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.

An HST Builder Audit is a review conducted by the Canada Revenue Agency (CRA) to ensure that individuals or entities involved in building, renovating, or selling residential properties are properly reporting and remitting Harmonized Sales Tax (HST).

The CRA has specific programs and initiatives aimed at identifying “builders” as defined under the Excise Tax Act (ETA). In short, if you have constructed a new home or substantially renovated an existing one, you may be considered a “builder” under the ETA and could be liable for significant HST obligations.

Below is a breakdown of what might trigger an HST Builder Audit and what it entails:

1. What Triggers an HST Builder Audit?

• New Home Sales: Selling a new or substantially renovated home soon after construction or renovation.
  
• Quick Turnaround: Selling a newly built or renovated home after living in it for only a short period.
  
• Frequent Listings: Repeatedly listing newly built or renovated homes for sale.
  
• House Flipping: Regularly purchasing, renovating, and selling homes.

2. What Does the Audit Involve?

• Review of Documentation: The CRA will request some of the following documents:
  
  • Building permits.
    
  • Purchase and sale agreements.
    
  • Construction contracts and invoices.
    
  • Mortgage terms and loan agreements.
    
  • Proof of occupancy and use of the property.
    

3. The CRA Sent Me a Letter Stating That I Am a “Builder” And Must Pay HST, What Can I Do?

If you’ve been notified of an HST Builder Audit, ensure that you respond promptly and provide the CRA with the requested information. Proactive preparation can help minimize stress and ensure compliance.However, do not provide information to a CRA auditor without its essential context. Clearly presenting your case and ensuring compliance with the technical requirements of the Excise Tax Act (Canada) are crucial when responding to a CRA Builder Audit.

Receiving a CRA Notice of Reassessment can be a stressful experience. If you have just opened that dreaded envelope, you might be feeling confused or even worried. 

But take a breath–there are clear steps you can take to address the situation calmly and effectively! Here are five steps to help you respond and manage a CRA tax reassessment with confidence:

Step 1: Take a Moment and Read the Reassessment Carefully

It’s easy to get overwhelmed when you see that a CRA notice of reassessment has arrived, but the first thing you need to do is take a deep breath. Open the letter and carefully read through the entire notice of reassessment. It will detail why the CRA has made changes to your original filing, and understanding the reasoning is crucial before moving forward.

Step 2: Compare Your Original Filing to the CRA’s Reassessment

Once you have reviewed the tax reassessment, compare the numbers on the document with what you originally filed. Look for any discrepancies in income, deductions, or credits. This comparison will help you pinpoint where the changes have occurred and whether they make sense based on your records.

Step 3: Determine the Cause of the Discrepancy

Now it is time to dig into the details. The reason for a tax reassessment can vary. Maybe it is a simple mistake from the CRA’s side, or perhaps some supporting documents were missed when you originally filed. Take note of whether the CRA’s adjustments are due to an error or misunderstanding. If you believe they have made a mistake, you will need to take action.

Step 4: Get Professional Help from a Tax Lawyer

If the tax reassessment is complicated or if you are unsure about the next steps, do not hesitate to reach out for help. A tax lawyer can provide expert advice tailored to your specific situation. They will guide you through the process of understanding your rights and options, especially when it comes to filing a tax dispute appeal. With the expertise of a tax lawyer, you’ll have a much clearer path ahead.

Step 5: File a Tax Dispute Appeal if Necessary

If you believe the CRA’s tax reassessment is wrong, you have the right to file a tax dispute appeal. This is a formal process where you can challenge the CRA’s decision. Having a tax lawyer on your side can be a huge advantage here, as they will ensure that your case is presented effectively, all necessary documents are submitted, and that your appeal has the best chance of success.

Find Legal Assistance for Your CRA Notice of Reassessment

Facing a CRA notice of reassessment can be nerve-wracking, but taking the right steps can make the process a lot more manageable! If you are unsure about what to do next or if you need assistance with a tax dispute appeal, contact us today. Our experienced tax lawyers are here to help you navigate this challenge with confidence.

When dealing with taxes, most Canadians think of tax forms, filing deadlines, and sometimes, a CRA reassessment or audit. But what happens when the situation escalates? 

What if the CRA’s actions lead to a court case? Can a tax lawyer help? The answer is yes. A tax lawyer can play a pivotal role in representing you in court when your tax issues require legal intervention! 

Here’s what you need to know about how tax lawyers assist you in the courtroom and beyond.

Understanding the Role of a Tax Lawyer

Tax lawyers are not just experts in interpreting tax laws and handling assessments. They are your legal allies when you’re facing significant tax disputes, including those that could lead to court. Whether it’s a CRA reassessment that you disagree with or an impending CRA audit, tax lawyers are there to protect your interests.

These professionals can act as your taxpayer legal representation, whether you are involved in a formal appeal or a court trial. Their deep understanding of tax law, court decisions, and the tax system enables them to guide you through the complex world of taxation.

When Do Tax Lawyers Represent You in Court?

There are several instances in which a tax lawyer can represent you in court, including:

CRA Reassessment Disputes

If you believe the CRA reassessment is incorrect and want to challenge it, a tax lawyer can take up your case. They can file an appeal and represent your case in court, advocating on your behalf.

CRA Audit Defense

If you are being audited by the CRA and feel the CRA audit is unfair or intrusive, a tax lawyer can step in to defend your case. They will negotiate with the CRA, ensuring that your rights are respected.

Tax Penalties and Prosecution

If the CRA accuses you of tax evasion or fraud, the stakes are high. A tax lawyer can provide taxpayer legal support to minimize penalties and protect you from prosecution. If a court appearance becomes necessary, they’ll represent you every step of the way.

Tax Debt Resolution

If you owe substantial tax debt, a tax lawyer can help negotiate settlements with the CRA, reduce the amount owed, or work out a manageable repayment plan. If the dispute becomes a legal matter, your tax lawyer will be there to represent you in court.

Why You Need Taxpayer Legal Representation

Having experienced taxpayer legal representation is crucial when facing serious tax matters. Tax laws are complex, and tax lawyers are equipped to handle cases that involve not only assessments and audits but also appeals and legal proceedings. 

If you are facing a CRA audit, CRA reassessment, or any other tax-related legal matter, do not wait until the situation escalates. At Taxpayer Law, we provide expert taxpayer legal support, guiding you through every step of the process. 

Our experienced tax lawyers will ensure that your rights are upheld, and we will be by your side whether the situation requires negotiation or court representation.

Contact us today for a consultation and experience the peace of mind that comes with professional, taxpayer legal representation!