YOUR TAX ASSESSMENT – Why Investment Gains are Being Improperly Assessed

TAXOver the past few years, the use of automated technology in assessing tax returns has increased dramatically as the Canada Revenue Agency (CRA) works to leverage technological advances with the dual goal of increasing efficiencies and catching unreported income.  On the fairness side, this has been particularly effective at catching unreported capital gains, which has been second only to the underground economy as a source of lost tax revenue to the CRA.  The flip side of this is that these assessments are being issued by CRA computers based on the information they have on hand which is more often than not, incomplete.  Taxpayers will often pay these assessments without question, assuming that they did something wrong, and that the assessments must be correct.

 

Why the CRA has incomplete information:

The CRA now requires all financial institutions to report dispositions of all investments by taxpayers on a form called the T5008.  The financial institutions are still not required to report the cost base for these investments however – they have been fighting for years against assuming this responsibility saying it would be to costly to implement, and also arguing that their clients are in the best position to know the cost of their investments.  This argument is ludicrous considering the current complexity of securities markets, and that the majority of taxpayers are not sophisticated investors and have at best a limited knowledge of how the markets work.

 

Why Taxpayers do not report capital dispositions correctly

In my experience over many years of preparing tax returns, the majority of unreported capital gains by taxpayers are not actually willful tax avoidance.  Here is a list of the most common issues I have encountered:

  1. Mutual funds have become a very popular investment vehicle over the past few decades. A large number of taxpayers that I talk to unfortunately have the mistaken belief that all taxable income received from mutual funds is reported on the T3 slips issued by the financial institutions, and that they do not need to separately report dispositions or transfers of these investments. This has been reinforced by the fact that for years, they would never have received an assessment from the CRA for this misreporting – a situation that is now changing.
  2. Although most financial institutions provide detailed tax reporting packages, many taxpayers are overwhelmed by the volume of information contained in them.  The recent requirements for increased disclosure (while providing useful information) have served to exacerbate the situation by making the sheer volume of information even greater.  What many taxpayers will do is stick to the familiar “tax slips” that come with the package, assuming this is all they need.  As an aside – this also results in many taxpayers missing deductible investment fees that are buried within these tax packages.
  3. Most taxpayers do not realize they are supposed to report dispositions of securities such as GIC’s which under the majority of circumstances do not attract capital gains. This was never a problem before, since there would not be any tax associated with the disposition if it was reviewed. Now unfortunately, with financial institutions reporting the dispositions of GIC’s on T5008’s without a cost base, this results in a capital gain being assessed that does not exist.

 

What is happening now with assessments

If for any of the reasons listed above (or others) you have not reported a disposition of a financial investment on your tax return, at some point in the future you WILL get a reassessment from the Canada Revenue Agency assessing you for a capital gain based on the information that has been reported to them.  While some financial institutions have started reporting cost base to the CRA, in a review of my client base this accounted for less than 30% of all transactions for 2018. (The good news is that this is up from about 10% in 2017).  There is not even consistency within different accounts in the same institution with some reporting cost base and others not.  While these assessments will specify what has been changed in your tax return, they are notoriously difficult to comprehend.  Many taxpayers will simply pay the amount rather than trying to make sense out of it or hiring a professional to deal with it.

 

What needs to happen

    1. First and foremost, the Canada Revenue Agency needs to move forward with requiring all financial institutions to report the cost base for dispositions. In many cases we are dealing with seniors with dementia, or deceased taxpayers where the executors have no idea what the cost base is for these investments. With the proceeds of disposition now being consistently reported, it is inexcusable not to move forward with the other half of the equation.
    2. Since we already know the above has not happened for 2018 (and it is probably unrealistic to hope for 100% compliance in 2019) I would challenge the CRA to stop issuing assessments on dispositions of investments where no cost base has been reported. There are very few investments that have a nil cost base, so in my view it is completely unacceptable for the CRA to issue assessments for amounts that they know the taxpayers do not owe – even if they think the wording on these assessments is clear. What they need to do is issue a very clear pre-assessment letter, stating “your financial institution has reported to us that you sold X investment for proceeds of Y.  They have not however provided us with your cost base for this investment – please provide us with this information so we can properly assess this disposition”.
    3. As individual taxpayers, it is important that you ensure you are reporting the cost base for any securities dispositions you have made, since it is certain that the CRA will have the information regarding the proceeds. If you work with an investment advisor for all of your investments, then they are usually the best source of this information. If you have multiple sources of investments, you can always see what has been reported to the CRA by going into “My Account” online and under the section where you can look up your tax slips, check if you have any T5008’s and verify what has been reported on them.  Unfortunately, one of the things the CRA is still working on is the timeliness of this information getting posted, so you cannot count on it being there in time to prepare your tax returns – especially if you like getting them done early.

About the Author

Doug Stansbury

Doug Stansbury

Through a combination of senior managerial experience in both consulting and industry, Doug Stansbury brings to his clients a well honed sense of value and the ability to deliver through best practices in client service, project management, human resource management and automation. Before moving from Toronto and establishing his Hamilton-based practice, he served as Vice President Finance (Canada) at iQor, Senior Vice President Finance at WebHelp, Controller at Bedo and Audit Manager at Ernst & Young (Montreal).

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