Arbitrary Tax Assessments – One of CRA’s Tools to Address Unfiled Returns
Canada’s income tax system is based on a taxpayer self-reporting. Most Canadians file their income taxes by that year’s filing deadline. To ensure compliance, CRA has a spectrum of tools with sanctions such as penalties and interest for late filing on one end and criminal offences for non-filing and tax evasion on the other end. In the middle of the spectrum is what is called an Arbitrary Tax Assessment. When a taxpayer does not file income tax, payroll source deduction or GST returns when required under their respective Acts, CRA can generate an assessment based on prior returns and third party information and the taxpayer is liable for the tax arising from the assessment. These CRA generated assessments are valid and binding on the taxpayer but do not satisfy a taxpayer’s obligation to file the tax return for the period at issue leaving open the possibility for future prosecution.
As you can expect, CRA generally over-estimates a taxpayer’s income. Depending on factors which include the difference between the arbitrary assessment and the taxpayer’s actual income and the taxpayer’s financial situation there are several ways to respond. A taxpayer who thinks that the tax assessed is only slightly too high may simply pay the amount owing and hope that CRA does not demand that the return be filed. A taxpayer who thinks that the tax assessed is excessive can file a Notice of Objection (90 days from the date that CRA issues the Notice of Assessment or Reassessment) to protect their appeal rights and prepare a proper return. CRA can agree to an extension of time to file a Notice of Objection as long as the application is made within one year after the original 90 objection period lapses.
Taxpayers who have not filed returns should be careful not to be stuck with CRA’s calculations.
CRA is Changing its Voluntary Disclosure Program for 2018
Known as VDP, Canada Revenue Agency’s tax amnesty program allows noncompliant taxpayers to voluntarily correct their tax affairs and avoid criminal prosecution and penalties and interest under the Income Tax Act for up to 10 years. To be accepted presently, a taxpayer’s disclosure must:
- Be Voluntary. It must made before CRA initiates an enforcement step such as an audit or a request to file a return.
- Be Complete. It must provide full and accurate facts with documentation.
- Involve a potential penalty (late filing, failure to remit, gross negligence, etc.)
- Be at least 1 Year Past-Due.
At present, CRA even provides a no-name process which allows a taxpayer to provide details anonymously until accepted by CRA.
But, starting in 2018, CRA’s VDP system changes:
First, it will have two tiers:
- a General Program which is directed at inadvertent and minor compliance. It has the same requirements as above but limits the interest relief available (50% of the interest for subject years); and
- a Limited Program which is targeted at major non-compliance. It only provides relief from criminal prosecution and gross negligence penalties (not interest).
The situations where the Limited Program applies include where (a) the taxpayer has actively avoid detection through offshore vehicles; (b) there are “large” dollar amounts (not defined); (c) there are multiple years of non-compliance; (d) the taxpayer is sophisticated; and (e) the disclosure is made after an official CRA statement, correspondence or campaign targeting the specific non-compliance. And, those taxpayers who apply under the Limited Program also waive their right to object to taxes assessed.
Second, the no-name voluntary disclosure program is replaced with an “anonymous discussion process” that will not protect a taxpayer if CRA takes enforcement steps before the taxpayer files a “named” voluntary disclosure.
Given these changes, there is a real incentive for taxpayers considering a voluntary disclosure to do so before the end of 2017.
Voluntary Disclosure Program available to Deceased Taxpayers
If an executor or beneficiary finds out that the deceased person had not complied with their Canadian income tax obligations, the Estate can make a voluntary disclosure to CRA and avoid any potential penalties and interest. This is most common when there were unreported assets such as bank accounts or property located outside Canada. If CRA learns about this non-disclosure then it can impose penalties and interest on the taxes owed, seeking the same from the Estate, the beneficiaries who have already received money from the Estate or even the executor if the Estate has been distributed to the beneficiaries.
One of the inherent problems with an Estate making a voluntary disclosure is that the taxpayer who knew about the details behind the non-compliance cannot answer questions. By utilizing the no-name voluntary disclosure program until the end of 2017 and the anonymous discussion process thereafter, there is a chance for the executor and beneficiaries to understand the tax implications of the voluntary disclosure versus penalties and interest that CRA could apply if it initiated enforcement steps.