Canada: Some Changes Ahead For The Tax Objection And Appeal Process Of The Canada Revenue Agency

On November 29, 2016, the Auditor General of Canada released the 2016 Fall Reports, including "Income Tax Objections", regarding the Canada Revenue Agency's (CRA) management of income tax objections. This bulletin provides an overview of the Report and highlights its recommendations and the CRA's responses and plans for improvement.

The Office of the Auditor General sought to answer a simple question: Is the CRA effectively managing income tax objections? In answering "no", the Report found that the CRA did not generally:

  1. Process income tax objections in a timely manner
  2. Adequately measure its performance results, and its performance indicators were incomplete and inaccurate
  3. Adequately review decisions on income tax objections and appeals and did not share the results of these objections and court decisions within the CRA

REPORT OVERVIEW

The Office of the Auditor General conducted an independent examination (Audit) of the CRA's Appeals Branch to provide objective information, advice, and assurance to assist Parliament in its scrutiny of the government's management of resources and programs.

The Audit covered the period between April 1, 2011 and March 31, 2016 and focused on objections and appeals related to personal and corporate tax returns. The Audit sought to determine whether the CRA was efficiently managing income tax objections. To assess efficiency, the Audit examined the time the CRA took to provide taxpayers with decisions on their objections. To identify where delays occurred, the various stages in the objection process were reviewed. The Audit also considered how the CRA used and communicated information internally on the results of objections and court decisions.

FINDINGS, RECOMMENDATIONS AND RESPONSES

What follows are the highlights of the Report's findings and their implications, as well as the Report's recommendations and the CRA's responses to such recommendations as well as their plans for improvement. Various charts depicting the number, outcome and tax amounts involved in group and non-group objections can be found in Schedule A. "Group" files contain objections with respect to the same claims, or similar claims, that the CRA may consider to represent tax avoidance. For efficiency and consistency, the CRA does not typically process "group" files until a final decision is made on a lead case. The Report focused on non-group files and this bulletin does the same.

The report highlighted and made recommendations on the following six problem areas:

  1. Timing: The CRA did not resolve income tax objections in a timely manner and did not effectively communicate expected delays to the taxpayer.

The Report compared the CRA's performance to that of similar tax administrations in six other countries and found that Canada took the longest to resolve objections. Canada took an average of 276 days compared with an average of 70 days for the other six countries, according to data from 2009, contained in an international benchmarking study reported in 2011 by the United Kingdom's tax authority, HM Revenue and Customs.

The CRA's acknowledgement letter to the taxpayer's notice of objection did not provide an estimate of the waiting period to resolve the objection, and this information was not publicly available. The taxpayer remained unaware at the time of filing how long it could take the CRA to resolve the objection.

Recommendation: The CRA should provide taxpayers with the time frames within which it expects to resolve their objections and the time frames should be based on the objections' level of complexity.

Response: The CRA agreed and explained that this information will be provided to taxpayers within the 2016–17 fiscal year. It also explained that expected and actual time frames related to complexity will begin to be shared with the general public on the CRA's website by March 31, 2017. Also, by the end of the 2016–17 fiscal year, the CRA will clarify, on its external website, the steps to resolving taxpayer disputes, including the requirement to provide any relevant information.

  1. Management of growing number of objections: The growth rate in the number of new objections far outpaced the increase in resources the CRA dedicated to managing them. Specifically, in the past 10 fiscal years, the number of outstanding income tax objections increased by 171 per cent, from 63,384 to 171,744, while the number of employees dedicated to resolving these objections increased by only 14 per cent, from 998 to 1,138.

Recommendation: The CRA should develop and implement an action plan with defined timelines and targets to reduce the number of outstanding objections to a reasonable level.

Response: The CRA agreed and explained that, by early 2017, it will develop a strategy for reducing the backlog of unresolved objections in order to respond to taxpayers in a more timely fashion.

  1. Processing times and reasons for delay: Processing of objections was often delayed because notices of objection sent by taxpayers were missing information. The appeals officer was usually the first to identify such missing information and most objections were not assigned to appeals officers until, on average, 150 days after the taxpayer had mailed the notice of objection. This caused delays in requesting the information from taxpayers and such delays hindered the CRA's ability to resolve objections in a timely manner.

When seeking technical assistance from other areas within the CRA, appeals officers sometimes waited months, or even years, before receiving responses to their referrals. Six per cent of the resolved objections needed to be referred elsewhere within the CRA and the appeals officers waited, on average, 401 days to receive a response.

Why is this important? Taxpayers need to know how long the objection process is likely to take because this information could affect their decision to object to an assessment. The CRA charges interest and penalties on taxes assessed, but not on taxes paid. A taxpayer who files an objection generally may pay all or part of the amount in dispute up front or may choose to wait for the CRA's decision. Taxpayers that are "large corporations" must in any event pay 50 per cent of the tax in dispute and if they are ultimately successful, will receive only a modest "prescribed" interest refund on these amounts, and that refund is itself taxable.

Recommendation: The CRA should conduct a complete review of the objection process to identify and implement modifications to improve the timely resolution of objections.

Response: The CRA agreed and explained that, beginning in fall 2016, it will conduct a review of the objections process. To ensure that files are complete when assigned to appeals officers, beginning in the 2017–18 fiscal year, taxpayers will be contacted to provide missing information as part of the initial step when objections are received.

  1. Performance measurement indicators: The CRA's method of measuring timeliness was neither consistent nor complete and did not provide an accurate measure of the time it took to process an objection.
    1. Definition of "timely": The CRA did not define what constituted "timely", and consequently could not determine what would be considered a reasonable amount of time for resolving objections.
    2. Indicators and external reporting: The CRA had not developed a complete set of indicators for measuring the time it takes to process an objection. Its indicators only considered the objections' complexity. There were no indicators for other steps in the objection process, such as timelines for assigning an objection to an appeals officer or for processing a referral. There was also no overall indicator for the time the CRA should take from its receipt of the notice of objection to its resolution of the objection.
    3. Data errors: The CRA's information system did not have sufficient controls in place to ensure data integrity. For example, it was possible to enter a date for completing an objection that preceded the date for receipt of the objection, and in such cases, the error was not flagged by the system.

Why is this important? The CRA cannot determine whether it is meeting its mandate for the timely review of objections if it cannot accurately measure its performance.

Recommendations:

  1. Definition of "timely": The CRA should define what it considers to be a "timely" resolution of an objection.
    Response: The CRA agreed and explained that, for the 2017–18 fiscal year, it will implement and publicly report a standard for the resolution of low-complexity objections, which represent approximately 60 per cent of objections. This standard will be to respond to taxpayers within 180 days, 80 per cent of the time.
    The CRA will also establish a measurement for the timely resolution of medium-complexity objections, which represent 35 per cent of objections, by the end of the 2016–17 fiscal year, and publish this measurement in the 2017–18 fiscal year.
  2. Indicators and external reporting: The CRA should modify its performance indicators so that it can accurately measure whether it is providing a timely review. These indicators should include all steps in the process and should be consistent year-over-year so that the CRA can assess its performance over time. The CRA should also report these indicators, related targets and results to Parliament, and communicate them to taxpayers.
    Response: The CRA agreed and explained that it is currently introducing new indicators for the timely review of objections and that such indicators will be included in its Departmental Performance Report. It will also publish a description of the complexity of objections on its website by the end of the 2016–17 fiscal year.
  3. Data errors: The CRA should add appropriate controls to its objection process and its information systems to ensure the integrity of its data.

Response: The CRA agreed and explained that new data validities will be incorporated into the current system in upcoming release cycles in fall 2016, in May 2017, and on an ongoing basis.

  1. 65 per cent of objections in favour of taxpayers: 65 per cent of objections reviewed by the CRA were decided in favour of taxpayers for either all or part of the disputed tax amounts.

Of these decisions, C$6.1-billion in assessed taxes, out of a total C$11.6-billion in dispute, were favourably allowed to taxpayers. The CRA also cancelled almost C$1.1-billion in penalties and interest related to the objections.

In many cases, the objections were allowed in full or in part because the taxpayer provided additional information that supported the objection.

Why is this important? A high rate of objection decisions in favour of taxpayers may indicate problems with the assessments.

Recommendation: The CRA should review the reasons objections are decided in favour of taxpayers so that it can identify opportunities to resolve issues before objections are filed.

Response: The CRA agreed and explained that quarterly reporting, containing reasons for objections decisions, will be issued to audit and assessing areas starting in the third quarter of the 2016–17 fiscal year.

  1. Communication of results within CRA: The CRA did not adequately share information about the results of objections or appeals with the CRA's auditors, assessors, or appeals officers. This restricted the ability of the CRA to learn and improve its performance.

Why is this important? Assessment decisions that are overturned through the objection process or through the courts may signal inconsistencies in assessment or objection processes. Sharing information about overturned assessments could ultimately reduce the numbers of objections and appeals.

Recommendation: The CRA should ensure that decisions on objections and appeals are shared in such a way that those performing assessments can use that information to improve future assessments.

Response: The CRA agreed and explained that it is committed to ensuring that objections and appeals decisions are shared with all assessing and audit areas.

POSSIBLE TAXPAYER IMPLICATIONS

Pros

  1. The CRA's suggested changes may give rise to some benefits for taxpayers: faster service and speedier resolution of disputes. Objections will likely be resolved more quickly if taxpayers are contacted to provide missing information as part of the initial step when objections are received.
  1. A reduced backlog may enable CRA personnel to consider the merits of a taxpayer's objection thoughtfully and without haste.
  1. There should be improved access to justice for individuals who hope to resolve matters without the need to go to tax court, when matters involving certain tax credit and tax deduction claims are in issue.
  1. Assessment decisions that are overturned in the objections process or through the courts might more clearly signal inconsistencies in the CRA's assessment and/or objections processes.
  1. The sharing of information about overturned assessments might help assessors, auditors and appeals officers to deliver more accurate and more consistent decisions and to not make similar mistakes. These actions could ultimately reduce the numbers of objections and appeals.

Cons

  1. The proposed changes may also lead to a greater number of tax court appeals and fewer matters successfully settled at the CRA internal appeals level given the greater scrutiny about results and timelines. Some CRA appeals officials may choose not to allow objections given the need to resolve matters quickly or may not settle matters favourably to a taxpayer's satisfaction within the timelines prescribed to complete a file.
  1. It is not likely that the Report's recommendations will give way to the speedier and more frequent resolution of complex tax objections and appeals involving transfer pricing, avoidance transactions and perhaps even scientific research and experimental development. CRA officials likely will continue to refer these matters for review by other CRA personnel, resulting in a lengthy review process, often without any resulting resolution of the dispute.

CONCLUSION

The CRA has indicated that it will implement procedural changes at the beginning of 2017. Taxpayers should still expect delays in the processing of objections until the backlog is reduced.  

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