September 5, 2017

Many people query whether or not the Bankruptcy & Insolvency Act (“BIA”) applies to the Canada Revenue Agency (“CRA”) in respect of government debt.  The answer in most situations is categorically “YES“.  Insolvency professionals (trustees) have a long history of working with the CRA and other government agencies to assist debtors in finding relief from the burden of debt.  However, the CRA has, in some instances, has been known to use its access to justice (perhaps ironically funded by taxpayers) to prevent some people from finding relief under the BIA arguably unfairly.

The CRA is of course primarily responsible for the collection of taxes and other types of government debts.  Some of these debts may arise from student loans or employment insurance or a plethora of other government funded programs.  It is well known that the CRA has extensive powers of enforcement that allow it to garnishee incomes, register on property, signify receivables or seize accounts without the necessity of obtaining court orders.  The CRA can also arbitrarily assess noncompliant tax debtors or show up for a dreaded audit of boos and records which must be provided on demand. 

Taxes in Canada fall under various jurisdictions but are notably high, except for large corporations and wealthy individuals who are able to take advantage of tax loopholes.  It has been estimated that “tax freedom day” (the day on which Canadians will have earned enough income to pay all of this year’s tax obligations) will be June 26th.   In other words we will be paying about half of our income in some form of taxation.  The Canadian tax system is a self-reporting system requiring that citizens report their information and pay their taxes voluntarily and as long as that happens in a timely fashion you likely won’t hear very much from the CRA.  Having said that, the multifarious layers of taxation in Canada make tax reporting very complex and cumbersome for ordinary people and small business owners.  It is important to use a trained tax professional even if your income sources are limited, for many people filing a simple tax return can be an extremely complex task.  Once you get behind on filing or remitting you may find yourself struggling to get back in control.

The 2009 amendments to the BIA included new rules in respect of high tax debtors.  These new rules require that if a bankrupt’s personal taxes total more than $200,000 and should that total constitute more than 75% of the bankrupt’s total debts the obligation is NOT automatically dischargeable.  In order to obtain a discharge from the bankruptcy the bankrupt must appear in court where a decision will be made as to how the discharge will be disposed of.  The courts decisions are often based on the bankrupt’s ability to make some form of restitution as well as the bankrupt’s conduct prior to and during the bankruptcy.  Because the rules for the treatment of “high tax debtors” are found in Section 172.1 of the BIA such court applications are usually referred to as a “172.1 applications”.

In 172.1 applications, the CRA will typically ask the court for what is known as a “Conditional Order of Discharge” which means that as a Ôcondition’ of being discharged the bankrupt will be required to make some form of continued payment to the estate (trustee) for the general benefit of his or her creditors and or abide by some compliance guidelines (file and remit taxes on time).  Sometimes it is clear that the bankrupt appearing before the court has no capacity to pay further monies to the estate and that the issue is one of non-payment and not non-filing in such an instance they may be able to obtain an Absolute (court ordered) discharge without conditions.  The absolute discharge could also be subject to a period of Ôsuspension’ before the order takes effect.  Frequently suspended and conditional orders are made at the same time – the bankrupt’s discharge is suspended for a period of tie but also conditional on some form of compliance.   In rare situations, probably applicable to chronic tax abusers, the CRA may ask the courts to deny the bankrupt a discharge altogether.

As we noted in the opening paragraph, in addition to collecting taxes the CRA has been made responsible for the collection of other government debts including student loans and EI overpayments.  A few decades ago there were no special rules in the BIA for the treatment of student loans.  But by the same token there was little need as post-secondary education was largely funded by government grants.  The funding system changed in 1990 reducing grants until by the mid-1990s they were no longer being issued and students had to pay their own way through school through a government assisted loan program.  That was the time that insolvency practitioners started to see more bankruptcies precipitated by student loan debt.

Initially, following the 1992 BIA amendments that removed the priority formerly granted to government debts, a graduate could find relief by making an assignment into bankruptcy.   Proposals were then, as they are now, problematic because they rely on the creditors votes and large stake holders could/can vote proposals down either forcing the proponent to deal with the debt in the ordinary course or to make an assignment.  So in most cases proposals were simply not a viable option.  In recent years we have seen a shift in the CRA’s stance on proposals giving consideration to later amendments.

Because the BIA did not have any special exceptions for student loans the system was open to potential abuse.  For example articling lawyers and physicians completing internships earn relative low salaries.  However, the cost of a law school or med school education is very substantial and graduates may have (had) substantial student loan debts.  But at some point a lawyer’s or a doctor’s income would be likely to increase substantially, so they probably should not be entitled to what is tantamount to a “free education“.

Because of both the increased numbers of student loan bankruptcies and the potential for abuse the BIA was amended in 1997 so that government student loans could not be discharged for a period of two years following graduation.  The time frame was intended to provide students with an opportunity to “realize on the intangible asset” of having a higher degree of education and an increased earning potential.  The new regime seemed perfectly reasonable since two years is not a long time in terms of starting a new career path.  Some students with less marketable degrees continued to struggle past the two year period and for them statutory relief was available.  

Some graduates struggling to pay student loan debts have relied on consumer credit to bridge the gaps in income worsening their overall debt circumstances.  In 1998 the government responded to the rising number of student loan bankruptcies by preventing student loans from being discharged a period of ten-years following graduation.  Then in 2008 the BIA was further modified to a slightly more relaxed regime, one that allows student loan debts to be automatically discharged after a period of seven years following the end of the last study date, or five years (by separate application to the court) if the student can prove financial hardship would result from continued repayment.  The BIA amendments can be found under Section 178.1 g)

178. (1) An order of discharge does not release the bankrupt from

    • (g) any debt or obligation in respect of a loan made under the Canada Student Loans Act, the Canada Student Financial Assistance Act or any enactment of a province that provides for loans or guarantees of loans to students where the date of bankruptcy of the bankrupt occurred

      • (i) before the date on which the bankrupt ceased to be a full- or part-time student, as the case may be, under the applicable Act or enactment, or

      • (ii) within seven years after the date on which the bankrupt ceased to be a full- or part-time student; or

    • (h) any debt for interest owed in relation to an amount referred to in any of paragraphs (a) to (g)


Clearly there has been considerable thought and deliberation put into formulating these rather complex rules.  However, the obligations that arise from Employment Insurance overpayments are not treated so equitably.  The CRA arbitrarily considers these debts to have been obtained by fraud and has taken to asserting that the obligation should survive under Section 178 (1) e) of the Bankruptcy and Insolvency Act (“BIA”) which reads: 

“178. (1) An order of discharge does not release the bankrupt from

(e) any debt or liability resulting from obtaining property or services by false pretences or fraudulent misrepresentation, other than a debt or liability that arises from an equity claim; “

There are several problems with the CRA’s assertion including: 

  1. Fraud is being “assumed” and not “proven” even though the annotation to the BIA is quite clear that fraud is a very serious offense that must be “pleaded with precision” and requires a judgement.

  2. The implications of a creditor arbitrarily assigning an enforceable finding of fraud (without proving their case in courts) is that every other creditor may do the same and the entire insolvency system would become dysfunctional. 

  3. Alberta Courts have ordered that the CRA may not pursue the collection of debts on the basis of fraud.  Yet, the CRA continues to ignore the ruling in other provinces, claiming that the ruling is “provincial” and does not need to be acknowledged in other province.  However, the BIA and all of the various statutes under which the CRA operates are “Federal”. 

As we can see the BIA has been amended numerous times to ensure parity and the reasonable treatment of insolvent individuals.  At this writing the issue of the “fraud assertion” continues and it appears that the government is collecting low hanging fruit by pursuing individuals who do not have access to expensive legal counsel.   Having said that, undoubtedly there is an element of fraud in the system but many honest people also inadvertently incur EI overpayments.  Fortunately most individuals are able to deal with overpayments in the ordinary course but clearly some cannot.  Overpayments may arise in part as a result of flaws in the self-reporting system and seem to go either unnoticed or unpaid by the recipient.  

By the time an EI benefit recipient is making an assignment into bankrupt in all likelihood their financial resources have been diminished or depleted including access to credit facilities.  The EI overpayment that the CRA may pursue after the bankrupt’s discharge can cause ongoing financial hardship and stress for some individuals and families.  This behavior seems to defeat the intent of the BIA which is to facilitate the rehabilitation of an honest debtor.   It seems that until the matter is settled by provincial courts in Ontario and other jurisdictions or codified into the BIA the issue will continue to plague low income insolvents.