Information Returns and the Tax Consequences of Failure to File

In our previous article, we discussed the tax liability of directors and certain obligations incumbent upon them, particularly with respect to source deductions and GST/QST.

We also noted that taxpayers, corporations and organizations may be required to file various information returns with the tax authorities.

Indeed, tax obligations are not limited to filing an income tax return and paying the resulting taxes. Canadian and Quebec tax legislation provides for a number of information returns that must be filed when a taxpayer finds themselves in certain situations.

These returns allow, among other things, the Canada Revenue Agency (“CRA”) and Revenu Québec to obtain information regarding property held outside Canada, foreign corporations, transactions with non-residents, partnerships, non-profit organizations and certain real estate transactions.

It is important to understand that the obligation to file these forms exists independently of the obligation to pay tax. Accordingly, a taxpayer may have correctly reported all of their income and paid all taxes owing, yet still be subject to significant penalties because an information return was not filed within the prescribed time limit.

Below are a few examples of information returns that are frequently overlooked.

Property Held Outside Canada: T1135 and TP-1079.8.BE

A taxpayer who holds certain property outside Canada may be required to file Form T1135 – Foreign Income Verification Statement with the CRA and Form TP-1079.8.BE – Déclaration relative à la détention de biens étrangers with Revenu Québec.

Generally, the federal filing requirement under section 233.3 of the Income Tax Act (“ITA”) applies when, at any time during the year, a taxpayer owns specified foreign property with a total cost exceeding $100,000.

Depending on the circumstances, this requirement may apply, among other things, to foreign bank accounts, shares of foreign corporations, certain foreign investments, certain amounts receivable from non-residents, and certain real property or land located outside Canada.

It should be noted that the $100,000 threshold is based on the cost of the property, not its fair market value. In addition, the filing requirement may apply even if the property did not generate any income during the year.

The penalties applicable in the event of a failure to file can be significant. At the federal level, simply failing to file Form T1135 within the prescribed time limit may result in a penalty of $25 per day, for up to 100 days, to a maximum of $2,500.

Where the failure is made knowingly or under circumstances amounting to gross negligence, the penalties may be substantially higher. They may reach $12,000, or $24,000 where a demand to file is not complied with. Where the failure continues for more than 24 months, an additional penalty essentially equal to 5% of the cost of the foreign property that was required to be reported may also apply.

Moreover, even if all income derived from the foreign property has been reported, simply failing to file the required form may result in significant penalties.

In this regard, it is important to recall that, pursuant to paragraph 152(4)(a) of the ITA, the CRA may issue a reassessment after the expiry of the normal reassessment period where a misrepresentation is attributable to neglect, carelessness, wilful default or fraud.

In the technical interpretation CRA Views 2017-0708511C6, the CRA indicated that, in its view, failing to file Form T1135 when required constitutes a misrepresentation for the purposes of this provision.

This does not, however, mean that the mere failure to file Form T1135 automatically allows the CRA to reassess at any time. It remains necessary to determine whether the misrepresentation is attributable to neglect, carelessness, wilful default or fraud. This is a question of fact that must be assessed based on the circumstances of each case.

Accordingly, in the context of an audit, the failure to file an information return may have consequences that extend well beyond the penalty applicable to the form itself. Depending on the facts, the CRA may, among other things, be able to reassess a taxation year that would otherwise have become statute-barred.

Foreign Affiliates: T1134

A Canadian taxpayer that holds certain interests in a foreign corporation may also be required to file Form T1134 – Information Return Relating to Controlled and Non-Controlled Foreign Affiliates.

This obligation arises, among other things, under section 233.4 of the ITA and allows the CRA to obtain information regarding the structure, activities and financial position of a Canadian taxpayer’s foreign affiliates.

The rules for determining whether a corporation constitutes a foreign affiliate are technical and must be analyzed based on each ownership structure.

It should also be noted that the obligation to file Form T1134 may exist even if no dividend has been paid to Canada and even if no additional tax is payable for the year.

The applicable penalties are similar to those provided for Form T1135, as described above.

Transactions with Non-Residents: T106

Canadian taxpayers that enter into certain transactions with non-residents with whom they do not deal at arm’s length may be required to file Form T106 – Information Return of Non-Arm’s Length Transactions with Non-Residents.

This requirement, provided for in particular under section 233.1 of the ITA, frequently arises in the case of corporations within the same group that are located in different countries.

The transactions concerned may include sales of property, services, loans, interest payments, royalties and other transactions between related persons.

The form allows the tax authorities, among other things, to obtain the information required to assess compliance with Canadian transfer pricing rules.

Failure to file Form T106 within the prescribed time limit may result in a penalty of up to $2,500, or up to $24,000 in cases involving gross negligence. Unlike Forms T1134 and T1135, no additional 5% penalty applies after 24 months.

Partnerships: T5013

A partnership may also be required to file a Statement of Partnership Income – T5013.

Unlike a corporation, a partnership is generally not itself subject to income tax. Instead, the partners must include their share of the partnership’s income or loss in their own tax returns.

This does not, however, mean that the partnership is exempt from all filing obligations.

Depending on the applicable criteria, a T5013 return may be required, in particular, where the partnership exceeds certain thresholds relating to revenues, expenses or assets, or where, among other things, one of its partners is a corporation or a trust.

It should also be noted that one should not assume that a return is no longer required simply because the partnership did not carry on any activities or generate any income during the year. An inactive partnership may nevertheless remain required to file a T5013 return depending on its circumstances.

Failure to file this return within the prescribed time limit may result in a maximum penalty of $2,500 for each return not filed. Additional penalties may also apply in certain cases involving repeated failures to file.

Non-Profit Organizations: T1044 and TP-997.1

Non-profit organizations may, under certain conditions, benefit from an income tax exemption. This exemption does not, however, mean that they are exempt from all tax obligations.

Depending on their circumstances, certain organizations may be required to file Form T1044 – Non-Profit Organization (NPO) Information Return with the CRA. In Quebec, filing obligations may also apply, including in respect of Form TP-997.1 – Déclaration de renseignements des entités exonérées d’impôt.

For example, these obligations may apply to certain syndicates of co-ownership. Depending on its particular facts, a syndicate of co-ownership may be considered a non-profit organization for tax purposes and may therefore be subject to the filing obligations applicable to such organizations.

Directors sometimes assume that no return is required because the syndicate does not carry on a business in the traditional sense and generally does not pay income tax. However, that conclusion may be incorrect.

For Form T1044, failure to file within the prescribed time limit may result in a maximum penalty of $2,500 for each return not filed.

Where the failure has continued for several years, the penalties can therefore accumulate quickly.

Transfers of Immovable Property Not Registered in the Quebec Land Register

Specific disclosure obligations also exist with respect to duties on transfers of immovables.

Under the Act respecting duties on transfers of immovables (“ARDTI”), where an immovable is transferred and the transfer is not registered in the Quebec Land Register within 90 days following the transfer, the purchaser must generally submit a disclosure notice to the municipality in which the immovable is located.

This obligation may apply even where an exemption from the payment of transfer duties is otherwise available.

A disclosure obligation may also arise where certain conditions that allowed an exemption from transfer duties to apply cease to be met within the time limits provided for under the ARDTI.

This type of omission may arise, for example, in connection with a transfer between related persons or a corporate reorganization where the transfer was not registered in the Land Register.

The consequences may be significant. Where the transfer is not registered and the disclosure notice is not filed within the prescribed time limit, a special duty of up to 150% of the transfer duty may be imposed, in addition to interest.

Accordingly, even where the initial transfer could qualify for an exemption from transfer duties, failing to comply with the applicable disclosure obligations may have significant financial consequences.

Disclose Before an Audit Begins

When a taxpayer realizes that they have failed to file one or more information returns, it is important to act quickly in order to assess the available corrective measures before any intervention by the tax authorities.

The CRA’s and Revenu Québec’s Voluntary Disclosures Programs allow taxpayers, where the applicable conditions are met, to correct certain omissions and obtain relief from penalties and, in some cases, interest, although the underlying tax remains payable.

This process may apply to various returns as well as to certain obligations relating to duties on transfers of immovables.

It is essential, however, to act before an audit begins, since eligibility for the program and the resulting tax consequences may become more limited and more onerous once an audit has commenced.

In practice, a voluntary disclosure will often significantly reduce penalties and allow the situation to be corrected within a structured process, whereas an omission discovered during an audit will generally result in a more restrictive and costly process.

It is therefore recommended that the situation be reviewed promptly once an omission is identified in order to determine whether a voluntary disclosure is possible and appropriate