1. What Triggers an Audit?
Large corporations are supposed to be audited on a regular basis but CRA does not divulge its basis for selection. Apparently, there are no longer any random audits. The CRA is known to use sophisticated computer technology to look for unusual patterns or changes in the numbers reported. As well, certain industries are targeted for audit more often than others. The request for a “large” HST refund may trigger an audit – perhaps a desk audit during which time the source(s) which gave rise to the large input tax credit may be investigated or perhaps a full audit will ensue, as a result.
2. I’m Not Asking for a Refund. Why Would they Pick My Company?
Other than the screening process inherent in the CRA’s sophisticated computer methodology for picking taxpayers to audit, there are four “other” secondary reasons your company may have been selected for an audit:
I. Audit projects – a particular group of taxpayers/registrants may targeted.
II. Leads – information from other files, audits or investigations or from outside sources may lead to the selection of a particular file for audit.
III. Secondary files—a taxpayer may be selected for audit because of its association with another file previously selected.
IV. Underground economy – there is sometimes a focus on a particular in order to address the underground economy. [Content from the 1995 CICA Commodity Tax Symposium, “Revenue Canada Roundtable”]
3. What Do Auditors Look For?
According to the 1995 CICA Commodity Tax Symposium, “Revenue Canada Roundtable”, the most common errors discovered by auditors in the process of their audits include the following:
i. GST collected but not remitted
ii. GST not remitted on self-supply of real property
iii. Accounting and calculation errors
iv. GST not collected on taxable sales
v. ITCs denied—expenses related to exempt activities
vi. ITCs denied—insufficient supporting documentation
vii. Intercompany transactions—GST not collected/ITCs denied
viii. ITCs denied—personal expenses and club memberships
ix. Sales misclassified as exempt or zero-rated
x. Public service bodies’ rebates denied—ineligible/GST not paid/duplicate claim.
4. I don’t think that my Company is exposed to unremitted taxes or over-claimed input tax credits.
What else does CRA consider a high risk area?
Some additional areas that CRA investigates regularly include:
i. Unacceptable translation methods: GST/HST is understated because the funds are not converted or are improperly converted into Canadian dollars.
ii. Taxable benefit calculations: GST/HST is not reported on the amount calculated for tax purposes
iii. Miscellaneous revenues: GST/HST is not being charged
iv. Export sales: lack of proper documentation to substantiate zero-rated sales.
5. How many years does an auditor investigate?
Reassessments under the GST are usually limited to four years from the filing of the return. However, there is an internal policy which typically supersedes this statutory right. The CRA has a policy that limits auditors to the last filed or assessed year, plus one previous year. This is known as the “one plus one” policy. The policy does not limit reassessments, if the auditor has found information to support a reassessment going further back.
6. Is an auditor able to assess based on a sample and/or extrapolation techniques?
Sometimes an auditor will do a detailed audit of a short period, and extrapolate the results over the entire assessment period, or extrapolate from a sample of invoices to estimate total sales for a period. The courts are not particularly enamoured of this approach, but will accept it if there is no other reliable evidence of sales. For an assessment to be based on the extrapolation of sampling results, a valid statistical sample must be employed. The sampling method used is dependent on a variety of factors such as the homogeneity of the items in the population, the seasonality of the business, the population size, and the value of individual items in the population.
7. Do I have to provide anything and everything that the auditor asks for?
A person authorized by the Minister may inspect, audit or examine relevant documents, property or processes of any person and, at reasonable times, enter any premises or place of business and require persons therein to provide reasonable assistance and answer all proper questions.
8. I have heard that an auditor audits to “net tax”. What does that mean?
Net tax is the basic calculation of “GST collected minus GST paid”, which is the essence of what is remitted to the CRA each reporting period. Sometimes adjustments impact the timing of when HST is collectible and/or when HST input tax credits are eligible to offset the HST collectible. Having regard for these adjustments, an auditor, in the simplest of situations ensures that the correct amount of “net tax” is remitted.
9. What is a “Wash Transaction”?
A wash transaction occurs when a taxable supply (other than a supply taxable at 0%) is made and the supplier has not remitted an amount of net tax by virtue of not having correctly charged and collected the tax from the recipient who is a registrant who would have been entitled to claim a full input tax credit (ITC) if the tax had been applied correctly.
The government is not out of pocket because the vendor should have collected and remitted the tax and the recipient would have paid the HST and recovered it. However, to ensure the integrity of the system is applied uniformly and to reflect the various reporting periods, the vendor is forced to charge the purchaser the HST, the vendor collects and remits it, the purchaser pays and recovers it and, on audit, the vendor is charged with a “wash” penalty of 4% of the HST that should have been charged in the first place (to reinforce the workings of the system)
10. When can a Wash Transaction be Applied?
The CRA will consider waiving or cancelling the portion of the penalty and interest that is in excess of 4% of the tax not properly collected, or the ITCs not properly accounted for in a wash transaction where the following conditions are satisfied:
a. it must be demonstrated that the taxable supply in question was made to a registrant who would have been entitled to a full ITC if the tax had been properly applied, or to a federal department, or to a participating provincial government entity; or where an ITC is claimed by the wrong member of closely related group, or an associated person, it must be demonstrated that the person properly entitled to claim the ITC is a registrant that would have been entitled to a full ITC;
b. the person being assessed must not have been previously assessed for the same mistake and must have a satisfactory history of voluntary compliance;
c. the person being assessed must have remedied the situation to ensure that tax is collected and ITCs properly claimed on future supplies of a similar nature; and
d. the person being assessed must not have been negligent or careless in the conduct of its affairs to ensure that tax is properly collected and remitted on its taxable supplies and that the person claims ITCs only where properly entitled to do so.