Tax agency probes restaurants that hide cash sales

OTTAWA - A two-year probe of the restaurant industry in Canada has uncovered at least $40 million in "phantom" cash sales so far, says the Canada Revenue Agency.

And the amount of hidden cash income -- with no taxes paid -- will likely be much higher once the pilot project concludes in March, officials say.

Agency auditors are swooping in on restaurants across the country to determine whether their electronic cash registers contain illegal software that can selectively delete sales from official accounting records.

So-called zappers and phantom-ware have been around since at least the mid-1990s, but prosecutions have been few and far between.

The Canada Revenue Agency launched a two-year pilot project in 2008 to better focus its investigations into the so-called "electronic suppression of sales," or ESS, by sending in teams to selected establishments to ferret out hidden software in cash-register systems.

Before the pilot began, the agency had identified 11 such cases -- and has since found others, though a spokeswoman would not provide details. The new cases have been referred to enforcement officers.

"Preliminary work indicates that ESS is prevalent across Canada," Caitlin Workman said in an email.

"These are ongoing investigations, and the CRA has identified additional businesses using electronic sales suppression."

Once the pilot is complete in March and the level of fraud better estimated, the agency will launch the next enforcement phase, she added. Restaurants were chosen in the first phase because of the high volume of cash sales.

Workman declined to indicate how agency auditors can determine whether cash sales have been hidden or deleted on computer systems, saying it could jeopardize investigations.

The Quebec government, which is Canada's leader in hunting down cash-register fraud, estimates cheats in that province cost their treasury $425 million in 2007-2008.

The provincial government has passed legislation prohibiting the design, manufacture, installation and use of zapper-type programs.

Federally, it's a criminal offence to alter accounting books and records to dodge taxes, with penalties of up to five years in prison and fines of up to twice the evaded amounts.

As part of its anti-zapper strategy, the agency issued media releases last December, and held a news conference, when five individuals in Vancouver were charged with 25 counts of evading taxes through use of zapper-type programs at four sushi restaurants.

The RCMP also said it conducted an eight month undercover operation into a software company in Richmond, B.C.

Successful prosecutions have been carried out in Quebec, notably against Metro supermarkets in 2000. And the Quebec government has prosecuted the Nickels restaurant chain, which pleaded guilty to 74 charges of tax evasion.

The fraud works only for cash sales, because credit cards and debit cards create a separate audit trail that can be readily traced.

"Zappers and phantom-ware are difficult to detect, can generate huge returns with minimal investment, and are widely available in many tax jurisdictions because of the lack of restrictions on manufacturing, sales and distribution," says an internal Canada Revenue Agency document, obtained under the Access to Information Act.

Phantom-ware refers to factory-installed software within electronic cash registers that can selectively delete sales records leaving no audit trail. The function is not disclosed in the user manual but its existence is often passed "verbally" to the business owner, says the document.

But users often make "mistakes" with the software "and their use can be detected through skilled audit techniques."

Zappers, on the other hand, are temporary installations, such as a memory stick which can be removed to hide the fraud.

"Where fraudsters are careless, however, traces of a zapper can be detected," says the October 2008 document.

Workman said no businesses have come forward so far to confess to fraud, under the agency's Voluntary Disclosures Program, which can allow cheats to avoid prosecutions. But she said the agency has received tips from the public, which are currently being investigated.