(Ian Portsmouth: Ian, Paul DioGuardi: Paul)
Ian: Welcome to the Business Coach Podcast, an advice-oriented series that tackles the top issues and opportunities facing Canada’s small businesses. I’m your host, Ian Portsmouth, the Editor of PROFIT Magazine. And we’ve developed this podcast in cooperation with BMO Bank of Montreal.
It could be the most dreaded letter that any business owner can receive. A notice from the Canada Revenue Agency saying that you are about to be audited. According to my guest on this episode of the Business Coach Podcast, you’re more likely now than ever to feel the pain of an audit. He’s Paul DioGuardi of Toronto-based DioGuardi Tax Law whose specialty is the negotiation of tax amnesty settlements. Paul is on the phone now to share his tips for avoiding the CRA’s suspicious eye. Paul, welcome to the Business Coach Podcast.
Paul: Thanks for having me.
Ian: So Paul, how much power exactly does the CRA have in reviewing tax claims and then assessing penalties?
Paul: Well, the Parliament of Canada is giving them a very substantial level of power. I mean, if you don’t cooperate with them, they can issue requirements, they can do search and seizures. So you’ve got to handle them in an intelligent way. You can’t just ignore them.
Ian: Now how much attention is the CRA paying to small business owners today and how does that compare to recent years?
Paul: Well, it’s increasing, especially with the introduction of the HST. They are going to be looking more and more into people who are dealing with cash transactions, especially the construction industry. But there’s a lot of people that are sharing services, or they’re finding ways of not reporting income. They might be hairdressing on the side, on the weekends. They might be babysitting; they could be doing a whole bunch of things that they need to raise extra money to feed their families and simply not reporting it.
Ian: And would it be fair to say that when the government is having trouble raising revenue due to a recession that the auditors are a little bit more ambitious?
Paul: Well, an audit is basically a legal shake down. I hate to put it in that way but that’s exactly what it is. They come in and they look at you and they want to know that you’ve reported all your income. And they can use some pretty strong weapons such as a net worth assessment if they think that looking at the way you live, possibly that you’re hiding some income. And then if they do a net worth assessment, you have to prove they’re wrong. It’s called the reverse onus of proof. So it can get rather sticky, but you’ve got to know how to handle an audit. And we wrote a book The Taxman is watching in which we set out what dos and don’ts when you are being audited.
Ian: So let’s talk first about how the CRA chooses whom to audit among individual businesses or business owners?
Paul: We know, there could be random selections, a certain number of taxpayer files every year are randomly selected for an audit or there could be statistical anomalies. For example, your business may not be producing the revenue that it should be or there may be excess losses. There could be unusual or suspicious behavior; perhaps there is a change in your tax filing behavior. You know, if you have been filing returns for many years and suddenly stop or if you’re not filing returns, or you know, things like that, or somebody could even snitch on you. Again they have the snitch line where you can anonymously phone and you might have a jealous competitor who doesn’t like you and calls and says, you know, why don’t you examine Charlie; I don’t think he’s really reporting all his income.
Ian: And just to get back to the numbers. It’s my understanding that the CRA will develop averages for various standard figures within a company’s books, or within an individual’s finances and if companies or individuals fall well outside the norm in those areas, they might trigger an audit.
Paul: That’s exactly the case and they also have sweeps. For example, they might take certain occupations across Canada. They might say, well this week we’re going to do the people who put up drywall and they’ll do a blitz across Canada for all these companies and look at all the companies and see if they should be audited.
Ian: Let’s talk about some of the specific read flags that alert the CRA to potential tax evasion. What about late filings if you perpetually submit your tax return late, is that going to raise suspicion and potentially trigger an audit?
Paul: Well, any unusual behavior. You see, again, with computerization, the machine flags things and if you don’t file on time consistently or if you don’t, if you miss filing or even if you file a whole bunch of returns all at once. Let’s say you have been delinquent instead and they don’t know about it, instead of doing a voluntary disclosure, you just file a bunch of returns. And they’ll say, where does this guy come from? Why don’t we investigate him? Anything that’s unusual.
Ian: What about inordinately low profit margins. We hear a lot of companies do a lot of bonusing down in order to avoid paying tax. But, if your business doesn’t make a lot of money but it’s in an industry that is typically known for generating more money, is that a signal that you may be hiding revenue?
Paul: That could be a signal as well they might wonder how you’re living on a very low income. Sometimes, people will declare, oh, I have earned $10,000 a year. Well, then normally, the taxman will say, how could the person live on that? I mean with the cost of living today, you’ve got to feed yourself; you’ve got to house yourself. You know, where is the money coming from? Now you could say that it comes from savings for a short period of time but if this is consistent and often what we find, the people who do get in trouble have consistently low incomes, or as I say, or they are not reporting.
Ian: Now among all your experience in negotiating tax amnesty settlements, is there one or two things that business owners tend to say, gee, you know, I didn’t think that they were going to get me for that. Do you know what those typically are?
Paul: It’s sort of strange. People look at tax evasion not reporting all their income as simple social faux pas. So they’re often somewhat lax. You know, they might – for example – and they could be very simple things, it doesn’t necessarily have to be business oriented. You could be renting an apartment in your basement and you just don’t report it. You say, oh, well, you know, I am not going to report it. They don’t realize if you don’t report your income for more than one year, it’s a criminal offence. In business, people are also lax to some extent. You’ll get clients saying to businessman, you know your competitor is prepared to do this on cash, how come you’re not? And it puts some under tremendous pressure to be competitive to stay in business and sometimes, they go over the line. And that’s why I am saying that. But there’s ways to fix that. If you haven’t been reporting all your income, you mention the tax amnesty. There are, it is the ability to come forward before you’re caught to make a deal so there is not prosecution and no penalty. You still have to pay the tax but not the prosecution and penalty and you’re then tax compliant. So there is a way to come in from the cold.
Ian: Now, what are your best audit proofing tips, ways that business owners can prepare themselves in the event that they are audited?
Paul: Okay. First of all, unless it is a very small matter, they should not talk to the Canada Revenue Agency officials by themselves and certainly not fill out the forms that they give you. They always get the, we call it the Never smile at the crocodile effect. There is a big smile, we’re your friends, we’re from the government, just fill out this form and then you’re sort of hanging yourself. Because some of the things you might say can be used against you. Remember what they are trying to do is squeeze the most money out of you that they possibly can on a legal basis. So they will be very friendly and sometimes people invite them into their business and show them around and then they start talking at the employees or they even invite them into their homes. And they can see how you live. Remember what they are doing is they are trying to put all this together against you, they are in opposition to you, they’re not your friends. They want more money from you. So what we often do is we have the auditor come in to the office and we sort of act as a legal firewall between the client and the auditor. We can do that, their accountant can’t because the accountant doesn’t have lawyer/client confidentiality; the accountant can be put under pressure to give information. So we normally do that, we’ll hire an accountant if we need and we provide answers. Now if it is a real small on a real small audit that would not necessarily be the case. But things can develop from small audits into something large.
Ian: And always keep all your receipts, right?
Paul: Oh yes for sure. Keep your receipts or they simply won’t allow it. And remember the onus of proof is on you. The tax Department can simply sit there with its arms folded and say, look, you prove it or else we are not giving it to you. And they rig the law in such a way that unless you shift the onus of proof and give them receipts, they don’t have to allow anything.
Ian: Well, let’s hoping Paul that none of our Business Coach listeners ever get audited.
Paul: I hope they don’t either, but if they do, we’ll be glad to help them.
Ian: Paul DioGuardi is a founding partner in DioGuardi Tax Law in Toronto. Paul, thanks for joining the Business Coach Podcast.
Paul: You’re very welcome.
Ian: That’s it for another episode of the Business Coach Podcast. Be sure to check out other episodes which you can download from BMO.com/coach, Profitguide.com and iTunes. For other tools to help you build your business, visit the small business resources section on BMO.com. Until next time, I am Ian Portsmouth, the Editor of PROFIT Magazine, wishing you continued success.