Risks for Small Business Being Audited

The following summarize the risks that small business is being audited by CRA:

1. Inconsistencies reported on your tax filings

Information declared on the tax return will be compared across all other tax forms such as GST/HST report and “information on tax returns with the information provided by employers, financial institutions, and other third parties”. If tax filing information reported is inconsistent with the information provided by third parties, it is a big red flag.

2. Comparatives to industry standards

The CRA usually has information about profit margins for various industries and therefore, will compare income reported to the industry standards. Declaring business income that is significantly higher or lower than the norm in your industry will draw immediate attention for an audit. In addition, the CRA has strategies for figuring out the probability that a corporation is incurring revenues but not reporting it.

3. Deducting large business expenses

Claiming significantly higher amounts of tax deductions and credits than previous years raises big red flags. The CRA performs various tests and analyses during the audit to look for any personal expenses recorded as a business. Businesses need to be cautious about certain expenses such as advertising and promotion, meals and entertainment, travel, miscellaneous, and interest expenses. If not considered reasonable given the nature of the business, they will be scrutinized by the CRA. False deductions can lead to interest and penalties on your tax return. Learn the ins and outs of claiming meals and entertainment expenses.

4. Claiming 100% business use of a vehicle

The CRA knows that it is less likely that a single owner-manager will use a vehicle 100% of the time for business, especially when there is no other vehicle available for personal use. If audited, the CRA will ask you for a detailed logbook that indicates business KM versus personal KM driven.

5. Claiming the “Business Use of Home Office” if you don’t qualify

To claim this deduction, it is important to prove that the workspace in your home is only to earn business income and used to regularly meet with clients, customers, or patients. The CRA’s previous audits have determined that most small businesses do not meet the eligibility criteria to claim this deduction. Therefore, if you are not using your home office space exclusively for business purposes, do not claim this deduction.

6. Recurring losses

Most new businesses, especially in the start-up phase of operations, incur losses; therefore, a single-year business loss is not a cause for an audit. To carry forward the previous year’s losses, there must be a reasonable expectation of profit in the future years. However, reporting losses several years in a row may raise questions on whether the business is running as a hobby and may trigger an audit.

 7. Making large charitable donations

The CRA has a record of how much taxpayers at each income level usually give to a charity, so a red flag pops up when your charitable donations exceed that number. Donations involving capital property are especially likely to be reviewed.

8. Salaries paid to family members

There is nothing wrong with adding family members to the payroll as long as the compensation paid is commensurate with the salary or wage the business would pay to anyone else to do the same job. For example: if your spouse is working for you as an office assistant, you need to pay them a rate equal to what other office assistants make.

This information is from: https://businesslink.ca/blog/8-ways-to-reduce-your-small-business-audit-risk/