Eileen Reppenhagen, Certified QuickBooks ProAdvisor
Talk about painting yourself into a corner and boxing yourself in.
Here’s the story.
You are the accountant for a realtor. You are also the accountant for a land baron. Last spring you referred the land baron to the realtor, a conversation you remember very well.
The realtor comes in with books for the year. So does the land baron. They meet in your office while waiting for their appointments with their respective box of records. They shake hands and hug, greet each other like long lost fishing buddies.
While doing their books you discover that the land baron used your realtor client for their deals. With a sinking heart you discover that the realtor paid a ‘kickback’ to the land baron for commission on a deal. Feeling uncomfortable? Well, what if the land baron has not told you about the kickback, which reduces his adjusted cost base (ACB), what are you going to do now?
Let’s look at it from various sides.
The realtor’s broker calculated the commission and paid your realtor the GST on the full commission. The broker then paid the land baron out of the net proceeds based on direction from the realtor to pay an amount to someone. Your realtor was short paid on the deal in a fairly direct manner by the broker, so he has a trail that leads directly to your land baron. There is a cancelled cheque.
You ask yourself, is this enough evidence to claim an expense of doing business for the realtor? Did the realtor owe the land baron for something else and this is paying him back? Maybe there is an alternative, not so obvious reason for the payment. You can not assume that just because it is a payment that it is a kickback. Maybe the realtor paid to reimburse for a faulty appliance or a fence that fell down. The realtor might be able to produce documentation to verify he was reimbursing the land baron for a legitimate business expense.
You pick up the phone to ask the realtor. No, says the realtor, it was a kickback. The T4 that the broker issued compounds your dilemma. The accountant at the broker’s office has netted payouts for kickbacks against the income and reduced the T4A commission income to reflect a lower amount than the gross sales you have just calculated. Gross sales do not match with the T4A commission box. You know you have to record gross sales to justify 7% to be remitted for GST. Where are you going to post this reduction?
Is it an expense? Where is your evidence?
If the land baron is a GST registrant, shouldn’t he invoice the realtor and record GST? Aren’t you supposed to record GST on all goods and services? Is a kickback either of those? The realtor would be able to claim the ITC and the land baron would remit GST on the amount.
This isn’t very easy, is it?
The realtor whose T4A shows less income than is shown in the statements of adjustments, must have evidentiary documentation to support the expense to be claimed. Is a payment proof of an expense? Not usually. Since he gave money to a GST registrant, who by the way, is also your client, where does this leave you?
Then there is the matter of this new kind of audit called IVI or Indirect Verification of Income, where auditors review deposits to see if they agree with income reported. Your land baron was paid by cheque. Who was the payee? Was it written to the land baron directly or to his limited company? A call to the broker’s accountant, the cheque was paid directly to the land baron. This is not looking good. Was the land baron using his company to buy or sell? Yes, it was the company.
What if your land baron’s company is the vendor of the property? Your realtor explains that sellers expect kickbacks because they will not list with your realtor without one. If the sale is taxable, the paperwork for the deal shows full commission. The kickback is not recorded on the legal paperwork relating to the sale of the property. If your land baron deducts the full commission from proceeds, that is tax evasion and could result in criminal charges. How are you going to explain to the land baron that you know about the kickback? Can you?
What if your land baron’s company is the purchaser? Your realtors explained when you asked, that buyers expect kickbacks for paying more for the house than they needed to, because the money offsets the property purchase tax. How are you going to explain that you are going to make an entry to reduce the ACB of the property and set up a shareholder loan receivable?
The land baron has given you his paperwork for the purchase or sale of the rental property. You look for documentation about the kickback, which should reduce the ACB. There is none.
Does the phrase conflict of interest cross your mind?
Just how boxed in do you feel? Which client do you want to keep? How are you going to handle the lack of evidence for the payment by the realtor? How are you going to approach the land baron about the kickback? Have you just lost two clients? Can you tell one about the other? Not under privacy laws or your code of ethics. Will you ever refer your clients to your realtor client again?
How does this play out?
You explain to the realtor that unless they have documentary evidence that the payment is an expense of doing business, you can’t record the expense. The realtor thanks you for explaining the situation and asks how they can stay in business given that ‘everyone does it’. You explain that if there is documentary evidence of payments for goods or services to third parties, rather than cash payments directly to clients, you can justify the expense to an auditor. The realtor has been audited before and knows that this is a good solution. The realtor decides that they will find creative ways to provide incentives to clients where they can document payments by purchasing goods from third parties for clients rather than giving cash rewards. The realtors values and appreciates your advice. The realtor really was not comfortable with these kickbacks.
You explain to the land baron that kickbacks reduce ACB and ask if he received any kickbacks. Land baron’s answer makes it easy. You find a reason to be too busy to continue with the engagement.
Who said corruption and bribery only happens in third world countries?
Then you read the Federal Court of Appeal on Her Majesty the Queen v Mark Stapley in Toronto January 11, 2006 Docket A-219-05 regarding deductibility of 50% of realtor gifts of meal and entertainment and in paragraph 30, the judges, Décary, Sexton and Evans write how flowers and books are not entertainment and that realtor cash kickbacks are indeed a cost of doing business.
Nothing in life is certain except death and taxes. Go figure.