As interest rates continue to rise, the Department of Finance has also increased prescribed interest rates including the rates on overdue taxes, payroll source deductions and GST/HST. Prescribed rates are revisited every three months and were increased to 7% effective October 1, 2022, for the fourth quarter of 2022. This increased interest rate is punitive and not deductible. Therefore, the true cost to a corporation is closer to 10% if taxed at the general rate given the lost deductibility. For individuals taxed at the top marginal, the true cost is over 15% of pre-tax funds. Given the punishing rate, it is imperative that taxpayers pay their taxes and instalments on time. We have highlighted below the implications of not paying taxes and instalments on time and provided a summary of the relevant due dates for corporations and individuals.
Interest and Penalties – Corporations
The CRA charges compound daily interest on all balances owing. Interest begins to accumulate as of the “balance-due day”. The balance-due day is generally two months after the fiscal year-end of the corporation1. For example, a corporation with a December 31st fiscal year end should ensure their corporate income taxes are paid by February 28th. Even if the final tax liability has not been determined at that time, an estimated payment should be made based on available information.
Instalments – Corporations
New corporations are not required to make instalment payments during their first year of operation. Corporations are also not required to make instalment payments if their income taxes payable in the current or previous year is $3,000 or less. In most other situations, you will be required to make monthly or quarterly instalment payments throughout each tax year.
Corporations can choose from three options to calculate these payments:
- Current year estimated tax payable
- Previous year tax payable and
- A combination of the previous year and second previous year tax payable.
Instalments are required based on the lowest amount calculated under these three options. Generally, most corporations will pay their instalments based on the previous year tax payable unless they anticipate a significant reduction in the current year estimated tax payable.
If you are required to pay tax by instalments but you do not make the payments, interest will be charged at the prescribed interest rate on all unpaid, insufficient or late instalment payments. You will also be assessed a penalty if total instalment interest charges exceed $1,000. The penalty is calculated as:
- actual instalment interest charges for the year, less
- the higher of
- $1,000 or
- 25% of the instalment interest that would be charged if you had not made any instalment payments for the year
- divide the difference by two.
If instalments are overpaid throughout the year, the amount can be refunded to you when your income tax return is assessed, or it can be transferred to the instalment account of the next tax year.
A Corp. has a December 31st year end and must make monthly instalments of $75,000 starting in January 2022 for an annual total of $900,000. Assuming A Corp. makes no instalments throughout the year, the CRA will assess instalment interest of approximately $40,000 plus an instalment penalty of approximately $15,000.
Furthermore, assuming A Corp. has a balance owing of $1 million for the 2022 tax year and the balance due is paid at the time the corporate tax return is filed on June 30, 2023. Since the balance due was not paid by February 28, 2023, arrears interest will be assessed beginning March 1, 2023 until the balance is paid off on June 30, 2023. This results in approximately $24,000 of arrears interest assuming a 7% rate.
Interest and Penalties – Individuals
Similar to corporations, the CRA charges compound daily interest on all balances owing by individuals. The payment deadline for individual income tax returns is April 30th each year so interest begins to accrue on the balance owing as of May 1st. The balance owing includes unpaid taxes, penalties, and previously accrued interest charges.
Late-filed returns may be subject to a penalty as well. Individual income tax returns are due by April 30th each year or June 15th if you are self-employed. All individuals, including those that are self-employed, must pay their balance owing by April 30th. If a return is filed after April 30th or June 15th, then you will be subject to a late-filing penalty calculated as 5% of the balance owing as of the payment deadline plus 1% for each full month that your return was filed after the filing deadline up to a maximum of 12 months (maximum penalty of 17% of the balance owing). This means that you will not be assessed a late-filing penalty if your return is filed on time, or if you pay your balance owing by April 30th even though your return was late-filed. Repeat offenders are subject to steeper penalties.
Instalments – Individuals
Individuals are required to make instalment payments if your net tax owing will be greater than $3,000 in the current year and in at least one of the previous two years (the threshold is $1,800 in Quebec).
Once it is determined that you are required to pay tax by instalments, you must make quarterly payments no later than March 15, June 15, September 15 and December 15. You can choose from three options to calculate these quarterly payments: the no-calculation option, the prior-year option and the current-year option. The no-calculation option is the default option used by CRA to generate instalment reminders, but the other two methods may be more beneficial to you.
- Under the “no-calculation option,” your quarterly payments are calculated as 25% of the net tax owing per your most recent assessed tax return. This option is best if your income, deductions and credits are approximately the same each year.
- Under the “prior-year option,” your quarterly payments are calculated as 25% of the net tax owing in the immediately preceding year. This option is best if your income, deductions and credits are approximately the same as the preceding year but have changed significantly from the second preceding year.
- Under the “current-year option,” your quarterly payments are calculated as 25% your estimated net tax owing for the current year. This option is best if your income, deductions and credits have significantly changed from prior years.
Similar to corporations, individuals will be charged interest at the prescribed interest rate on all unpaid, insufficient or late instalment payments if you received an instalment reminder from Canada Revenue Agency and were required to pay based on the criteria discussed above. Interest will be calculated based on the option which results in the lowest amount. You will also be assessed a penalty if total interest charges exceed $1,000. The penalty is calculated in the same manner as discussed above for corporations.