I had a client (we’ll call him Joe just to give him a name although that is not his real name), who lived in a penthouse apartment in Yorkville (an expensive neighborhood in Toronto), drove a band new Mercedes E Class sedan, ate out at expensive restaurants every night and claimed them as business expenses, and reported on his Income Tax Return that he only earned $18,000.00. He got away with it the first couple of years but then he was audited by the Canada Revenue Agency and re-assessed unpaid taxes in the six figures.
“Norm, why was I audited?” Joe asked. “We’ll the fact that you’re living in a luxury penthouse, driving a brand new Mercedes, and then claiming that you made only 18K a year on your personal income tax return, will eventually trigger an audit” I told him.
“But those things belong to my corporation not me ” he says. Of course, he’s the sole shareholder and director of the corporation.
“Well there’s a thing called a “shareholder benefit” that permits the CRA to attribute any benefit that you received from the corporation as income to you personally.” I tell him.
Basically the way that works, is that if you’re living rent free in a luxury penthouse that your corporation pays for, and driving a luxury car for your own personal use that your corporation also pays for, then CRA will assess the fair market value of those things, and assess them as income to the shareholder.
There are a number of things will trigger an audit and steps that you can take to avoid one:
1. DON’T claim excessive business or entertainment expenses.
2. DON’T claim unusual deductions or credits.
3. DO report any benefits you receive from your corporation. In this case, Joe would have been better off to figure out how much of his apartment and his car that he uses for personal use, and then report the fair market value of those items as income.
This isn’t an exhaustive list by any means but just some considerations that you should keep in mind when completing your tax return.