Proposed Changes to the Voluntary Disclosures Program (VDP) – Conditions of a Valid Disclosure – A Canadian Tax Lawyer Analysis
Proposed Changes to the Voluntary Disclosures Program (VDP)
On Friday June 9 CRA released proposed changes to the Voluntary Disclosures Program (VDP or Canadian Tax Amnesty). These proposed changes are contained in Draft Information Circular - IC00-1R6 - Voluntary Disclosures Program and the new rules are expected to take effect in late 2017 or early 2018. The proposed rules threaten to severely limit the situations in which relief will be granted and the overall quantum of that relief. To learn more about the proposed changes and how they could affect you or your associates, book a meeting with one of our knowledgeable Canadian tax lawyers.
Current Rules – Conditions of a Valid Disclosure
Under the current VDP program, there are four main factors that a taxpayer must satisfy to enjoy the benefit of the Canada Revenue Agency’s discretionary power to forgive interest and penalties. These four factors are:
- The disclosure must be “voluntary”;
- The disclosure must be “complete”;
- The disclosure must involve the application or potential application of a penalty; and
- The disclosure must involve information that is at least one year past due.
The proposed changes maintain these four factors, however there are some seemingly small yet significant changes that will likely have an effect of “raising the bar” on what is considered a valid disclosure request. In addition, the proposed rules add a new and potentially program breaking fifth condition – immediate payment of the estimated amounts owing up-front.
The remainder of this article will detail each of the four factors in turn and explain the changes proposed. We will then examine the new condition, payment, and offer our Canadian taxation lawyers’ analysis.
Voluntary – The CRA’s New “Invitation” to Utilize the Program
The changes proposed by the CRA to the voluntary condition of the VDP are relatively minor, but also seem to clarify a point that our tax law firm has been attempting to address over the past year. Paragraph 29 of the proposed VDP Information Circular reiterates that not all CRA enforcement action may be cause for a VDP submission to be denied, and goes on to state that:
“a letter from the CRA inviting the taxpayer to use the VDP to correct their tax affairs; however, this letter would be a factor that could result in the application being considered under the Limited Program”
Over the past year our tax law office has dealt with several taxpayers who have received letters from the CRA stating that based on FINTRAC reports they wish to remind the taxpayer to be vigilant in their compliance with their reporting obligations. These letters appear to be a part of the increased focus of CRA on offshore tax compliance as they typically come after a taxpayer has moved money from offshore back into Canada.
We believe that these letters are a form of “test run” and that the proposed change above represents the CRA’s desire to have it both ways – the CRA will send a reminder letter to a taxpayer, who will then have the ability to report under the VDP, but for substantially lower relief than previously offered under the “Limited Program” (discussed in a previous article). This will in theory allow the CRA to continue to enjoy saving on tax audit costs as it does under the current VDP, but it will also allow it to impose and collect all but the strictest of tax penalties at the same time. Our belief is that taxpayer uptake on VDPs under these circumstances will be drastically curtailed.
In addition, it is not yet clear whether or not an invitation as contemplated by the proposed information circular will automatically lead to VDP relief or not – the CRA appears to still be reserving the right to deny an application – so an additional degree of uncertainty has been created. As a simple example, if the CRA sends a contact letter to a taxpayer related to a transfer from overseas, and the taxpayer then submits a disclosure request for a payroll issue, will that taxpayer only be eligible for relief under the “Limited Program” despite the fact that the information acted upon by CRA had no relation to the payroll problem? It will likely be years before these types of questions are answered by the Federal Court.
Complete – The CRA’s New Guessing Game
The completeness requirement of the VDP under the proposed rules remains similar to before, but includes a major addition which severely undermines the spirit of the program. Previously, the position of the VDP was that a disclosure request would be considered complete if the taxpayer provided returns going back as many taxation years as they were able to obtain records for. This was acceptable even in situations of offshore assets held for decades without reporting.
Under the proposed new information circular, paragraph 30 requires that taxpayers make “all reasonable efforts to estimate the income” for earlier years. What this means is that taxpayers will now be responsible for playing a guessing game to fill in the blanks of earlier years where records likely do not exist. In addition, the CRA does not address the fact that the VDP program is only legally capable of providing relief going back a ten calendar-year period, pursuant to its enabling subsection in the Tax Act at subsection 220(3.1).
To be fair, our tax law firm has for years been advocating the use of estimates to fill in the blanks on disclosure requests that go back further than the records exist – however CRA has not in the past requested that it be provided with estimates of income for years outside of its own discretion to offer relief (ie back further than ten calendar years). This requirement could serve to eliminate any advantage that a taxpayer may receive from coming forward voluntarily given the way that interest and penalties become compounded over such long periods of time.
In addition, it is unclear what constitutes a “reasonable” effort to estimate income in earlier years. Any taxpayer who has investments understands that there are up and down years – the suggested change begs the question: is an estimate “reasonable” only if a taxpayer reports additional income in the earlier years, and never attempts to claim a loss? Again, it will likely take years for the Federal Court to hear cases on this point and provide clarity for taxpayers.
Tax Penalty – No Change
Thankfully, the CRA has proposed no changes to this condition – however it should be noted for those who have not browsed our other numerous articles on the VDP that the requirement for a penalty to be applicable does not necessarily mean that taxpayers with unfiled returns should not seek advice about doing a disclosure request.
Indeed, in many circumstances we advise our clients to proceed under the program as a form of “insurance” when it is not clear from the outset if taxes are owing, or if a particular filing position may lead to a later reassessment to increase taxes owing. In these cases having the protection of coming forward under the program can be invaluable.
One Year Past Due – No Change
This condition remains exactly the same as in the current incarnation – CRA will not accept a disclosure request that only involves the most recent taxation year to avoid frivolous use of the program.
However, a return that is less than one year past due will still be accepted if prior year returns are also submitted as a part of a package to the CRA. This remains a fair and reasonable administrative position.
Payment of Taxes Owing – The New Problem
As mentioned above, the newest condition of a valid disclosure can be found at paragraph 37 of the newly proposed information circular. Paragraph 37 reads
The taxpayer must include payment of the estimated tax owing with their VDP application. When the taxpayer does not have the ability to make payment of the estimated tax owing, a payment arrangement supported by adequate security may be considered in extraordinary circumstances with approval from CRA Collections officials. In these circumstances, the taxpayer must make full disclosure and provide evidence of income, expenses, assets, and liabilities supporting the inability to make payment in full.
Our analysis on this new condition is that it has the potential to seriously undermine the validity of the VD program, and will more than likely result in taxpayers refusing to attempt to utilize the program.
Our firm has handled hundreds of disclosures where the taxpayer was not capable of paying off the amount immediately – administratively the solution was to have the debt assessed under VD and work into a payment arrangement for payment over time or consider an insolvency proceeding if necessary.
Under the new rules, where a taxpayer is unable to pay the funds up front it is almost a foregone conclusion that they will be denied relief. This means that taxpayers may be stuck, in circumstances where the debt is not yet clear, having disclosed to their own detriment. In many situations the disclosure request is sent to CRA by necessity prior to the proper accounting having been completed – CRA recognizes this problem implicitly by allowing a ninety day period within which to prepare final tax returns.
However, under the new proposed payment condition, situations could arise whereby which once the proper accounting is completed the taxpayer owes more than previously anticipated and thus does not have the funds to pay off the debt up front. If the disclosure is subsequently denied on this ground, they will have taken the risk and incurred the expense of correcting their affairs only to be in as bad or worse of a position than they would have been had the CRA chosen them for audit in the normal course.
Also, as alluded to, the VDP is a good tool for eliminating onerous interest and penalty amounts in contemplation of doing a consumer proposal or bankruptcy – proceeding in this way allows the taxpayer to avoid any potential criminal provisions and also to make the insolvency burden significantly lower. Denial on this ground could lead a taxpayer who has come forward on their own volition to be charged criminally, raising the terrifying spectre of the return to the debtor’s prisons of old. Thus, of all of the proposed changes to the conditions of a valid disclosure, the payment condition concerns our tax law firm the most and we anticipate a large drop in compliance by taxpayers given the disincentive it creates.
Tax Tip - Taking Advantage of the Current VDP Rules
The proposed changes to the VDP promise to be far stricter to taxpayers who wish to voluntarily come forward to report non-compliance to CRA than the current rules. As is clear from the above the conditions of a valid disclosure are set to become far more onerous for taxpayers. It is therefore imperative that taxpayers take advantage of the current, more favourable VDP regime currently in place prior to the proposed changes coming into effect. Our Canadian tax lawyers have handled thousands of disclosures for more than 25 years and can offer the best advice on how to approach correcting your previous mistakes under the income tax act.
"These articles provide information of a general nature only. It is only current at the posting date. It is not updated and it may no longer be current. It does not provide legal advice nor can it or should it be relied upon. All tax situations are specific to their facts and will differ from the situations in the articles. If you have specific legal questions you should consult a lawyer."
You’ll have a 90-day time limit. It begins with the EDD or the Effective Date of Disclosure. This is the day when the CRA has received the completed application submitted by your authorized Canadian tax lawyer. If you are late due to COVID-19 reasons, you may ask for an extension in writing if you need it.
The Voluntary Disclosure Program (VDP) gives you a chance to correct inaccurate or incomplete information, disclose information not reported in a tax return. This means that if you file an incomplete VDP application, you can still file another one. But as a result, the taxpayer may be assessed or reassessed, subject to penalties or interest, and potentially subject to further investigation and prosecution.
Taxes must be paid as you earn or receive income during the year, either through withholding or estimated tax payments. However, if you can’t come up with the funds, go to the IRS website to see what’s available and opt for a payment plan. There are options like a short-term payment plan and installment agreement. If you are facing a large tax bill and won’t be able to pay it off, even with paying monthly installments, you may be able to work with the IRS to reduce your payment. It’s called an offer in compromise and isn’t as easy to obtain as a payment plan.