Fiscal information

Methods to verify compliance of GST and QST processing

October 3rd, 2o23

Consultaxe’s sales tax specialists present some of the innovative data analysis methods they use to verify compliance with sales tax requirements. In addition to ensuring compliance, these methods help to identify risks and opportunities in the application of GST and QST for the proper management of indirect taxes.

Over the years, Consultaxe has developed a number of methods to monitor GST and QST compliance at customer locations. Today, their tax specialists and data processing experts are building IT tools capable of sophisticated analysis to identify risks or errors in GST and QST processing. These tools are continually updated to incorporate knowledge gained from previous audits, as well as changes in tax legislation.

One example is error detection in sales tax recovery. The tools we have developed allow us to identify a potentially problematic transaction from among thousands of accounts payable records. Targeted transactions can be reviewed individually by our tax specialists to determine whether sales taxes have been accounted for and recovered in accordance with the provisions of tax laws.

Sales tax recovery: GST and QST credits and refunds

If your organization has a commercial activity, most of the GST and QST you paid (or owe) on goods and services related to that commercial activity (the inputs) are recoverable. GST is recoverable in the form of input tax credits (ITCs), while QST is recovered through input tax refunds (ITRs).

It is important to note that ITCs and ITRs can only be claimed for tax paid on inputs related to commercial activities (GST/QST taxable activities). Other activities are not eligible for ITCs and ITRs. Consequently, for the majority of their activities, taxes paid by schools, hospital authorities, public universities, colleges, or charitable organizations are not eligible for ITCs or ITRs. Instead, these organizations can apply for a partial tax refund, which varies according to the type of organization.

Identify problematic transactions

The graph below shows the result of one of the accounts payable analyses carried out by our IT tools for a hospital administration. All accounts payable transactions are classified according to the percentage of GST paid and recovered. You can quickly see the transactions for which GST collection deviates from forecasts and therefore requires further investigation.

In this particular case, the customer, as a public service body (a hospital authority), is generally only entitled to a partial refund of the GST. The results of the analysis enable us to determine not only whether sales taxes have been claimed, but also whether the correct collection rate has been used to claim them.

Incorrect recovery rates

For example, transactions classified as “full refund” (i.e., transactions for which the full amount of GST paid has been claimed) may be in error. Our tax specialists are able to determine whether an error has occurred and propose compliance control measures to correct errors, reduce risks, and improve internal tax management processes where necessary. Similarly, partial GST refunds with lower-than-expected recovery rates for this type of organization suggest that there may be amounts to claim.

 

Taxes paid in error

In this case, there is a large number of transactions with no TPS recovered. This is a normal phenomenon for a hospital administration, which buys a wide variety of zero-rated products (drugs, medical devices, food products). On the other hand, it is common to find zero-rated items on which GST has been charged in error. That’s why Consultaxe has tax experts who specialize in the taxation of medical devices, biological substances, and food products: their expertise makes it possible to recover all the taxes mistakenly paid on these zero-rated products.

Refunds not taken

A transaction from which no tax has been recovered may, of course, represent a purchase of an exempt or zero-rated supply. However, it is also possible that the purchase is a taxable supply for which taxes have not been claimed due to an oversight. With the help of our IT tools, our tax specialists can effectively target non-standard transactions to validate whether taxes have been paid in error on zero-rated products, whether refunds have been forgotten, and whether sales tax management has been adequate.

Potential impact of misclassifying a supply’s tax status

Even if accounting software has built-in safeguards to prevent incorrect information from being entered, such as preventing the same invoice number from being entered twice, such software is useless if the error comes directly from the supplier.

If, for example, the supplier mistakenly determines a taxable supply as non-taxable, this error can have serious consequences, not only for the supplier, but also for the buyer. The potential impact of such a misclassification is illustrated by the case below. For reasons of confidentiality, the names and amounts have been changed, but this is based on a real case.

During an audit at a food retailer, the results of our computer tool analysis indicated that all purchases of the Canada No. 1 brand food product were not taxable. These purchases represent a value of $1 million a year.

This same food product is sold by another brand, Québec No. 2. The food retailer buys around half a million dollars worth of these every year. On the other hand, Québec No. 2 collects GST and QST on ABC purchases.

The computer tool reveals that sales taxes are handled differently for ABC depending on the supplier from which it is purchased: if the retailer buys from Canada No. 1, no tax is applied, while Québec No. 2 charges GST and QST. This observation has led our specialists to analyze ABC’s tax status. After checking, they discovered that it was essentially the same product sold under different brand names (same ingredients, same format, same quantity). Following a search of tax databases, it appears that Revenu Québec has issued a ruling that Québec No. 2 brand’s food product is GST/QST taxable. Following Consultaxe’s report and recommendations, the retailer immediately began charging GST/QST on sales of Canada Brand ABC No. 1 and advised its supplier to charge GST/QST on purchases of this product.

Since the food retailer is generally unable to recover GST/QST from its customers, such a recommendation enabled it to potentially save over $150,000 in GST/QST per year, for a total of $600,000 in GST/QST over a 4-year period, plus penalties and interest in the event of assessment by Revenu Québec.

 

Target: increase GST and QST compliance

Following analysis of the results, Consultaxe’s tax specialists made recommendations on optimizing their clients’ GST/QST processing systems to increase compliance with sales tax legislation. This helped to limit GST/QST assessments by tax authorities, and ensured that all refundable taxes were claimed.

With over 30 years’ experience in recovering incorrectly invoiced taxes on medical devices, biological substances, and other supplies, Consultaxe has developed extensive expertise, particularly in recovering taxes paid in error on zero-rated or exempt supplies. This expertise is now largely integrated into our data processing and analysis tools.

The information presented in this article is intended to provide information to Consultaxe clients and others whom the topic interests.

 

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Methods to verify compliance of GST and QST processing