Setting up a new business can be as challenging as it is exciting. Entrepreneurs will want to take advantage of any breaks and credits offered by the Canada Revenue Agency, but they also need to stay on the right side of the tax man.
Here are seven things every small business owner needs to know about taxes.
Know what’s deductible
Sole proprietors naturally have high expenses, and that spending may be used to offset income, says Abby Kassar, vice-president of high-net-worth planning at RBC Wealth Management. “If you have a loss from your income, you can apply that loss to offset other sources of income.”
Paul McVean, owner of Astute Strategies Inc., a financial, tax and estate planning consultancy, says that according to the Income Tax Act, “for any expense to be deductible, the money has to have been spent for the purposes of earning business income, and to be reasonable under the circumstances.”
Purchases with long-term value, such as a computer or vehicle, need to be listed on financial statements as assets rather than expenses.
For meals and entertainment, he added, “only half of the expense is deductible, which impacts your bottom line accordingly. Another example is something like golf-course fees. Entertaining clients on a golf course is just simply a non-deductible. New business owners need to get up to speed on where we have these kind of special tax rules for certain categories.”
Keep and organize your receipts and paperwork, says Ms. Kassar. “As a sole proprietor, it is sometimes difficult in your mind to separate this from the personal. But you do need to do that so you can report the income from the business, and the expenses incurred for business purposes, so you can support that on your personal tax return.”
Receipts must be kept for seven years, says Mr. McVean, but receipts for assets that could later be sold should be kept for much longer.
“If you buy something that you capitalized, showing it as an asset on your books, if, when you sell it, you report the tax consequences, the CRA can say, ‘How do we know the original cost of this item?’ If you have gotten rid of your receipts, you have no way of proving what you originally spent on it.”
Know your filing deadlines
Most small business owners don’t have an in-house accountant, so it’s crucial to have a grasp on tax reporting deadlines. They can vary depending on whether the business is incorporated or not.
“For individuals who are self-employed or in a partnership and not incorporated,” says Mr. McVean, “they need to file their tax returns by June 15 instead of April 30. What a lot of people don’t realize is that if there is tax due, it is still due by April 30. Interest starts accruing as of May 1, but a late penalty would not apply until after June 15.”
Entrepreneurs also face varying deadlines for filing and remitting HST (harmonized sales tax) payments, depending on the company’s reporting periods. They can be annual, quarterly – due by the end of the month following the quarter – or monthly. “The higher your revenue,” he said, “the more often you need to report HST.”
Know when to incorporate
If the business grows, it might be time to consider incorporating and taking advantage of the small-business tax rate. That’s 10 per cent, federally, with each province adding its own percentage.
“I would look at it in the context of how much extra the business is earning, over and above what you need to live on, as opposed to just looking at the business revenue,” says Mr. McVean. That could mean incorporating when you have business income of as low as $10,000 or $20,000 after paying yourself.
“You have to assess what your personal cash needs are,” said Ms. Kassar. “If you are generating income that you don’t need for your personal use, by having it taxed in a corporation [instead of as personal income], you are taking advantage of a tax deferral, meaning more of your assets, more of your income, is left in the business to allow you to expand and to take advantage of those additional funds.”
Learn about tax breaks, grants and deferrals
If your company conducts scientific research related to the business, you might take advantage of writeoffs and tax credits beyond your usual business expenses if they fall under the Canadian government’s Scientific Research and Experimental Development (SR&ED) program. Any company claiming the credit needs to provide a detailed breakdown of both expenditures and the types of projects it has carried out, or the claim could be delayed or rejected.
Meanwhile, according to Melanie Johannink, a financial advisor with Sun Life Financial Inc., “if your incorporated company has done very well before year end, you can actually defer a bonus.” The business has 179 days to make the payment, so a bonus put on the books in November, for example, could be paid out in January and be declared as income the following year.
Calculate employee deductions correctly
Employers are responsible for remitting payroll deductions for their employees. The good news is that the CRA offers an online tool that allows the business owner to enter the employee’s information and calculate how much to remit. The due date for remittances is the 15th of the month following the pay period, but if your payroll rises, you might need to remit sooner.
Employers also need to be mindful of the distinction between employees and self-employed contractors, says Mr. McVean. “Often business owners would rather have self-employed contractors because then they do not have to make source [payroll] withholdings. But if the fact pattern indicates that someone is really an employee disguised as someone who is self-employed, then the business owner can still be held liable for the source deductions that should have been remitted all along.”
Know when to seek professional help
For Mr. McVean, that’s when you set up your company. “It is important for people to at least get a grounding on how our tax system works and have somebody look at their particular situation,” he said. “Far too often we see clients who have done things on their own that we then have to go back and fix,” he added. “A little bit of advice on the way in may save a lot of pain and expense later.”