There is nothing difficult about preparing a personal income tax return right? Just go to the store, buy a program and away you go. It's easy. The software is 100% guaranteed right? Yes it is. It is guaranteed to do exactly what you tell it to do. But what if you do not know what you can claim as tax deductions or tax credits? Does the software know that you are now the caregiver for your elderly parents? Does the software know that you had a new addition to the family this year?
How about those medical expenses and the kids after-school activities, can you claim them? How much? Which receipts do you need to keep? How Long?
CRA loves it when people use 'off the shelf' software', because people make mistakes. The average person does not know what they can and cannot claim and although the sotware may walk you through an interview process, it does not KNOW YOU. Only a Tax Professional will take the time to know you and your personal situation; this knowledge is then used to prepare your tax return to ensure that you pay only the amount of taxes that you are legally required to.
Tax Preparer vs. Tax Planner
A Tax Preparer takes the information you give them and produces a tax return
A Tax Planner interviews you, gets to know you, takes the information you give them and prepares your tax return; they then use the information and their knowledge to provide you with advice, guidance and recommendations for saving taxes in the future.
What Prompts a Tax Audit?
For some, it is their greatest fear, for others, a fact of life. The letter from CRA saying they want to review your tax returns.
There are only 2 ways that a taxpayer can be selected for an audit:
1. Random Chance
2. Targeted Selection Process
We’ll ignore random chance and give you the details for the Targeted Selection Process (TSP).
The TSP is based upon risk factors; the CRA looks for those that are more likely to owe more taxes based upon some specific criteria and experience:
10% of randomly selected taxpayers face an additional tax bill of more than $5,000 while 35% of TSP taxpayers owe more than $5,000 in additional taxes.
Filing online vs. paper filing has absolutely no bearing on being selected for an audit, what does matter though are:
1. Errors on tax returns; an occasional error is normal, multiple errors and repeated errors will get you an audit.
2. Self-Employment; taxpayers that are employed and have T4’s, RRSP Receipts etc. have a very low risk of being audited - CRA gets their tax information directly from the employers; mistakes are highly unlikely.
Individuals that are self-employed however, pose a much better opportunity for the CRA, especially those that are in cash oriented businesses (home renovations, contractors, etc.).
Here are some interesting statistics from a CRA report to Parliament:
CRA conducted 366,260 audits in one year resulting in $2.5 Billion in additional taxes, interest and penalties. (small business audits)
CRA conducted about 63,000 GST/HST audits in this same period resulting in assessments of more than $600 million.
They conducted 20,635 audits on ‘underground economy’ businesses - resulting in addtional tax, interest and penalties of more than $284 million.
98% of tax evasion cases prosecuted by the CRA result in Convictions! And the rate of conviction has NEVER fallen below 94%
When it comes to your small business, what will trigger the CRA to consider an audit?
1. Major Changes in Income or Expenses; CRA likes things to be predictable, when things change dramatically, they will ask questions.
2. Repeated Losses; really? For how many years do you think your business can sustain losses before CRA will question it?
3. Expenses that are different than others in your industry; if you claim $10,000 in travel and all of your competitors don’t claim travel, CRA will question it.
4. Underreported Earnings; CRA conducts very detailed statistical analysis of businesses. If you are in a certain industry, they know what your margins should be; if you are way off, they will question it.
5. Large Charitable Donations; Your business is not doing well, but you donate $10,000 to charity? They will question it.
6. Home Office Deductions; There are very specific criteria required to claim home office expenses, if you don’t meet the criteria, they will come calling.
7. Discrepancies between GST Returns and Tax Returns; yes, they do check! If your revenues do not match or your expenses are not the same, they will question it.
8. Shareholder Loans; if the loans appear on your financial statements (as a receivable) for 2 consecutive years, expect a call! CRA does not like Shareholder loans that should be considered income and taxable.
9. Errors and Missing Information; If you get dividends, investment income, or rental income, CRA knows this. If you negelect to report it on your tax returns, they will call.
10. Divorce! - Yes, there is nothing worse than a disgruntled spouse. One call to CRA declaring that you have hidden income, over-reported expenses etc. will get you Audited!
There are a few other ways you can get yourself audited, but your best defence is a good accountant and accurate, detailed records!
Small business owners are always trying to save a few dollars, however, be careful where you try to save those dollars!
One of the greatest myths in the small business community is that a CA or large accounting firm must complete your Corporate Tax Return and Financial Statements each year; nothing could be further from the truth!
A Ledgers Professional has the training, skills, support and infrastructure to complete your financial statements and tax returns professionally and in a timely manner, usually at a FRACTION of the cost of the large firms.
Why spend your hard earned dollars unneccessarily?
At Ledgers Canada, we provide our Network Members with the tools and training to assist you in making your business better. Why rely on an individual that considers themselves to be a bookkeeper because they know how to use an accounting software application, when you can trust your books and financial information to a Professional with the education and skills necessary to help you succeed?
Firstly, we should define a Personal Services Corporation:
Under CRA’s rules, your Corporation would be considered a Personal Services Corporation if you provide services on behalf of your Corporation to another Company and you would reasonably be considered an employee or officer of the company to which you provide the services.
If your Corporation however employs more than five full-time employees or it provides services to an associated Corporation, it will generally not be considered a Personal Services Corporation.
A Personal Services Business is not eligible for the small business tax deduction (lower tax rate on the first $500,000 in earnings) and the expenses that can be claimed for tax purposes are severely restricted.
In general, a personal services business’ deductible expenses are restricted to salary and wages. No deduction is available for items such as Advertising, Transportation and Training.
These rules were introduced to prevent employees from terminating their employment with a company and then working for that same company through their own corporation to obtain tax advantages.
Now, the Government has approved legislation that is virtually going to eliminate the advantages associated with this type of Corporation.
Effective with tax years beginning after October 31st, 2011 income from Personal Services Corporations will be taxed at a Federal Rate of 28% (up from 15%) plus the applicable Provincial Tax Rate. If for example your year-end is December 31st, this tax hike applies to your year that ended on December 31st, 2012.
Following is an example of the effect of this change on an Alberta Personal Services Corporation:
Assume the Corporation has a Net (before tax) Profit of $10,000.
Before this change, the Corporation would pay $1,500 in Federal Tax and another $1,000 in Alberta Provincial Tax. Leaving net earnings of $7,500.
Now, as a result of this change, the Corporation would pay $2,800 in Federal Tax and $1,000 in Alberta Tax resulting in net earnings of $6,200.
The net result: Your Corporation pays an additional $1,300 in Income Taxes.
If the same $10,000 in income was earned by you personally in Alberta and you paid tax at the highest tax rate (39%) you would have net earnings of $6,100 a difference of only $100.
When you factor in the cost of Corporate Tax Preparation Services etc., there is virtually no advantage any longer to have a Personal Services Corporation.
What should you do next?
Firstly, talk to your accounting professional and determine if you do in fact have a Personal Services Corporation.
If it is decided that you do, you and your accountant will have to determine if there is any point in maintaining the Corporation or if you would be better off winding it up.
There are still some minor tax advantages depending upon what province you reside in.
Also, if you have significant investments held within the Corporation, you may want to keep the Corporation active to defer tax on the Retained Earnings until you withdraw those earnings at some point in the future.
We are here to help you. If you have a question, concern or compliment, please complete the information to the left and a Ledgers Professional will respond to you as soon as possible.