A business owner is generally required to keep books and records for minimum of six years
Under the Income Tax Act, Canadian small businesses can generally deduct business expenses if they were incurred for the purpose of earning business income as opposed to personal expenses. However, the Income Tax Act also imposes an obligation on business owners to keep books and records for a minimum of six years with certain exceptions.
If a business owner fails to provide these supporting documents during an audit, the CRA will likely disallow such business expenses. Still, a business owner who cannot provide such supporting documents is not entirely out of luck, tax case law indicates a business owner is still entitled to claim such expenses if credible oral evidence is provided.
Case law indicates a lack of adequate books and records does not mean the CRA should disallow the expenses
The term "records" is defined under the Income Tax Act to include an "account, an agreement, a book, a chart or table, a diagram, a form, an image, an invoice, a letter, a map, memorandum, a plan, a return, a statement, a telegram, a voucher, and any other thing containing information, whether in writing or any other form." Therefore, a lack of adequate books and records does not, by itself, allow the CRA to disallow an expense. The Supreme Court of Canada sets out the following rule in Hickman Motors Ltd v R, 1997 CarswellNat 3096:
- Where the Income Tax Act does not require supporting documentation, credible oral evidence from a taxpayer is sufficient, notwithstanding the absence of records.
The CRA also acknowledges in Chapter 10 of its audit manual that the Income Tax Act provides no specific requirement to keep records:
- "There are no specific statutory requirements as to the precise nature of the books and records that a taxpayer/registrant must keep."
In Benjamin v The Queen, 2006 TCC 69 (CanLII), former Chief Justice Bowman summarized the state of the law regarding supporting documentation in the following paragraph:
- Whatever may be the policy of the CRA to require documentation to support an expense, a payment or a deduction, it is not the policy of this court unless the taxing statute specifically requires it (as for example, in the case of charitable donations). If a taxpayer in court can demonstrate through credible oral testimony that a payment was made or an expense incurred, the court must make a finding based on that evidence and give effect to it. The court cannot avoid its responsibility to base its conclusions on the evidence adduced by saying in effect, "It doesn't matter how credible your testimony is, if you don't have a piece of paper you must necessarily lose".
In Jorgensen v R, 2009 TCC 37, Shridan J. reiterated the court's position that there is no specific requirement on the form of supporting documentation as long as it is adequate to prove the expenses incurred:
- Certainly the Appellants would have been well advised to maintain a daily record of the Truck's use. However, the standard for records keeping is one of adequacy, not perfection. While the Appellants did not keep a formal log, they did maintain sufficient source records of their business activities to allow them, when requested to do so by the auditor, to reconstruct a reasonable diary of the business use of the Truck. In respect of their farm machinery and equipment sales business, the records track their attendance at various auctions throughout rural Saskatchewan and in larger centers such as Regina, Calgary and Edmonton.
Pro tax tips: The burden of proof to claim business expenses is adequacy, not perfection
Although it is always recommended for business owners to keep proper supporting documentation for business expenses, many business owners still fail to do so. Luckily, the burden of proof to claim business expenses under case law is adequacy, not perfection.
Unfortunately, the CRA does have a tendency to simply deny the business expenses if there's a lack of books or records. In that case, filing a notice of objection or appealing to the Tax Court of Canada may be the only alternative, and it is highly recommended for a taxpayer to consult with one of our experienced Toronto tax lawyers to ensure that your legitimate business expenses are not improperly denied by the CRA tax auditor.
FAQ
How long should a business owner keep its books and records?
Under the Income Tax Act, a business owner is generally required to keep books and records for a minimum of six years from the end of the last year to which they relate. There are certain exceptions that are set out in section 5800 of the Income Tax Regulations or when the CRA gives written permission for their disposal.
What does the term "records" mean?
The term "records" is defined under the Income Tax Act, and it includes an account, an agreement, a book, a chart or table, a diagram, a form, an image, an invoice, a letter, a map, memorandum, a plan, a return, a statement, a telegram, a voucher, and any other thing containing information, whether in writing or any other form.
Can you claim business expenses without supporting documentation?
Yes. First of all, there is no specific requirement regarding the format of supporting documents you must keep. Secondly, case law indicates even oral evidence is sufficient for a business owner to claim business expenses if it's credible.
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