Small Business Audits: Six Figures Owing on Average

Beth Graddon

Business owners: the burden of proof in an audit is on you. That’s the message the CRA is sending to businesses since close to $1.2 billion has been identified (but not necessarily collected) through audits of small and medium-sized enterprises (SMEs), which represents a big win for the tax department. So, what can you do to prepare a potential defence before year-end should your business be next?

It’s critical to the health of the business because the CRA notes the average amounts owing were a whopping $137,000 for small businesses, and $338,000 per medium businesses. To be audit-proof, check out the most recent common concerns identified through the audits.

• Unreported income
• Capital transactions
• Corporate reorganizations and restructurings
• Ineligible expense claims
• Related-party transaction

CRA officials have clarified that they have several ways of obtaining information for an SME audit:

• By applying the CRA’s regular inspection powers
• By issuing a request for information (RFI) to either the taxpayer or a third party (such as a bank). This includes indirect verification of income (IVI) tests
• By securing a compliance order via an application to the courts if the information is not provided voluntarily

How Can Advisors Help Businesses Remain Audit-Proof with the CRA?

In assessing and analyzing the client’s information, you will need to:

• Analyze and account for all and any different sources of income;
• Understand key transactions which occurred in the taxation year;
• Identify and analyze tax-sensitive items;
• Reconcile shareholder loan transactions;
• Assess the potential for “tax-risk”; and
• Document your file with the required support.

Also, be sure to verify sources of income, including:

• Active business income, eligible for the Small Business Deduction
• Active business income, not eligible for the Small Business Deduction
• Specified investment business income
• Rental income (leasing of real property)
• Capital gains and losses
• Personal services business income
• Non-capital losses

While not exhaustive, the following list contains tax-sensitive items corporations typically need to watch out for:

• Automobile expenses - vehicle(s) owned by the corporation (restriction on deductibility of capital cost allowance, lease payments)
• Meals and entertainment (only 50% deductible)
• Life insurance premiums (may not be deductible, one exception is if insurance is assigned to a corporate loan at request of a lender)
• Personal or shareholder related/personal-use (not deductible)
• Advertising and promotional (not deductible if it includes club dues/non-business memberships)

These important tips are excerpted from Corporate Income Tax Fundamentals.

Additional educational resources: Enhance your own education as a business owner or specialize in corporate taxation to help business owners in Canada file audit-proof returns for the 2019 tax season and beyond. Enrol in the MFA™-Business Services Specialist designation today.

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