My name is Mark Goodfield. Welcome to The Blunt Bean Counter ™, a blog that shares my thoughts on income taxes, finance and the psychology of money. I am a tax partner and the managing partner of Cunningham LLP in Toronto. This blog is meant for everyone, but in particular for high net worth individuals and owners of private corporations. The views and opinions expressed in this blog do not reflect the position of Cunningham LLP. My posts are blunt, opinionated and even have a twist of humor/sarcasm. You've been warned.

Tuesday, June 21, 2011

Avoid a 20% Penalty-Ensure you report every income tax slip, no matter the amount

This year, several of my clients received their T3 and T5013 income tax slips well into April. A troubling offshoot of the late receipt of these income tax slips is that many people either file their income tax returns assuming they have all their income tax slips, or run out of patience and file with the slips they have on hand. The two filing scenarios noted above are not problematic; as long as you file a T1 adjustment form upon the receipt of these late income tax slips to report the missing income. 

However, in some cases, people do not receive their missing slips because they have moved during the year or the slips are lost in the mail or mixed in with the junk mail that is thrown out. Since people either forget about these missing slips or are oblivious to the fact they are missing [It should be noted that the Canada Revenue Agency ("CRA") uses a matching program to ensure you have reported all your income tax slips] an insidious penalty provision registers strike one in an abbreviated two strike at bat.

You see, under Subsection 163(1) of the Income Tax Act,  where a taxpayer has failed to report income twice within a four-year period, she/he will be subject to a penalty. The penalty is calculated as 10% of the amount you failed to report the second time. A corresponding provincial penalty is also applied, so the total penalty is 20% of the unreported income. It is important to note that the amount of income that was unreported the first time is not relevant in the calculation. If you failed to report $100 the first time and $10,000 the second time, the penalty will be $2,000, a somewhat ludicrous result considering if the slips were missed in the reverse order the penalty would only be $20.

One would think that the taxpayer relief provisions (“fairness provisions”) would address the potential absurd outcome that results, but this is not always the case as Ian Spence learned. Mr. Spence omitted a small amount of income in 2004 (I am not sure why, but it could have been the tax slip was lost in the mail or any number of reasons). This omission was strike one. Strike two was more costly. Mr. Spence had H&R Block prepare his 2007 return and for whatever reason $36,219 in employment income and the related income taxes were not included in his return. The CRA reassessed his return for the $36,219 in income not reported. It also reassessed Mr. Spence for another $124 in tax, the net amount of income tax owing after including the $36,219 and giving Mr. Spence credit for the $9,000 or so of income tax withheld on the missing slip. As this was strike two, the CRA also assessed a penalty of $7,243, a seemingly unfair result.

Two things must be noted at this point. (1) If Mr. Spence had omitted the $36,219 of income in 2004 and then omitted the small amount in 2007, the penalty would have been minimal. (2) The actual amount of income tax owing due to the second omission was only $124, while the penalty was $7,243.

Mr. Spence applied for relief under the fairness provisions. He was not granted any relief. He then applied to the court seeking a secondary review by the CRA and the court granted such. However, the CRA once again turned down Mr. Spence’s request under the fairness provisions. Finally, Mr. Spence went back again to the Federal court seeking another review. This time the Federal court dismissed the application.

The moral of this story is: ensure you file a T1 adjustment for any slip you receive late and if you are missing a slip, follow up with the issuer, as the CRA will most likely not be sympathetic to your case.

The blogs posted on The Blunt Bean Counter provide information of a general nature. These posts should not be considered specific advice; as each reader's personal financial situation is unique and fact specific. Please contact a professional advisor prior to implementing or acting upon any of the information contained in one of the blogs.

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