Business audits

In this blog, you will learn about business audits such as Corporate Tax, GST/HST and Payroll. Although unlikely, there is always the possibility of CRA audits. The cash-intensive businesses are more likely to be audited than others, but it’s important to know what triggers an audit and what happens in case of one. How to reach the best results if an audit happened.

Common audit trigger for corporate tax

1. excessive expense deduction claimed
2. Businesses which are notorious in tax evasion such as taxi, restaurant, construction, and daycare
3. Business continuously incurred losses over the last three years
4. Discrepancy exists between sales reported on T2 and GST/HST return
5. The close related company such as parent company or sub company be audited 
6. Screen out by CRA’s “Post code project” and “CRA condo project” 

What is CRA looking at in the corporate tax audit?

 Each year, about 16% of all audits occur in the corporate tax segment.

 Auditors are mainly concerned with:

• Did the entity claim excessive expense?
• Did the entity under report revenue
• Did the  entity declare the correct “type of corporation” on the audit period? They want to see if the correct corporate tax rate had been applied. Caproate income tax rate varies with the type of busienss.

The documents that the auditors want to examine are:

• Articles of incorporation and corporate minute book 
• Financial statements and adjusted entries 
• Documents identify related parties, including shareholders, directors of related companies, and legal agreements between the parties.
• The list of suppliers and customers
• Dividends declared and paid 

What is CRA looking at in GST/HST audit?

Each year, about 70% of all audits occur in the GST/HST segment.

The major concern on GST/HST audit is:

• Did the registrant under remit GST/HST collected?
• Did the registrant claim ITC that not allowed?
• Did the registrant correctly allocation ITC between exempted supplies  and taxable supplies; between busienss usage and non-busienss usage 
• Are the correct GST/HST rates applied to sales, purchase and expenses?

CRA normally taking the following procedures:

•  Obtain your bookkeeping data
• Review your GST/HST payable and GST/HST receivable
•  Verifying your ITC claiming (name of the purchaser; vendor’s GST/HST#, the date on receipts)
• Verifying the GST/HST collected on sales (matching the GST/HST collected with invoice issued)

The auditor closely examines the following areas:

• The supporting documents for your ITC claiming
• Has the closely related election – RC 4616 from been filed on time? This election allows closely related corporations and/or Canadian partnerships to treat certain taxable supplies as having been made for nil consideration for GST/HST purposes.
• Has business election 44 from been filed on time when acquiring or partially acquiring a business? if the purchase is GST/HST registrant or not? GST/HST 44 form is for busienss acquisition only, acquiring single asset beyond this selection.
• The fairness of ITC allocation. It happens when you incurred ITC on purchases and expenses to make both taxable and exempt supplies. 

What is CRA’s Considerations for Payroll audit

As a small business owner, you know payroll errors can have severe consequences. There is always a risk of penalties, fines, and litigation from payroll errors.

The major concern on Payroll audit is:

• Have the Payroll Deductions been under remitted?
• Have the proper agreement be signed by sub-contractors 
• Were T4s, T4As & T5018s timely and properly filed?

The areas that auditors focus:

• In case of T4s, have taxable benefits been reported on T4s ( Vehicle standby charge and operating expense; vehicle allowance paid to employees; shareholder loan benefits, tips etc.)
• Supporting documents for payroll (TD1, Time sheet, pay stub and payroll ledgers)
• The payments to individuals and vendors not reported
• The significant amount of owner withdrawal
• The existence of contractor relationship ( independent contractor agreement, invoices issued, the integration between contractor and the busienss, the physical presentence of contractor  )
• Supporting documents for vehicle stand by charge and operating benefits (vehicle registration, purchase agreement; mileage log, receipts for gas bill; repair & maintenance etc.)
• general ledger on shareholder loan (owners’ withdrawal, personal usage deducted, and owner contribution) 

 How to prepare for a tax audit and get the best results

If you  a business owner in one of these cash intensive industries such as daycare, construction, restaurant etc., you need to be very well prepared for potential audits.

Keep your source documents well organized on your site 

• Bank statements with canceled checks, sales invoices, and deposit books
• Business credit card statements with bills (supplier invoices) and receipts
• Financial statements with adjusted journal entries 
• General ledger

Has “clean” books” before audit

In the event of an audit, accurate records help you successfully manage the process. Ledger and journals considered to be “books and records” in eye of CRA, clean book reduce the chances of reassessments. 

• Separate your business account with personal account
• Track every expense and purchase incurred (save receipts, bills and contracts in cloud and link to transitions)
• Reconcile your business accounts in time
• Issue invoices for your sales or services

Provide documents requested by auditor only.

Do not provided documents beyond what they request.

Consider having an expert in represent of you in case of audit. 

Remember to be polite.

Resource:

https://www.canada.ca/en/revenue-agency/services/forms-publications/publications/rc4188/what-you-should-know-about-audits.html