Is Voluntary Disclosure The Right Move?

How To Address Unfiled Taxes In Canada

By L.Kenway BComm CPB Retired

Revised May 27, 2024 | Originally Published in Bookkeeping-Essentials in April 2010

NEXT IN SERIES >> Responding to a Tax Audit Notice

In Canada, our tax system is a self assessing system and relies on voluntary compliance. In dealing with the Canada Revenue Agency (CRA), small business owners often find themselves frustrated with the complexities of Canadian tax regulations.

If you are deficient in any of your tax filings, one essential tool at your disposal is the CRA’s Voluntary Disclosures Program (VDP).

This tool can be a crucial option for rectifying past tax records without facing harsh penalties. Below, I explore when and how to use the program, along with fairly recent changes that might affect your decision.

When is voluntary disclosure the right move?

What is the CRA’s Voluntary Disclosures Program?

The CRA’s Voluntary Disclosures Program is designed to promote compliance with Canada's tax laws. It's purpose is to encourage individuals to self-correct incomplete or inaccurate information, and past omissions; while granting relief on a case by case basis to those who satisfy all the conditions through waiving interest, penalties, publicity, and prosecution.

But is voluntary disclosure the right move for your situation?

When is Voluntary Disclosure the Right Move?

Voluntary disclosure may be the right move for you under the following scenarios:

Unreported Income:
Have you failed to report all your income in past years? If so, using the VDP could reduce your risk of penalties and legal repercussions. Did you know that technology helps CRA determine who it audits. The CRA has developed their own database to select returns to be audited. They will compare your tax return against known filers who have a verified history of non-compliance and against filers who have a proven history of compliance. If your return falls within the appropriate parameters, it will be flagged for an audit.
Filing Errors:
Incorrect or incomplete filings from previous years are suitable for disclosures under the VDP. For example, tax returns filed weren't accurate tax returns because of unreported income (discussed above), understated sales, or overstated expenses. Many small business owners make these errors because they do not keep adequate books and records. This can be expensive in the long term. It is for this reason that this group of taxpayer is most likely to get audited by the CRA.
Late Filings:
If you’ve missed deadlines for income tax, GST/HST, or other tax obligations, VDP can help correct these oversights. To ensure you always have the funds available for all types of taxes owing, consider implementing this simple cash management system. If not being great at paperwork is the roadblock to filing on time, hire a certified professional bookkeeper to do your bookkeeping. The route to success is surrounding yourself with people who have a different skill set than you do and complements your skill set.
Omissions in Payroll Deductions:
Small business owners who have not properly reported or remitted payroll deductions can use the VDP. For example, ignoring taxable benefits or conferred shareholder benefits.

These are some of the situations that may make voluntary disclosure the right move for you and your business.

Recent Changes to the VDP Rules

In March 2018, two administrative policy changes to the voluntary disclosure program guidelines came into effect. The first policy change applied to income tax and source deductions. The changes were outlined in Information Circular IC00-1R6. The second policy change applied to GST/HST disclosures. The changes were laid out GST/HST Memorandum 16-5.

Here is a brief overview of the changes in the two policies that may affect your decision of whether voluntary disclosure is the right move for you:

Income Tax and Source Deductions Policy & Changes

1. Tightened Criteria (Effective 2018):
The criteria for acceptance into the VDP is now more stringent. Full relief from penalties is harder to qualify for, and partial relief is now more common. Take a look at some of the changes:

File using Form RC199 or an equivalent letter
Rules around when/if a second application can be filed.
Must disclose the name of the advisor when making the application.
Must pay estimated taxes at the time the application is made.
The option of not providing a name when filing the application is eliminated.
CRA can cancel the application if the applicant filed incomplete information due to misrepresentation, neglect, willful default or fraud.
Reduced relief considered in limited program for corporations with gross revenue over $250 million in two of the last five years, offshore accounts, sophisticated taxpayers, and more.
Restricts who can make an application under the program; exclusions/no relief for:

(a) no taxes owing or refunds expects;
(b) transfer pricing matters;
(c) proceeds of crime disclosures;
(d) person in receivership or bankrupt; and
(e) applications that require agreement with a competent authority under a tax treaty provision (for example S-corporation agreements).

2. Two Track System:
The VDP now differentiates between applications that involve intentional conduct and those that do not, affecting the relief granted. It moves away from the "one size fits all' program. As a result, there will be two tracks:

General Program for inadvertent and minor non-compliance with no change in current penalty relief policy and a 50% interest relief may be granted for most recent years; and
Limited Program where relief is curtailed for major cases of unreported income, including sophisticated taxpayers. They will not be assessed gross negligence penalty and not subject to criminal prosecution; all other penalties assessed will not be forgiven as well as no interest relief. They also waive their objection rights pertaining to taxes assessed. You must meet specific conditions to be accepted. If the CRA has already received potential involvement in non-compliance, your application will be rejected.

3. Limited Periods for Correction:
The program specifies limits on the number of tax years for which correction is possible, generally up to 10 years.

It's important to note that a Canadian small business owner can still be audited by the CRA even after being accepted into the Voluntary Disclosures Program. Acceptance into the VDP generally provides relief from penalty or prosecution regarding the information disclosed.

However, if the CRA finds inaccuracies or incomplete information within the VDP application itself, or if new information comes to light that requires verification, the CRA still reserves the right to audit the taxpayer. Moreover, the disclosed information might be reviewed for accuracy and completeness, and an audit might be conducted if discrepancies or further issues are detected. See Tax Interpretations 2022 Grewal decision for an example of when this might occur. In this example, the taxpayer disclosed loans under the VDP but not the associated taxable benefits which led to an audit.

Baker Tilly points out in their July 26, 2022 article titled Voluntary Disclosures Program not to be taken lightly that "taxpayers should review their VDP submission carefully to ensure the years in question align with the 10-year statutory period for waiver of interest and penalties. Otherwise, the VDP may not provide the protection sought by the taxpayer."

GST/HST Policy & Changes

Similar to the income tax policy changes, here are key changes to the VDP:

1. Restriction on Eligibility:

Disclosures must not be primarily related to amounts already known to the CRA or amounts that involve the avoidance of penalties and interest.
Applications that involve transfer pricing adjustments or those related to large corporations are not eligible for the VDP.

2. Three Tracks for Disclosure:

General Program:
This track covers most disclosures that involve errors or omissions where there was no intentional attempt to avoid taxes. It includes four years before the application filing date with possible 50% interest relief and 100% penalty relief.
Limited Program:
Designed for more serious breaches where there might have been intentional avoidance or evasion. This track provides less relief compared to the General Program.

Unlike track 1 and 3, it includes all relevant years before the application filing date. There is no interest or penalty relief. However gross negligence penalties will not be assessed even if warranted.

Examples of where this might apply would be collecting but not remitting GST/HST, participating in the underground economy, gross negligence, multiple years of non-compliance.
Wash Transactions Program:
Specifically designed for situations where a registrant failed to collect or remit GST/HST, but the customer was entitled to claim a full input tax credit (ITC) or where ITCS are wrongly claimed between closely related parties.

This track helps reduce penalties and interest associated with such errors but often involves a notable failure in tax collection and remittance responsibilities. It includes four years before the application filing date. It may result in full interest and penalty relief. See GST/HST Memorandum 16.3.1, Reduction of Penalty and Interest in Wash Transaction Situations.

3. Pre-Disclosure Discussion:

Taxpayers can now engage in anonymous pre-disclosure discussions with the CRA to understand the potential relief available under the VDP. However, full disclosure and identity disclosure must follow for any formal relief to be granted.

4. Payment of Estimated Tax:

To qualify under the VDP, applicants must include payment of the estimated tax owing or propose a payment arrangement supported by verifiable evidence of payment ability.

How to Apply to the VDP

If you decide that voluntary disclosure is the right move for you, there is an unforgiving procedure to follow to make a voluntary disclosure. It is advisable to follow it and not cut corners.

Gather Information: Compile relevant financial documents and tax records for the years you want to correct.
Consult a Professional: Discuss your situation with a tax professional who understands the VDP. They can provide guidance tailored to your situation. The tax professional will help determine if voluntary disclosure is the right move for you and lay out other options if applicable.
Complete RC199: Make sure you provide all the relevant information and sign the application.
Submit Your Application: You or your advisor can submit an application online, by mail, or through My Account, My Business Account or Represent a Client on the CRA website.

The request must be in writing by letter ... or use CRA Form RC199. The voluntary disclosure date is when the CRA has received the request OR the date the taxpayer (or their representative) signs the client agreement form.

You must meet five conditions to qualify for the program. If you do not meet the criteria, then voluntary disclosure is not the right move for you. The five conditions listed on CRA's website are:

it must be voluntary;
it must be complete;
must involve an income tax penalty or interest;
the information is at least one or more years overdue; and
include payment of the estimated tax owing.

You must submit all information and documentation with the application which includes the type of returns involved, type of information returns, type of omission, primary business activity along with an explanation of how you feel you have met the five validity conditions that must be met. Under extraordinary circumstances, the CRA may extend your deadline for up to 90 days.

When applying, you no longer have the no-name disclosure option therefore the 90 day option on whether to proceed and complete the application is also eliminated. You can however hold preliminary discussions on an anonymous basis. See CRA's publication IC00-1R6 Voluntary Disclosures Program for more information.

You can find more details on the process on the CRA website under Voluntary Disclosures Program (VDP) > How to apply.

Voluntary Disclosure Ineligibility

If CRA has already made a demand request, you are no longer eligible for the program.

So the first and most important rule in doing business in Canada ... each year pay CRA by the filing deadline ... estimating the tax payable if necessary.

My favorite tax site has a great income tax calculator you could use to this do estimate.

Protect Yourself Against Third Party Civil Penalties

If you are a bookkeeper and suspect that criminal proceedings may be possible if the voluntary disclosure program was not used:

It is usually recommended that you refer your client to a tax lawyer (one who specializes in this field) before proceeding,
A lawyer has solicitor-client privileges that an accountant or bookkeeper does not have. Court orders can force an accountant or bookkeeper to client share information.

The lawyer can then engage the services of an accountant or bookkeeper of the client's choice to act as their agent. You should then not be subject to the possibility of third-party civil penalties.

Sidebar: Since 2000, penalties can be imposed by the CRA on third-parties who make false statements or knowingly omit in information from their tax returns. Learn more.

The first submission is of utmost importance, especially in the event the request is denied. This underscores the need for meticulousness and accuracy in your work.

Wealth Management Canada blog covers the topic of client privilege of a lawyer vs. an accountant, Client Privilege: Where it Applies in Canada. It is worth reading if you are a bookkeeper dealing with tax matters!

The article explains that privilege is different from confidential communications with professional advisors. It explains how you can protect privilege over communications with professional advisors other than your lawyer.

Remember, certain communications (oral and written) with your clients should be "off limits" because it is out of the scope of your relationship and could bring harm to your client if you are forced to share the information with CRA. Refuse to listen to a client if this happens and immediately refer them to a tax lawyer.

More >> See the August 1, 2022 article titled Protecting a taxpayer’s privileges by The Tax Advisor. It is an American publication but Canadian laws are very similar so the advice holds in my opinion.

What Are Possible Non-Compliance Penalties Assessments?

Penalties apply for failure to comply with the Income Tax Act (ITA). Technically, it is a criminal offense not to file a tax return for any reason ... but CRA rarely prosecute solely for not filing ... but it could happen.

My references say penalties include:

1. Gross negligence civil penalties (knowingly under reporting tax income) assessed are the greater of:

$100; and
50% of tax that was avoided
A corresponding provincial penalty may also be applied

2. Repeated failure to file income

10% of income not reported
A corresponding provincial penalty may be applied

3. Failure to file criminal charges (failed to file when required OR tax evasion) are assessed are:

A minimum $1000 fine plus possibly 12 months in jail; OR
A penalty between 50% and 200% of the tax evaded plus possibly 5 years jail time respectively.

4. Failure to file civil penalties OR failure to report income civil penalties are assessed as follows:

The penalty is 5% of the unpaid tax at the date on which the return was due to be filed AND 1% of the unpaid tax for each complete month the return was late ... for up to 12 months ... that's a minimum of 17% per year (before compounded daily interest).
Repeated failures to file after a demand for return was served doubles the penalties.

These charges add up so it is worth asking the question, "Is voluntary disclosure the right move for you?".

Is Voluntary Disclosure The Right Move For You?

Some the consequences of unreported income that you should be aware of are:

Interest and penalty assessments.
Possible charges of tax evasion and/or imprisonment along with public posting of charges on CRA website.
Loss of personal property as CRA forces sale of home and other personal assets. CRA liens are paid out first (i.e. before your mortgage).

Here's what you can do to help you decide if voluntary disclosure is the right move for you:

Have you reviewed your past tax filings for potential errors or omissions?

It might be time to consider your options under the VDP. Whether you move forward with this tool or not, regularly review your business's financial records for accuracy and completeness going forward.
Are you unsure about the implications of your tax mistakes?

Consulting with a professional can provide clarity and help you navigate the VDP process effectively. See below for how to decide whether to use a tax accountant or tax lawyer when seeking advice regarding a VDP application.
Could your business benefit from correcting past tax filings without steep penalties?

Explore the changes to the VDP to understand how they might impact your application and the potential impacts on your business.

By actively engaging in these considerations and seeking the right advice, small business owners can navigate the complexities of the CRA’s Voluntary Disclosures Program to ensure tax compliance and minimize risk.

What's The Difference Between Getting Advice From a Tax Lawyer Vs a Tax Accountant?

When a small business owner in Canada is considering making an application to the CRA's Voluntary Disclosure Program (VDP), I believe it is essential to seek expert advice to ensure that the process is handled correctly and efficiently. Deciding whether to consult a tax lawyer or a tax accountant depends on the specific needs and circumstances of your business. Here are some considerations:

1. Privilege and Confidentiality:

Tax Lawyer: Communications between a client and a tax lawyer are protected by solicitor-client privilege. This means that, except in rare circumstances, any information shared with the lawyer cannot be disclosed without the client’s consent. This legal privilege can be crucial in cases where sensitive information is involved and the client needs assurance that details of their financial or legal issues will remain confidential.
Tax Accountant: Generally, accountants do not have the same privilege with their clients. While accountants follow strict confidentiality standards, the information shared with them can be compelled by court orders or other legal mandates in a legal proceeding.

2. Legal Representation and Litigation Support:

Tax Lawyer: If the voluntary disclosure escalates to legal actions or if there are potential criminal implications, a tax lawyer is qualified to provide legal representation in court. Lawyers can handle disputes, appeals, and litigations that may arise during or after the VDP application process. Tax lawyers can also provide legal advice and ensure that your legal rights are protected throughout the process.
Tax Accountant: If the case primarily involves correcting errors in filed returns or disclosing unreported income that does not involve legal complexities, a tax accountant might be sufficient. If accountants help ensure all financial aspects are correctly reported and comply with tax laws through your lawyer, then client privilege is maintained. While tax accountants are experts at handling the financial and tax preparation aspects, they are limited when representing clients in court and should probably not do so. Their role is better suited to financial advising and tax compliance.

3. Negotiating with CRA:

Tax Lawyer: Beyond addressing potential legal issues, tax lawyers can negotiate with the CRA on your behalf and provide a legal interpretation of the tax implications. Lawyers are trained in negotiation and understand the legal boundaries within which they can operate. If there's a need to negotiate terms or penalties with the CRA, a tax lawyer would typically be more equipped to handle these discussions effectively, navigating both the legal and tax complexities. Preparation and review of any legal documents that might be necessary during the disclosure process or subsequent proceedings are better handled by a tax lawyer, given their expertise in legal matters.
Tax Accountant: Accountants are trained to prepare tax forms and tax returns; lawyers are not. They can work with your tax lawyer to prepare tax documents, calculate taxes owed or refundable, and help comply with tax regulations. Accountants can give non-legal tax opinions but only lawyers can give legally binding tax opinions.

4. Legal Representation:

Tax Lawyer: Should the situation escalate or if there is a high risk of litigation or penalties, having a tax lawyer ensures that you have legal representation who is familiar with your case right from the start. If you end up in Tax Court or in Criminal Court, a tax lawyer has been trained in litigation matters whereas a tax accountant has not. A tax lawyer can provide a more comprehensive risk assessment concerning legal exposure, advice on the implications of disclosing certain information, and help in managing those risks legally.
Tax Accountant: Accountants can give non-legal tax opinions but only lawyers can give legally binding tax opinions.

5. Cost:

Consulting a tax lawyer generally tends to be more expensive compared to hiring an accountant. However, the investment might be worthwhile if legal issues are at play or if the stakes are particularly high in terms of potential penalties.

6. Preventive Advice:

Tax Lawyer: Offers comprehensive protection by advising on the legal implications and future preventive measures.
Tax Accountant: Focuses more on financial advice, ensuring that future filings are correct while helping set up systems to avoid similar issues.

In summary, if the issue involves simple errors or financial adjustments, a tax accountant might be suitable. However, for complex issues, potential legal concerns, or where there may be significant penalties, a tax lawyer would be the better option to protect the business's interests fully. Often, consulting both professionals for their respective expertise can be the most comprehensive approach.

Given these factors, while both tax lawyers and accountants have critical roles to play, I believe the legal privileges and broader legal protections afforded by a tax lawyer can be particularly advantageous in navigating the complexities of the CRA's Voluntary Disclosure Program, especially in scenarios where there is a potential for significant penalties or legal issues.

Key Takeaways

Is voluntary disclosure the right move for you?

The VDP can be a valuable tool to correct past tax errors while minimizing penalties.
It’s important to understand the stricter criteria and recently implemented multi-tracks system to determine your eligibility and the extent of potential relief.
Professional advice is crucial and prudent when considering a VDP application due to the complexities and potential consequences of tax disclosures.
Since the CRA has tightened eligibility for VDP applications, small business owners need to ensure their applications are fully compliant and all disclosures are accurate and complete to avoid penalties or denial and maximize potential benefits under the VDP.

Sources: CRA IC00-1R6; June 21, 2017 Issue 26 EY Tax Alert-Canada; pwc Tax Insights issue 2017-28; June 21, 2017 Issue 27 EY Tax Alert-Canada; December 21, 2017 EY Tax News Update - Canada Revenue Agency revises GST/HST Voluntary Disclosures Program