Guarding against traps

By karen A. Wong
Illustration: Keri Smith

A good grasp of PST is your best bet to prevent or argue against an assessment

Since traditional provincial sales tax is commonly viewed as an end-user tax, as it is usually assessed only on the last person in the supply chain, it is commonly overlooked as a tax exposure by businesses that do not sell to the end consumer. This can be a costly mistake, as there are numerous provisions in the various PST legislations that expand the incidences where PST can apply. Failure of a business to understand the sales tax environment of the provinces in which it operates can lead to unfavourable assessments, interest and penalties and the additional costs of dealing with assessments.

Provincial auditors have identified a number of common errors. As there is no PST in Alberta and the sales tax  in Quebec, NB, Newfoundland and NS is harmonized with the federal goods and services tax, the following points relate to PST imposed in BC, Saskatchewan, Manitoba, Ontario and PEI.

Out-of-province purchases — Purchasers typically rely on suppliers to charge and collect the applicable federal and provincial sales taxes. However, when purchasing from an out-of-province vendor who is not registered for PST in the province to which the goods are destined, the onus is on the purchaser to self-assess the tax. Many purchasers incorrectly believe that out-of-province purchases are exempt from PST; and their accounting systems lack the procedures to identify such purchases to allow self-assessment of the tax. Self-assessment on out-of-province purchases is one of the prime areas targeted by provincial sales tax auditors.

Failure to remit collected sales tax — The PST collected is deemed to be held in trust for the province and must be remitted on or before the due date of the return. Interest and penalties can apply for late filing or nonremittance. In some provinces, a penalty equal to 100% of the unremitted taxes can apply if it is established that the failure to remit was a wilful act. Care must therefore be taken to ensure that processes are in place to remit taxes and file returns on a timely basis. Businesses that have collected PST on sales in a province but are not registered in that province must be particularly vigilant, as they may not have established processes for dealing with PST.

On a related note, one needs to ensure that documentation exists to support remittances and tax filings, as prov- inces have the authority to make an estimate of the tax liability if it is not satisfied with a company’s documentation. Penalties and interest may apply on assessed deficiencies between the provinces’ estimate and the amount remitted.

Goods purchased as part of inventory and subsequently taken for own use — Goods purchased for resale purposes are exempt from PST at the time of purchase. However, where a company removes such goods from inventory for its own use, PST is applicable. In many cases the company does not have the proper systems to self-assess and this oversight is commonly identified in an audit.

A similar problem exists where a company incorrectly uses its vendor tax number to purchase, on a PST exempt basis, equipment and other items, such as promotional material, for its own use. Since such purchases are for consumption, pro-vincial taxes should apply and the improper use of the vendor permit to exempt pro-vincial sales taxes or the failure to self-assess leaves the company exposed.

It is worth noting that certain provinces have entered into reciprocal tax information sharing arrangements whereby one province may send notification to another should they become aware of a company’s potential PST liabilities relating to goods used in the other province.

Equipment brought into the province for use on a permanent or temporary basis — Each of the taxing provinces requires businesses to self-assess PST on the fair market value of equipment brought into the province for permanent use or consumption, unless the equipment is specifically exempt (e.g. certain manufacturing equipment). This requirement exists even if PST was previously paid in another province on the initial purchase of the equipment. The lack of general awareness of this self-assessment requirement has made it a focus of provincial auditors.

A related area of exposure arises when equipment is brought into a taxing province for temporary use. In this instance, many businesses incorrectly assume that PST will not apply on the equipment brought in, because of its temporary use, before it is shipped back out of the prov-ince. However, this is not always the case. For example, in Saskatchewan, the legislation establishes that tangible personal property brought into the province for temporary use is subject to reduced tax based upon one-third of the value of the equipment. Further, the one-third formula is not intended to be used as a method of deferring tax payments. At the time the equipment enters the province, it must be evident that it will be removed from the province within two years and five days.

Businesses that use equipment in several provinces must ensure they are aware of and comply with the requirements of the provinces in which they operate.

Lacking support for exempt sales —The burden of proof is on the vendor to dem-onstrate that it has properly accounted for PST on all sales. The importance of being able to provide adequate supporting doc-umentation is especially evident in cases where tax exempt sales are made, since failure to do so can result in the vendor being assessed for failure to collect the tax. For example, in Ontario the vendor is required to obtain a purchase exemption certificate prior to making an exempt sale. Other provinces require documentation such as the purchaser’s registration number. Therefore it’s important for a company to be fully aware of and comply with the documentation requirements of each province in which it makes exempt sales. Although it is logical for the vendor to recover such taxes from the purchaser, this is often difficult and damaging to customer relationships. It is easier to be proactive and ensure proper processes are in place prior to the sale.

Lack of documentation to support out-of-province shipments — Another common area of assessment by provincial auditors relates to the failure by a company to charge PST on sales, where the vendor cannot substantiate that the delivery was made outside the province. Where evidence of delivery outside the province is not available, the minister can assess the vendor as if the goods were sold and delivered within the province. Proper documentation is vital to avoid this exposure.

Sales to First Nations customers — Generally, status Indians and Indian bands are exempt from paying sales tax on goods and services provided on a reserve or designated reserve land. The manner in which this exemption is applied varies between provinces, but all jurisdictions require the person seeking exemption to present an appropriate identification card. Many companies are not sure what documentation is required and whether the item purchased has to be delivered to a reserve to substantiate the non-collection of tax. To minimize the risk of a potential assessment, suppliers must keep adequate evidence to prove these sales were made to status Indians and Indian bands, which requires a notation on the invoice or other sales document of the registry number or the band name and family number.

Out-of-province contractor — Businesses that enter into real property construction contracts with an out-of-province contractor can unknowingly have significant PST exposure. In certain provinces, an out-of-province contractor is required to post security with the minister for a specified percentage of the total amount of the construction contract. The security is in respect of the PST payable by the contractor on taxable materials, services and any equipment brought into the province to be used or consumed by the contractor in carrying out the contract. If the contractor fails to comply with such requirements, the onus is on the purchaser to either lodge the required amount of security with the minister or withhold and remit an appropriate amount from payments made to the out-of-province contractor.

A purchaser who is a party to such contracts often overlooks these special rules. In fact, the purchaser may not even be aware of the residency status of the contractor for PST purposes. Failure to comply with the nonresident/out-of-province contractor rules can be costly as the resident remains liable for the amount that should have been paid by the contractor.

Not collecting PST on sale of noninventory items (e.g. fixed assets) — The disposal of fixed assets or noninventory items to employees or third parties is considered to be a sale of tangible personal property and the company is required to collect the applicable PST. As such sales are outside the normal course of business, often a firm’s sales systems and processes fail to properly track and account for the sales. The result is an inadvertent omission of PST collectible that may be identified on audit.

These issues are a few of the more common areas generally targeted by auditors in PST provinces. A good understanding of PST application is the best armour in preventing or successfully arguing against a potential assessment.