Everybody wants an income, but not everybody knows the differences between incomes. The type of income you earn will directly impact how you file your tax returns with the Canada Revenue Agency (CRA), including both business income and employment income.
But what is the difference between the two, and why should it matter to you and your taxes?
When someone is an employee of a business, it means they work for that specific company. Employment income refers to the wages employees earn from their business. It's defined as the money received by an individual from their employer.
For example, if Sarah works for Teller Services, she is an employee of that company. Every two weeks, Teller Services pays Sarah her wages for the hours worked. Her wage is considered an employment income.
Self-employed income doesn't fall into this category, as they employ themselves and earn income off of their own business, much like business income.
As defined by the Canada Revenue Agency (CRA), business income is the money an individual earns from a profession, a trade, manufacture or undertaking of any kind, or any other activity resulting in a profit. It is the money, revenue, or income, generated by the business’s normal operations. For tax purposes, business income is known as ordinary income.
Suppose Ronald runs his own accounting business. The profits he makes from selling his accounting services and expertise are considered business income. Because he works for himself, it's also a self-employment income.
Business income can then be grouped into two categories.
Active business income is the revenue generated or money earned from the normal operations of a business. Small business income generated by the selling of goods or services is also known as active business income. The amount of active business income generated by a company will directly impact the company’s tax rate.
On the other hand, passive income is money generated from an enterprise in which the person is not actively involved. It is the income derived from the ownership of property or assets, without the need to be actively involved in the efforts. Such income includes the interest earned from investments or your savings business accounts, as well as real estate income. The Canadian government considers passive income as taxable income.
When accounting for your small business income, you will need to declare the amounts on your Canadian income tax returns. Depending on your business structure- whether a sole proprietorship, partnership, or corporation- the way you declare your income from business operations will differ.
As per the CRA’s guidelines, businesses run as sole proprietorships or partnerships will need to complete tax form T2125 , Statement of Business or Professional Activities, and declare the total income on the appropriate lines of their personal income return form, or T1 return. If your business is incorporated or a corporation, you will declare your small business income using the T2 corporate tax return.
As self-employed persons run their own business, their business income should be declared on their personal returns. Self-employed income is categorized and filed the same way business income is, if their business is a sole-proprietorship or partnership.
Therefore, self-employed status doesn't negatively impact your tax return. Instead, self-employed individuals will fill out and file the T2125 form and the T1 return, like other individuals filing business income returns. They will then pay the same tax amount as any employed wage earner that falls within the same tax bracket.
You can also write-off expenses just like businesses. There are various deductions that can be made for self-employment expenses, such as home office costs, office supplies, vehicle expenses, business travel, and more.
Many self-employed people handle their business independently, meaning they are responsible for every aspect of operations. If you require a helping hand to keep tabs on your finances and business expenses, why not enlist the help of quality accounting software tailored to your needs.
QuickBooks Self-Employed helps individuals manage their workload so that you can focus on the real work. At the same time, this software takes care of the accounting side of the business. Sync your business accounts to QuickBooks and automatically track and categorize expenses, track sales taxes, organize receipts, and help you come tax time.
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