Hine v The Queen: settlement offers in “yes-no” cases

In Hine v The Queen (2012 TCC 295), the application of the gross negligence penalty for the 2006 taxation year was the sole tax issue before the Tax Court. However, the reasons for judgment raise some questions regarding when the Tax Court will order costs on a substantial indemnity basis.


The taxpayer was in the business of “flipping houses”. His spouse prepared his tax returns and during the preparation of the taxpayer’s 2006 income tax return she accidently double-counted an expense, thereby under-reporting his income in that year. After an audit, in which the taxpayer and his spouse fully co-operated with CRA, the taxpayer was assessed a gross negligence penalty for his 2006 taxation year.

The gross negligence penalty

Hershfield J. held that the Minister was not justified in applying the gross negligence penalty pursuant to subsection 163(2) of the Income Tax Act under the circumstances. Hershfield J. echoed the sentiment of Chief Justice Bowman in Farm Business Consultants Inc. v Canada (95 DTC 200) that in cases where the Minister proposes to apply the gross negligence penalty, a higher standard of proof is required to justify the application of the penalty beyond a mere probability of misconduct.


The taxpayer made a motion for enhanced or substantial indemnity costs on the basis that an offer to settle with the Crown had been made. Under paragraph 147(3)(d) of the Tax Court of Canada Rules (General Procedure), the Court has discretion in determining the amount of costs to be awarded to a party when there has been “any offer of settlement made in writing.” Hershfield J. dismissed the motion on the basis that there was no “offer of settlement” made by the taxpayer. The written offer of settlement from the taxpayer to the Crown was to vary the Taxpayer’s reassessment to eliminate the gross negligence penalties and if such offer was not accepted, that the taxpayer would seek costs on a substantial indemnity basis. In other words, the taxpayer’s offer was to the Crown was for it to give up the appeal or face greater potential legal costs. The Crown rejected the Taxpayer’s offer.

Justice Hershfield found that in these circumstances, there was no offer of settlement made. Because the sole issue before the court was whether the taxpayer was grossly negligent, there were only two possible results of the litigation – the court would find that he either was or was not grossly negligent. Because this was a “yes-no” question before the court, the Crown could not have settled the case. Instead, such a settlement would be an abdication of the Department of Justice’s responsibilities. As such, because all tax matters need to be settled on a principled basis, there was an “impediment to settlement tantamount to a legal impediment”.

Because the other factors listed in subsection 147(3) were not present, the court dismissed the taxpayer’s motion.

Settlement Offers in Tax Cases

Unlike civil cases that can be settled on a mutually-agreeable basis, tax cases can only be settled on a “principled” basis. This means that any proposed settlement must be justifiable when referenced to the particular tax act in question as opposed to simply agreeing to a mutually agreeable dollar value. Finding a principled settlement involves strategic planning as to how the terms of offer are framed. Often times, the negotiations between the parties are centred more on which provisions of the tax act will justify the offer than the actual dollar figure. While it can be said that if a taxpayer really wants to settle, it is possible to find a principled solution, Hine offers an example where the principled basis prevents the parties from doing so.

Editorial comment

This case is an interesting reminder of the potentially unintended consequences caused by the requirement that tax cases be settled on a principled basis. Because there were only two outcomes to this case, the Court appears to say that neither party can make a bona fide offer to settlement. In other words, it appears that the essence of Justice Hershfield’s comments is that, in his view, a valid offer to settlement requires both parties to receive something. In the rare instances where there is only one “yes-no” question before the Court, it appears that these cases must be solved in Court, unless one of the parties abandons the appeal.

However, it is rare for the Court to be faced with only one “yes-no” question. It is common for cases to have multiple issues, with one or more “yes-no” questions among them. For example, in many expense cases, the first issue before the Court is whether the enterprise the expense was incurred in support of is a source of business income. This is a yes-no question. If the answer is no, then no expense related to that enterprise are deductible. However, if the answer is yes, the Court will then move onto other issues such as whether the particular expense was incurred for a business purpose and whether the amount of the expense is reasonable.

Finally, one potential unintended consequence of Justice Hershfield’s comments is that parties may have a disincentive to settle issues prior to filing a notice of appeal in circumstances where such a settlement would leave only one “yes-no” question before the court. While this may be a rare occurrence, this may cause parties to be less inclined to settle at earlier stages of the tax dispute, which would be contrary to the purpose of paragraph 147(3)(d) of the Tax Court Rules.