A False Sense of Security

Many restaurant owners think they’re protected from the tax auditors, simply because they have a good accountant.  While that’s true in some cases, just about every restaurant that gets hit with a tax audit reassessment (and usually a large one at that) had a “good accountant”!

In Canada, every restaurant that appealed tax audit reassessments in court had an accountant.  In the U.S., many states publish details of tax appeals by restaurants (informal tribunal appeals, roughly equivalent to Canadian appeals by Notice of Objection).  There are literally thousands of cases and virtually every one had an accountant.  In the vast majority of cases, the restaurants lost their appeals.  I’m sure most of these restaurants thought that their accountant would protect them from these tax reassessments.

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Auditors Don’t Know Your Business

Here’s a bold statement:  tax auditors don’t know your business.

It’s true!  You know it, I know it, even the tax auditors know it!

As a result, you may think you have an advantage over the tax auditors.  Unfortunately, you don’t.  What tax auditors lack in knowledge they make up for by making assumptions about your restaurant.  Often, these assumptions are nothing more than the tax authority’s decisions to use certain “standards”.  For example, the “industry average” shrinkage allowance for draft beer (or liquor, or wine).  Here’s a surprise:  there isn’t one!  In almost every case, the tax auditor makes assumptions that are not favourable to your tax position, leading to large tax reassessments.

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Rampant Restaurant Fraud

The Canada Revenue Agency released some details of their 3-year pilot study (it was only supposed to run two years) of fraud in the restaurant industry.  While not many details were released, you can read the Globe and Mail article, Taxman finds rampant restaurant fraud.

The media’s interpretation of the details that were released is a bit misleading.  Of the 424 restaurants that were subject to scrutiny, it was determined that 143 of them exhibited evidence of fraud by erasing evidence of cash sales from their electronic POS systems.  This is how they arrive at the “one-third” of all restaurants fraudulently hide sales from the taxman. Further, almost $1 million of hidden sales were revealed for each fraudulent establishment ($141 million).

So what’s misleading about that?

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The Real Threat

Despite what has been published in the press and disclosed by the CRA and the Ministry of Revenue Quebec (MRQ), the use of zappers has not reached epidemic proportions in the restaurant industry.  Zappers have been around since the mid-1990s, though most of the usage seems to have been confined to Quebec.  In fact, the vast majority of the convictions for sales tax evasion have occurred in Quebec.  For background on the use and abuse of zappers, please read this, this, and this.  The unfortunate thing about all of this attention is that it may draw our attention away from a far larger threat to our operations.  The indirect audit approach.

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Restaurant Tax Fraud – Then and Now

Recently, we’ve begun to hear a lot more about tax evasion in the restaurant industry.  More specifically, we’re talking about technologically-assisted tax fraud, using zappers or phantom-ware.  It made the news, again this past week, when it was disclosed that the Canada Revenue Agency had found more than $40M of unreported tax in the restaurant industry attributed to the use of zappers.  Today’s post looks at the issue of tax fraud in the restaurant industry and tries to determine how “rampant” it might be.

While tax fraud can occur in many different ways, when we talk about the restaurant industry, it usually takes the form of cash sales “skimmed” off and not reported for tax purposes.

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It’s Going to get a Whole Lot Worse!

I don’t want to scare you, but I feel it is my duty as a fellow restaurateur and as an accountant.  After reading this headline, many of you will think this blog entry is going to be about the economy and how it will affect your restaurant business.  As for the economy, I think the worst is behind us, but there is another threat to your business that is going to be a lot worse in the next few years.  Let me explain…

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Zapper Update

Today’s Toronto Star ran an article about restaurants hiding cash income.  You can find it here:  Restaurant probe finds $40M in ‘phantom’ sales.

Until recently, most detective work surrounding the use of zappers had been focused in Quebec.  Now, we find out that the CRA has been involved in a two year, national probe of the restaurant industry.  So far, they’ve found about $40 million of unreported income, though they expect to find much more by next March when the study is completed.

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