Author: Igor Kastelyanets

Subsection 160(1) of the Income Tax Act (Canada) addresses situations where a tax debtor transfers property to a non-arm’s length party—such as a family member or related corporation—without receiving fair market value in return. In such cases, the Canada Revenue Agency (CRA) can hold the recipient of the transferred property liable for the transferor’s unpaid tax debts, up to the fair market value of the property at the time of the transfer.

The Excise Tax Act (Canada) contains a parallel provision under Subsection 325(1), which functions similarly to Subsection 160(1) but applies to situations where the tax debtor owes GST/HST debt.

Key Points

Purpose

Subsection 160(1) prevents taxpayers from evading tax debts by transferring assets to related parties—often as gifts or undervalued transactions—without settling outstanding tax obligations.

Who It Applies To

• Transferor: The person who owes (or will owe) taxes and transfers the property.
• Transferee: A non-arm’s length party, including family members, corporations, trusts, or partnerships.

Conditions for Subsection 160(1) to Apply

• A property (e.g., cash, real estate, shares) is transferred.
• The transfer occurs between non-arm’s length parties.
• The transferor has a tax debt at the time of transfer—or is subsequently assessed by the CRA for a period that includes the transfer date.
• The transferee did not pay fair market value (FMV) for the property.

Liability of the Transferee

The transferee can be assessed for the transferor’s tax debt, but only up to the fair market value of the property transferred, minus any amount actually paid.

Example:

If a house worth $1,000,000 is transferred as a gift and the transferor owes $400,000 in taxes, the CRA can assess up to $400,000 against the recipient of the house (assuming no consideration was paid).

No Time Limit

Unlike standard tax assessments, there is no statute of limitations for the CRA to initiate a Subsection 160(1) assessment.

How to Avoid Subsection 160(1) Issues

Transfer Assets at Fair Market Value

Conduct transactions with related parties at fair market value to minimize the risk of reassessment under Subsection 160(1).

Keep Thorough Documentation

Maintain clear records—such as appraisals, invoices, and receipts—especially for transactions involving family members and related entities. If you are repaying an old debt to a family member, that may be considered valid consideration and grounds to reduce or eliminate a Subsection 160(1) assessment.

Clear Your Tax Debt First

Before transferring valuable property, ensure all outstanding taxes are settled.

Seek Professional Advice

Subsection 160(1) can be complex. If you are concerned about a potential assessment or need guidance on a property transfer, consult an experienced tax lawyer. Our team offers confidential consultations and has extensive experience handling Subsection 160(1) assessments.

The normal reassessment period, as defined by subsection 152(4) of the Income Tax Act (Canada), refers to the timeframe within which the Canada Revenue Agency (CRA) can audit and reassess a taxpayer’s return to adjust income, deductions, or tax payable.

After this period expires, the CRA cannot reassess a tax return unless it shows that the taxpayer made a misrepresentation attributable to carelessness, neglect, or willful default.

Under the Excise Tax Act (Canada), the relevant provision is subsection 298(1).

1. Normal Reassessment Period for Different Taxpayers

Type of Taxpayer	Normal Reassessment Period
Individuals (T1 Returns)	3 years from the date of the initial Notice of Assessment (NOA)
Canadian-Controlled Private Corporations (CCPCs)	3 years from the date of the initial NOA
Other Corporations (e.g., public companies, foreign-controlled corps)	4 years from the date of the initial NOA
GST/HST Returns	4 years from the filing due date

For example, if an individual files their 2022 tax return and receives a Notice of Assessment on May 1, 2023, the CRA has until April 30, 2026 (3 years) to reassess the return.

2. Exceptions to the Normal Reassessment Period

Under subparagraph 152(4)(a)(i) of the Income Tax Act (Canada) or subsection 298(4) of the Excise Tax Act (Canada), if the CRA can show that a taxpayer made a misrepresentation attributable to carelessness, neglect, or willful default, then there is no time limit—the CRA can reassess at any time.

Unfortunately for taxpayers, the Tax Court of Canada has interpreted this section broadly, and the legal threshold for the CRA to prove “misrepresentation” is very low. As such, almost any mistake or omission on a tax return has been considered a “misrepresentation” that allows the CRA to issue reassessments beyond the normal reassessment period.

3. Disputing a Reassessment Outside the Normal Reassessment Period 

In order for the CRA to reassess a taxpayer pursuant to 154(4)(a)(i), it must do the following:

1. Establish that there was a misrepresentation; and,

2. Prove that the misrepresentation resulted from the taxpayer’s carelessness or neglect.

The CRA bears the burden of proving  both factors noted above. The Federal Court of Appeal has stated:

Although the Minister has the benefit of the assumptions of fact underlying the reassessment, he does not enjoy any similar advantage with regard to proving the facts justifying a reassessment beyond the statutory period… The Minister is undeniably required to adduce facts justifying these exceptional measures. [1]

A taxpayer can challenge a reassessment outside the normal reassessment period by arguing:

• No misrepresentation was made when the tax return was filed.
  
• The taxpayer had an honest but incorrect belief that their reporting position was correct.
  
• The taxpayer acted as a reasonable and prudent person would have in the same circumstances.
  

The taxpayer relied on a tax professional to ensure compliance with the Income Tax Act (Canada) or the Excise Tax Act (Canada).

References

[1] Lacroix, [2009] DTC 5625 at para 26

A Net Worth Audit is a type of tax audit conducted by the Canada Revenue Agency (CRA) to determine whether the income you report on your tax return aligns with your actual financial situation. This method is often used when the CRA perceives a mismatch between your reported income and your lifestyle or expenditures. For instance, if you live in a high-end neighborhood yet report a relatively low annual income, the CRA may initiate a Net Worth Audit. The CRA may also resort to this kind of audit if your financial records are deemed incomplete or unreliable.

Despite their frequent use, the Tax Court of Canada has described Net Worth Audits as a “blunt instrument” that should be used as a “last resort.” In practice, these audits often contain errors and frequently result in reduced assessments once the taxpayer provides adequate explanations or documentation.

How a Net Worth Audit Works

1. Starting Point: Calculate Net Worth
   The CRA begins by calculating your net worth for a specific tax year. This generally involves adding up all your assets (e.g., cash, properties, investments) and subtracting all your liabilities (e.g., mortgages, loans). The CRA also factors in your personal expenditures—any amounts you have spent during that year.
2. Change in Net Worth
   Next, the CRA compares how your net worth changes from one year to the next. For example, if your total assets are $100,000 in Year 1 and $220,000 in Year 2, the increase in your net worth is $120,000.
3. Compare Increase (or Decrease) to Reported Income
   The CRA then checks whether the income you reported on your tax return is sufficient to explain any increase (or decrease) in your net worth. If, in the above example, you reported only $40,000 in Year 2, you would need to justify the additional $80,000 difference.
4. Unexplained Increases
   If the CRA identifies a significant unexplained gap between your reported income and your net worth, you may be reassessed for unreported income. In serious cases, the CRA may also impose gross negligence penalties under subsection 163(2) of the Income Tax Act.

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Key Takeaways

• Net Worth Audits are generally reserved for situations where the CRA believes taxpayers’ reported income does not align with their actual financial situation.
• These audits can be error-prone; many are successfully challenged or reduced when taxpayers provide thorough evidence and documentation.
• If you receive a Net Worth Audit notice, it is crucial to gather all relevant records to explain any variances in your assets and liabilities. In many cases, the discrepancy might be due to non-taxable sources of funds (such as gifts or inheritances) that simply need clear documentation.
• Seek professional tax advice early to ensure you have a solid strategy for addressing any CRA concerns.

Under subsection 163(2) of the Income Tax Act (ITA), the Canada Revenue Agency (CRA) may impose a gross negligence penalty when a taxpayer, knowingly or under circumstances amounting to gross negligence, makes a false statement or omission in their tax return. The Excise Tax Act (Canada) contains a parallel provision (section 285) that authorizes the CRA to impose similar penalties for GST/HST.

Gross negligence penalties are intended to deter taxpayers from deliberately underreporting income or inflating deductions and credits. In theory, the CRA should impose these penalties sparingly and only in the most egregious cases. In practice, however, the CRA often applies them whenever it disagrees with a taxpayer’s original filing position or discovers unreported income.

Elements of a 163(2) Penalty

1. A False Statement or Omission

The CRA must identify a false statement or omission in a tax return. This could include:

• Underreporting income (e.g., failing to report business or investment income).
• Overstating expenses or deductions (e.g., claiming personal expenses as business expenses).
• Claiming ineligible tax credits (e.g., making up fictitious donations).
• Failing to report offshore assets or income (if required under the Foreign Income Verification Statement (T1135)).

2. The False Statement or Omission is Made “Knowingly” or Due to “Gross Negligence”

The CRA must prove that the taxpayer acted:

• Knowingly – the taxpayer was aware they were making a false statement.
  
• With Gross Negligence – the taxpayer showed extreme carelessness or willful blindness in preparing their tax return. The courts have defined gross negligence as a high degree of negligence beyond simple errors or mistakes.

How Is the Penalty Calculated?

If the CRA applies a 163(2) penalty, it is equal to:

• 50% of the understated tax or 50% of the overstated credits, whichever is greater.

Example 1: Underreported Income

• A taxpayer earns $200,000 but only reports $150,000, avoiding tax on $50,000.
  
• If the tax payable on the missing $50,000 is $15,000, the penalty would be: 50% of $15,000 = $7,500 penalty.

Example 2: Falsely Claimed Expenses

• A taxpayer inflates business expenses by $30,000, reducing their taxable income.
  
• If this false deduction resulted in $10,000 less tax owed, the penalty would be: 50% of $10,000 = $5,000 penalty.

Defending Against a Gross Negligence Penalty

Taxpayers can dispute a gross negligence penalty by making some of the following arguments:

1. The false statement was an honest mistake
2. The taxpayer relied on a professional tax advisor when reporting their income
3. The taxpayer’s reporting position was reasonable in the context of their profession, level of experience, and education 
4. The CRA has not met its burden of proof to impose the penalty

The term “builder” has a specific meaning under the Excise Tax Act (Canada) (ETA). It is defined in subsection 123(1) of the ETA and generally refers to a person engaged in the construction or substantial renovation of real property for sale or lease.

Who Will Be Considered a “Builder” Under the ETA?

According to subsection 123(1) of the ETA, a “builder” includes:

A. A Person Who Builds or Substantially Renovates Housing for Sale or Lease.

• Includes individuals, corporations, and partnerships that construct or substantially renovate residential or commercial buildings.
• Applies to new homes, condos, rental buildings, and commercial properties.
• Includes subcontractors or developers who build on behalf of others but hold an interest in the property.

B. A Person Who Buys a New or Substantially Renovated Home Before Anyone Has Lived in It

• If a person buys a new or substantially renovated home before it is occupied and intends to sell or lease it, they will considered a builder by the CRA
• This applies even if the buyer did not do the actual construction.

Relevant Legal Framework on “Builders”

The Tax Court of Canada (TCC) in Swift v. R, 2020 TCC 115 (“Swift”) provides a helpful summary of the relevant law on “builders”:

By way of general overview, if an individual who is not a builder (as defined in subsection 123(1) of the ETA) builds a house for personal use (i.e., not in the course of a business or an adventure in the nature of trade), no GST is exigible. If a builder builds a house for sale to a buyer, the builder is required to collect GST from the buyer in respect of the consideration paid by the buyer for the house. If the builder is an individual and if the builder occupies the house before selling it to a buyer, the self-supply rule in subsection 191(1) of the ETA may require the builder to self-assess and pay GST/HST in respect of the fair market value of the house. However, if the builder builds the house and uses it primarily as a place of residence for himself or herself, and not primarily for some other purpose, the personal-use exception in subsection 191(5) of the ETA precludes the application of the self-supply rule.

As such, the relevant Excise Tax Act (ETA) framework is as follows:

1. If a taxpayer is not a “builder” as defined in subsection 123(1) and builds a house for personal use (or not in the course of a business or an adventure in the nature of trade), then no GST/HST is exigible
2. If a taxpayer is a “builder”, they are required to collect GST/HST from the buyer;
3. If a taxpayer is a “builder” and occupied the house before selling, the self-supply rule in subsection 191(1) may require the taxpayer to self-assess and pay GST/HST;
4. However, if the “builder” constructs the house and uses it primarily as a place of residence for themselves, and not primarily for some other purpose, the personal-use exception in subsection 191(5) prevents the application of the self-supply rule.

Arguments Against the Minister’s Determination That The Client Is A “Builder”

If the CRA determines that the taxpayer is a a “builder”, the two most common arguments that taxpayer can make are as follows:

1. The taxpayer is not a builder as defined by section 123(1), and the supply of a sale of a residential complex made by a person who is not a builder is an exempt supply under Schedule V, Part I, section 2 of the ETA.
2. Even if the client were a builder, he or she is exempt from the self-supply rule under the personal-use exception in section 191(5) of the ETA. Audit.