Filing your taxes doesn’t mean you are out of the woods just yet. Every year, the Canada Revenue Agency (CRA) targets specific areas that they wish to take a closer peak at. Keeping out of the CRA’s radar is easier if you know what they are looking for.
▶ Real Estate Sales: The CRA tar- gets industries that have done exceptionally well. The idea is that where there is money to be made, there are likely taxes to be paid. Canada’s housing boom is a prime example. If part of your investment portfolio includes real estate ventures such as flipping homes and condos, you may be on the CRA’s radar. With real estate sales, there are generally three possible tax outcomes, profit can be: Tax exempt; 50% taxable or; 100% taxable.
▶ Tax-exempt sales: If you are selling a property which you personally lived in and designated as your principal residence, then there could be no taxes to pay on the sale of your home. The profit could be covered by the principal residence exemption.
▶ 50% taxable: If you are selling an investment or rental property then the profit on sale of the property would be treated as a capital gain meaning it is 50 per cent taxable. Some of the sales prices may be 100 per cent taxable if you have claimed depreciation expense in the past on the rental property.
▶ 100% taxable: If you demonstrate a pattern of buying and selling property, the CRA could treat the property as inventory and assess the sale of property as business income. This means the profit on the sale is 100 per cent taxable.
In recent years, the CRA has been reassessing taxpayers and moving them either from tax-exempt to 50 per cent taxable or in some cases even 100 per cent tax- able. Be ready to defend your position if you fall into one of the following scenarios:
You purchased a pre-construction property and sold it before or even shortly after taking possession.
You bought and sold many properties in a short period of time.
You are claiming the principal residence exemption on a property you rarely lived in.
To prepare yourself, you should always keep documentation supporting the intent of your purchase. If you intended to live in the property, change your driver’s license, health card or other identification to the address of the property. Keep utility, phone or other bills that show you lived in the property. If you intended to rent the property, keep documents showing your attempt to secure a tenant. Properties sold as speculative investments are generally considered 100 per cent taxable whereas properties sold as rental properties are generally 50 per cent taxable. If a change in your personal circumstances forced you to sell your property before living in or renting the property, document the events and time. A family emergency, deteriorating health or divorce could force you to sell a home before it could be used as intended.
▶ Shareholder loans: If you have a habit of using your professional corporation’s (PC) bank account as your own personal bank account, you could attract unwanted attention. Money inside your PC has only been taxed at the corporate level of 15.5 per cent in most cases. To use it personally, you have to pay personal taxes first. This means paying dividends or salaries.
Shareholder loans allow you to take money out of the PC and avoid personal taxes, but the balance has to be repaid within one year of the fiscal year-end of the PC or declared as income in the year the loan was received. Even if you repay the balance, taking out a low-rate or interest-free loan from the PC may trigger income in your hands. The CRA wants to ensure you or your family are not receiving any special benefits.
Imagine being able to borrow money from your PC for personal use without ever having to repay it or including it in income. Every taxpayer would setup a corporation and effectively convert the Canadian tax system into a flat rate system with taxes of only 15.5 per cent. Ensuring your “Due from shareholder” balance on your corporation’s balance sheet is cleared out annually will help you and your PC from being under the CRA’s radar.
▶ Auto expenses: If you have been claiming a large amount of auto expenses even though your drive consists primarily of going from home to the clinic, you may be at risk for a closer inspection. Whether you are receiving an auto allowance from your PC or claiming auto expenses directly as a sole proprietor, it is important to keep a log book documenting the business kms you travelled. This would include the date, starting location, ending location and business purpose for travelling.
▶ Meals and entertainment: A perennial favourite of the CRA audit team is meals and entertainment. In general, expenses can only be claimed if they were incurred for the purpose of earning business. Daily lunches at work and dinner with your family usually don’t count. Meals with staff, suppliers or patients for the purpose of earning income would.
▶ Donations: Receiving a donation receipt for an amount greater than what you had actually donated is a red flag that the charity you have donated to may not be completely honest. The CRA has been targeting various charities for differences between the amounts being received and the donations being claimed. If a charity approaches you with an offer that is too good to be true, it probably is.
▶ Salaries to family members: If you claim a tax deduction for paying your spouse or children to perform work for your business, you will want to ensure they are being paid a reasonable amount. $50,000 for working once a month filing paper work is generally not considered reasonable. If CRA doesn’t agree with the amount, you could be disallowed the deduction and your family member would still have to pay the taxes on the income.
Work with your accountant to stay out of the CRA’s radar so you can make an informed decision before making any claims on your tax return. Even if you are under the microscope, having supporting documentation and making truthful and accurate claims will keep you out of any trouble.
This article was prepared by David Chong Yen, CPA, CA, CFP and Louise Wong, CPA, CA, TEP of DCY Professional Corporation Chartered Accountants who are tax specialists and have been advising dentists for decades. Additional information can be obtained by phone (416) 510-8888, fax (416) 510-2699, or e-mail firstname.lastname@example.org / email@example.com. Visit our website at www.dcy.ca. This article is intended to present tax saving and planning ideas, and is not intended to replace professional advice.