Statute-Barred Tax Years and the Canada Revenue Agency’s Powers to Reassess Tax Years: A Canadian Tax Lawyer’s Guide

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Statute-Barred Tax Years and the Canada Revenue Agency’s Powers to Reassess Tax Years: A Canadian Tax Lawyer’s Guide

Introduction – What are Statute-Barred Tax Years?

The Canadian tax system is based on the principles of self-assessment, which requires that Canadian taxpayers perform their own due diligence and to report their taxable income to the Canada Revenue Agency (“CRA”) for tax assessment. Under subsection 152(1) of the Canadian Income Tax Act, the CRA is bound to examine a taxpayer’s filed tax returns “with all due dispatch” to assess that taxpayer for taxes owing or refund entitlements. The CRA is not bound by a taxpayer’s return when assessing taxes payable and is entitled under subsection 152(7) of the Canadian Income Tax Act to assess a taxpayer in its discretion. It may do so in the case where a taxpayer reports taxable income incorrectly on a given return, or where a taxpayer fails to file a tax return. This rule exists to prevent taxpayers from abusing the tax system by misreporting income or refusing to file their tax returns, in order to avoid or escape their tax debts.

The CRA is also entitled to reassess a taxpayer’s taxes payable if it discovers any issues with a taxpayer’s return after it has issued an initial tax assessment. This power to reassess is not unlimited, however, and the Canadian Income Tax Act does aim to afford Canadian taxpayers with protection against unfettered and indefinite tax reassessments by the CRA. Subsection 152(3.1) of the Canadian Income Tax Act entitles the CRA to a “normal reassessment period” to reassess a taxpayer’s tax year at its discretion once an initial tax assessment has been issued. This “normal reassessment period” is defined under subsection 152(3.1) of the Income Tax Act, and begins counting from the earlier of:

  • The mailing date of the original notice of assessment by the CRA; or,
  • The mailing date of the notification from the CRA that no tax is payable.
  • The length of the normal reassessment period under subsection 152(3.1) will vary, depending on the type of taxpayer:
  • For mutual funds and corporations other than Canadian-controlled private corporations, or CCPCs, the normal reassessment period is defined as four years;
  • For all other individual taxpayers, as well as for CCPCs, the normal reassessment period is defined as three years.

Once the normal reassessment period has expired, that tax year is “statute-barred” from reassessments. The power of the CRA to issue a reassessment for that year is not an automatic right and must be justified under the applicable conditions of the Income Tax Act. Subparagraph 154(4)(a)(i) of the Income Tax Act provides one such condition, where the CRA may reassess or make additional assessments concerning any statute-barred taxation year, provided that it can establish that the taxpayer or that taxpayer’s representative “has made any misrepresentation that is attributable to neglect, carelessness or wilful default or has committed any tax fraud in filing the return or in supplying any information.”

What is required to prove a qualifying misrepresentation, however, is not always a straight-forward analysis. The applicable tests are drawn from an extensive history of common law rules and court judgements. If you or your corporation are under tax audit or have been reassessed by the CRA, you should consult with one of our expert Toronto tax lawyers to determine whether that tax audit or tax reassessment can be challenged successfully for falling outside of the applicable normal tax reassessment period.

The Legal Standard for Assessing Statute-Barred Tax Years under Subparagraph 152(4)(a)(i)

In all cases involving subparagraph 152(4)(a)(i), the CRA bears the initial onus of proof in order to reassess a taxpayer’s statute-barred tax years due to “neglect, carelessness, or wilful default” or fraud. That is, the CRA must establish, on the balance of probabilities, that:

  • The taxpayer made a misrepresentation; and,
  • That the misrepresentation was attributable to neglect, carelessness, or wilful default; or, that the taxpayer committed fraud in filing a return or supplying information.

Where the CRA is able to demonstrate on a balance of probabilities that these two conditions are satisfied, the onus then shifts to the taxpayer to demonstrate that the CRA’s tax assessments were incorrect. Worth noting is that where a misrepresentation permits a reassessment beyond the normal tax reassessment period, that reassessment is then restricted to amounts related to the proven misrepresentations. The CRA thus cannot reply on a single misrepresentation to engage in a fishing expedition of previous tax years or unrelated tax issues that do not meet the requisite standard.

A misrepresentation exists for purposes of subparagraph 152(4)(a)(i) where the CRA can demonstrate that there was an incorrect statement on a return that was at least material to the purpose of the taxpayer’s return, or to a future reassessment of the taxpayer. That misrepresentation can be either intentional and fraudulent, or a completely innocent mistake by a taxpayer, and does not require the taxpayer to have intent to deceive the CRA.   However, a misrepresentation does not include all mistakes made on a tax return, and the presence of an error on a tax return alone is not a justification to re-open a taxpayer’s tax reassessment period. As well, the fact that a taxpayer has benefited from an error does not constitute grounds for the CRA to reassess a taxpayer.

For a misrepresentation to be “attributable to neglect, carelessness, or wilful default”, it must be established that the taxpayer did not exercise reasonable care in tax reporting. The standard of reasonable care is met where, in the view of the tax courts, a wise and prudent person (and not a tax expert) would have discovered the reporting error after a careful review. Thus, a taxpayer is not required to act perfectly or identify every possible error in a tax return. Similarly, a taxpayer cannot simply sign off on a tax return without reviewing it first to meet the standard of reasonable care. A taxpayer’s decision to engage a qualified professional tax accountant when preparing and filing tax returns has also been recognized as a potential factor to demonstrate that a taxpayer has met the standard of reasonableness required to prohibit the CRA from opening up a statute-barred year for tax reassessment.

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A Practical Example for Taxpayers – Cheng v The Queen, 2020 TCC 95

Assessing whether the CRA has met the requisite burden of proof is a highly fact-specific analysis in each and every case. As an example, we can look at the facts and results in Cheng v The Queen, an informal procedure case heard before the Tax Court of Canada. In Cheng v The Queen, the taxpayer Appellant had earned employment income as a hospital food service supervisor. When the CRA assessed the Appellant’s 2005 taxation year, it allowed Registered Retirement Savings Plan (“RRSP”) contributions of $44,825. The Appellant then claimed $24,347 in RRSP deductions for that year, leaving $20,478 as unused RRSP contributions to be claimed in future years. The Appellant then claimed an RRSP deduction in her 2006 to 2014 taxation years from her unused RRSP contributions. The CRA reassessed the Appellant in 2017 on her 2006 to 2014 taxation years, well after the normal reassessment period had passed, on the basis that the Appellant had only ever actually made RRSP contributions of $24,347 in 2005, that she had no unused RRSP contribution for her 2006 to 2014 tax years, and that assessing the Appellant RRSP contributions of $4,825 was an error.

The Appellant argued, unsuccessfully, that the CRA had not met the burden of proof to reassess her tax years outside of the normal reassessment period. Even though the CRA no longer had her 2005 tax year assessment, it had adduced evidence that the Appellant knew she only contributed $24,347 to her RRSP in 2005, and not the $44,825 contribution that she was originally assessed by the CRA. The Court concluded that the Appellant had made a misrepresentation, on her 2006 to 2014 returns, and that she was not entitled to rely on the CRA’s notices of reassessment when claiming future RRSP deductions. It was the Appellant’s responsibility to recognize, after 2005, that her reported RRSP contributions did not match her actual contributions. In the Court’s view, a capable individual with general knowledge of RRSPs would have recognized the error and proactively corrected it with CRA. Instead, the Appellant continued to claim deductions and took no steps to correct the matter until 2017, when she was reassessed. Even though the Court concluded the mistake was not intentional, it found that the Appellant bore the ultimate responsibility for her reporting, and that the misrepresentations were in the end attributable to her neglect or carelessness.

Pro Tax Tip – Challenging Tax Assessments of Statute-Barred Years

As any reader can see from the above, the rules concerning tax assessments of statute-barred years are very nuanced and fact-dependent. It is not always apparent from an initial glance at a taxpayer’s circumstances whether the standard of reasonable care has, or has not, been met. Moreover, the CRA may take the position that a taxpayer was negligent in reporting to justify reassessing statute-barred tax years without providing a sufficient legal basis for doing so. Subsection 152(4)(a)(i) is a law, not a guideline or a suggestion, and the CRA must demonstrate that there was a qualifying misrepresentation when relying on the provision to reassess a taxpayer beyond the normal reassessment period.

Under the Taxpayer Bill of Rights, a taxpayer has the right to professional representation at all times when engaged with the CRA in a tax audit or any other tax dispute. Whether you are being audited by the CRA, preparing to file an objection to a tax reassessment, or are preparing an appeal to the Tax Court of Canada, you should always engage an expert Canadian tax lawyer to represent you. An expert Canadian tax lawyer will have the knowledge and experience necessary to contradict a tax auditor’s errors and to ensure that your rights under the law are preserved in the face of aggressive tax auditor actions.

FAQs:

1) What are the normal reassessment periods under the Canadian Income Tax Act?

Subsection 152(3.1) of Canada’s Income Tax Act provides statutory limitation periods for the CRA to reassess a taxpayer’s tax payable for a given taxation year. For mutual funds and corporations that are not Canadian-Controlled Private Corporations (“CCPCs”), the normal reassessment period is four years. For all other individual taxpayers and CCPCs, the normal reassessment period is three years.

2) Can the Canada Revenue Agency reassess me after the normal reassessment period has ended?

Subsection 152(4) provides that the CRA can reassess a taxpayer after the normal reassessment period has ended where it can demonstrate that the taxpayer made a misrepresentation that is attributable to “neglect, carelessness, or wilful default”. The CRA bears the initial onus of demonstrating that there was a misrepresentation that was material to the return or a future tax reassessment, and that the taxpayer failed to exercise the reasonable care expected of a wise and prudent person who carefully reviewed a tax return to discover any obvious errors. The CRA does not have to demonstrate intent to deceive or defraud; a taxpayer can still be negligent for purposes of subsection 152(4) because of an innocent mistake.

3) What can I do to protect myself from a tax reassessment after the normal reassessment period?

You should engage expert Canadian tax lawyers and accountants before filing your tax returns, to ensure that your tax returns are prepared correctly. Your due diligence in engaging professionals early on is one strong factor that can support a finding of reasonable care. If the CRA ever proposes to audit or reassess you on statute-barred tax years, you should absolutely engage an expert Canadian tax lawyer to challenge the CRA’s position on misrepresentations in your statute-barred years.