Year-end can be a stressful time for small business owners. But when it comes to saving tax dollars, there are steps you can take now to make sure you — and your business — enjoy some holiday cheer well into the new year.
Make capital acquisitions for business
If you’re self-employed or an unincorporated business owner and you’re thinking about making a capital purchase for your business — something like furniture or equipment — in the near future, you should really consider buying before year-end to get a depreciation deduction for 2012. Keep in mind, however, that the asset must be ‘available for use,’ which means installed and ready to be used for its intended purpose, by December 31, 2012, for a 2012 deduction (of a half-year’s depreciation) to be available.
Consider a corporate year-end remuneration strategy
Changing federal and provincial personal and corporate tax rates have made old rules of thumb in owner-manager compensation obsolete. You should re-evaluate your year-end compensation decisions each year based on your specific needs, particularly given the tax deferral available if funds are left in a corporation.
In general, if you’re a small business owner and don’t need the money, it should be left in the corporation to grow, subject to tax at corporate tax rates, which are less than personal tax rates. Keep in mind, though, that leaving earnings in the corporation may affect a Canadian-controlled private corporation’s entitlement to refundable scientific research and experimental development investment tax credits, as well as its status as a qualified small business corporation for the purpose of the shareholder’s capital gains exemption.
If you need the money, the decision of how and when to take it out will be affected by several factors. For example, the timing of remuneration would be influenced by trends in provincial corporate and personal tax rates. In provinces where personal tax rates are increasing, there may be a benefit to realizing personal income in 2012 instead of 2013. For example, a new personal income tax bracket was introduced this year in Ontario and Quebec. If you're a business owner in one of these provinces and you’re thinking about increasing your salaries or dividends, consider doing so before year-end.
If you plan to pay salary, remember that bonuses can be accrued and be deductible by the company in 2012, but don’t have to be included in your personal income until paid in 2013 (the bonus must be paid within 180 days of the company’s year-end). This allows for a deferral of tax on salary.
Personal services business
If you operate a personal services business, consider how new federal income tax rates will affect you. For taxation years beginning after October 31, 2011, personal services business income is subject to a federal income tax rate of 28 per cent versus the general federal active business income tax rate of 15 per cent for 2012 and beyond. This means that the tax deferral opportunity from incorporation has been significantly reduced, and the tax cost of earning income in the corporation and later distributing it as dividends has increased. If you’ve been using a personal services business, you might consider taking the earnings for 2012 out as a salary.
Employee profit-sharing plans
Some businesses use employee profit-sharing plans (EPSPs) as a substitute for salaries or bonuses, often to defer tax and/or avoid the Canadian Pension Plan premiums that accompany conventional employment earnings. The 2012 budget introduced significant changes to the taxation of EPSP allocations from closely held employers, generally where the employee either holds at least a 10 per cent interest or does not act at arm’s length to the employer. Business owners using EPSPs should consider the implications of these new provisions in their remuneration strategy for 2012 and future years.
Depending on your business, you may consider other year-end tax-saving strategies. But one thing’s for sure: whether you run a 100-year-old family business, a startup or anything in between, take some time to think about how smart tax planning can help you make the most of your dollars this year, and keep some jingle in your pockets for years to come.
David Steinberg is an Ernst & Young partner and co-leader for the firm’s GTA private mid-market practice. He is based in Toronto.