Pending income tax issues: December 2, 2003.

• Position: Canada Customs and Revenue Agency

On December 2, 2003, Tax Executives Institute held its annual liaison meeting with officials of Canada Customs and Revenue Agency on pending income tax issues. Reprinted below is the agenda for the meeting, which was prepared under the aegis of TEI's Canadian Income Tax Committee, whose chair is Monika M. Siegmund of Shell Canada Limited.

Tax Executives Institute welcomes the opportunity to present the following comments and questions on income tax issues, which will be discussed with representatives of the Canada Customs and Revenue Agency (hereinafter, "CCRA" or "the Agency") during TEI's December 2, 2003, liaison meeting. If you have any questions about the agenda in advance of the meeting, please do not hesitate to call either Mario M. Tombari, TEI's Vice President for Canadian Affairs, at 514.932.6161 ext. 2943 or Monika M. Siegmund, Chair of the Institute's Canadian Income Tax Committee, at 403.691.3210.

1. CCRA's Corporate Business Plan

   CCRA's corporate business plan for 2003-2004 to 2005-2006 includes a number of initiatives and objectives of interest to TEI. At the outset of the meeting, we invite CCRA to elaborate on its action plans and timetable for implementing the key points from CCRA's summary of the business plan, as follows:

   1. [CCRA] will create an on-line portal for tax professionals, enabling them to manage their clients' accounts on-line, and [CCRA] will implement a suite of electronic services for large businesses that will support real-time interactions such as status inquiries, transfer of credits, and on-line appeals. [Page 29.]

   2. [CCRA] will assign account managers to large businesses to manage their relationship with the CCRA across all agency functions. [Page 30.]

   3. [CCRA] will inform businesses about questionable tax schemes [it] intends to scrutinize and develop processes that will allow businesses to tell [CCRA] about novel tax plans or arrangements so [CCRA] can clarify [its] position early. [Page 31.]

   4. To improve [CCRA's] capacity to identify and measure non-compliance, [CCRA] will fully implement [its] new compliance measurement framework, including developing a comprehensive set of compliance indicators. [Page 43.]

   5. Over the planning period, [CCRA] will take action to limit the rate of growth of accounts receivable and convert outstanding amounts to cash to avoid jeopardizing timely collection. [Page 43.]

   6. By 2005-2006, [CCRA will] meet anticipated audit coverage levels (to be revised as necessary to account for increased population growth and adjustments in funding):

      * Large corporations--60% for large files and 20% for basic files;

      * Small and Medium business--1.16% for unincorporated businesses and 1.26% for corporate files;

      * GST/HST--1.38% [Page 46];

      * For example, shifts in the make-up of the labour market, such as the increase in the number of self-employed Canadians and those in the construction labour category, are both considered areas of higher compliance risk [Page 25].

   7. Appeals--By December, 2003, [CCRA] aims to fully implement a Risk Management Framework, which will improve our capacity to promote the consistent and fair resolution of disputes and litigation within a reasonable time. This will include the development of "complexity factors" to enable [CCRA] to determine the human and financial resources required for the effective management of files. [CCRA's] aim is to resolve more cases administratively and for those that do proceed to court, to increase the number resolved in favour of the CCRA. [Page 55.]

2. Dispute Resolution

   Senior members of the Agency and the Department of Justice have expressed concerns about the growing number and scope of procedural and substantive tax matters being litigated in Canada. Although TEI is unaware of a formal study documenting an increase in litigation, members' anecdotal experience supports the view that, at least with respect to large taxpayers, there has been an increase in frequency, scope, and magnitude of disputes as well as an increase in the number of cases and issues that are not resolved administratively. Moreover, TEI shares the government's concern about the efficiency of litigation for resolving disputes and its efficacy in establishing sound tax policy and administration.

   At the 2003 Canadian Tax Foundation Conference in Montreal, one commentator suggested that increased litigation is an inevitable consequence of a mature tax system. Although that proposition may have some basis--since complex legislation such as the Income Tax Act (hereinafter, "the Act") will inevitably spawn issues where taxpayers and the government cannot agree and interpretative guidance from the courts is essential--we believe there are institutional and procedural issues that CCRA should address in order to reduce the scope and number of disputes and increase the number of cases that are resolved prior to the commencement of litigation.

   In creating the Agency, Parliament articulated a very specific Mandate. (1) In our view, that Mandate directs the Agency to enforce the laws as written by Parliament and as interpreted by the courts in a neutral fashion without favouring the Government or the taxpayer. In our experience, the vast majority of Agency employees carry out that task with great professionalism. Regrettably, there are exceptions and there are three related areas where institutional improvements would enhance issue resolution at an earlier stage:

1. Short of litigating an issue, few large-case taxpayers believe they can successfully appeal and administratively reverse an audit adjustment once the audit is concluded. There are multiple steps that CCRA should consider to improve the audit and post-audit dispute resolution processes. First, there is no mechanism to sever a contentious issue from the audit for resolution through a separate and distinct process. (2) Disagreements over a single, large issue may undermine the relationship between the auditor and the taxpayer making resolution of other issues and the overall case more difficult. Second, review committees, such as the GAAR Committee, have fundamentally flawed structures because taxpayers are denied access to make direct representations to the committee while the "issue advocate" for the assessment is permitted to make direct representations to the Committee or serves on the Committee itself. (3) Third, CCRA should conduct audit quality reviews in the Tax Services Offices (TSO) to ensure the accuracy of the adjustments and the soundness of the legal basis for the asserted positions. Finally, in large-case files the Appeals Division rarely reverses an audit determination. The factual and legal issues are frequently complex and Appeals may be unwilling to independently reconsider issues raised by a large-case auditor. We recommend that CCRA consider establishing a specialized, highly trained Appeals group for resolving large-case files.

2. A perception remains that "issue advocates" (whether GAAR, transfer-pricing, SR&ED, etc.) are accorded too much deference within CCRA. The opinion of the "advocate," whether as part of an audit team, a local office, or Head Office, prevails in nearly every situation. TEI has consistently said that clear lines of accountability and authority for overall decision-making on audits are necessary.

3. CCRA's audit positions would be enhanced, i.e., challenged less often and sustained more frequently by the courts, if greater emphasis were placed on articulating a persuasive legal and factual basis for an adjustment before the reassessment is issued. Far too often, the first time CCRA presents taxpayers with a reassessment supported by the statutes and the case law is during litigation. Taxpayers continually make representations to CCRA during the audit. CCRA should consider making similar representations to taxpayers during the audit.

   We invite CCRA's comments.

3. Consultative Process

   TEI commends the Agency for the consultative process employed in drafting the amended Interpretation Bulletin on interest deductibility. The process was open, transparent, iterative, and interactive with taxpayers and advisers. It produced an excellent Bulletin with an incisive, well-reasoned exposition of CCRA's administrative position that is supported by the Act and legal precedents. Indeed, this process should serve as a model for developing new Interpretation Bulletins and amending existing Bulletins as well as for formulating and amending the Agency's administrative practices. Would the Agency please provide its views on the efficacy of the interest deductibility consultative process and the possibility of using that process in formulating or reformulating other, prospective administrative positions and practices?

4. Large Corporation Audits, Objections, and Appeals

   Under the New Directions initiative, CCRA is seeking to accelerate the audits of large corporations. TEI supports the New Directions initiative generally, including the accelerated audit approach because it would afford taxpayers finality and certainty in respect of their reported tax liabilities at an earlier date.

   Regrettably, restrictions that limit large corporations' ability to file objections temper our enthusiasm for the acceleration of audits. Under the current rules, large corporations must identify all issues requiring adjustment, including affirmative claims, when filing a Notice of Objection. Once a taxpayer files an objection, it is precluded from raising new, affirmative issues. As a result, large corporations generally withhold their objections until the "audit" assessment, which, absent the initiative to accelerate audits, generally occurs near the end of the normal reassessment period. Hence, under current practices CCRA and large corporations have a generally fair and nearly equal opportunity to identify new matters.

   Under the audit acceleration...