This article appears in the October 2021 issue of Advisor’s Edge magazine. Subscribe to the print edition, read the digital edition or read the articles online.
If you have clients who are self-employed and deducting business expenses on their tax returns, they need to keep receipts. Otherwise they could face an uphill battle with the Canada Revenue Agency over the validity of their expenses.
Fortunately, there’s precedent for allowing expenses to be claimed even without receipts if the CRA (or, ultimately, the court) believes the expenses were actually incurred. This includes expenses paid in cash.
In a technical interpretation, the CRA was asked whether it has the right to demand a receipt to support a taxpayer’s deductible expense claim. The taxpayer asking the question had encountered a service provider who didn’t routinely provide a receipt and charged a higher price to produce one.
The CRA responded that, while there is no legislation that requires a business to provide a receipt to acknowledge payment for services rendered, the Income Tax Act says that a taxpayer must keep adequate books and records “in such form and containing such information as will enable tax payable to be determined.”
In the absence of a receipt for an expense that a taxpayer is attempting to claim, the CRA went on to say, “It is open to you to substantiate that you paid for that service.” A copy of the invoice for services rendered together with a cancelled cheque in lieu of a receipt would suffice, for example, as would an itemized monthly bank statement showing that the invoice was paid.
There have been a variety of cases in which the CRA, and later, the courts, have denied business expenses in the absence of receipts as there was simply not enough other evidence to prove the expenses were incurred. As the Federal Court of Appeal wrote in one case, “As a public policy matter the burden of proof of deductions and claims properly rests with the taxpayer…, [who] is responsible for documenting her own personal affairs in a reasonable manner. Self-written receipts and assertion without proof are not sufficient.”
Not surprisingly, this issue isn’t unique to Canada. The Internal Revenue Service takes a similar stance when it comes to deducting undocumented expenses, as demonstrated in a U.S. Tax Court decision released in late June involving an Uber driver.
The case involved an Arizona taxpayer who not only drove for Uber but purchased additional vehicles, financing many of them, and convinced others to drive them — all using his own Uber account. From Uber’s point of view, the company was only paying him, depositing funds weekly into one bank account.
For the 2015 tax year, Uber reported total payments to the taxpayer of $542,000 but withheld fees totaling $143,600 (all figures in U.S. dollars). Each week, after Uber deposited his earnings into his bank account, the taxpayer withdrew cash personally and moved other amounts into a second bank account. He paid some of his drivers with the cash and others via electronic transfers. During the 2015 tax year, the electronic transfers to other drivers totalled $157,800.
The taxpayer reported wage income of only $19,000 on his 2015 tax return. The IRS audited him and reassessed him for the entire $542,000. The court initially allowed a deduction for the Uber fees and the electronic transfers to other drivers, which left about $240,000 in gross income to be taxed.
The taxpayer asked the U.S. Tax Court for a review and to allow a variety of vehicle expenses, as well as the cash payments to other drivers, as tax deductions. The Tax Court judge acknowledged that “the Court may estimate the amount of the expense if the taxpayer is able to demonstrate that he has paid or incurred a deductible expense but cannot substantiate the precise amount, as long as he produces credible evidence providing a basis for the Court to do so.”
But the judge went on to say that the taxpayer “gave us no basis on which to estimate how much he paid, and we are unable to hazard a guess as to what additional amounts might be properly deducted or excluded from his gross receipts. Without such a basis, any additional allowance would amount to unguided largesse.”
The taxpayer lost the case — reminding us, once again, of the importance of keeping receipts for expenses we plan to deduct come tax time.
Jamie Golombek, CA, CPA, CFP, CLU, TEP is managing director, tax and estate planning, at CIBC Private Wealth Management in Toronto