Have you ever been assessed a penalty or interest amount on your personal tax return or a corporate tax return that you are responsible for?  Not fun, eh?  Penalties are used by countries around the world as a carrot-and-stick approach in order to encourage behaviour that is in line with expectations.  Interest is the price you pay for not paying your taxes on time.

Penalties are generally broken down into two types:  civil and criminal.  The latter is reserved, of course, for criminal behaviour.  If you purposely didn’t report your income and / or file your tax returns, well, that is tax evasion and criminal. The penalties are significant and can include jail time.

Civil penalties are administrative in nature and can encompass a wide variety of circumstances including penalties for late filing, underreporting your income, not reporting certain forms (like foreign assets), etc.

Lately, there has been a wide variety of new civil penalties introduced into our tax statute.  For example, there are now broad and complex new mandatory disclosure rules that require taxpayers to proactively disclose certain transactions.  Failure to comply with these new disclosure rules comes with significant penalties, in some cases $100,000 or more.  In addition, there are significant new penalties to the extent the general anti-avoidance rule has applied to one or more of your transactions and you have not proactively disclosed such transactions to the Canada Revenue Agency.

In general, one can understand the need for penalties in income tax statutes.  Without them, one might simply not comply with a requirement whereas another person complies.  How would that be fair?  Accordingly, the primary intent of penalties is to encourage compliance with tax law, not to increase overall government revenues.  A government that budgets material amounts for penalties as a recurring revenue stream contradicts that intent because it implies an expectation or reliance on taxpayer failure.

In Canada, our overall tax compliance rate is high.  Our country’s “on-time filing rate” (the share of expected tax returns filed by the due date) is above average as compared to other OECD member countries and compares well to G7 members.  In addition, Canada’s “on-time payment rate” (the share of taxpayers who have paid their tax amounts by the payment due dates) is also very comparable to peer countries.

While the above comparisons don’t paint the whole picture (since civil penalties can encompass a whole variety of penalties, not just penalties for late filing and late payment amounts), it is a decent snapshot of the fact that Canada is not a nation that is rife with non-compliance.

For the 2024 fiscal year, the CRA reported collecting approximately $14.2 billion in interest, penalties, and other revenues. This represents a significant increase from the $10.6 billion collected in the previous fiscal year and is largely attributed to higher prescribed interest rates and increased arrears interest. As interest rates move down, one would expect these amounts to decrease as well.

Given the above, it caught my attention during the recent election campaign that the Liberal Party was budgeting for increased income tax penalties to fund some of its initiatives.  Starting next year (in other words, there is nothing budgeted for the current year), the Liberal Party stated that it is expecting its government to collect $3.75 billion in new penalties over the following three years.  No details were provided on the computation of these estimated new amounts.  Such amounts are part of the $51.75 billion that it expects to raise in overall new revenues over the next 4 years.  Accordingly, the increased penalties represent 7.2% of the new expected revenues.  Not an insignificant amount!