Pay Less Tax – The Importance of Documentation

“If it is not written down, it does not exist” – Philippe Kruchten

One of the biggest challenges business owners face is keeping their information organized and compliant with the standards required by government authorities. With the availability of OCR technology, AI and App integration, this job can be made more manageable than it has ever been. However, there is still work required to keep compliant.

Why Keeping Records Matters

There are legal requirements to keep books and records in good order. Sometimes, these are dictated by CRA administrative requirements, and sometimes these are dictated by law.

One of the biggest challenges business owners face is keeping their information organized

The Most Common Deficiencies

Corporate Record Book

The most common place we see companies not compliant is keeping their corporate record book up to date. The corporate record book contains vital information about the business, the ownership, the management, how the company operates and many other essential details. It includes things like:

  • Articles of Incorporation
  • Corporate By-Laws
  • Corporate Minute Book
  • Directors Register, Directors Consent
  • Shareholder Agreements, Shareholder Ledger and Shareholder Register
  • Officers Register
  • Other vital agreements (note that this list is not exhaustive)

There is potential for a $25,000 fine and up to 1 year in prison for breaching the Ontario Business Corporations Act (OBCA, section 256). As it pertains to the minute book, the most common instance we see is the omission of a material fact – the minute book is not up to date. Misrepresentation, or having something untrue in the minutes, would also qualify as a breach of the OBCA.

Compiling this information generally occurs once, at the beginning of the corporation, and then is reviewed and updated annually by management ahead of the annual Shareholder’s meeting. During the shareholders’ meeting, key agreements must be added to the record book and the minute book needs to be updated. The business needs to review its corporate record book for completeness and update it once a year.

Basics of Bookkeeping

In Canada, the proof is on the onus of the taxpayer. Therefore, keeping good books and records is vital to providing proof to CRA in case of a review, examination or audit.

Review

The review is the most common letter businesses and individuals receive from the CRA.  

Usually, the CRA requests proof of something that has been reported on a tax filing. For businesses, this usually relates to legal and professional fees, SR&ED claims (Scientific Research & Experimental Development), and transactions that are not typical for the business.

The most common review is a PIER (Pensionable and Insurable Earnings Review). It reconciles the source deductions paid to CRA on behalf of its employees with what is reported to CRA and the books kept by the business.

Examination

An examination is the next level; it still isn’t an audit yet. The CRA usually requests this when something is unusual – such as a large GST/HST refund claim. During an examination, the requests for supporting documentation and schedules are more comprehensive than during a review. Failure to satisfy CRA during an examination may escalate an audit.

Audit

This is a scary word, but it doesn’t need to be. These can usually be avoided by keeping good books and records, communicating with CRA requests and providing documentation in a timely fashion. Audits are usually triggered by failing a review or examination. Then, management needs to go back and find the documents to support the claims. If the CRA cannot be satisfied with the books and records in a timely fashion, this often results in a reassessment and the business being required to pay more tax (often with interest and sometimes with a penalty).

Bookkeeping Records

Bookkeeping records must satisfy CRA administrative requirements to pass a review, examination or audit successfully. Some of the most common deficiencies are:

Not Charging Sales Tax Correctly

This is a trap that many early-stage small businesses fall into They start the business and start selling to customers but ignore sales tax thresholds and don’t charge their customers’ sales tax appropriately. The threshold for registering for GST/HST (Goods and Services Tax or Harmonized Sales Tax) is $30,000 in revenue – that’s not a large amount.

The thresholds for provincial sales taxes vary by province, so make sure to research and understand when you are required to register for PST (Provincial Sales Tax). Also, be sure to understand what is taxable and non-taxable under the provincial sales tax rules, and be sure to charge PST appropriately.

Selling out of the country can quickly complicate sales tax requirements. The business may be required to collect sales tax from its customers in a specific jurisdiction and file the corresponding sales tax return. In 2018, the Wayfair Decision gave states the right to collect sales tax from companies selling into the state once certain thresholds are met. In the United States, the State, County, and Municipality can all levy sales taxes, creating more than 12,000 sales tax jurisdictions. Please seek professional advice about selling outside the country ahead of making the sale.

If the business did not collect sales tax correctly, it is still liable for paying the sales tax that should have been collected.

Not Claiming GST/HST ITCs Correctly

When the business pays GST/HST to the government, it pays what was collected less what was paid. This means that the payment to the government is reduced by 100% of the GST/HST paid out. The amount you pay is claimed as an Internal Tax Credit (ITC) on your sales tax filing. This is the most common area where businesses are effectively paying more tax than they deserve to pay.

During a GST/HST examination, the business is required to provide documentation supporting both the sales tax collected and the sales tax paid. Although the CRA does not look at every document during an examination, they may request additional documents or escalate to an audit if they aren’t satisfied with the business’s bookkeeping.

Claiming Ineligible Expenses

Small business owners often attempt to claim personal expenses as business expenses. CRA is well aware of this. As a result, they have some administrative requirements related to specific categories of expenses. These are some of the most reviewed categories – that can lead to an audit if sufficient documentation is unavailable.

Remember, it’s only a business expense if it is required to generate income.

Not Documenting Properly

CRA has specific administrative requirements for specific expense categories. Failure to meet these requirements will likely result in additional taxes owing after a CRA review. Although they are not law, it is easier to work with these guidelines rather than hire a tax lawyer.

Meals & Entertainment

Meals & Entertainment expenses occur when meeting with someone about the business and spending money on food and beverages. This could be a customer, the team or another party. Generally speaking, CRA would want to see more than one meal or beverage on the receipt. CRA Administrative Requirements state that the receipt needs to reflect who was met and why. The best practice is to just write this on the receipt when you receive it.

Meals for yourself, such as lunch on the go, are considered personal expenses and should be recorded as such.

CRA often chooses to review this category and typically disallows any expense where the person met and the reason for the meeting are not listed on the receipt.

Gifts

All Gift receipts must indicate who the gift was given to and have their contact information. A schedule is acceptable if you bulk-purchase items, but where the gifts go needs to be tracked.

CRA especially likes to review and disallow gift cards if there isn’t a good schedule or documentation around to whom the gift was given. They know that some business owners will buy thousands of dollars of gift cards around the holidays, say they’re gifts, and then use them personally.

Don’t get caught doing this. It may not seem like a big deal, but it is a crime.

Mileage Claims & Vehicle Expenses

All Gas receipts should be related to vehicles owned by the corporation.

Gas for personal vehicles is not deductible, but by keeping a mileage log, there can be a chargeback to the corporation. Often, this chargeback will exceed actual costs and result in a small untaxed benefit to the vehicle owner. Please make sure you keep your mileage log up to date.

The mileage log must include the opening odometer reading and ending odometer reading for the year, the date of travel, departure address, and destination address, as well as the number of kilometres travelled. Mile IQ, Everlance and the QuickBooks phone app can help with this.

Taxis & Uber

CRA often flags Uber and taxi expenses, so there needs to be a suitable method of knowing when they are personal or business-related. The best practice is to write the departure and arrival address, the GST/HST amount and the reason for the trip directly on the receipt.

Legal & Professional Fees

This is a common area where business owners frequently make mistakes. In some cases, items that are obviously personal should not be claimed. In others, the claim may need to be made in an associated or related business, not the business that paid for the service.

Documentation

Be sure that the documents you’re receiving are in good order. When you get a bill from a supplier, make sure it reflects the correct company, the dates, amounts and sales tax charged and has the supplier’s sales tax number on it.

Frequently, at the beginning of a business, the founder does not pay attention to the documents they receive. They may be in their personal name, they may not have the appropriate information, or they may not even indeed be an invoice.

The best policy is appropriate documentation must be received for payment to be issued.

The Challenge

The biggest challenge when it comes to documenting things correctly is paying attention. As an entrepreneur, things get moving very, very quickly. Documentation often falls by the wayside. A small task that needs to be done regularly becomes a mountainous task to be tackled all at once.

Don’t make a mountain out of a molehill.

In our next article, we’ll discuss some tools and techniques that help make documentation more accessible.

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