Overview – The Burden to Challenge the Factual Basis of the Tax Reassessment
In 2251102 Ontario Inc. v. The King, 2026 TCC 61, the Tax Court of Canada considered whether a taxpayer can successfully challenge a tax reassessment based on a net worth analysis where the CRA has relied on indirect methods due to inadequate books and records.
The case arose from multiple tax reassessments issued against both a closely held corporation and its active shareholder following a Canada Revenue Agency (CRA) audit that identified discrepancies between reported income and household expenditures. The CRA concluded that the taxpayer had received unreported income sourced from the corporation's operations and reassessed both the corporation for unreported revenues and the shareholder for benefits under subsection 15(1) of the Income Tax Act.
Rather than turning on traditional disputes regarding business income characterization or deductibility, the case focused on the evidentiary and procedural framework governing a tax reassessment based on an indirect method. Specifically, the Court examined whether the CRA's use of the net worth method was justified and whether the taxpayers had discharged the burden of demolishing the underlying assumptions supporting the tax reassessment.
The Tax Court confirmed a well-established principle in Canadian tax litigation: once the CRA issues a tax reassessment—whether based on direct or indirect methods—it is presumed valid, and the burden shifts to the taxpayer to disprove the factual assumptions on a balance of probabilities. Demonstrating flaws in the methodology alone is insufficient. The taxpayer must provide credible evidence establishing an alternative explanation for the assessed income or showing that the amounts are not taxable.
In this sense, 2251102 Ontario Inc. v. The King is not simply a case about bookkeeping deficiencies or audit technique. It reflects a broader structural rule governing tax reassessment disputes in Canada: where records are inadequate, and the CRA relies on a net worth analysis, the evidentiary burden on the taxpayer becomes decisive. Given that, taxpayers facing similar tax reassessments—particularly in cash-based businesses or closely held corporations—should seek early guidance from an experienced Canadian tax lawyer to properly challenge the basis of the tax reassessment before it becomes determinative.
Net Worth Audits: Beyond Reported Income
The CRA may conduct a net worth audit of a taxpayer who seems to have unreported income by measuring assets minus liabilities at the start and end of a period, adding estimated expenses, subtracting unreported income and then assuming the difference to be income. Subsection 152(7) confirms that this can be done with a disregard for what the taxpayer has reported. Net worth assessment is often referred to as a method of "last resort".
How the CRA Came to Issue the Tax Reassessments
The appeals in 2251102 Ontario Inc. v. The King, 2026 TCC 61, arose from tax reassessments issued against both a closely held corporation and its active shareholder following a Canada Revenue Agency audit covering the 2013, 2014, and 2015 taxation years.
Since its incorporation in 2010, the corporation operated a convenience store in Windsor, Ontario, known as "Gemini Market," which was managed daily by its active shareholder. Although ownership of the corporation was split equally between two shareholders, only one was actively involved in the business operations.
For the 2013, 2014, and 2015 taxation years, the shareholder reported relatively modest net income amounts of $16,243, $15,471, and $21,272, respectively. The CRA determined that these reported amounts were insufficient to support the household's living expenses, triggering concerns about unreported income.
As a result, the CRA conducted a net worth audit comparing the taxpayer's reported income with increases in net assets and estimated personal expenditures. This analysis identified discrepancies of $21,166, $25,655, and $38,204 for the 2013, 2014, and 2015 taxation years, respectively. The CRA attributed these discrepancies to unreported income and issued corresponding tax reassessments.
The CRA further concluded that the source of the unreported income was unreported sales from Gemini Market. Consequently, the corporation was reassessed for additional income of $12,281, $22,455, and $39,865 for its 2013, 2014, and 2015 taxation years, respectively. In parallel, the shareholder was reassessed under subsection 15(1) of the Income Tax Act to include corresponding shareholder benefits in the amounts identified through the net worth analysis.
In addition to the unreported income adjustments, the audit identified significant deficiencies in the corporation's books and records. The evidence showed that the bookkeeper used "plug figures" to balance the financial statements, including entries relating to inventory, shareholder loans, and share capital. These deficiencies led the CRA to conclude that the records were unreliable and unsuitable for determining income using conventional audit methods.
The CRA also reduced the corporation's claimed cost of goods sold by $50,000 and $25,000 for the 2014 and 2015 taxation years, respectively, reversing accounting entries that were not supported by actual transactions. The taxpayers challenged the resulting tax reassessments but did not adduce sufficient evidence to substantiate the reported amounts or to provide an alternative explanation for the discrepancies identified through the net worth audit.
Statutory Framework and Burden of Proof in Net Worth Tax Reassessments
The tax reassessments in 2251102 Ontario Inc. v. The King, 2026 TCC 61, were issued following a net worth audit conducted by the CRA. The legal framework governing these tax reassessments is primarily found in subsections 152(7) and 152(8) of the Income Tax Act, which confer broad authority on the CRA to assess tax payable using indirect or alternative methods.
Subsection 152(7) confirms that the information reported by a taxpayer does not bind the CRA and may assess tax payable regardless of whether a return has been filed or whether the reported information is accurate. In this context, the CRA may rely on indirect methods, including a net worth analysis, to determine income. Subsection 152(8) further provides that a tax reassessment is deemed to be valid and binding unless and until it is successfully challenged on objection or appeal.
Canadian courts have consistently confirmed that these provisions allow the CRA to issue tax reassessments using alternative assessment techniques, including where the taxpayer's records may be incomplete or unreliable, or where such deficiencies are not strictly required. As emphasized in Bousfield v. R., 2022 TCC 169, the use of indirect methods is not restricted to situations where traditional audit methods are impossible. However, such methods are generally described as a "last resort."
Importantly, once a tax reassessment is issued, the burden shifts to the taxpayer. The tax reassessment is presumed to be correct, and the taxpayer must challenge the factual basis underlying it on a balance of probabilities. It is not sufficient for a taxpayer to merely argue that the CRA's method is flawed. Rather, the taxpayer must either demonstrate that the income assessed is incorrect or provide a credible alternative basis for determining income.
This principle is critical in net worth audit cases. Courts have repeatedly held that identifying deficiencies in the CRA's methodology does not, on its own, invalidate a tax reassessment. Instead, the taxpayer must either actively disprove the income attributed to them or present a viable alternative calculation supported by evidence.
In addition, subsection 230(1) of the Income Tax Act requires taxpayers carrying on a business to maintain adequate books and records sufficient to determine their tax liability. Where such records are deficient, the CRA is more likely to rely on indirect methods, including net worth analyses, to issue tax reassessments.
Finally, jurisprudence confirms that to challenge a tax reassessment based on an alternative method successfully, the taxpayer must demonstrate that the method is fundamentally unreliable or that specific and material errors exist in its application. Absent such evidence, the tax reassessment will generally be upheld.
Outcome: Tax Reassessments Upheld Due to Insufficient Evidence
In 2251102 Ontario Inc. v. The King, 2026 TCC 61, the Tax Court of Canada upheld the tax reassessments in full, concluding that the taxpayers failed to meet their evidentiary burden.
With respect to the unreported income adjustments, the Court accepted that the CRA was entitled to rely on a net worth audit. The taxpayers did not provide sufficient evidence to challenge the factual basis of the tax reassessments or to establish an alternative source of funds. Assertions regarding income from a separate sole proprietorship were unsupported by documentation or corroborating testimony and were therefore not accepted.
The Tax Court also upheld the adjustments to the cost of goods sold. The evidence demonstrated that the corporation's financial records were unreliable, including the use of "plug figures" to balance accounts. The taxpayers did not adduce evidence to refute the CRA's position or to substantiate the claimed amounts. As a result, the adjustments were sustained.
Finally, the shareholder benefit tax reassessments under subsection 15(1) were confirmed. The Court found that the amounts identified through the net worth audit were properly attributed to the shareholder. The alleged shareholder loan lacked evidence, and the Court rejected the argument that it should reduce the assessed benefit.
In each instance, the Court emphasized that it is not sufficient to question the CRA's methodology. The taxpayers were required to disprove the factual basis of the tax reassessments or provide a credible alternative explanation. Having failed to do so, the tax reassessments were upheld. Accordingly, the appeals were dismissed in their entirety.
Pro Tax Tips – Practical Guidance for Net Worth Audits and Tax Reassessments
The decision in 2251102 Ontario Inc. v. The King, 2026 TCC 61, highlights that tax reassessments arising from net worth audits are rarely overturned by merely identifying flaws in the CRA's methodology. Once a tax reassessment is issued, it is presumed valid, and the burden shifts to the taxpayer to challenge its factual basis with credible and contemporaneous evidence.
From a practical standpoint, taxpayers operating cash-based businesses or closely held corporations must ensure their books and records are complete, accurate, and properly maintained. Deficiencies—such as unsupported entries or "plug figures"—greatly increase the chances that the CRA will rely on indirect methods, including net worth audits, to issue tax reassessments.
Equally important, taxpayers must be prepared to provide a clear, well-supported explanation for any discrepancies identified by the CRA. Unsupported assertions, late-stage explanations, or the absence of corroborating evidence will not be sufficient to displace a tax reassessment.
Considering this, early and strategic legal advice is essential. Taxpayers facing a CRA audit or tax reassessment should consult a top Canadian tax lawyer promptly to evaluate evidentiary risks, craft a strong defence, and effectively contest the factual basis of the reassessment before it becomes final.
In that context, taxpayers with incomplete or unreliable books and records should consider whether a voluntary disclosure might be suitable to correct past reporting issues and potentially reduce penalties before the CRA enforces action. Therefore, consulting an experienced Canadian tax lawyer early on can be crucial in managing both audit risk and potential exposure.
FAQ – Key Questions on Net Worth Audits and Tax Reassessments
Can a taxpayer successfully challenge a tax reassessment by arguing that the CRA's net worth audit is unreliable?
No. As confirmed in 2251102 Ontario Inc. v. The King, 2026 TCC 61, it is not sufficient to question the CRA's methodology. Once a tax reassessment is issued, it is presumed valid, and the taxpayer must challenge its factual basis. This requires either disproving the income attributed to it or providing a credible, supported alternative explanation.
What type of evidence is required to challenge a net worth tax reassessment successfully?
A taxpayer must present clear, credible, and timely evidence to support their position. Unsupported claims, estimates, or late explanations will not be accepted. Specifically, if the CRA finds discrepancies through a net worth audit, the taxpayer has to substantiate the source of funds or prove that the assessed amounts are incorrect. Without such evidence, the tax reassessment will generally stand.