Nobody likes the idea of an audit — we’re here to demystify the process for you. This post will shed light on why you might get audited, what will happen if you’re audited and, if the CRA decides you need to adjust your return, what the impact will be. The good news is that if you are prepared and transparent, you should be able to satisfy any CRA questions quickly.
Audits can come from the CRA’s personal tax, corporate income tax, GST or payroll departments. Much more common than a full-blown audit is a process review — when the CRA reviews a particular account from your return (e.g. vehicle expenses). They’re not too scary, but they need to be addressed quickly (usually within 30 days) and accurately to avoid a full audit.
When you work with us, we’re your representative to the CRA, so pass on any process review letters immediately and we’ll handle them.
Why you might get audited by the CRA
What are your chances of getting audited by the CRA? These items will put you at risk:
- Alberta Investment Tax Credit
- Medical expenses, moving expenses or donations over $5,000
- Vehicle expense over $15,000
- Home office expense over $5,000
The CRA usually uses a risk-based approach when they decide what to audit. For example, if there are common errors or they notice you’re non-compliant on a certain account (like vehicle expenses). The CRA sees tax grey areas (in particular home office and vehicle expenses) as high risk for abuse, because there’s subjectivity around the split between business and personal.
How do they decide to audit? Red flags are raised in one of three ways:
- Ratio analysis: One expense line item is larger than expected.
- Trend analysis: There are large fluctuations from one year to the next.
- The government decides to target a particular area.
What happens when you get audited by the CRA
You received a process review or CRA audit letter… now what?
Once the CRA has decided to review your account, they’ll first ask for a detailed listing of all the transactions on the account. We’ll pull this from Xero or wherever your transactions are consolidated. The total on your detailed listing needs match the line item on your financial statements (and T2 tax return).
Often, at this point, a phone call to the CRA explaining the line items on the account will suffice.
If the CRA isn’t satisfied, they can request supporting documents for line items. Supporting documentation can include:
- Proof of purchase: a receipt or invoice or lease agreement
- Proof of payment: credit card or bank statement
- Supporting calculations: a mileage log book or home office expense calculation (*It’s important to keep these calculations on hand.)
If they request receipts and credit card statements, they typically ask for a random sample of 10 receipts to review (usually ones for significant amounts). You can submit these items electronically through your CRA My Business account or we can do it on your behalf.
Remember to keep all of your receipts for six years (digital is ok) from the date of your notice of assessment.
Impact of a CRA audit adjustment
So what happens if the CRA decides that you need to make an adjustment? It’s important to understand that an adjustment in one area can impact other other areas and lead to further adjustments.
For example: The GST department audits your business’s vehicle expense claim. After reviewing the mileage log, they adjust your business vehicle use percentage from 80% to 40%. This brings the allowable vehicle expense for the corporation down from $20,000 to $10,000. Here’s a list of the full impact of the adjustment:
- GST investment tax credits (ITCs) would decrease from $1,000 to $500 (5% of $20,000).
- Pay an additional $1,100 in corporate tax (your vehicle expenses decreased from $20,000 to $10,000, so you will be taxed 11% on that additional $10,000 of income)
- Personal taxes/payroll: The adjustment would increase the amount of your taxable benefit and therefore should increase your wages or dividend taken personally. This could increase your CPP as well. As a result, your personal taxes would need to be amended to reflect a high net income.
Ultimately, it’s your responsibility to file the adjustments (we’ll do it if you work with us), but sometimes the agent will file the adjustments on your behalf.
Challenging a CRA audit
Want to file a complaint to the CRA about your audit or agent?
Going down this path is not worth it unless the amount in question is in the hundreds of thousands of dollars. Why? If you decide to fight the CRA, you’ll need to hire a tax lawyer (True North does not go to court for tax adjustments).
The best line of defence is to be friendly and transparent. By providing the CRA logical answers and supporting documents, we can prevent 95% of audits.
Please reach out if you have any more questions about audits — and remember to hand over any process review letters as soon as you get them. We’re here to make sure you’re prepared and make life less scary if the CRA comes calling.
More questions about taxes? Check out the Corporate Tax and Personal Tax content on our blog.