What Fraud Victims Should Know About the Tax Consequences on Settlements in Fraud Actions

Norm Groot, Investigation Counsel PC

At Investigation Counsel PC, we are often asked by victims of fraud for advice with respect to negotiating settlements in fraud actions. To state the obvious, fraud victims often have a well-founded skepticism that the defendant they settled with cannot be trusted to fulfill their settlement obligations honourably. 

In 2018 we acted as counsel for Kuwait investors who lost $1.8M to a British Columbia based business associate. At the eve of trial, a $2.7M settlement was reached. Thereafter the defendant attempted to renegotiate the settlement, alleging the victims owed tax to the Canadian Revenue Agency, so that he could obtain a tax credit. This is their story.

Al-Thamer v. Bakhtiyari, 2018 BCSC 1526

On August 16, 2018, the Supreme Court of British Columbia released its decision in Al-Thamer v. Bakhtiyari, 2018 BCSC 1526, on the issue of whether a defendant may be permitted to withhold part of a settlement payment to pay potential tax liabilities to the Canada Revenue Agency (“CRA”), as opposed to making full payment to his victims. The Court held that an alleged rogue cannot withhold part of a settlement to obtain a tax credit from the CRA if he fails to provide an accounting for the allegedly defrauded funds. 

The Investment and Resulting Litigation

On May 6, 2015, the Plaintiffs, investors from Kuwait, filed a claim against the defendants Shirvan Elyassi Bakhtiyari (“Bakhtiyari”) and his company 415185 B.C. Ltd. (415 BC Ltd.”) seeking general and punitive damages for fraud, breach of trust, breach of fiduciary duty, unjust enrichment, conversion and conspiracy. In addition, the Plaintiffs sought an accounting of their funds from the Defendants. 

In their Statement of Claim, the Plaintiffs alleged that in the 1990s they transferred $1.8M to Bakhtiyari and his company in exchange for a beneficial interest in some land that 415 BC Ltd. owned in Delta, British Columbia. The Plaintiffs alleged that the property increased in value well in excess of the $1.8M they paid, that Bakhtiyari refused and failed to provide them an accounting of what he used their money for, despite their repeated requests, and that he had dishonestly converted their funds for his own use or that he had pocketed the increase in value of the property.

On July 24, 2015, the Plaintiffs filed a certificate of pending litigation (“CPL”) against the Delta property. Thereafter, discoveries of the Plaintiffs were held in England and discoveries of the Defendants were held in Vancouver. Throughout the discovery process, Bakhtiyari continued to refuse to provide the Plaintiffs with an accounting of what he did with their money. No evidence was ever provided that any of the Plaintiffs’ money was invested in the Delta Property or any other land.

The Settlement

 On January 22, 2018, on the first day of a trial scheduled for four weeks, the parties participated in a day-long mediation and settled the Plaintiffs’ claims. The Minutes of Settlement included the following terms:

1. the defendant Bakhtiyari (personally) to pay $2,750,000 Cdn for general damages, costs, disbursements and prejudgment interest on behalf of all Defendants on an all-inclusive basis;

3. the $2,750,000 was to be paid on the following schedule:

a. $1,000,000.00 payable by February 1, 2018. and

b. $1,750,000.00 payable by June 30, 2018;

7. upon payment of the $2,750,000 …, the Plaintiffs would file the required documents to lift the CPL;

8. upon payment of the $2,750,000, the Plaintiffs… would instruct their counsel to prepare, endorse and deliver to counsel for the Defendants a consent dismissal order which shall provide for dismissal of proceedings… as if there had been a trial of the action on the merits; and

12. the Plaintiffs were solely responsible for any and all tax liability or obligations that may accrue to them in relation to the receipt of the $2,750,000.

On January 25, 2018, Bakhtiyari delivered, by personal cheque, the first instalment of $1M to counsel for the Plaintiffs. 

On June 27, 2018, just prior to the payment deadline for the second instalment, Bakhtiyari refused to pay the second installment of $1,750,000, but rather proposed to pay the amount of $1,062,500 and remit $687,000 to the Receiver General on the basis that the Plaintiffs owed $687,000 pursuant to s. 116(5) of the Income Tax Act, R.S.C. 1985, c. 1 (5th Supp.). 

The essence of Bakhtiyari’s reasoning was that if a CPL had been issued, this implied the Plaintiffs had made a capital gain of $900,000 (the settlement of $2.7M was $900,000 more than the Plaintiffs’ original $1.8M investment). The alleged rogue Bakhtiyari suggested, post settlement, that as the Plaintiffs were not Canadian citizens, it was his civic duty to ensure the Plaintiffs paid tax to the Canadian government.

Bakhtiyari advised the Plaintiffs that his proposed withholding could be avoided if:

1. the Plaintiffs obtained a clearance certificate from the CRA with respect to the transaction and provided it to him;

2. an undertaking from Plaintiffs’ counsel to withhold from the second and final instalment an amount sufficient to satisfy the Plaintiffs’ potential tax obligations until the CRA issued a tax clearance certificate in order to satisfy s. 116 of the Income Tax Act; or 

3. Plaintiffs’ counsel provide an opinion from a Canadian tax lawyer confirming that no withholding is required which could be relied upon by the Defendants.

It appeared to the Plaintiffs that Bakhtiyari was seeking to obtain a tax credit on the Plaintiffs’ money that he never provided an accounting for. In response to Bakhtiyari’s demands, the Plaintiffs brought an application seeking an order requiring Bakhtiyari to pay the sum of $1,750,000 in accordance with the terms of the Minutes of Settlement.

Bakhtiyari in turn filed a cross-application seeking an order that he pay to the Plaintiffs only $1,062,500 and remit the balance owing, being $687,000, to the Receiver General. Bakhtiyari also sought an order releasing the CPL against his Delta Property.

The Submissions of the Parties

The Plaintiffs relied upon the principles of contract interpretation. In other words, they argued that the words of the Minutes of Settlement do not leave any doubt as to their meaning: Mountain v. TD Canada Trust, 2015 ONSC 4929 (CanLII) at para. 12; Olivieri v. Sherman (2007), 2007 ONCA 491 (CanLII), 86 O.R. (3d) 778 at para. 48 (C.A.); and Brentwood Enterprises Limited Partnership v. Revelstoke Mountain Resort Limited Partnership, 2014 BCSC 773 (CanLII) at para. 27. 

The Plaintiffs submitted that per Term 12 of the Minutes of Settlement, the Plaintiffs assumed full responsibility for any tax liability. The Plaintiffs further submitted that they are at liberty to adopt a tax plan of their choosing, and if that tax plan is high-risk, then it is their own cross to bear. The Plaintiffs submitted that unlike Mountain v. TD Canada Trust, the Defendants did not require an indemnification clause with respect to a tax risk.

Bakhtiyari submitted that s. 116(5) of the Income Tax Act required him to withhold 25% of the funds and remit these funds to the CRA because the property was purchased with funds from a non-resident. Bakhtiyari further submitted that the CRA should ultimately determine if any tax was owing, and that pursuant to s. 227(1) of the Income Tax Act, he was not in breach the Minutes of Settlement due to his obligation to withhold funds from a non-resident and remit to the CRA. 

Bakhtiyari referenced a number of cases including Fieguth v. Acklands Ltd. (1989), 1989 CanLII 2744 (BC CA), 37 B.C.L.R. (2d) 62 (C.A.) which concluded that where there had been a binding settlement agreement, deductions in accordance with the Income Tax Act were required by law. Notwithstanding that Fieguth v. Acklands Ltd. was a wrongful dismissal case which dealt with tax principles germane to employment scenarios, Bakhtiyari submitted that these principles were applicable and were utilized in a contract case: Geraghty v. Halcyon Waterspring Inc. (1999), 32 C.P.C. (4th) 152 (Ont. Gen. Div.).

The Court’s Decision

The Court held that the terms of the Minutes of Settlement were clear: the Plaintiffs explicitly agreed at Term 12 to be responsible for any tax implications. 

The Court further held that per Term 13 of the Minutes of Settlement, the parties agreed there was no finding that the $1.8M the Plaintiffs’ paid to the Defendants 25 years earlier had actually been invested into the Delta property as was supposed to have occurred.

The Court further held that notwithstanding that the Defendants had not provided any evidence that the Plaintiffs’ money had been invested as represented, Term 10 of the Minutes of Settlement declared that there was no admission of liability by the Defendants, and that the settlement was a compromise of a disputed claim.

The Court rejected Bakhtiyari’s suggestion that the taxes owing would be $687,000, or 25% of $2.7 million that he sought to withhold. The Court found that the Plaintiffs invested $1.8 million; received $400,000 in returned capital prior to the litigation, and paid $450,000 in legal fees. Accordingly, the capital gain, if any, was approximately $500,000, implying the potential taxes would be significantly less than the amount alleged by Bakhtiyari.

With respect to any potential capital gain, the Court found that the settlement amount reflected payments for compounded pre-judgment interest and other legal expenses—not the profit derived from any investment in land. On this basis, the Court held that there was no capital gain at all in the circumstances of this matter. The Court granted the Plaintiffs’ application and dismissed Bakhtiyari’s cross application.

Tax Issues on Settlements in Fraud Cases

While the Court ruled in favour of the Plaintiffs, it also noted that if the Plaintiffs, as non-residents of Canada, had disposed of taxable Canadian property, they would have been liable to pay tax under s. 116 of the Income Tax Act, and that Bakhtiyari, as the “purchaser” of such a disposition, would have been required to withhold it under s. 116(5). 

However, because none of the settlement funds were identified as pertaining to any specific cause of action, and because the parties expressly agreed that there had been “no admission of liability by the Defendants”, and because the settlement was “a compromise of a disputed claim”, the Court looked to the intent of the parties to see if any allocation towards a capital gain was intended. 

The Court cited Schwartz v. Canada, 1996 CanLII 217 (SCC), [1996] 1 S.C.R. 254, where the CRA sought to tax a settlement amount received by a departing lawyer from his firm as a “retiring allowance”. There was no evidence that any part of the settlement was allocated to a “retiring allowance”. The Supreme Court of Canada found that, there being no such evidence, the amount was not taxable. The Court said at para 41:  

Logically, the Minister should not have the burden of presenting, in every case where the apportionment of a general award is at issue, specific evidence amounting to an explicit expression of the concerned parties’ intention with respect to that question. However, there must be some evidence, in whatever form, from which the trial judge will be able to infer, on a balance of probabilities, which part of that general award was intended to compensate for specific types of damages. [Emphasis in original.]

Similarly, in this case the Court found that the parties’ settlement was a calculated business decision which was intended to free the Defendants from the consequences of litigation and not strongly related to the value of the Plaintiffs’ claims. Bakhtiyari agreed to pay the settlement amount without admitting liability and without agreeing that the Plaintiffs had any interest in the land. 

What this case essentially stands for is the importance of drafting Minutes of Settlement that considers the tax consequences of the deal. Here, the intent of the parties was that the funds were compensation for general damages, legal fees, disbursements, and pre-judgment interest. There was no evidence that the Defendants invested the Plaintiffs’ monies in the Delta property. The result was that Bakhtiyari could not obtain a tax credit on funds he refused to account for. 

www.investigationcounsel.com
December 29, 2018

Evidence Based Expert Testimony

David Debenham, McMillan LLP

In  R. v. Millard,  (“Millard”), an Ontario court explained the concept of “evidence based” expert testimony, an emerging nuance on the traditional tests for the admissibility of expert evidence, no matter what the court, and no matter what the subject matter of the testimony.  Put briefly, experts will no longer be able to put on their white laboratory coat and ask courts to accept their methodologies and underlying data on faith:  The process will now be one that requires the expert to disclose the basis of their opinions, the data upon which it relies, and the inherent weaknesses or limitations in their approach.  Transparency is now the watchword.  No longer can the expert show up with an impressive resume and expect the trier of fact to take the expert’s methodology as sound, and data as accurate, because it is too complicated and time consuming to explain their underlying analysis to a judge and jury.  We are going from a world of “trust me” to one of “show me”. 

In Millard, the accused was charged with the first degree murder of his father, who died as the result of a gunshot wound to his left eye. The central issue is whether the gunshot was the result of suicide, or murder.   The Crown sought to introduce expert evidence in the area of “Shooting Scene Reconstruction”.  The court held that only the evidence of the general operation of revolvers and the evidence of the specific design and operation of the revolver in this case was admissible.  The balance of the expert’s opinion with respect to the position, orientation and location of the gun when discharged and the likelihood that the deceased discharged the shot given his body position was ruled inadmissible.  This result is unremarkable.  The analysis to get to that result is.

The court started with the standard analysis:

  1. Opinion evidence is presumptively inadmissible and the party seeking to introduce it bears the onus of establishing its admissibility on the balance of probabilities.
  2. Expert evidence is admissible when it is
    1. relevant,
    2. necessary to assist the trier of fact;
    3. not subject to any other exclusionary rule;
    4. the expert is properly qualified, which includes the requirement that the expert be willing and able to fulfil the expert’s duty to the court to provide evidence that is:
      1. Impartial,
      2. Independent, and
      3. Unbiased.
  3. For opinions based on novel or contested science or science used for a novel purpose, the underlying science must be reliable for that purpose, and
  4. The trial judge, in a gatekeeper role, determines that the benefits of admitting the evidence outweigh its potential risks, considering such factors as:
    1. Legal relevance,
    2. Necessity,
    3. Reliability, and
    4. Absence of bias.

So far, no surprises.  The challenge to the admissibility of the proposed expert in this case did not raise any additional exclusionary rule, nor was the science said to be novel.  That is usually the case.  What is unusual is to go on to acknowledge the dangers of expert testimony, recognizing that there is a temptation to simply defer to an expert and rely on their testimony rather than going to the trouble to understand it, and with that understanding, grasp its limits and weaknesses.  Opposing counsel, lacking the expertise “may be hard-pressed to perform effectively their function of probing and testing and challenging evidence because its subject matter will often pull them beyond their competence, let alone their expertise. This leaves the trier of fact without sufficient information to assess its reliability adequately, increasing the risk that the expert opinion will simply be accepted.  The court then recognizes that the real question in every case becomes: “When should we place the legal system and the truth at such risk by allowing expert evidence?”   The answer is “Only when lay persons are apt to come to a wrong conclusion without expert assistance, or where access to important information will be lost unless we borrow from the learning of experts. …it is not enough that the expert evidence be helpful before we will be prepared to run these risks. That sets too low a standard. It must be necessary.”

The court then goes on to explain the new “show me” , or “evidence based” approach.  The four conditions are:  

  1. the theory or technique used by the expert must be reliable, and so too must the use of that theory or technique by the expert;
  2. the expert must not be biased;
  3. the expert must be objective and complete in collecting evidence, must reject all information that is not germane to the theory or technique being used, and must be transparent about all information and influences they have been exposed to; and
  4. the expert must clearly express not only the opinion, but also the complete reasoning process that led to it, and must be candid about the shortcomings of the theory or technique employed and the opinion reached, offering fair guidance on the level of confidence that can be placed in the opinion expressed.

An expert must now demonstrate an ‘open mind to a broad range of possibilities’.  Several forms of bias can often be unconscious: 

  1. Lack of independence bias (because of a connection to the party calling the expert);
  2. ‘adversarial’ or ‘selection’ bias (where the witness has been selected to fit the needs of the litigant); 
  3. ‘association bias’ (the natural bias to do something serviceable for those who employ or remunerate you); 
  4. professional credibility bias (where an expert has a professional interest in maintaining their own credibility after having taken a position);
  5. ‘noble cause distortion’ (the belief that a particular outcome is the right one to achieve); and, a related form of bias, ‘confirmation bias’ (the phenomenon that when a person is attracted to a particular outcome, there is a tendency to search for evidence that supports the desired conclusion or to interpret the evidence in a way that supports it). 

In this case, the expert’s opinion was premised on there being no intermediary surface to block the deposit of gunshot residue on the deceased, proving it must have been murder.    In this case, the expert was aware of a photograph showing a blanket that must have been moved from the area of the head of the deceased.  This blanket could have been an intermediary surface.  The expert did not disclose the possibility of the blanket as an intermediary surface. The expert failed entirely to disclose the evidence of the blanket or his reasoning process in relation to it, in his notes, report or testimony-in-chief.  Indeed the expert testified that, based on the photographs, there had been no movement of items at the scene and therefore no presence of an intermediary surface.    Once confronted with the photograph, the expert then explained in detail why the movement of the blanket made no difference to his ultimate conclusion.  The court found that the photograph was a significant piece of evidence that could impact adversely on the conclusions he reached, and the expert’s explanation demonstrated confirmation bias.  The court ruled that: “He was unwilling or unable to interpret this evidence in a way that was inconsistent with his theory.”  The court also noted that: “Confirmation bias is closely related to tunnel vision which has been defined as ‘the single-minded and overly narrow focus on a particular investigative or prosecutorial theory, so as to unreasonably colour the evaluation of information received and one’s conduct in relation to that information.’”  Even more damning, the judge found that “the failure of a proposed expert to disclose information that would undermine his opinion goes beyond confirmation bias.  … the expert witness’s “failure to disclose demonstrates a misapprehension of his role as an independent, neutral scientist.  A scientist is not entitled to discount a potential defence position (or indeed a Crown position) and then fail to disclose evidence which might bear upon that position… He was not entitled to discount the theory that an intermediary surface was implicated without disclosing evidence that might bear upon that theory.”

What does this all mean?  

First, an expert report should cite authorities demonstrating that:

  1. the approach or methodology used is “textbook”, meaning that it is widely accepted in the profession, and
  2. it is being applied in a traditional way. 

If this cannot be done, the report must disclose the novelty of the method, or the novelty of its application to the evidence at hand. 

Second, the expert’s report must disclose all of the relevant evidence, whether its was relied upon, discounted, or dismissed, and why.  Relevance in this context must be given a broad definition, as the court is the ultimate arbiter of relevance.

Third, the expert’s report must set forth how the methodology was applied to sift through the evidence to come to the conclusion reached, and the importance of the various constituent elements to the foundation of the opinion itself.  For example, if fact X is found to be untrue, then conclusion Y must change. 

Finally, the expert’s testimony must follow from his or her report, and both must be predicated on the accepted wisdom of their profession, and not the personal opinions of the expert dressed in the technical language of the profession.  This includes the scope of the opinion, as well as its contents.

Howard Levitt

Individuals, charged with investigating employee improprieties and those who deal with related decisions must be kept current of the latest edicts related to Labour and Employment Law. This is Mr. Levitt’s area of expertise.

Howard Levitt LL.B., B.A., is no stranger to Certified Forensic Investigators. His a well recognized authority on Labour and Employment Law and is a founding partner in the firm of Levitt & Grosman LLP. He has appeared on many television shows and radio broadcasts, including The Journal, Business World, W5 and CFRB 1010, discussing the issues involved in wrongful dismissal. He also has conducted numerous seminars across Canada. Continue reading Howard Levitt

Keeping the Fraud in the Family

David Debenham
McMillan LLP

Allegations of fraud are commonplace in family law proceedings, particularly with respect to improper financial disclosure of assets for the purpose of equalization payments. Typically, it is the wife alleging that her husband undervalues assets, or fails to identify assets of the marriage. In such cases the recent result in Chateauvert v Chateauvert, [2018] ABQB 2 (CanLII) is instructive. Continue reading Keeping the Fraud in the Family

Tracing and Fraudulent Conveyances

David Debenham
Co-Chair of the McMillan Fraud Law Group

How often do fraud victims chase fraudsters only to find that at the end of the road the fraudster has conveyed all his or her assets to a family member, and gone bankrupt? Despite the familiarity of this scenario, the path forward remains unclear to many. In Esfahani v. Samimi,1The Plaintiff obtained a judgment in Germany against the Defendant Kamran in 2007. An Ontario judgment was then obtained in 2009 recognizing the German judgment in the amount of $645,754.08 and finding it to be enforceable in the Superior Court of Ontario. The Plaintiff received no payments pursuant to the Judgment and as such brought a second lawsuit in 2011 claiming damages and pleading that Kamran fraudulently conveyed real estate to the Defendants in this lawsuit in order to evade payment of the Judgment. Kamran filed an assignment in bankruptcy on November 6, 2013 under the Bankruptcy and Insolvency Act (“BIA”). Kamran was discharged from bankruptcy on August 7, 2014. Continue reading Tracing and Fraudulent Conveyances

Giving a Rogue Notice of a Criminal Complaint is Not Extortion

Norman Groot
LLB, CFE, CFI

On November 9, 2017, I co-chaired a panel at a Law Society of Upper Canada Continuing Legal Education Conference on Fraud Recovery Law. The panel members were Justice Todd Archibald, criminal defence lawyer Brian Greenspan, and my co-chair bankruptcy lawyer Frank Bennett…..See full article below.

What Fraud Victims Should Know About Demand Letters
What Fraud Victims Should Know About Demand Letters

“Et Peritiae Cave” – And Let the Experts Beware!

David Debenham
(President, ACFI)

In Laxton v. Coglon1, the court had occasion to comment on the performance of an expert forensic investigator in the context of allegations that an ex-husband was under-reporting his income to the family court for the purpose of under-paying spousal and child support. The Claimant ex-wife hired the expert to impute what she believed to be undisclosed income. The omens were all favorable to her. The motions judge, in keeping with the findings of his colleagues on prior motions, was not impressed with the ex-husband’s level of documentary disclosure. The previous motions court judges had found the ex-husband’s evidence unreliable. What could go wrong? Continue reading “Et Peritiae Cave” – And Let the Experts Beware!

What Fraud Victims Should Know About Using Evidence Obtained by Hacking

Norman Groot
LLB, CFE, CFI

The massive law firm server hack that resulted in the leak of documents that came to be known as the Panama Papers brought significant media attention to the kind of information that can be obtained from secured databases that may assist the victims of fraud in obtaining a recovery. Continue reading What Fraud Victims Should Know About Using Evidence Obtained by Hacking

SNC Lavalin Prosecution Founders on Lack of Admissible Evidence—No Tipping Allowed

David Debenham
(Co-Chair, Fraud Law Group, McMillan LLP)

In R. v. Wallace, 2017 ONSC 0132 the Applicants were charged with a single offence under the Corruption of Foreign Public Officials Act.   They applied to the court to challenge wire tape warrants prior to trial, and won. As a result, the case against them collapsed. Just before they entered their pleas, the federal Crown attorney advised the court that she would not be calling any evidence against the Applicants, and she asked that the judge acquit these accused. Without the wiretap evidence, the Crown no longer had a reasonable prospect of conviction. The case serves as an important lesson to investigators who are bound by the Charter. Instead of doing the proper investigative groundwork and use a search warrant and wire tap as a last resort, the RCMP took the flimsiest of evidence as a basis for using the judicial “nuclear weapon” of a wiretap to discover if there was any case at all—- and in the result let the accused walk free such that we’ll never know if they were truly guilty or not—- an unsatisfactory ending for the accused, the prosecution, and Canadians as a whole. Continue reading SNC Lavalin Prosecution Founders on Lack of Admissible Evidence—No Tipping Allowed

Creditor Proofing No Refuge for Fraudsters

David Debenham

Fraudsters often convey their assets to family and friends to hold for them. Those transfers can be set as‎ide if one can prove that the conveyance was intended to hinder,delay or defeat creditors from being paid out of the fraudster’s assets. Simple enough. But what if the fraudster embezzles, spends the proceeds, and then puts her mutual fund RRSPs into a creditor proof investment vehicle called a “seg fund”? There is no “conveyance” of an asset of the fraudster’s hands—she still owns the RRSPs. What if the seq fund was recommended by the fraudster’s investment counselor as being more suitable than the mutual fund? Was her transfer to the seq fund to “hinder, delay or defeat” her creditors? Continue reading Creditor Proofing No Refuge for Fraudsters