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Small Business and Self-Employed Income Tax in Canada

Sep. 03, 2020

In Canada, the small business income tax rate is the income tax rate paid by a small business at the Federal level.

It is not uncommon to find individuals setting up their means of livelihood. This is known as self-employment.

Self-employment is not limited to freelancing. Owning a small business automatically makes you self-employed because you are earning by yourself.

Your employment status in Canada determines your income tax and employment insurance.

As appealing as self-employment appears, it comes with some form of challenges, including tax payment expenses.

The moment you become self-employed, you are fully responsible for filing your income taxes which might have been done for you if you were working for an employer.

Pros and Cons of Running a Self-Employed Business in Canada

small business income tax in Canada

Every business has its advantage and disadvantage. The best bet, therefore, is to find the most suitable option for you.

Pros

  1. You can easily take time off when an emergency arises. This means that you do not have to go through the long process of trying to take a day or time off.
  2. You can effectively carry out your tasks at home by taking mid breaks during work hours to complete the things set aside to be done at home.
  3. You can work comfortably and have the freedom to schedule your business activities in a way that you accommodate your other activities
  4. You save yourself all the stress of going down to the office, getting certain required documents and information because you have everything you need with you, enabling you to work faster.
  5. Saving the best for last, a part of your household bills can be filed as a tax-deductible if done properly.

Cons

  1. Taking some time off might become a routine for you and clients’ work or business may suffer severely as a result of this.
  2. You do not have a fixed break during your work period. This can result in you taking extremely long breaks, hence, affecting business performance.
  3. Scheduling your business activities can be done to accommodate too much of your less important routines. Once this is the case, the result is costly.
  4. Storing business records and documents in your home is one risky thing to be done, especially if you have kids. You might not want to risk losing your documents or mistakenly mixing it up with different books or files not relating to business activities.
  5. You can only avoid this when you outsource your bookkeeping and certain financial aspects of your business.
  6. You need to be strategic in filing for house bills as part of your tax-deductible.

Every self-employed individual or small business is expected to pay personal income tax on your business’ earnings

This covers Canada’s international tax treaties via foreign tax credits and deductions for foreign taxes paid on income derived from non-Canadian sources.

What are Personal Income Taxes?

small business income tax in Canada

Firstly, an income tax is a type of tax compulsorily paid by businesses and individuals. This tax is generated by the government and serves as part of the revenue.

Personal income tax is a type of income tax levied on an individual’s wages, salaries, and other types of income.

For a self-employed person, this type of income tax is best suitable for your business.

Make Contributions to the Canada Pension Plan (CPP)

It is necessary to start investing in the CPP as a Self-employed person. This enables you to secure a smooth retirement plan.

The right age to start the pension is 65. Once you qualify, you can start receiving it as early as age 60 or as late as age 70 immediately after retirement.

To qualify for this, you have to have made valid contributions. You can also demand to receive your pension as soon as you qualify.

For self-employed individuals between the ages of 18 to 69, a contribution should be made from earnings over $3,500.

A portion of your earning should be filed through the CRA form Schedule 8, Canada Pension Plan Contributions, and Overpayment.

Being self-employed requires that you should pay both your share of the Canada Pension Plan (CPP) and the employer’s share which is calculated by TurboTax Self-Employed on your tax return.

Contributions to Employment Insurance (EI)

This is a voluntary investment service with tremendous benefits. Nonetheless, it is advisable for self-employed persons.

As a self-employed person, you can choose to pay into EI and be eligible to receive the special benefits.

The benefit of EI is that it provides temporary income support to unemployed workers while they look for employment or those with health challenges.

Filing your taxes can be very overwhelming. Before paying taxes in Canada, you should be aware that there are different taxing options for small businesses/self-employed individuals. This is known as the self-employment tax.

How do I know If I fall Under This Category?

As a self-employed person, there are tendencies that you may not want to refer to yourself as a small business owner.

This could be because of the nature of your activities. Nonetheless, once you can agree to the listed qualities below, you are running a small business.

Sales of goods and services yield profit.

  1. You record $400 or more as your net earnings. What are net earnings?

Your net earning can also be called your net income. This is calculated as the sales you make minus the cost of goods sold, all administrative expenses, operating expenses, depreciation, interest, taxes, and other expenses.

You have people who work for you (this is not compulsory).

Depending on the type of business you operate, you may require various services, including contracted employees.

How Much Can a Small Business Make Before Paying Taxes in Canada

Currently, the small business income tax rate in Canada is 9% while the general corporate tax rate is 28%

If you are a small business or startup, you might file for tax returns to cover certain expenses that might have been incurred.

While filing your tax as a self-employed individual, you can take advantage of your costs and capital expenses.

This can be included as a portion of your mortgage payments, rent, utilities, home insurance, and even property tax.

It is important to note that an Income tax rate for the self-employed individual is similar to the personal tax rates for employed workers.

All the profit you make in your business is added to your income while all losses are deducted from your income.

Deadlines for Filing Small Business Income Tax

Whether or not your business is already earning, it is important to begin filing your taxes. If you file your tax late when you owe money to the Canada Revenue Agency, it attracts a penalty.

You would be required to pay 5% of the balance you owe with an additional 1% for each month you delay your payment, to a maximum of 12 months.  All sole proprietorships and LLCs taxed as a disregarded entity are due by July 15, 2020

Similarly, if your business requests an extension, you have until October 15 to submit your income tax return using Form 1120.

Tax return for small businesses

For a sole proprietorship or partnership business, you should report your business income and you only have to file a T1 personal income tax return.

Your T1 form should include your total income from all sources, including international income. All tax balances for the previous year should be paid by the 15th of June.

As a self-employed person, Income taxes cannot be withheld. You ought to pay your income tax when you file your tax return each year.

Small business tax deduction

As a small business owner, there are certain deductions you can make from your business expenses.

This can only be done when your deduction is proven to be advantageous to the business by expanding business earnings.

You can deduct;

  1. Cost of Items required for your business to aid better services provided or goods needed to enable smooth business operation. This includes research and experimental materials.
  2. Salaries and employee benefits, including pensions and insurance.
  3. Rent for your business space or land charges.
  4. Utility bills such as water bills, telephone charges, and other utility charges.
  5. Hiring an employee can help with tax deduction as the cost of the employee’s wages is a business expense.

Note that you cannot use personal needs such as clothing expenses for a tax deduction.

Tax Tip for Small Businesses

Determine those expenses in your business that can qualify as income tax write-offs.

Utilize taxable benefits.

Ensure you meet up with your income tax filing deadlines.

Review your small business accounting processes regularly through proper documentation of business activities.

Get refundable tax credit for your small business from any Canadian tax credit programs. Before doing this, you should consult a financial expert.

Properly file your small business income tax returns.

Tax filing, processing, and payment should not be a reason for self-employed persons to worry. Once you can strategically plan and prepare ahead for your tax, remitting taxes becomes easy.

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