52 weeks = $62,400 for the year), the rent was $5,700 per month ($68,400 for the year), the annual licence fee was $5,000 and utilities came to $30,000 for the year, which left $354,000 net in the business. Earl Heinig was asked why he declared only $140,000 of income for the year. His answer in court was that the business did not generate $800,000 in gross revenue but that he did not have with him the profit and loss statement for that year to prove that this was so. He said that he "mis-estimated" the annual gross revenue at the discovery (Transcript, Volume 1, pages 182 to 188).
[22] In cross-examination Earl Heinig also testified that when he came to an agreement with Heather Mailow that she would take over the business, he and she were the only persons present at the discussion of the terms of that agreement. He categorically stated that no one else was present at that meeting (Transcript, Volume 1, pages 201 to 206). He acknowledged that he did not charge her anything up front to take over the business because he did not transfer the licence to her. She was allowed to operate the business for $2,000 a week[1] (Transcript, Volume 1, page 210).
[23] Earl Heinig also said that he did not think at the time that it was necessary to put the agreement with Heather in writing. However, a year and a half later, on April 18, 2001, the appellant and Heather Mailow signed a handwritten agreement drafted by the appellant, whereby the latter authorized Heather to operate the business as Mailow Enterprises, “at payment schedule to be determined, until further notice” (Exhibit R-2, Tab 21). Earl Heinig and his wife testified that that was done at the request of Heather. Earl Heinig said that the fee to be paid to him by Heather was not written down because in the previous year she had not paid $2,000 per week. The amount paid fluctuated (Transcript, Volume 1, page 221).
[24] According to Earl Heinig, he received from Heather the amount reported in the appellant’s tax return. Counsel for the appellant produced a document (Exhibit A-5), showing that the appellant reported $67,500 in 2000 (earnings for a 10-month period), $75,000 in 2001, $80,775 in 2002, and $91,500 in 2003. If they had been paid $2,000 per week, as Earl Heinig said was agreed with Heather, they should have received $104,000 per year. It is the testimony of Earl Heinig that even though Heather failed to make her payments in full, he always forgave her until he dismissed her in 2006. He had not let her go prior to that because he felt that what he received was, after all, good money for doing nothing (Transcript, Volume 1, page 229). In fact, it appears that after 2000 he performed repair and maintenance work for Silhouette for which he said he received no consideration (Transcript, volume 2, page 296) (contra, Exhibit R-2, Tab 10).
[25] Earl Heinig also testified in cross-examination that his wife was not present when he opened the envelopes received from Purolator containing the cash and when he counted the money (Transcript, Volume 1, page 241), and that he did not keep a written record of the money received. He also acknowledged that he made loans to friends from time to time during the years 2000 through 2003 and that he gambled at the casino maybe once a month. The money used for those two purposes came from the envelopes received from Heather. Although he won about $28,000 gambling, he also lost money. That money taken from Heather’s envelopes, obviously was not given to his wife to deposit in the bank account. However, when the loans were repaid, he would give the money to his wife (Transcript, Volume 1, pages 242 to 247).
[26] In cross-examination, Earl Heinig was confronted with another contradiction. He first said that in 2000 he did not have signing authority over a bank account (Transcript, volume 2, page 258). However, counsel for the respondent showed him cheques that he had signed in 2000 that were drawn on the Bank of Montreal account held by Silhouette and with respect to which he still had signing authority (Exhibit R-2, Tab 32). These cheques were transfers of funds to Standard Securities in relation to his personal investment portfolio. In court, Earl Heinig explained that that account had been opened by him for Silhouette for the deposit of payments made by clients by MasterCard credit card. From the documentation tendered, it appears that that account was active until August 31, 2001, when it was closed (Exhibit R-3).
[27] Although Earl Heinig had previously testified that Heather did not have access to any credit card facilities and that he had cancelled the MasterCard account at the end of February 2000, Exhibit R-3 shows deposits and withdrawals after February 2000. Earl Heinig’s only explanation for this was that he would have given Heather Mailow access to this account for the purpose of operating the business. No cheques were drawn by Earl Heinig on this account after February 2000. It appears that deposits in this account varied between $10,000 and $15,000 per month in 2000 and dropped to almost nothing after March 2001.
[28] Earl Heinig also acknowledged that in 1999 he opened a bank account under his birth name, Joseph Solomon, because all his bank accounts had been seized by the Canada Revenue Agency (CRA). He owed the CRA approximately $1 million at that time. He had fraudulently applied for and received a second social insurance number, which he had for one year until the government found out (Transcript, Volume 2, pages 333-334).
[29] Earl Heinig’s tax returns were not tendered. It would seem however, that he reported $19,800 in 2000, $15,000 in 2001, $23,000 in 2002 and $28,500 in 2003 (see letter from John Agostinelli dated January 5, 2005, Exhibit R-2, Tab 23). The total family income (for the appellant and Earl Heinig together) reported was $87,300 for 2000, $88,500 for 2001, $103,775 for 2002 and $120,000 for 2003 (Exhibit A-5).
[30] In her testimony, the appellant stated that she had met Heather Mailow only once when Heather, in her black BMW convertible, apparently picked her up somewhere along Highway 401 to drive her to the licensing office in Mississauga to have the business licence changed over to the appellant’s name (Transcript, Volume 2, pages 401 – 402). This statement was contradicted by Heather Mailow, who testified that she met the appellant at the licensing office in Mississauga and did not drive her there (Transcript, Volume 4, pages 814-815).
[31] The appellant testified that Heather Mailow took over the Silhouette business in March 2000 and that she reported as income from that time forward all the money received from Heather in consideration of her right to use the licence, which was supposed to be $2,000 per week (Transcript, Volume 2, pages 404-405 and 411).
[32] In examination-in-chief, the appellant said that on numerous occasions she witnessed her husband opening the envelopes sent by Heather and that generally speaking he gave her the money and she deposited it in her bank account. She kept track of the amounts received on a calendar that she usually discarded afterwards. She said that Heather made payments regularly, but did not pay the full amount agreed upon (Transcript, Volume 2, pages 412-417).
[33] She went through her TD Canada Trust chequing account (account # 502466) with her counsel for the years 2000 through 2003. She identified deposits made out of Heather’s payments, which came to a total of $64,900 in 2000, $76.000 in 2001, and approximately $98,000 in 2002 (Exhibit A-6 and Exhibit A-8, Tabs 173, 174 and 175). For 2003, she took money ($143,000) from her line of credit to purchase a condo in Florida (Exhibit A-6 for 2003, page 13 of 20), which cost $135,000 and was sold in 2009 for $125,000. The appellant also testified that she had another account, a savings account, with the same bank (account # 502467). Exhibit A-8, Tab 177, shows that there was a balance in this account of $1,282 on March 3, 2000. Exhibit A-7 is a copy of the history of that account for the period from January 1, 2000 to July 31, 2007. However, that document only shows passbook fees from July 23, 2001 to February 5, 2004. From this documentation, it is impossible to see whether there were any deposits in that account between March 3, 2000 and July 23, 2001. However, the passbooks from the chequing account show some transfers from that savings account after March 2000 and in 2001 (Exhibit A-8, Tabs 173 and 174). The appellant said that she could not obtain from the bank more documents than those she filed in evidence.
[34] In cross-examination, the appellant acknowledged that she was not involved in the arrangement that was made with Heather Mailow and did not know what Silhouette’s gross revenue was. All she knew was what her husband told her. She also acknowledged that she never witnessed her husband taking from the envelopes and counting the cash sent by Heather by Purolator courier (Transcript, Volume 2, page 478). She was confident that her husband gave her all the money in the envelopes to deposit in the bank account. She knew that her husband made loans once in a while but said that these loans were repaid and the amount also deposited in her bank account. She was not aware, however, that Earl took money from the envelopes for his gambling activities.
[35] She also acknowledged that her analysis of the bank deposits was not done contemporaneously with deposits, but took place years after the fact, in preparation for this trial. She looked back at the passbook entries and determined what amounts could be loan repayments, deposits from Heather Mailow’s business, or deposits of funds from other sources. She also had to agree that the cash withheld by her husband for gambling, did not appear in those deposits in her bank account, but she was nevertheless of the opinion that her summary of the deposits fairly reliably established the amount of income received from Heather Mailow.
[36] However, she could not tell where the money transferred from her savings account (account # 502467) into her chequing account (account # 502466) came from because she did not have the records of the deposits to the savings account. As pointed out by counsel for the respondent during her cross-examination, and as appears from Exhibit A-6, where deposits are identified as “self” the transfers from the savings account were fairly significant.
[37] As an example, in August 2000 alone she transferred $12,800 from her savings account to her chequing account but she could not remember what the source of those funds was (Transcript, Volume 2, pages 511 and 512).
[38] In fact, the history of that savings account shows that from when it was opened in September 1993 until March 1998 there was never more than $200 in it. Between March 1998 and September 1998, the balance went up to approximately $7,000; and thereafter it fluctuated and on March 3, 2000 it was $1,282 (Exhibit A-8, Tab 177). A deposit analysis of this savings account made by the auditor for the CRA showed that in 2000 there were total deposits of $59,555 (Exhibit R-5). The appellant could not explain where the deposits came from and although counsel for the appellant first stated that this analysis was not reliable, he did not call the auditor to cross-examine her on that point.
[39] The appellant also acknowledged that she opened an account with ING in January 2001 and that the opening balance was $17,133 (Exhibit R-6). When asked where the $17,000 came from, the appellant answered that it was from savings. However, she did not deny that she had no income in 1999 (Transcript, Volume 2, page 529) and that her husband went bankrupt in February 2000 (Transcript, Volume 2, page 530). Still, she insisted that she and her husband had saved that amount of money between February 2000 and January 2001 (Transcript, Volume 2, page 531).
[40] The appellant also stated that Heather would put a note in with the money when she was not sending the whole amount agreed upon, but said she did not keep these notes. She never issued a receipt for the money paid (Transcript, Volume 2, page 555 and 556).
[41] Mr. John Agostinelli testified that when Earl Heinig purchased Silhouette, the gross weekly sales improved right away to $6,500 and kept climbing to $7,500 - $8,000 a week (Transcript, Volume 3, page 589). Mr. Agostinelli was asked by Mr. Heinig to go on the business’s premises once a week to complete the weekly summary sheets (which he did by adding up the total sales recorded on the daily sheets) and the payroll account, including deductions at source. He was there every Thursday to pay the girls, and he himself was paid $75 per week. According to Mr. Agostinelli, the business was open from Monday to Saturday (six days a week). He also said that the gross revenues recorded on the daily sheets had to be very accurate because each girl knew how many clients she had in a week and expected her 35 per cent commission on each sale. He also maintained a general ledger for the business, using for the ledger entries cancelled cheques, receipts for cash expenses paid, and the sales summary. That general ledger was ultimately used for tax purposes.
[42] Mr. Agostinelli testified that in the late nineties the business had on average between $13,000 and $15,000 in gross sales per week. It happened once that sales reached $20,000 for a week, and for a few other weeks there were sales of $17,000 or so (Transcript, Volume 3, page 599). He said that he prepared Earl and Donna Heinig’s tax returns. In 1998 and 1999, Earl Heinig would have earned between $135,000 and $150,000 after expenses and whatnot (Transcript, Volume 3, page 600).
[43] Mr. Agostinelli testified that one Thursday at the beginning of 2000 when he went to Silhouette, as he usually did, Earl Heinig met him before he got into the office and told him that he had been barred from the premises for a period of time. That caught Mr. Agostinelli by surprise. He was told by Mr. Heinig that Heather Mailow would be running the operation as her own, would be responsible for all expenses and would pay Mr. Heinig $5,000 per week. Mr. Agostinelli testified that he thereafter asked Heather (and this angered Earl Heinig) whether she really was going to do this, because $5,000 was quite a high amount. From his own experience with Silhouette, he did not feel that the business would be able to sustain $5,000 per week (see Transcript, Volume 3, pages 602-603). He was told shortly thereafter that the payment to Mr. Heinig was amended so that it would not be made every week. In months where there would be five payment days, he would be paid only for four weeks, meaning 48 weeks per year, for a total of $240,000 per year.
[44] In his view, this was a significant amount and represented much more money than Earl Heinig was actually getting when he himself was running the place. He did not know the exact amount Heather paid Mr. Heinig after he left (Transcript, Volume 3, pages 602 to 606).
[45] Mr. Agostinelli continued working for Heather Mailow in the same capacity as that in which he had worked before for Mr. Heinig. After a while, there was a payroll audit by the CRA and at that time he was advised by Heather that she wanted to change the method of collecting money. Whereas before clients had paid at the desk and then commissions were paid to the girls, from then on the clients would pay the girls directly and would only pay Silhouette a fee for the use of the rooms and supplies (which was approximately half the fee that was previously charged). This meant that there would be no more payroll account, as the girls no longer had employee status (Transcript, Volume 3, pages 608-609). He thought it probable that the change with regard to employee status took place in the first or the second year after the takeover, but he was not sure (Transcript, Volume 3, page 611). After the change, there were still daily sheets showing the room fee charged at the desk. Mr. Agostinelli said that the new daily sheets had to be reliable also as it was the only source of information he would have regarding income (Transcript, Volume 3, page 613). However, he later said that the daily sheets may or may not have been as reliable as before (Transcript, Volume 3, page 615).
[46] After the change, there was no longer any need for Mr. Agostinelli to go in once a week, as there was no payroll account to prepare. He therefore went in a dozen times in a year.
[47] Mr. Agostinelli prepared the tax returns for Heather Mailow from the general ledger that he kept. Her tax return for 2001 was filed in December 2002, and she reported $361,660 in gross revenue and a net income of $28,887. In the statement of business activities for that year she deducted $72,667 as commissions paid to the girls. For 2002, she reported gross revenue of $301,588 and a net income of $29,679. In that year, there was no deduction for commissions paid to the girls. For 2003, her tax return was filed on April 6, 2005. Apparently, she was bankrupt at the time (Transcript, Volume 3, page 624). She reported $500,499 in gross revenue and a net income of $186,727. Again, there was no deduction for commissions (see Exhibit A-10, Tabs 57, 58 and 59). Heather was reassessed for each of those years. For 2001, the gross revenues were increased by $351,994, but an amount of $240,000, being the fee she declared that she had paid to Earl Heinig, was allowed as a deduction. Her net income for that year was reassessed at $139,385 (Exhibit A-10, Tab 57, T7W-C). For 2002, she was also reassessed and the gross revenue was increased by $417,314, but a deduction of $245,000 representing the fee paid to Earl Heinig in that year was allowed. Her net income was established at $222,730 (Exhibit A-10, Tab 58, T7W-C). For 2003, she was again reassessed and her gross income was established at $588,131; her business expenses allowed were $419,679 and her net income was $166,649 (Exhibit A-10, Tab 59, T7W-C).
[48] Mr. Agostinelli confirmed that he himself prepared the general ledger for the business. The expenses were established from all paid invoices from each supplier, which were kept by Heather. He said that Heather was very well organized in keeping her business invoices (Transcript, Volume 3, page 632). Some expenses were paid by cheque, others in cash (Transcript, Volume 3, page 644). The sales were calculated from the daily sheets. Some pre-authorized payment amounts, such as the lease payments on the car and the bank charges, were taken from the bank statements.
[49] Referring to the general ledger filed for 2002 (Exhibit A-11, Tab 194), Mr. Agostinelli testified that telephone expenses had been reduced significantly from what they had been in Earl Heinig’s time, because advertising in the Yellow Pages was eliminated or reduced under Heather. He also said that the sales entries, totalling $546,588 in 2002 (Exhibit A‑11, Tab 194, page 16) were mostly reliable because the employees (the girls) received a commission out of that amount, and they kept accounts with respect thereto. However, he could not say when the switch to a room fee happened (Transcript, Volume 3, page 650). He acknowledged that the sales figure of $546,588 was lower than that under Mr. Heinig. One explanation for this, according to Mr. Agostinelli, would be the elimination of the advertising in the Yellow Pages and Ms. Mailow’s experience, which was not comparable to Mr. Heinig’s (Transcript, Volume 3, page 651). In cross-examination, it was pointed out to him that in her tax return for 2002 she did not claim any amount for commissions paid, which would tend to indicate that the gross sales did not include the amount earned by the girls, contrary to what had been the case in Earl Heinig’s time.
[50] In her tax return, Heather reported $301,588 as gross revenues while gross sales shown in the general ledger were $546,588. Mr. Agostinelli testified that the latter figure was the right one (Transcript, volume 3, page 655). In cross-examination, it was again pointed out to him that the difference of $245,000, which is referred to as consulting fees in the general ledger, was not taken as a deduction in Heather’s tax return.
[51] Mr. Agostinelli testified that the general ledger for 2002 did not balance and that the discrepancy was approximately $300,000 (Transcript, volume 3, page 660), meaning that sales less invoiced expenses left a difference of approximately $300,000. Of that $300,000, an amount of $46,800 was attributed to “desk fees paid in cash” (Exhibit A-11, Tab 194, page 17) for the shift bosses and $245,000 to “consulting fees” that would have been paid in cash to Mr. Heinig. That allocation was determined by Heather Mailow and recorded by Mr. Agostinelli in the general ledger.
[52] As for the 2003 general ledger (Exhibit A-11, Tab 196), it is incomplete as it does not seem to cover the full year. Mr. Agostinelli said that it did not appear to be reliable (Transcript, Volume 3, pages 664-667). Heather Mailow went bankrupt at the beginning of 2004.
[53] In a letter sent by him to the CRA on January 4, 2005 (Exhibit R-2, Tab 23), Mr. Agostinelli stated that Ms. Mailow’s claim of an amount paid to the Heinigs of $240,000 in 2000 and 2001 and of $245,000 in 2002 was incorrect. In another letter to the CRA sent on January 6, 2005 (Exhibit R-2, Tab 24), he stated that the fees paid to the Heinigs should be changed to $103,775 for 2002 and $90,000 for 2001.
[54] In court, Mr. Agostinelli said that he was caught in the middle of a dispute between the Heinigs and Heather Mailow and that it was a mistake for him to be making submissions to the CRA for both the Heinigs and Heather Mailow (Transcript, Volume 3, page 680).
[55] He prepared the appellant’s tax return using the information given to him by Earl Heinig. He erroneously reported the amount received from Heather Mailow as employment income and failed to take into account the GST.
[56] He concluded his examination-in-chief by stating that the amounts of additional income reassessed in 2002 for both the appellant ($205,972, Exhibit R-2, Tab 1) and Heather Mailow ($222,730 as per the 2002 T7W-C, Exhibit A-10, Tab 58), which total approximately $429,000, were not realistic if one takes into account the sales for that year - which were recorded in the general ledger as being $546,588 - keeping in mind all the other expenses recorded in the general ledger (Transcript, Volume 3, page 697).
[57] In cross-examination, counsel for the respondent showed Mr. Agostinelli Heather Mailow’s tax return for 2000 (Exhibit R-2, Tab 33), which was not discussed during his examination-in-chief. Mr. Agostinelli acknowledged that in that return the gross revenue of $691,579 was accurate, and that it was for a ten-month period, which represented $15,717 per week (Transcript, Volume 3, pages 722-723). There was deducted in that tax return an amount of $241,307 for commissions paid to the girls and a consulting expenses amount of $240,000, which was the fee paid to the Heinig’s for the licence. Mr. Agostinelli entered that expense in the statement of business activities without having seen a receipt, as it was paid in cash (Transcript, Volume 3, page 727). Mr. Agostinelli did not recall when Heather Mailow changed her method of charging fees but agreed that she did so to bring her business practices into line with those in the industry as a whole.
[58] He had to admit that because of that change revenues for the business would have decreased by half if the number of clients remained the same (Transcript, Volume 3, pages 732-733). Counsel for the respondent showed him the statement of business activities for 2002. The gross revenues shown are $301,588, but there were no commissions paid to the girls and the amount paid to the Heinigs is not shown on that statement.
[59] For 2003, the general ledger prepared by Mr Agostinelli, shows consulting fees in the amount of $224,299. Mr. Agostinelli said that those fees were paid in cash and they would have been paid to the Heinigs (Transcript, Volume 3, pages 741-742). Mr. Agostinelli made written representations to the CRA, telling them that Heather Mailow did not pay that amount to the Heinigs. He wrote that after Mr. Heinig had told him that he did not receive that amount of money. Mr. Agostinelli just took his word for it and did not verify that new information. He testified that he was confused by the two different versions given to him by Heather Mailow and Earl Heinig (Transcript, Volume 3, page 750). In reality, he said, he really did not know what Earl Heinig received (Transcript, Volume 3, page 751). He did not audit any bank statements and did not personally add up any numbers to show what was actually paid by Heather Mailow to Mr. Heinig. He said:
[ . . . ] The reality is I really don’t know what was paid out. I never saw any scrap of paper in the Mailow office or the Silhouette office ‑ I will call it the Mailow office ‑ which said how much she actually paid out. Nor was I supplied anything from the other side which said, “This is how much I received.”
(Transcript, Volume 3, pages 752-753)
[60] Mr. Agostinelli prepared the appellant’s tax returns using the information given to him by Earl Heinig, whom he trusted entirely.
[61] Counsel for the appellant also called Gerald Robert Pettle as a witness. He said that Earl Heinig worked as a handyman in his lighting business from 1998 until 2001 or 2002 and was paid perhaps $1,000 or $1,500 a month. He said that he then changed his business into buying and selling closeouts. He was in need of cash for short periods of time to do his deals. This is why he borrowed money from Earl Heinig, which he paid back relatively quickly by cheques made out to the appellant. He also said that Heather Mailow was married for a short period of time to a refugee who had given her money to marry him. Although Heather Mailow did not deny that she had married a refugee, she said that she did not receive any money from him. She also admitted that she married this person to help him out for immigration purposes, at the request of Earl Heinig, and that the marriage did not last long (Transcript, Volume 4, pages 850-852).
[62] In examination-in-chief, Heather Mailow testified, contrary to what Mr. Agostinelli had said, that the agreement between her and Earl Heinig was arrived at at a meeting which took place in Mr. Agostinelli’s office in Toronto, and that her brother and Mr. Heinig were present (Transcript, Volume 4, page 800).
[63] During that meeting, the financial arrangement regarding what she was to send to Mr. Heinig every week was discussed. I