Run a company? Better keep all those receipts with you for a long time to avoid tax problems

Posted on by Duane Roberts

Taxes Personal Finances

Jamie Golombek: Failure to provide proper backup for expense claims can lead to costly fines

Companies are required to maintain records and receipts to substantiate their tax claims. Companies are required to maintain records and receipts to substantiate their tax claims. Photo by Getty Images/iStockphoto

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The Canada Revenue Agency this week began accepting electronically filed 2021 tax returns through its popular NETFILE and EFILE services. The May 2, 2022 deadline still gives you plenty of time to submit your file, but now is a good time to get your receipts together, especially if you plan to declare business expenses on your return.

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Failure to file a return on time, or fail to provide proper backup for expense claims, could result in the CRA issuing an “arbitrary assessment” for tax due, along with costly penalties. That’s exactly what happened in a recent tax case decided last month.

The taxpayer is a truck driver who operates his business through a private company owned by him and his wife. He is the only employee of the company and he transports products, meat and other goods across the border between Canada and the United States.

It turns out that for tax years 2012, 2013, or 2017, the taxpayer never filed tax returns for their transportation company. Or, if he did file returns, as he claimed, the CRA never received them. In May 2018, the CRA sent a letter requesting taxpayers to file corporate returns for those three tax years. The agency wrote to him again in June 2018 asking him to file a report, but no reports were received.

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Consequently, the CRA proceeded to issue “arbitrary assessments” for each of the company’s missing tax years. With any assessment, the CRA has the power to determine the tax due based on its best (estimated) estimate of a taxpayer’s income and expenses for a given tax year.

The CRA estimated the company’s gross income in each of those years by referring to the tax return for the calendar year closest to the specific tax year. The CRA then deducted 30 percent as an estimate of reasonable expenses and subtracted payroll expenses as stated on the company’s payroll. The CRA assessed federal back taxes totaling about $20,000 for the three reassessed years, plus nearly $12,000 in penalties for failing to file returns for those years.

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To combat arbitrary assessment, a taxpayer must rebut the factual assumptions underlying the rating agency’s ratings on a probable basis. In this case, the taxpayer stated that he kept the company’s 2012 and 2013 financial and tax records on QuickTax software on a laptop, which he kept in his truck. (QuickTax has since changed to TurboTax).

Under the Income Tax Act, everyone who operates a business is obliged to keep records. Under the Income Tax Act, everyone who operates a business is obliged to keep records. Photo by Stepan Popov/Fotolia

In July 2018, the taxpayer was involved in a serious accident while driving his truck in the US. He spent a day in the hospital, followed by months of recovery. He stated that after the accident he was unable to get anything out of the truck, including his laptop.

The judge was not convinced that the taxpayer could not have removed the laptop from the truck after the accident, neither by asking the tow company, the police or anyone else to do so on his behalf, but in the absence of the laptop the taxpayer would must show some kind of backup to justify his business expense reports.

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The company had neither an accountant nor a bookkeeper, and the taxpayer testified that he kept the company’s receipts and invoices at his home in Toronto. Still, he chose not to bring any of those receipts or bills to the hearing, saying they were in “big boxes.” Instead, he produced a one-page statement of income and operating expenses for each of the company’s 2012 and 2013 tax years. He said he collected each summary using the company’s receipts and invoices. The taxpayer claimed an additional $11,269 in expenses in 2012 and $27,435 in 2013, but was unable to provide reliable evidence to support his position that those additional expenses should be allowed.

The judge was skeptical about the figures on this overview. Fuel costs were listed at exactly $15,000, and hotel and food costs at exactly $2,000 on the 2012 statement. “Those amounts appear to have been rounded up or down,” the judge said. “They are unlikely to show the total of actual invoices or receipts. More likely they are just estimates. But there’s no way to find out without looking at the source documents yourself.”

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The Canada Revenue Agency headquarters in Ottawa.

Why do we have to file a tax return at all?

Under the Income Tax Act, anyone who conducts a business is required to “keep records and accounts…at the person’s place of residence or residence in Canada…in such a form and with information that the taxes can be be paid under this Act … to be determined.”

The judge stated that such documents do not exist or, if they do, likely did not support his case. The judge concluded that the CRA’s approach to calculating net income under the arbitrary judgment rule was “reasonable in the circumstances.” He added: “In light of the complete absence of source documents, and serious concerns about the reliability of the summaries, the company has made, on a probable basis, the factual assumptions underlying the (CRAs) assessment of tax for each of the company’s 2012 2013 and 2017 tax years.”

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The judge then turned to the fines for failing to file the return. The taxpayer tried to claim that he had indeed filed corporate returns for the years reviewed, but testified that he could not remember exactly when he filed them “because it was a long time ago.” The taxpayer was unable to provide any confirmation of the electronic submission of the returns, nor to provide hard copies of those returns or copies of assessment notices issued by the CRA.

After weighing the evidence from the CRA against the “vague, mixed and contradictory evidence” presented by the taxpayer, the judge concluded that the fines for late filing had indeed been assessed correctly.

Jamie Golombek, CPA, CA, CFP, CLU, TEP is the General Manager, Tax & Estate Planning at CIBC Private Wealth in Toronto. Jamie.Golombek@cibc.com

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This post Run a company? Better keep all those receipts with you for a long time to avoid tax problems

was original published at “https://financialpost.com/personal-finance/taxes/run-a-business-better-keep-all-those-receipts-handy-for-a-long-time-to-avoid-tax-trouble”

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