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Courts Support use of 'requirement' letters
By Ed Kroft, LLB, LLM, CGA (Hon.)


The Income Tax Act (“the Act”) contains various provisions that entitle the Canada Revenue Agency (“CRA”) to request documents and information from taxpayers as well as from third parties. These provisions are found in sections 231.1 to 231.7 of the Act. In most routine tax audits, tax auditors obtain documents and information under Section 231.1. However, when documents are requested from third parties or from taxpayers who may not willingly provide the documents or information, CRA auditors resort to the use of “Requirement Letters” permitted by sections 231.2 and 231.6 of the Act.

Recently there have been a number of cases involving the use of requirements by the CRA in which the courts have upheld the exercise of this power. One case that received a lot of publicity involved eBay Canada (“eBay”). eBay was not happy with the CRA’s demand to produce records and documents about its Canadian customers under its “Power Sellers” program. The CRA is interested in determining whether these Power Sellers have reported income with respect to their sales transactions through eBay. eBay challenged the agency’s ability to obtain information about Canadian residents, when such information was located in a foreign jurisdiction and owned by a related entity outside Canada. eBay also argued that the CRA was not conducting a genuine and serious enquiry in auditing the group identified as Power Sellers. On the first count, the Federal Court of Canada determined that the CRA was entitled to obtain information on computer servers located outside of Canada because eBay had access to such information in the course of conducting its business within Canada. As for the point regarding the “genuine and serious enquiry,” the Federal Court of Canada reserved its decision, pending a decision of the Federal Court of Appeal in the Greater Montreal Real Estate Board case.

In Greater Montreal Real Estate Board, the taxpayer was a non-profit organization whose mission was to promote and protect its members’ professional and business interests and represented about 71 per cent of the real estate agents and brokers in Quebec. The CRA embarked on a project in 2004 to audit real estate agents and brokers living or having their place of business within the territory. The CRA was concerned that the real estate agents or brokers were not reporting commissions received from the sale of properties. The CRA obtained a court order requiring the Greater Montreal Real Estate Board to provide a list containing the names and other detailed information about its members and a list of properties sold by these agents.

In this case, the Greater Montreal Real Estate Board challenged the court order obtained by the CRA on the basis that the members whom the CRA was attempting to audit were not identifiable or ascertainable. Second, the taxpayer argued that there was no genuine and serious enquiry by the CRA pertaining to the group which was allegedly being audited by the CRA.

The Federal Court of Appeal rejected the taxpayer’s arguments on both counts and, in particular, argued that the text of Section 231.2 had been amended such that Parliament was now permitted to conduct a “fishing expedition” so long as the CRA obtained a court order permitting it to do so. The Federal Court of Appeal rejected the taxpayer’s argument that an “audit project” is not an “audit” and minimized the impact of earlier case law such as Richardson and Canadian Imperial Bank of Commerce which had put some restraints on the CRAs’ ability to conduct a “fishing expedition.” The Greater Montreal Real Estate Board sought leave to appeal to the Supreme Court of Canada but the Supreme Court of Canada declined to hear its case.

Once eBay received word that Greater Montreal Real Estate Board had been decided to its detriment, it was faced with the requirement to provide the information demanded by the CRA. However, eBay appealed the decision of the Federal Court of Canada and asked the Federal Court of Appeal to stay its obligation to provide documentation to the CRA pursuant to the requirement until after the conclusion of its appeal. The Federal Court of Appeal refused to do so and the information was provided by eBay and is available to be used by the CRA in the course of its audit pending a conclusion to the contrary by the Federal Court of Appeal in the course of determining the merits of the eBay appeal.

The preceding two cases deal with requirement powers under Section 231.2. Under Section 231.7 of the Act the CRA can compel performance of a taxpayer’s obligation through a compliance order, or may prosecute a taxpayer under Section 238 of the Act for failure to comply with the requirement. Furthermore, the CRA may concurrently issue a requirement letter compelling the provision of foreign-based information under Section 231.6 of the Act. Failure to comply with Section 231.6 prohibits the taxpayer from using the documents not disclosed in any subsequent court proceeding to advance its case.

Defences may be available to taxpayers faced with the receipt of CRA requirement letters. Documents and information must be relevant and must be sought for the purposes of administration and enforcement of the Act. Documents and information subject to solicitor-client privilege are also not compellable. Furthermore, there are also strict time limits within which documents or information must be provided and, to the extent such time limits are not reasonable, the reasonableness of such time limits may be challenged in the Federal Court of Canada.

In February 2008, the Supreme Court of Canada heard a case regarding the scope of the CRA’s audit powers under Section 231.1 of the Act. In Redeemer Foundation, the taxpayer was under audit. In the course of that audit, the CRA requested information relating to taxpayers who made donations to the Redeemer Foundation. The Redeemer Foundation stated that it did not have to comply with this request because no court order was first obtained relating to such unnamed persons. The CRA asserted that no court order was required because information was being sought in the course of the audit of the Redeemer Foundation itself and any third-party information could properly be obtained in the course of an audit of the Redeemer Foundation and used against these third parties. A decision is pending from the Supreme Court of Canada. It will be interesting to see the extent to which the CRA is further able to use its audit powers to obtain third-party information under section 231.1 of the Act other than by issuing requirement letters under sections 231.2 or 231.6 of the Act.


Ed Kroft, LLB, LLM, CGA (Hon.), is a partner in the Vancouver offices of McCarthy Tétrault, Barristers and Solicitors, which has more than 40 tax lawyers across Canada. His practice is limited to taxation.

 

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