Employee could be on the hook for taxable-benefit errors

Canadian income tax form. Photo by Getty Images

When it comes to calculating taxable benefits, one of the most important issues payroll practitioners face is putting a value on the benefit. Mistakes can be costly.

"If the Canada Revenue Agency (CRA) reviews the amount that the employer has ascribed to a benefit in the T4 slip and determines that the amount is either too high or too low, it will not hesitate to challenge the employer’s decision. This will result in a tax assessment against the employer, the employees or both," says Adrienne Woodyard, a partner in the tax law group at the firm Davis in Toronto.

The CRA (and Revenu Québec) requires employers to assess taxable benefits based on fair market value minus any amounts the employee paid for them.

The CRA defines "fair market value" as "the highest price that can be obtained in an open market between two parties dealing at arm’s length." Payroll must value taxable benefits on this amount and not on how much it cost the employer to provide the benefit, says Woodyard.

"The employer may, for example, obtain a bunch of gift cards at a discount from one of its customers and distribute those gift cards to the employees. Even though the employer’s cost of the gift card was reduced, the amount to be included in the employee’s income for tax purposes is the face value on the card," she says.

"Even though it seems unfair that the employees will have ascribed to them a benefit that is greater than what it actually cost the employer, that won’t make any difference. The employee will pay full freight."

Woodyard adds that there can be serious consequences for under reporting a taxable benefit, starting with the Canada Pension Plan (CPP) and employment insurance (EI). "An employee’s annual CPP contributions and EI premiums are calculated on the basis of their earnings and an employer’s contributions and premiums are based on the employee amount. Therefore, if there is an underreporting of a taxable employment benefit, there may also be a shortfall in the CPP and EI paid by and on behalf of the employee."

"And if there is a shortfall, that’s the employer’s problem. The employer will be required to pay the shortfall on behalf of both the employer and the employee, plus interest, plus a penalty. The employer can sometimes recover the employee portion from the employee’s future paycheques, but this is by no means guaranteed, especially if the employee later resigns or is fired," she says.

"If the employee remains employed, the employer can recover those amounts, but the employer is tied to a very fixed recovery schedule and they can’t recover any CPP or EI that has been outstanding for more than one year, so if you have under reporting that goes back two or three years, then the employer will not be able to recover the full amount."

The problem for the employee can be even worse when it comes to income tax. "Depending on the amount of the benefit and the amount of the under reporting, this could mean the employee will have hundreds, if not thousands, of dollars in unexpected taxes to pay, plus interest and penalties," says Woodyard.

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