Canadian taxpayers will face negative consequences if their income tax returns are not filed on time by the due date. In addition, they face other, different negative consequences when returns are filed after the due date but not in time to obtain a refund. This article discusses those consequences.
Filing on time
A corporation required to file an income tax return for its Canadian income must do so within six months after its year end. An individual Canadian resident taxpayer is required to file a personal Canadian income tax return, using a December 31 calendar year for the reporting period, by April 30 of the following year in order for the return to be filed on time. The Income Tax Act does permit individuals who are reporting self-employment income to file until June 15 of the following year. Spouses of individuals reporting self-employment income also have a due date of June 15. Certain non-residents of Canada who own Canadian rental real estate can file an election and have until June 30 of the following year for their returns to be filed on time.
The initial disadvantage of not filing on time by the due date is that the Canada Revenue Agency (CRA) will assess penalties and interest on any unpaid taxes.
For individuals who file late, the penalty will be 5% of the balance of income tax owing plus 1% of the balance owing for each full month that the return is late, to a maximum of 12 months. Thus, if a return is filed one full year late the penalty will be 17% of the unpaid tax balance. In addition to the penalty for the late-filed return, the CRA will also charge interest on the unpaid balance and the penalty assessed. The interest the CRA charges is compounded daily at a rate determined by legislation that provides for potential changes to the rate every quarter of the calendar year. The current rate charged is 5% compounded daily, which equates to a much higher annual rate of interest.
In addition to the above penalties, where the CRA assesses a late-filed penalty in a year at the 5% rate, then for the next three income tax years another late-filed return may be assessed at a double rate: 10% on the unpaid balance (rather than the initial 5%), plus 2% for each full month late (rather than the initial 1%). Thus, a return filed one year late may incur a penalty of 34% of the unpaid balance.
The penalties and interest assessed for late-filed corporation income tax returns are similar. Penalties and interest are not deductible in determining taxable income for any year.
Filing in time
If a return is filed after the due date, then the taxpayer must ensure that the return is filed in time to secure his/her entitlement to any refund that may be due. The tax return will be considered to be filed in time for a refund if it is filed within three years of the year-end date. (There are provisions that grant the Minister discretion to issue refunds beyond three years in certain circumstances.)
Installment refund denied by court where return not filed In time
In a 2013 Federal Court decision, Clover International Properties (L) Ltd. v. The Attorney General of Canada, installments made by the company (Clover) for potential income taxes were not refunded because Clover did not file its income tax returns within the three-year time limit.
Clover was a non-resident corporation involved as a limited partner in two separate real estate developments in Vancouver, B.C. As it anticipated the losses from one of the limited partnerships to be greater than its profits from the other partnership, Clover did not file a corporate income tax return for its 1996, 1997 or 1998 taxation years until May 24, 2000.
During its 1996 tax year, Clover had made tax installments totaling $386,406.63. When the 1996 return was filed in 2000, the CRA assessed taxes, penalties and interest of $420,876.48, and demanded the balance of $49,208.91.
In February 2002, at Clover’s request, the CRA agreed to carry back Clover’s 1997 tax loss, which was greater than its 1996 income, and to apply it against the 1996 income to eliminate the income taxes payable for 1996. That left Clover with an installment balance of $371,664.57 (after apparently accounting for penalties and interest on penalties that were not reversed on the reassessment).
The CRA indicated to Clover in its February 2002 reassessment of 1996 that, pursuant to subsection 164(1) of the Act, it was prevented from issuing a refund of the overpayment of installments because Clover had not filed its corporate tax return within three years from the end of its 1996 year end.
For the next ten years, through discussions and correspondence with the CRA, Clover managed to get $5,058.00 and $1,281.72 allowed against the 1999 and 2000 taxation year taxes respectively, as the Minister agreed to exercise his subsection 221.2(1) discretion and re-appropriated $6,339.72 of the installment balance from the 1996 taxation year to the 1999 and 2000 taxation years to reduce taxes for those years.
In April 2010, Clover requested that the Minister re-appropriate the remainder of the 1996 overpayment balance of $345,702.50 to satisfy any amounts owing by Clover under the Act, and then re-appropriate any further amount to the 1999 taxation year, thereby creating a tax credit in its 1999 tax year. Clover suggested that amount could then be refunded pursuant to subsection 164(1) of the Act.
Then, by way of a Non-Resident Tax Statement of Account, the CRA re-appropriated $22,316.06 from the 1996 installment balance, which was owing by Clover pursuant to Part XIII of the Act, thereby reducing that liability to nil.
The Minister maintained that it could not re-appropriate where no tax was owed. Clover ultimately brought the matter before the Federal Court for judicial review of the Minister’s decision.
The Federal Court agreed with the Minister that Clover was “the author of its own misfortune” by failing to file its 1996 corporate return within the three-year period. It further held that the Minister “did not err in law in concluding that subsection 221.2(1) does not permit a re-appropriation of the 1996 Overpayment to its 1999 tax year and the issuance of a refund, pursuant to subsection 164(1) of the resultant credit.”
The judgment went on further to state:
While it is true, in the result, the Minister retains an overpayment to which she has no entitlement, which on its face is offensive to the Applicant and likely to others, there is nothing this Court or the Minister can do to avoid that result given the lack of statutory authority for a refund. In the absence of a constitutional impediment, Parliament’s will must be adhered to:
[53] […] In short, the Legislature within its jurisdiction can do everything that is not naturally impossible, and is restrained by no rule human or divine […]. The prohibition, “Thou shalt not steal,” has no legal force upon the sovereign body. […] [Emphasis in original] (Florence Mining Co v Cobalt Lake Mining Co (1909), 18 OLR 275 at 279....)
Should the Minister determine that there is an amount that is payable or may become payable by the Applicant (Clover), then there is the possibility the Applicant will realize the value of the 1996 Overpayment. Absent such a finding, the Minister has no basis on which to issue a refund.”
This decision left Clover with approximately $325,000 in installments for its 1996 tax year that could not be refunded but could only be used against further Canadian income tax liabilities. Clover is a non-resident corporation. As of the date of the court decision, it had not had any further income tax liabilities owing to Canada. It may never receive the benefit of its $325,000 installment balance.
To add (small) insult to injury, the Federal Court ordered Clover to pay an additional $2,660 toward the CRA’s legal costs. That would be on top of the significant costs Clover must surely have incurred itself to dispute and litigate this matter since 1996.
As the Clover case illustrates, it can become very costly to ignore the requirements to file tax returns on time and, if filed late, to file in time if a refund is potentially due. Contact your Collins Barrow advisor for guidance with a late filing, and to ensure your future filings are on time.
Larry Cross, CPA, CA, is a Tax Partner in the Sarnia office of Collins Barrow.
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