In a National Post article last December, CRA warns business owners on Tax Cheating Software, it disclosed that the CRA has dedicated 5,000 employees to the task of finding unreported income and ensuring that sales taxes are remitted properly, “even when sales records are missing.” This is a thinly disguised warning to restaurants (and other cash businesses) that CRA is about to descend on your business, using indirect audit methods to identify unreported income and the sales taxes that should have been remitted. The reference to tax cheating software refers to sales suppression software, also known as “zappers”.
As discussed in my earlier blog entries, typically, CRA audits between two and four tax years’ worth of taxpayer records. They will request that the taxpayer provide a substantial list of accounting records and reports related to the audit period. In almost every case, the taxpayer will be unable to completely satisfy the auditor’s request. This provides the auditor for some basis to suspect that the taxpayer’s records may not completely and accurately record the true sales and sales taxes collected during the period under review. Accordingly, the auditor will seek to determine the sales (and taxes thereon) that were likely to have been generated, based on the purchases of goods for resale (typically limited to alcoholic beverages). This is an indirect method of verifying sales. In most cases, the method used will be the Mark-up Method just described.
Apart from providing the auditor with a complete set of books and records (very few, if any, restaurants are able to do so), which would prevent the auditor from using an indirect method to verify sales, the restaurant owner must be prepared to provide a meticulous analysis of the reasons that margins on alcoholic categories deviated from the expected margins. To be credible, the documentation and explanations for these variances must be made as close to the time they occurred as possible. You will need to prove that your contentions and explanations are reasonable. In most cases, it will be difficult to prove the reasons for your mark-up variances, unless you kept appropriate records, logs and analyses all along. In many cases, it will be impossible to prove your case. You do not want to find yourself in this position.
In the near future, I will be writing about some of the most important methods of documenting your business operations and results, so that you will be able to fully support the accuracy of your tax filings and provide plausible explanations to the auditor when he or she arrives to audit your restaurant. In effect, I will show you how to “audit proof” your restaurant.