Underground economy strategy 2018 - 2021
On this page
- Executive summary
- What is the underground economy
- Scope of the underground economy
- How the CRA addresses the underground economy
- Underground Economy Strategy 2018-2021
Underground economy (UE) activity negatively affects economic growth in Canada and reduces tax revenues for all levels of government, putting pressure on the government’s ability to provide the services and benefits that Canadians enjoy and expect. Left unchecked, the UE would erode people’s faith in the integrity and fairness of Canada's tax system, undermine the competitiveness of honest businesses, as well as cause honest taxpayers to bear the tax load of those who cheat.
This UE strategy builds on the foundation of the previous 2015-2018 strategy and provides a vision to prioritize the Canada Revenue Agency’s (CRA’s) efforts over the next three years. From the last strategy, the CRA learned which messages resonated with Canadians and which ones did not. Developing a social norm around the UE is proving to be much more challenging than anticipated; however, this should not dissuade us from advancing this proposition as one of our UE priorities. We have also learned that some of our compliance approaches are highly effective, with more than $2.2 billion in unreported income related to the UE detected by CRA income tax auditors between April 1, 2015 and December 31, 2017. For this same period, our income tax and excise tax auditors identified over $487 million in additional taxes owed to the Crown, which includes $80.8 million in penalties. The Undergdround Economy Specialist Teams (UEST), which focus on high-risk areas, completed more than 7,000 audits and contributed significantly to the results. We will continue to employ these approaches, along with pursuing taxpayer information through court orders and information sharing. Indeed we learned that a key element of effective compliance in respect of the UE is obtaining and cross-referencing third party information and data points. This strategy will continue to use proven approaches while also addressing new and emerging risk.
The UE continues to evolve as digital, global platforms and cryptocurrencies transcend traditional borders. This strategy therefore focuses on the following three themes:
- Social acceptability and engaged citizenship
Research indicates that many taxpayers are still unaware of the negative impacts associated with the UE. As taxpayers become aware of its negative impacts, they should, over time, be less inclined to participate in it and find it less socially acceptable. Our Strategy will focus on raising this awareness.
- Leveraging third party data and information
The CRA will continue to use legislated authorities to obtain third party information to identify taxpayers suspected of non-compliance. The CRA will continue to work co-operatively with other government partners and stakeholders to strengthen its ability to detect and deter non-compliance through the sharing of information to enhance compliance.
- New business models and transacting in the digital age
The CRA intends to monitor emerging platforms and new business models, with a special focus on the sharing economy and digital currencies. These are areas that may offer opportunities to avoid a full reporting of economic activities. The CRA will increase its online resources and engage with Canadians on this topic to help those who want to become compliant with their tax obligations and to make it more difficult for those who do not want to comply.
The UE is economic activity or transactions in goods or services that are partially or entirely hidden from the government in order to evade paying taxes and other government reporting obligations (such as employment insurance and Canada Pension Plan contributions).
UE activity negatively affects economic growth in Canada as legitimate businesses struggle to grow while competing with those that operate under the table. Moreover, honest taxpayers carry the burden of closing the revenue gap created by the UE. The UE also reduces tax revenues for all levels of government, putting pressure on the government’s ability to provide the services and benefits that Canadians enjoy and expect. Left unchecked, the UE would erode people’s faith in the integrity and fairness of Canada's tax system and undermine the competitiveness of honest businesses, especially small businesses that follow the rules and create employment in our communities.
The CRA also conducts and publishes research on the tax gap. The tax gap represents the difference between the taxes that would be paid if all obligations were fully met in all instances, and the tax actually paid and collected. As a tool, tax gap estimates, combined with other data on non-compliant behaviour, can provide tax administrations and governments with valuable insights into the general health of the tax system and the levels of non-compliance with tax laws. The UE is but one of the elements of the tax gap in Canada.
On June 6, 2017, the CRA released a tax gap report which studied individual income tax compliance in Canada. The UE activities related to this tax gap analysis are better described as either falling under the hidden sector or the informal sector.
- Hidden sector: The hidden sector is comprised of “activities that are productive and legal but are deliberately concealed from authorities” due to individuals wanting to avoid taxes, social security contributions, labour standards, administrative procedures, or to increase the benefits they receive. Activities in the hidden sector include skimming, unreported construction-related activities (new homes or renovations), hidden rent income, undeclared tips and unreported trade-related activity.
- Informal sector: This sector includes informal production activities associated with establishments that are not registered with fiscal or social authorities. The activities within scope of Statistics Canada’s research are childcare in the home, private household services, other personal care services and direct sales of agricultural products. Although it is possible that UE activity exists in other industries in the informal sector, they have been excluded from Statistics Canada’s estimates until further research determines the magnitude of this missing productive activity.
Overall, based on available information, this study estimated Canada’s tax gap for individuals at the federal level to be about $8.7 billion or 6.4% of personal income tax revenues in 2014. This calculation was based on estimates of taxes that were assessed but not collected and on unreported income from the UE.
The CRA will continue to collaborate with various international partners to inform its work on the tax gap. In June 2018, the CRA published the fourth research report in its tax gap series examining international personal income tax compliance and non-compliance, and measuring the international federal personal income tax gap. The CRA is demonstrating international leadership and transparency in its efforts to both quantify and report on the tax gap.
In essence, the UE is, and should be, everybody’s business.
Payment in cash
Payments provided in cash are not, in themselves, UE activity. However, payments in cash or in kind have traditionally been considered “undetectable” and have therefore been seen to be synonymous with underground economic activity.
Determining the scope and scale of the UE is challenging because those who engage in it try to avoid detection. To increase its knowledge of the UE, the CRA has been collaborating with Statistics Canada since 2009 to estimate the size and nature of UE. Its findings, taken with information from other sources, helps the CRA to refine its focus and actions to combat the UE.
Statistics Canada estimates underground economic activity for 2013 totaled $45.6 billion in Canada, or about 2.4% of gross domestic product. Since 2002, this figure has remained stable. The highest proportion was 2.7% in 1994, while the lowest was 2.2% in 2000.
The tax gap associated with UE activities within the study released in June, 2017 on individual income tax estimated the CRA revenue shortfall at about $6.5 billion for 2014. This represents about 4.8% of personal income tax revenues and 0.3% of gross domestic product (GDP).
In 2013, three industries accounted for more than half of the total UE: residential construction (27.8%), retail trade (12.5%), and accommodation and food services (11.7%). The CRA also conducts its own research into the prevalence of the UE in various sectors, finding, for example, that UE was high in Transportation and Warehousing as well as Arts, Entertainment and Recreation industries.
Our strategy is also informed by research conducted by the Organisation for Economic Co-operation and Development (OECD). In its fall 2017 report, Shining Light on the Shadow Economy: Opportunities and Threats, the OECD identified three areas where tax administrations focused in addressing the UE:
- Taxpayer education and simplicity of compliance
- Reducing the opportunities for non-compliance; and
- Reinforcing social norms.
The CRA strategy closely aligns to these objectives.
Canada’s approach to the UE is similar to other tax administrations in terms of shared strategic goals, but is necessarily different on a tactical level due to, for example, differences in legislation. Activities such as data matching or programs like our Voluntary Disclosures Program are common with other administrations. Moreover, all G7 countries identify as a challenge the ability to measure the effectiveness of their strategy in achieving its intended goal.
The CRA will continue to monitor how various tax administrations implement creative initiatives to encourage compliance and reduce participation in their UE. In doing so, the CRA learns about and shares best practices which help it to stay ahead of emerging UE threats. Two such risks are the tax implications of sharing economy platforms and the participants who earn income from them and the growing global use of cryptocurrencies. Both the OECD and Canada have identified these areas as requiring further study for compliance risk.
Since the early 1990’s the CRA has attached a high priority to addressing the UE through tax compliance actions and education efforts directed to the public. Fighting the UE has always been one of the CRA’s top priorities. Making sure that taxpayers meet their tax registration, filing, reporting, and payment obligations ensures the tax system is fair for everyone. The CRA maintains its focus on four areas, to prevent, detect, and address unreported and under-reported sales or income:
- Finding undeclared income and hidden commercial transactions through data analysis, legislative tools and other information sources including leads from Canadians.
- Correcting behaviour that is not compliant (through audits, penalties, criminal investigations and prosecutions, where warranted).
- Staying up to date on the UE (through stakeholder engagement, working with other levels of government, and international information sharing).
- Reducing the social acceptability of participating in the UE by raising awareness of risks with consumers and conveying strong messages about negative consequences for those who avoid or evade their tax obligations.
In November 2014, the CRA developed its first formal three year UE strategy entitled “Reducing Participation in the Underground Economy ”.
The first element of the strategy was the enhancement of the CRA’s understanding of the UE in Canada. By conducting research we identified high risk sectors and improved our analysis and understanding of taxpayer behaviour. The CRA also consulted stakeholders such as, the Minister’s Underground Economy Advisory Committee (MUEAC), and various government and private organizations through UE Provincial and Territorial Roundtables.
Second, we embarked on a journey to make participating in the UE socially unacceptable. The CRA did this through communication and marketing initiatives; examples of which include an online toolkit and social media campaigns. The CRA also partnered in a multi-year project with the Canadian Home Builders’ Association to support its “Get it in Writing” campaign.
In 2016-17 the CRA launched an advertising campaign focused on informing Canadians that the CRA is cracking down on tax cheating of all kinds. Messaging on the UE focused on home renovations and construction.
Finally, the CRA deployed a range of compliance/enforcement initiatives. For example, teams of UE audit specialists were created and use of indirect verification of income tests was expanded to detect unreported income. This approach was so successful that our initial 20 teams were expanded to 35, and the 2017 Federal Budget earmarked additional funding to make sure this good work continues. We have also learned that requesting third party data can yield impressive results in detecting undeclared income and people who have not filed returns.
Between April 1, 2015 and December 31, 2017, the results of our income tax audits related to the UE have shown total unreported income detected by CRA auditors surpassing $2.2 billion. A large contribution came from the over 7,000 audits conducted by our UEST, which focus on high-risk areas. The work done by these auditors, including work focussed on specific industries, identified over $238 million in additional taxes owed to the crown. This amount includes $61 million in penalties.
For the same period, our audit results related to the Goods and Services Tax (GST) show 2,792 GST audit cases completed, identifying $249 million in additional taxes owed with additional assessed penalties of $19.8 million.
It is important to understand that the CRA’s efforts to target the UE does not draw resources away from other compliance initiatives aimed at other forms of tax evasion or aggressive tax planning either domestic or offshore. Concerns of tax fairness demand that all forms of tax evasion and tax avoidance be addressed.
The CRA will conduct criminal investigations of those involved in the UE when there are indications of significant tax evasion.
Areas of focus
The current strategy builds on the foundation of the previous one. Approaches that have been proven effective in prior years have been retained as is the case with using legal authorities, engaging with citizens and leveraging third party information. Consultations with stakeholders, such as the MUEAC, have informed the strategy as well. The UE continues to evolve as digital, global platforms and crypto currencies emerge which transcend traditional borders. A focus on these areas is new in this strategy. This strategy therefore focuses on the following themes:
- Social acceptability and engaged citizenship
- Leveraging third party data and information
- New Business models and transacting in the digital age
While these three areas of focus are intended to guide the CRA’s efforts over the next few years, it should be understood that the CRA will continue with its compliance work to address the UE. Examples of this include expanding the reach of specialized audit teams with advanced training in identifying unreported income in such industries as construction, retail and hospitality. Through the Point of Sale Centre of Expertise, the CRA will continue using sophisticated tools that can detect retail and restaurant sales transactions that have been deliberately hidden to avoid taxation. The CRA continues to refine these approaches to detect tax avoidance and evasion and take appropriate enforcement action.
Social acceptability and engaged citizenship
The negative effects of the UE on society are well understood by academics and governments, however, these negative impacts are not as well known to all Canadians. A large segment of Canadian society does not see the UE as a threat to their standard of living. A significant number of Canadians are active in the UE without giving much thought to its consequences.
Research conducted in 2011 showed that four out of six different profiles of taxpayers studied were at a high risk of paying cash to avoid paying taxes or thought that tax cheating posed little risk to themselves. More recent research conducted in 2018, while yet to be fully analyzed, suggests that there is still a large number of Canadians who are not aware of the impacts of the UE. Further, preliminary results of this research indicate that there is a willingness to tolerate small scale cheating in light of what is perceived as significant non-compliance by the wealthy and large multinationals.
The CRA, through sustained communications with partners, stakeholders and the Canadian public seeks to educate and raise awareness on the UE to make participation in it socially unacceptable.
The CRA works formally and informally with a network of stakeholders from professional organizations, academia, and industry as well as federal, provincial and territorial, and municipal governments. The focus of this work is to discuss and share best practices and communications initiatives in order to leverage interventions designed to influence citizen behaviour. This expands the CRA’s reach, promotes best practices, and assists with fine tuning messages for various business sectors and geographic regions.
Continue to foster external partnerships to expand communications reach
To fulfill its objectives, the CRA will continue to leverage its existing external partnerships and look to create new ones with key members of academia, other federal partners and levels of government in order to optimize delivery channels. For example, the CRA will continue to share and leverage UE research findings from both the CRA and the MUEAC partners. External partnerships are essential in helping the CRA communicate proactively with specific groups so that we may:
- Leverage partnerships to help deliver the right message targeted to the right audience.
- Develop a whole-of-government approach to raising awareness.
- Share content from other government departments (OGDs), provinces and territories, non-government organizations (NGOs), industry, and other partners.
Customize content to raise awareness of the impacts of the underground economy
Messaging on the UE will be customized to target specific audiences, in an effort to maximize understanding and awareness. To support this approach, the CRA will do the following:
- Customize messaging to appeal to both the supply (business) and demand (consumer) side of the UE.
- Develop strong messaging that resonates with Canadians to educate them about the impacts of the UE on the many services and programs available to Canadians, to make the UE less socially-acceptable.
- Develop innovative content for a variety of channels, including social media, to educate Canadians about the UE and its impacts.
Encourage engaged citizenship
In an ideal world everyone would voluntarily complete an income tax return, report all their income, and claim all deductions or credits that apply to their situation. But the reality is somewhat different. Some taxpayers, by participating in the UE and hiding their income, deprive the country of significant revenues that finance vital programs for Canadians. With this in mind, a priority goal is to encourage the value that paying the correct amount of tax is the only acceptable behaviour in this country and address tax cheating. It will be important to understand what the prevalent attitudes toward the UE are. To that end, the CRA is analyzing feedback from its Annual Corporate Survey to see if our current compliance messages are reflected in public feedback.
To achieve this longer term goal, the CRA will concentrate on accessing the public education system and using tailored messaging to help foster an engaged generation of proudly responsible citizens. The CRA intends to engage with college associations and technical/trade schools to broker an agreement to provide educational materials relevant to tax obligations. Materials will be targeted to students that are likely to join workforce sectors where the UE is prevalent.
Use education to foster compliance
Getting the message out as early as possible is one means by which the CRA can influence behaviours and encourage engaged citizenship. The CRA is therefore making it a priority to:
- focus on early education (promote financial literacy in schools; get involved in the development of education/teaching tools–for example, for use in trade schools),
- leverage partnerships to promote financial literacy; and
- educate Canadians about ways to report tax evasion and aggressive tax avoidance in Canada.
Tailor messaging to encourage responsible citizenship
The right messaging for the right audience will be essential to changing attitudes that contribute to greater tax compliance. More specifically, the CRA will:
- focus compliance messaging on specific segments of the community/specific sectors; and
- develop positive messaging associated with paying taxes.
Leveraging third party data and information
In its prior UE strategy, the CRA focussed on a range of initiatives to encourage compliance and reduce participation in the UE.
The CRA developed two approaches to obtain third party data. The first one was to work co-operatively with other federal departments, provincial, territorial and municipal government partners and industry stakeholders. The second approach was to compel third parties to turn over information through legal avenues and court orders. This allows the CRA to match the data that they have from an individual or a business’s tax filings against data held by a third party which could reveal hidden income.
These approaches are proven and effective tools to identify individuals and businesses that have not paid the taxes they should have. Examples of how these tools were used include:
- obtaining information from cheque-cashing companies to identify those who have not registered to charge and remit GST/HST, are delinquent filers and those who underreport their income;
- using provincial land registry information to identify non-compliance related to real estate transactions; and
- obtaining information from various industries to identify payments in kind such as gift cards or prepaid credit cards that were not reported.
Working with other levels of government
Though we have made significant progress with our partners, there are still many opportunities for information sharing, relationship building and collaboration. As part of its commitment to using third party data to detect and deter UE activity, the CRA will continue to work with key stakeholders, such as the provinces and territories, to ensure that it has a modern, responsive and comprehensive plan for addressing and reducing UE activity in Canada. This will improve CRA’s risks analysis capacity to pinpoint highest non-compliant activities, as well as help detect unreported income.
The CRA will also continue to strengthen relationships with industry stakeholders, as a valuable forum to exchange information. Combatting the UE requires support from many levels of government, stakeholders and consumers. As part of this strategy, the CRA will strengthen its current partnerships and look to establish new ones to gather information that helps the CRA determine when taxes are being reported correctly and when they are not.
Shared information is a powerful tool in the government’s arsenal to crack down on the UE and being able to identify taxpayers who do not comply with their tax obligations. The fall 2017 report from the OECD, Shining Light on the Shadow Economy: Opportunities and Threats, recommends a “whole of government” approach to address the UE; as tax non-compliance is often associated with other abuses such as social security fraud and failure to comply with other regulations (such as health and safety).
A good example of shared information that supports our efforts is the partnership the CRA enjoys with Statistics Canada to quantify the scope of UE activity in Canada. This working relationship will continue.
Information sharing will be pursued and formalized through Memoranda(s) of Understanding (MOUs). Our ultimate goal is to facilitate gathering information regarding taxpayer income in order to determine if a taxpayer has met their reporting obligations. Other types of information the CRA will seek to obtain from various levels of government include information on licenses, contracts and assets owned by taxpayers.
Using legal authority
When the CRA wishes to obtain information outside of collaborative relationships, it has the authority and the power to request information from organizations related to a taxpayer’s obligations. Some organizations will only comply with such requests when presented with a court order.
The CRA obtains court orders to compel entities and organizations to turn over third party data that it would not ordinarily have access to. The CRA has had significant success in obtaining court orders which have revealed significant non-compliance. These initiatives were then expanded into broader national projects.
Legal requirements are mainly used to obtain data that the CRA then cross checks against an individual or a company’s tax filings, to look for discrepancies. The information obtained through these measures allows the CRA to take action to detect, address and deter non-compliant behaviour.
Given its success, the CRA will continue to pursue this avenue to secure business and individual taxpayer intelligence. The CRA will continue to seek third party data which reveal details of real estate transactions, incentive payments, cheque-cashing businesses and electronic transactions, to name a few. At the same time the CRA will continue to use its legal powers to obtain information from banks, credit and financial institutions. The CRA will continue to pursue obtaining information on individuals and corporations doing business online, and will look for non-filers in information obtained from payday loan and cheque-cashing type companies.
How third party data is used
With access to third party data, the CRA has more comprehensive information on the income earned by various individuals and businesses. Third party data strengthens the CRA’s compliance power in the following ways:
- Research and analytics from third party data will be used to identify high risk accounts in order to combat the UE;
- Access to timely, accurate, detailed and quality data allows the CRA to select files for compliance action and helps focus CRA project work and field initiatives. This data will be integrated into our business intelligence to better identify and implement the systems, tools, data and human resources that are best suited to addressing non-compliance; and
- This data can also signal trends and emerging or entrenched behaviours that may not have been previously considered. Adding the richness of third party data to our risk assessment processes will only increase our knowledge of where the risks are.
New business models and transacting in the digital age
New business models
The increased availability of technology has changed how individuals engage in economic activity and participate in the labour market. It has also increased the potential speed of these transactions and the distance over which they can occur. One example of this is the recent expansion of the “sharing economy”, in which individuals pool, loan and share their resources through networks of trust. These networks are supported by today’s social, digital, mobile and location-based technologies that allow users to easily connect, exchange reviews, build reputation, and pay and receive funds. While these developments create new compliance risks for the CRA to monitor and manage, advances in technology also have the potential to make it easier for taxpayers to self-assess and pay their taxes.
Many industry watchers believe the phenomenon of combining real-time data, mobile payments, instant gratification and dynamic pricing is the beginning of a technology-driven shift in the economy. Statistics Canada characterizes this new sector of the Canadian economy as fast growing: 2.7 million Canadian adults “participated in the sharing economy” between November 2015 and October 2016, spending $1.31 billion.
The OECD has identified the “sharing and gig” economy as a sector to watch in its September, 2017 report, Shining Light on the Shadow Economy: Opportunities and Threats. It suggests that a task force of interested tax administrators and online intermediaries should examine options to address the risks associated with this emerging sector.
The accounting firm, PriceWaterhouseCoopers, estimates that sharing economy businesses generated $15 billion in global revenue in 2014 and could grow up to $335 billion in 2025 across the globe.Footnote 1
There is no consensus definition of the sharing economy, but most include:
- short-term rentals of an individual’s assets (e.g., where an individual rents out a spare room in his or her residence).
- product-as-service (e.g., where members rent a vehicle on an hourly basis), and; transactions conducted from start to finish on a mobile app or website (e.g., the platform that connects buyers and sellers).
The CRA has identified five major sectors to the sharing economy: transportation, retail, accommodation, service and labour, and finance. The bulk of sharing economy transactions are conducted electronically through online platforms.
New business models, like the sharing economy, present new compliance challenges for the CRA. Individuals who participate in the sharing economy are not always aware of their tax obligations; and may not consider themselves to be “businesses”. Others may not realize that failure to report income from these activities contributes to the UE. Anticipating the legal sale of cannabis will also pose compliance risk. Educational products and innovative outreach will be integral to addressing this risk.
The CRA’s priorities in addressing technology driven sales platforms and new business models include:
- Continuous monitoring of emerging platforms and technologies.
- Engaging stakeholders, in particular industry, the provinces and territories, and other countries, to identify areas where tax compliance could be affected and discuss best practices on how to address these new challenges.
- Continuous education of those who participate in these new business models to make sure they understand their tax obligations. These efforts will consider using the very same communication channels that industry uses themselves. The CRA will also explore its own technology based options to keep pace with these new business models.
- Reviewing current legislation to determine if changes could be recommended to address compliance risk in these new business models.
Transacting in the Digital Age
Digital currencies are difficult to trace and their owners are often anonymous, presenting risks for underreporting their value as taxable income. In 2016, Canada ranked second in the world for most cryptocurrency ATMs, with 135 operating at the time. As the CRA gains an understanding of digital currencies, it will increase its public resources on this topic to help those who want to become compliant with their tax obligations. The focus for 2018-19 will be on research and analysis, to fully understand the impact of distributed ledger technology and digital currencies on tax compliance. Specifically our research will:
- Analyze and describe the distributed ledger technology (aka blockchain), the market-place that uses digital currencies and the speculative markets;
- Conduct qualitative studies (of early bitcoin adaptors) and quantitative studies (of those businesses using sophisticated software).
Results of research from these studies will be used to:
- Understand the reasons business owners and consumers are using digital currency;
- Improve or develop new risk assessment tools to identify taxpayers who are at the highest risk of participating in the UE through the use of digital currencies;
- Acquire tools to identify owners of digital currencies; and
- Develop partnerships with other government departments Financial Transactions and Reports Analysis Centre of Canada (FINTRAC) and other countries (United States IRS) to address tax non-compliance.
The CRA will also continue to address risk associated with electronic suppression of sales through the use of point-of-sale systems. New, more sophisticated systems dedicated to "zapping" transactions continue to be developed and we will ensure that our computer audit specialists have the most current tools and training to identify when these sales suppression programs are being used.
While the CRA has consistently taken compliance actions to combat the UE, it continues to refine strategies to detect and deter this activity. The CRA also invests resources in researching the evolution of the UE and how technology and global trends are impacting it.
The UE strategy for 2018-2021 is forward looking, to anticipate where new UE threats may come from, while still focusing on education and collaboration as the most effective means to make the UE socially unacceptable over time.
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