Most people know that if they file their personal tax return after the deadline, they’ll be assessed a penalty – five per cent of the amount owing, along with one per cent a month in interest. If they don’t owe any tax, there’s no penalty.
But each year, tens of thousands of Canadians are hit by something they may not have known even existed – the “repeated failure to report income” penalty.
It doesn’t take much to trigger it. Forgetting to report two T-slips in a four-year period – once in the most recent tax year and once more in any of the previous three tax years – is enough to set the wheels in motion.
And make no mistake, this penalty is a big one – 20 per cent of the amount that was not reported in the most recent year.
To be clear, that’s not 20 per cent of the amount of tax that wasn't paid. In many cases, no tax is being evaded at all. This penalty is applied to the entire amount of income that never made it onto the tax return.
This may come as a jolt to those who got a tax slip for some extra income after they’d filed their tax return. Often people don't bother forwarding the information to the tax authorities, assuming that the tax department would know about it anyway since the issuers always provide the same tax slip information directly to the Canada Revenue Agency.
That turns out to be a mistake. It’s the failure to report the income that is the real offence here, not the failure to pay tax.
The rationale behind this penalty isn’t hard to fathom. In a self-reporting tax system like ours, people are required to report all their income. Failure to do that repeatedly should bear some consequences beyond merely being assessed the additional taxes owed.
“I understand what they [the CRA] are trying to do,” says Wayne Drew, a partner with the accounting firm MNP in Waterloo, Ont. “You don’t want people to not report income.”
But the rigid application of this rule has caught people who never intended to avoid taxes.
Accountants CBC News talked to say they have seen clients assessed thousands of dollars in penalties, sometimes tens of thousands of dollars, for what have often amounted to inadvertent slip-ups – tax slips sent to an old address, late-arriving slips, lost slips, forgotten slips. All of these situations can and have triggered penalties.
Drew cites one recent example he’s aware of, a senior citizen who’s been assessed a $3,600 penalty. This on top of the tax and interest owed, a penalty levied for “repeated failure to report income.”
What did this senior do wrong?
It turns out a tax slip had been sent to an old address and he never got it. Combine that with one previous incident in which a tax slip had not been reported … and the result was a nasty and unexpected surprise for a man who’d never intended to evade his tax obligations. He’s appealing the penalty.
As it stands, the assessment of the “repeated failure to report income” penalty doesn’t require that there be any evidence of tax evasion. Failing to report a couple of T-slips – even if the proper amount of tax had been withheld from both of them – still triggers the penalty.
It’s assessed automatically by the CRA’s computers, and since the system of matching T-slips is more effective than ever, failing to report a slip is very likely to be caught.
Repeated failure to report income penalty
These penalty assessments are not rare. Figures provided to CBC News by the Canada Revenue Agency show that more than 81,000 Canadians were assessed this penalty in 2011— and more than 300,000 in the past four years.
Total federal penalties, which account for half the annual tally of penalties levied, came to $39.3 million last year. Provincial and territorial penalties account for up to another $39.3 million in penalties – $78.6 million in all.
The average penalty works out to almost $1,000.
It isn’t hard to find critics of the fairness of how these penalties are applied. Keith MacIntyre, a tax partner with the accounting firm Grant Thornton in Halifax, notes that the penalty in some situations can be even greater than the Income Tax Act’s penalty for a fraud.
“The CRA’s audit staff have been understanding in different situations to the size of the penalty relative to the offence,” he notes.
But the CRA can’t simply refuse to levy the penalty.
“It’s legislation,” he says. “You can’t just go and waive away legislation.”
While there are provisions that allow the CRA to waive penalties in accordance with taxpayer relief provisions, MacIntyre says fairness applications for this type of offence are not easy cases.
The CRA acknowledges that questions about the appropriate application of this penalty have arisen before and have been sent on to the Department of Finance. Any changes to that penalty would be up to that department.
As for the Finance Department, officials there defend the penalty.
“Where a taxpayer fails to report income more than once over a four-year period, a penalty based on the amount of the most recent unreported income is justified,” the department said in an email to CBC News.
While Finance says the CRA does have discretion to waive or cancel interest and penalties in some circumstances, it says that “officials generally exercise this discretion when taxpayers have not complied with the income tax law because of circumstances beyond their control or because of delays or errors on the part of the CRA.”
The taxpayer’s conduct is critical in making the decision about whether to waive or cancel penalties. Basically, the CRA wants to see that taxpayers “have exercised a reasonable amount of care in administering their affairs under Canada’s self-assessment system of taxation.”
So it comes as no surprise that accountants CBC News spoke to stressed the importance of listing every T-slip on tax returns.
“Anyone who doesn’t report a T-slip is foolish,” MacIntyre says. “It’s going to get picked up.”
MacIntyre notes that the CRA’s matching program doesn’t begin until the fall. That’s when the CRA’s computers begin to match the slips taxfilers have reported with the ones that the issuers filed with the CRA. So you do have some time to report slips that were left off your return, but don’t wait too long.
The best advice?
If a slip turns up late, get in touch with the CRA or send the slip in “immediately,” MacIntyre says.
Wayne Drew agrees. “As an accountant, I’d be pro-active and send it in right away.”
A T1 Adjustment Request form is available on the CRA website.
This is one penalty where waiting can be an expensive proposition.
Some low- or zero-income earners still think there's no need to file a return. This misunderstanding can cost thousands of dollars in lost benefits and credits like the GST/HST credit and the Canada Child Tax Benefit. More and more benefits are being distributed through the tax system these days. So if no return is filed ... no benefits get sent. For some benefits, like the Guaranteed Income Supplement and the Working Income Tax Benefit, recipients need to apply every year. Provinces also offer sales tax credits and property tax credits for low income earners. But again - no tax return, no credit. Teenagers who earn a few thousand dollars should also consider filing. That creates RRSP room that can be carried forward indefinitely to use at a time when they will owe tax.
It's possible for Canadians to split Canada Pension Plan (CPP) retirement income if both partners are 60 or over. Those 65 and over can split several other kinds of pension income, such as life annuity payments from a company pension plan, RRIF payments and annuity payments from an RRSP or deferred profit sharing plan. Income-splitting can save thousands of dollars in tax as income is shifted from someone in a higher tax bracket to someone in a lower bracket. Sometimes, splitting can succeed in reducing or eliminating the clawback on Old Age Security payments or the age credit for the higher-income spouse. Pension income splitting can also allow both partners to claim the $2,000 pension income tax credit. Income splitting goes well beyond pensions. Spousal RRSPs, income-splitting loans that can be made at just one per cent interest, and employing spouses and kids if you're a business owner are several other ways to minimize a family's tax bill.
A variety of tax credits - such as the Child Tax Credit - can be transferred between spouses. Several credits for students - such as the tuition, education and textbook credits - can be transferred to a spouse, a parent, or even a grandparent once the credits are used to reduce the student's tax payable to zero. The credits can also be carried forward indefinitely so the student can use them later when he or she starts earning money.
Once you tell most of the well-known tax software programs that you're a student, or a senior, or a parent, or have medical expenses, or have a spouse or equivalent, they'll prompt you with relevant questions and automatically make sure you end up applying for any relevant credits. You can also avoid those pesky math errors. Many of these programs will also offer suggestions to transfer credits and optimize deductions between spouses and family members. They're also great for performing some of those "what-if" scenarios. But for those with a more complicated tax life, such as those with rental properties or self-employment income, it may be a good idea to call in a pro.
Tax experts say missed medical expenses are one of the most overlooked tax breaks. Many people don't bother to add everything up because of the income-related threshold: only expenses that exceed the lesser of $2,052 or three per cent of net income can be claimed. But what they don't realize is that there's a long list of expenses that qualify, so it's often not too difficult to reach that threshold. Travel expenses even qualify when people need to go more than 40 kilometres to get medical treatment that isn't available closer to home. Medical expenses can be claimed by either spouse or partner.
Last year's federal budget introduced several new tax credits. A new non-refundable children's arts tax credit was rolled out to complement an existing tax credit that went to parents who enrolled their kids in sports programs. This new arts credit is provided on the first $500 parents spend on artistic, cultural and recreational activities for their children. With a 15 per cent federal tax credit, the maximum claim is worth $75 per child. Volunteer firefighters who perform at least 200 hours of service a year also get a break, courtesy of a new volunteer firefighter tax credit. It's worth a maximum of $450. There's also a new family caregiver tax credit that's worth $300. But it doesn't apply until the 2012 tax year so it can't be claimed on the 2011 return.
Receipts are necessary to claim medical expenses or to file for a wide range of other tax credits. While they don't need to be sent along if a taxpayer is netfiling, the paperwork must be kept for at least six years. For a small business owner, good receipts are an absolute necessity. Be aware, too, that the Canada Revenue Agency carries out spot checks on tax returns. Extraordinary child care expense or moving expense claims can be red flags for CRA auditors. So can big interest deduction claims. If you're not hiring a pro to do your taxes, know what you can and can't deduct.
The experts point out that there's only so much you can do to minimize taxes once you're actually at the point of filing your return. Once you've made your tax-related transactions, it's not easy to revisit them at tax time. So now's the time to plan strategically if you're thinking of selling or acquiring investments or exercising stock options in 2012.
Here's a possible scenario: You file your 2011 return and later discover that you've failed to include a T-slip reporting income or a dividend payment. No problem, you think, because you know the slip's issuer also sends the same information to the Canada Revenue Agency. You think you don't need to bother forwarding this late slip to the tax department because the CRA will know about it. That turns out to be a big mistake. If you fail to report income in 2011 and also failed to report income just once in any of the three previous years, you can be nailed with what's called a "repeated failure to report income penalty." The penalty, which is automatically generated by the CRA's computers, is 20 per cent of the amount you fail to report in 2011.