CRA Red Flags for an Audit

Receiving a letter from the CRA that you’ve been selected for an audit is one piece of mail that absolutely nobody looks forward to. As we come into the final stretch of this year’s tax filing season, I thought I’d share some red flags that could trigger one.

While some audits are still random, a new approach by the CRA was undertaken following a study that found that random audits detected far fewer cases of significant non-compliance versus targeted ones. The numbers showed that the random audits resulted in just 12.2 per cent converting to cases while targeted audits resulted in a 46.7 per cent conversion rate.

With that new information in hand, the CRA’s preferred approach today is to identify high-risk areas and focus most of their audits there. So, let’s look at what types of people are most at risk:

1. You file an adjustment – Mistakes are normal and the CRA has a fairly simple process for filing a T1-ADJ Form to fix mistakes made on your tax return. However, you should be aware that filing an adjustment can flag your return for a closer look and this could lead to an audit. This certainly doesn’t mean that you should not file an adjustment if required, only that it pays to make sure that your initial return is done properly so it’s not needed.

2. You don’t respond to CRA requests – If the CRA reaches out to you and you fail to respond, the risk of being audited goes up significantly. If the reason for their request is to ask for something you don’t have (including more money), you are still far better off to respond and tell them that instead of simply ignoring them. Ignoring the CRA will not result in them ignoring you!

3. Your reported income doesn’t match your home value – If you live in a nice area with expensive homes and report little to no income, this is an obvious red flag for the CRA. They use screening tools to compare your reported income to those of your neighbours and look for things that don’t line up.

4. You are reporting losses yet again – By reporting net losses in a business or rental property for multiple years, the CRA starts to ask some questions. They begin to wonder if you are renting the property to a family member or friend at lower than market rates or using a business structure solely for the write-offs it provides. Either can be a key red flag for an audit.

5. Your return has notable changes from last year – If your income or expenses year to year vary significantly, the CRA may want to find out why. Sometimes this “flag” can result in nothing more than a simple review instead of a full audit, but it is another key indicator for the CRA to dig a little more.

6. You sold real estate in the last year – The CRA is shifting significant focus here and the 2019 federal budget earmarked $50 million over the next five years to help increase this focus. It is very important to file a principal residence capital gains exemption if appropriate but be forewarned that the CRA may want to know more.

A CRA audit will hopefully result in no further action if you’re filing your returns properly; but it can still be a major headache that costs you a lot of time and money. Be sure to file an honest, clean and double checked return this year to save yourself a lot of un-needed hassle.