What happens when your tax return gets audited

John Ferrie remembers how anxious he was when he got a notice from the Canada Revenue Agency a few years ago indicating his tax return wasbeing audited. The Vancouver artist didn’t think he had done anything wrong, but the news still made him nervous.

“It was a registered letter,” says Ferrie, a painter. “It basically said ‘You’re this number. Make sure you have all your papers lined up.’

“I just thought, ‘What on earth is going on?’ I’m a really creative thinker, and the first thing you do is just panic. I had no idea where this came from or what it was leading to. I’m the kind of guy with a giant box full of receipts; I have an abacus on my wall and count on my fingers and toes. Nothing else is explained to you; you just have to have your accounting ready.”

Ferrie says he hired an accountant to help walk him through the process. Although sometimes people just have to mail in documents to support their claims for a tax review, an auditor visited Ferrie at his studio. He was there for about an hour, explaining what expenses artists like him can and cannot be claimed. Ferrie ended up having to pay back some of his refund.

The CRA doesn’t reveal how many people get audited every year, and in any given year, the federal body may target certain industries or professions. So it’s not something you can strategically avoid.

According to Barrett Tax Law, the CRA performed more than 370,360 audit and review actions in the 2008-09 tax season. During that period, it conducted 1,439 international tax audits and 34,111 tax shelter audits. Of those investigations, the Public Prosecution Service of Canada received 164 cases for criminal prosecution while the Ministere de la Justice du Quebec received 58 GST audits to prosecute.
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What puts you on the CRA’s radar?

There are a few factors that may trigger a review, however.

“If you have a big change in your taxes — if, for example, you get separated or divorced — those returns tend to be reviewed for one or two items,” says Kirby Dickson, a tax professional at H&R Block in Toronto. “if you have really big expenses, for example, a year where you have a giant medical expense or things that are relatively out of the ordinary.”

Recurring losses are another red flag.

“For people who have small businesses, the CRA will eventually expect you will turn a profit, so you can’t claim a loss forever,” Dickson notes. “At some point you have to show your business is actually doing business.”

Discrepancies within industries may also prompt a closer look. The CRA compares what you report against the norms. So if you’re a realtor claiming $40,000 in advertising costs while the average in your area is half that, that may trigger a review.

The potential for an audit is why CRA advises you keep receipts and other documents for seven years. And being looked at once ups the chances of it happening again down the road.

“If you fail your audit or don’t provide enough information, you do end up being on their radar and they will likely look at you again in the future,” Dickson says. “They’re not unfair but if you’ve been reviewed once and you didn’t pass my recommendation would be to try to prepare for what may come up in the future.”

Regardless of whether you ever get reviewed, Dickson suggests always being thorough and honest, and ensuring you understand eligibility requirements for whatever deductions and credits you’re claiming. If you’re not sure, contact a tax professional or the CRA itself.

“They are getting more and more strict, day by day,” she adds. “They’re tending to look at some things more often than they used to, such as RRSP contributions and overcontributions. Typically, when the government delivers budgets, if you read the budget papers carefully there are mandates that they set down. Most people don’t pay any attention to that though. They’re just concerned with ‘how much money am I going to get back?’”