While many Canadians may be excited by the opportunity to sock away another $6,000 in their TFSAs for 2020, others continue to struggle in their battles with the taxman over TFSA overcontribution taxes, penalties and interest, as two recent cases demonstrate.
You’ll recall that overcontributing to a TFSA can be costly. First, there’s the penalty tax of one per cent per month, multiplied by the overcontribution amount for each month you’re over the limit. Next, the overcontribution and penalty tax must be calculated and reported to the Canada Revenue Agency on a special return, due by June 30th following the year of overcontribution. The penalty for late-filing that return is five per cent of the over-contribution tax owing, plus an additional one per cent for each full month that the return is late, to a maximum of 12 months. Arrears interest, at six per cent, compounded daily, is also charged.
The Timmins roofer
In a column last fall, I shared the story of a taxpayer who inadvertently overcontributed $40,000 to his TFSA in 2016. The Timmins, Ont., roofer inadvertently deposited a cheque at a bank machine into his TFSA account rather than his chequing account. The error remained undetected for months as there was enough money in the taxpayer’s chequing account to fund the cheques he wrote and no cheques subsequently bounced. In June 2017, when discussing another matter with the CRA, the agent told him about the TFSA overcontribution at which point it was immediately withdrawn from the account. He was hit with overcontribution tax of $2,370, a penalty for late-filing his TFSA return, along with arrears interest.
In September 2019, the taxpayer went to Tax Court seeking the cancellation of the overcontribution tax, but judge concluded he had “no choice but to dismiss the (taxpayer’s) appeal” because the tax was correctly calculated and therefore the CRA’s assessment was technically correct.
What the taxpayer was seeking, however, was relief and cancellation of the overcontribution tax, penalties and interest due to his bank machine deposit error. Under the Income Tax Act, it is the CRA that has the power to waive or cancel the overcontribution tax if it can be established that the tax arose “as a consequence of a reasonable error” and the overcontribution is withdrawn from the TFSA “without delay.”
In an “afterward,” the Tax Court judge went on to say that should the CRA subsequently decide to exercise its discretion to cancel the overcontribution tax to correct an error beyond the taxpayer’s control, such relief “would find ample support on the extraordinary facts of this case.”
Consequently, on the day the decision was released by the Tax Court, the taxpayer wrote to the CRA requesting a second level review of the CRA’s decision not to waive his overcontribution tax, penalty and interest, the total of which has now grown to nearly $4,500.
His file was reviewed by a separate CRA agent not involved with the initial decision. Unfortunately, in a letter the taxpayer received this week, the CRA wrote that after carefully considering “the circumstances and facts of your case… (W)e determined that we cannot grant a request to cancel the tax in this particular situation.”
The taxpayer now has 30 days to ask for a judicial review by the Federal Court to determine whether the CRA properly exercised its discretion in refusing to cancel the overcontribution tax, so we may not have heard the end of this story.
The Canadian Armed Forces member
The second case, decided in December 2019, involved just such a judicial review. The taxpayer, a member of the Canadian Armed Forces (CAF), was hit with TFSA overcontribution tax and penalties for multiple TFSA overcontributions over several years, due primarily to a misunderstanding of the rules for recontributing amounts previously withdrawn. He explained that he was unaware that, after having contributed the then $5,000 maximum to a TFSA and later withdrawing money from his TFSA for personal use, he could not replenish his TFSA to replace the amounts taken out, through re-contributions that same year. (Indeed, if you’ve maxed out your TFSA cumulative contributions, you must wait until the following calendar year to recontribute amounts withdrawn in the current year.)
The CRA notified the taxpayer of his overcontributions on numerous occasions from 2009 to 2013, and once again in 2018. The taxpayer first applied for cancellation of tax and penalties in August 2018, which the CRA refused.
The taxpayer then filed for a second-level CRA review, on the basis that he never received CRA’s overcontribution notices. He testified that the first time he received notice from the CRA of an overcontribution was via e-mail in 2018. Given that CAF members are required “to travel frequently and on short notice,” he argued that the CRA had “unreasonably failed to ensure he was informed regarding the overcontributions.”
The CRA refused the second request and he thus turned to the Federal Court for a judicial review of the CRA’s decision. In court, the taxpayer argued that levying penalties was “unfair and undermines both the intent and the spirit of the TFSA.”
But the judge wasn’t swayed, explaining that in “a self-reporting system, the onus was on (the taxpayer) to understand the law … ignorance of the rules, particularly in a system which relies on the taxpayer, is not an excuse.”
The judge went to explain that “while (the taxpayer’s) error may well have been innocent, he was also its author due to his failure to provide his change his change of residence (albeit through military postings) to the CRA. There was also no doubt about his intention to contribute to his TFSA … (he) … did so innocently, albeit through ignorance of the law… Innocent mistakes, however, do not absolve ignorance of the law.”
Ruling against the taxpayer, the judge concluded that the CRA’s decision to deny him relief was “justified, transparent and intelligible, falling well within a range of possible and acceptable outcomes.”