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Understanding Net Worth and How it Can Be Audited

Whether you’re an individual or a business, conducting regular net worth audits is necessary much in the same way that your yearly trips to the doctor’s office are for a physical: they help you stay on top of your financial health and proactively address concerns before they unravel into serious issues.

It’s also much better to audit your net worth yourself and uncover bookkeeping or tax reporting errors than it is to have your net worth audited by the CRA. If you’ve received a notice of reassessment or an audit notice, getting help from tax specialists is crucial to help you fight an unfair assessment that results in having to unfairly pay higher taxes or fines and penalties.

What is Net Worth?

Net worth is a basic financial metric that gives you a snapshot of your financial standing. It represents the difference between you or your business’s total assets and liabilities.

Assets can include everything of value you own, like cash, investments, real estate properties, and personal possessions that have significant financial value, like jewelry or artwork.

For businesses, assets also include equipment, vehicles, inventory, etc. Assets can be further classified as liquid (e.g., cash, stocks) and non-liquid assets (e.g., real estate.)

Liabilities, on the other hand, are all of your financial obligations and debts, like mortgages, loans, lines of credit, and credit card balances.

Understanding your net worth is essential for evaluating your financial capacity to make major purchases, weather unforeseen financial storms, set realistic financial goals, and plan for the future.

How to Calculate Net Worth

Net worth is a relatively straightforward calculation; however, it’s a process that requires gathering all of your financial information and verifying the accuracy of your business records and paperwork.

When ready, you calculate your net worth using this simple formula:

Net Worth = Total Assets – Total Liabilities

It is absolutely crucial that the data used in the calculation is accurate, complies with CRA guidelines, and is up-to-date for a reliable assessment, especially to help you avoid CRA net worth assessments. (More on this below.) This means avoiding common mistakes that can skew results, like:

  • Over- or undervaluing assets
  • Hiding assets and/or liabilities
  • Not keeping organized and updated books

Auditing Net Worth for Credit & Funding Opportunities

Auditing net worth also plays a crucial role in ensuring your business’s financial transparency and accuracy by uncovering potential errors or discrepancies in your financial records.

Financial institutions, creditors, and investors often require audited Net Worth Reports to assess your creditworthiness and to help them make decisions on loans and investments, respectively.

A Professional Net Worth Audit Process

A Net Worth Audit conducted by a licensed professional begins when they have all the necessary documentation, including financial statements, transaction records, investment statements, loan agreements, and tax returns.

The auditor ensures that assets are properly appraised and accounted for. Special attention is paid to unique assets, like real estate or rare collectibles.

Liabilities and outstanding debts are also meticulously scrutinized during a Net Worth Audit. The auditor must verify the amounts owed and cross-reference them with supporting documentation to confirm their accuracy.

Best practices dictate that an outside auditor should be the one to conduct a Net Worth Audit. This gives you a valuable outside perspective that can help identify missing information and avoid any conflicts of interest. And when you retain one of the leading professional accountants in Toronto, you’re assured that all figures, paperwork, and methods used comply with Canadian tax laws.

A tax professional verifying business records during a net worth audit.

CRA Net Worth Audits

A Canada Revenue Agency (CRA) Net Worth Audit, on the other hand, is an investigation the CRA conducts that may lead them to reassess a taxpayer’s return and increase their taxable income if their return is inconsistent with data the CRA has on file.

If you’re subject to a CRA Net Worth Audit and reassessed, the onus is on you to either fight it in court or to respond to the Net Worth Audit by examining, questioning, and providing detailed explanations and proof that assumptions made by the auditor during the process are incorrect. During a CRA Net Worth Audit, they are allowed to make negative assumptions that raise your taxable income – that you earn unreported income, for example.

If the CRA does not accept your submissions, your only remaining options are filing a Notice of Objection or appealing to the Tax Court of Canada.

CRA net worth audits are generally conducted when a taxpayer files inadequate records or there are significant year-over-year changes to their assets and liabilities.

Other triggers include mixing personal and business income in one account, insufficient reported income to support the taxpayer’s lifestyle, tax evasion being common in the taxpayer’s industry, or comparatively lower income reported (or higher expenses) than those of similar businesses or individuals.

To determine your net worth, the CRA can do things like assume the value of your home based on where you live and will even analyze a taxpayer’s social media profiles to assert that your reported net worth can’t sustain the lifestyle you share online.

Successfully challenging a CRA Net Worth Audit is a long, drawn-out uphill battle and absolutely requires a licensed tax professional.

Strategies for Enhancing Your Net Worth

There are several effective strategies that can help you increase your net worth and improve your financial standing:

  1. Effective debt management by consolidating high-interest debts, creating a debt repayment plan, and prioritizing repayment of outstanding loans is essential to reduce liabilities and improve your net worth.
  2. Asset diversification and investment strategies can help grow your net worth over time. Diversifying investments across various asset classes and markets reduces risk and can enhance potential returns.
  3. Increasing savings and contributions to retirement accounts are fundamental net worth building strategies that also help you secure a comfortable retirement. Regularly contributing to retirement funds, like RRSPs, takes advantage of compound interest and long-term growth.
  4. Evaluating your insurance coverage(s) is crucial for protecting your assets and minimizing potential financial setbacks.
  5. Seeking professional financial advice and help from financial planners or advisors can provide you with valuable insights and personalized strategies to optimize your net worth growth.

Understanding net worth and conducting regular audits are essential for achieving financial stability and success and avoiding time-consuming, stressful, and expensive CRA Net Worth Audits.

About the Author

pro-tip

Pro Tip

ACCESSING THE SMALL BUSINESS DEDUCTION IN YOUR BUSINESS

The Small Business Deduction gives businesses a tax deduction on the first $500,000 of income. This saves an eligible corporation around up to $50,000 in income taxes. There are a number of conditions that have to be met to be eligible for this deduction.

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